How can ESG reporting help fight climate change?
Significance of ESG factors and changes in mandatory disclosures
Regulating companies’ non-financial reporting is the second stage of the revolution which transformed financial reporting 20 years ago, when individual standards , published for many years by the International Accounting Standards Board (IASB), were replaced with a single set of International Financial Reporting Standards (IFRS) to be later endorsed globally, in the EU and in Poland. After many years, we now see that IFRS have standardised market practices because they were adopted not only by the companies obliged to do so, but also by many other entities seeking to provide investors with comparable data to benchmark their performance with that of the peers and foreign entities. The same will happen in our market during the next three years.
Back then (20 years ago), financial reporting and climate and sustainability disclosure did not meet. Today, they are two sides of the same coin
– said Erkki Liikanen, Chair of the IFRS Foundation Trustees at the end of the Climate Change Conference (COP26) in Glasgow, announcing the formation of the International Sustainability Standards Board (ISSB) which, alongside IASB, will develop a standardised approach to ESG reporting.
What are ESG factors?
Parameters in three areas: E — Environmental, S — Social and G — Governance which along financial factors constitute the basis for evaluating businesses and investment projects by investors, lenders, asset managers, rating agencies and other groups. ESG ratings cover many issues, including greenhouse gas emissions, energy efficiency, circular economy (efficient use of water and plastic and waste management), impact on biodiversity, ethics, workplace health and safety, employee diversity, human rights, data security, sales practices, product safety and products’ impact on consumer health. The significance of a given parameter (when evaluating risks and opportunities) varies depending on the industry.
Many experts believe that this commitment is the most important, specific and promising outcome of COP26. Also because in 2022 IFRSF will consolidate with three of the four best known institutions developing methodologies and guidance in the areas of ESG and climate-related disclosures (Climate Disclosure Standards Board, CDSB — an initiative of CDP, Value Reporting Foundation (VRF — the effect of collaboration of the Integrated Reporting Framework and SASB). ISSB will not start the work from scratch. Last year, CDP, CDSB, GRI, IIRC, SASB, in collaboration with IFRSF and TCFD, presented how much the key methods applied by ESG leaders have in common. Notably, the initiative launched by representatives of financial2 and non-financial reporting circles was joined by the International Organization of Securities Commissions (IOSCO), an association of organisations that regulate the world's financial markets. IOSCO is an important player whose role could be similar to the one twenty years ago with IFRS. The same approach was taken by the European Commission. New regulatory changes: CSRD, Taxonomy, TCFD and SFDR partly apply to this-year reports, but will come into full force in three years.
The institutions have identified a clear objective and the desired outcome:
- to address the expectations of the investors — providing reliable and significant (financial and non-financial) data presenting an integrated picture of the enterprise to help assess risks and take strategic investment decisions;
- to define reporting requirements in a way that will inspire businesses to implement actual processes, measure and improve ESG performance and decarbonisation efforts (act not talk);
- to redirect capital to support low-carbon investments, projects, businesses and economic activities which mitigate ESG risks and also respond to major economic and social challenges (climate change, Sustainable Development Goals — SDG);
- to build a competitive and climate-neutral economy that will be innovative and inclusive.
Polish businesses not ready for the move into the new era of reporting
Starting from 2024, the new rules will apply to approx. 49 thousand businesses in the EU, including three thousand large enterprises in Poland3 (small and medium listed entities are estimated at 1804), this including non-listed companies. We estimate that so far only 10 percent of them are ready for the change5. Companies which have never published non-financial information using the established methods and guidelines (GRI, SASB, IIRC, TCFD), never had their report reviewed by a third party, have not defined their ESG strategy and have no enterprise risk management (ERM) system in place to mitigate ESG and climate risks, have no detailed decarbonisation plans that would involve measurement of potential investment projects and temperature change scenarios, have not assessed their emissions impact, e.g. with regard to their value or supply chains (scope 36) have three to five years to get ready. It seems that there is no more time to wait to start the necessary preparations and plan the implementation stages to make it on time.
Where to look for good reporting practices? Who to learn from?
Poland — the Best CSR Report (original: Najlepsze Raporty Zrównoważonego Rozwoju ) competition held by the Responsible Business Forum (FOB) and Deloitte. For the past fifteen years, an independent jury comprising market experts (representatives of the Ministry, WSE, EBRD, ACCA, SEG, Consumer Federation, media and NGOs) have analysed nearly 500 ESG, integrated and climate-related reports. The winning reports along with the jury’s comments as well as all reports submitted by businesses from nine industries, may be found at www.raportyspoleczne.pl.
There are also many initiatives in the market which help assess ESG maturity.
How to benefit from the coming regulatory changes?
The change in reporting may bring a range of benefits that will strengthen the position of businesses in Poland as well. Research has shown that companies derive strategic benefits from implementing robust reporting processes. Over three quarters of global leaders (80 percent) say that reports which integrate financial and non-financial data contribute to the success of a business and for 79 percent such reports improve decision-making processes. Having collaborated on approximately 150 processes, we have seen that businesses are using non-financial, climate-related and integrated reporting to achieve many additional benefits, such as improve their ESG score, build the confidence of the local community, build relationships and secure financing.
There is no doubt that the businesses that will learn from experiences of leaders in non-financial reporting and define today the value which the process can bring to their organisations, apart from regulatory compliance itself, will be better prepared to navigate the new regulatory landscape. The winners will be those that will not wait for the publication of final legislation, but will improve their management and reporting practices now, based on the well-established market methods. Those which will now embark on transformation of their internal processes and implement automated reporting tools to integrate finance, ESG, climate matters, risks and accounting into one, coherent process will gain an advantage. And this is the major task for the Boards, CFOs, and investor relations professionals. We no longer have to flip a coin — we know what the future holds. Will we seize the opportunity?
1 Known as International Accounting Standards (IAS)
2 International Accounting Standards Board (IASB)
3 966 companies (Statistics Poland’s data for 2019) — Ministry of Finance’s presentation on a proposal for an EU Directive on sustainability reporting from 29 October 2021 (“Projekt dyrektywy UE ws. sprawozdawczości przedsiębiorstw na temat zrównoważonego rozwoju”)
4 Data of the Polish Financial Supervision Authority Office
5 In Poland, 90 percent of businesses have no structured ESG reporting frameworks in place.
6 Indirect emissions resulting from value chain activities, e.g. as a result of generating raw materials or semi-finished goods, waste management, transporting raw materials or products, employees’ business travel or end use of products.