In an unusually blunt comment from a top representative of an EU institution, Saskia Slomp, CEO of the bloc’s standards body EFRAG, spoke for a lot of those following the implementation of the region’s new sustainability reporting standards when she told an event last month that “it’s getting a bit much”.
She was specifically referring to the decision to postpone the release of sector-specific standards – and instead focus on more guidance around the sector-agnostic first set of European Sustainability Reporting Standards (ESRS). But with just months before the directive kicks in, it appears even the largest companies and most experienced in sustainability reporting are feeling overwhelmed.
“Financial reporting is focused on our own operations, but [the Corporate Sustainability Reporting Directive] requires the full value chain,” Roxana Steliana Cata, global ESG accounting consultant at Dell, told a webinar hosted by ESG risk management software platform Datamaran in late July.
“This is something new and complex to consider,” she said. “One example is workers in value chain – we have relationships with our vendors, but we now have to rely on that data from them and present that data in our report and have it assured. This brings a lot of complexity into reporting.”
Ultimately, this is a complete rethink in corporate reporting, and there is a lot at stake. The Corporate Sustainability Reporting Directive (CRSD) is the biggest push for mandatory wide-ranging sustainability disclosures seen to date, with more than 50,000 companies to be covered. Investors are hoping it will generate a treasure trove of new, comparable double materiality data.
But the past six months have not been dominated by discussions on how to prepare for reporting through the directive, which was given the final go-ahead by the Council of member states already late last year. Instead, a barrage of last-minute lobbying efforts kicked off, and the European Commission in March started dropping hints that it was looking to scale back the reporting requirements.
The biggest lobbying success was that the Commission in June announced a raft of additional phase-ins and made some disclosures completely voluntary. And, as revealed by Responsible Investor in May, almost all disclosures under the ESRS will now be subject to materiality assessments.
Originally, EU standards body EFRAG had suggested that some disclosures should be mandatory regardless of materiality – for example, all climate disclosures and all indicators relating to other EU regulation (such as the SFDR).
“You shouldn’t say biodiversity is material in your ESRS and then have no policies, actions and targets on biodiversity”
Donato Calace, Datamaran
The shift away from mandatory disclosures was welcomed by many corporates, while investors were unhappy.
But will this increased focus on materiality assessments really make life much easier for companies?
Potentially, says a UK-based lawyer working with corporates to implement CSRD reporting. “We’re advising clients that it’s a step in the right direction because it’s less prescriptive – and you would have had to do materiality assessments anyway to apply double materiality to your disclosures.”
However, he says it is a complicated process that will require a lot of upskilling for companies in understanding and conducting the assessment, disclosing the methodology they use, and how they have defined and identified stakeholders.
“And this is something you have to do on a continual basis – it’s going to be interesting. I don’t think that the execution has been fully thought through [by those drafting the regulation] – and that’s me being very diplomatic,” he adds.
For investors, it boils down to getting the information they want and need.
And despite investor pushback on the materiality decision, Donato Calace, Datamaran’s SVP of accounts and innovation, tells RI the materiality approach should generate more useful information. He says a review of the current non-financial reporting directive (NFRD) showed that a lot of non-material information is still disclosed in sustainability reports.
New regulations often trigger complaints from industry participants that they are not fully prepared and it will be burdensome to report. So the public grumbles and lobbying arguments – which have continued – might not always be fully in line with reality.
One person involved with standard-setting told RI that companies often are more prepared than they admit publicly, and there are examples of great practice and preparedness when you speak to companies behind closed doors.
And it is not just disclosures such as value chain reporting and Scope 3, which are generally more difficult, that have companies spooked.
“This is something new and complex to consider. One example is workers in value chain… we now have to rely on that data from them and present that data”
Roxana Steliana Cata, Dell
Dell’s Steliana Cata told the Datamaran webinar that some of the reporting requirements on companies’ own workforce – which the EC was blasted for removing as a mandatory reporting point – are also a hurdle.
“Own workforce would require us to disclose training hours, which isn’t necessarily a difficult data point, but if you don’t have a system in place to track training hours it might be difficult to put a system in place and have these hours logged in the time frame you’ll need to report, depending on budget, availability and resources.”
So what can investors and other stakeholders really expect for the first year of disclosures?
“Not very much,” says the UK lawyer. “We have to manage expectations – this isn’t going to solve everything. I think it will take probably three reporting cycles for there to even be any consensus on good practice.”
Reflecting on mandatory TCFD disclosures in the UK, which also started with large listed companies, he adds that the first-year feedback “was that it wasn’t great”.
Insights into how Simon Braaksma, senior director at Philips, is preparing for the CSRD, support this.
“I’ve been in ESG reporting for 15 years,” he said on the webinar. “We’ve had an integrated report for 15 years, we’ve got 11 years of reasonable assurance on all the data we have in our annual report – so all ESG disclosures already have reasonable assurance.”
This should make Philips well placed to undertake CSRD reporting and produce useful disclosures for stakeholders. But Braaksma admitted that the company still has some way to go. After undertaking a double materiality assessment in 2022, it found it was only compliant on 30 percent of the 950 data points it has to report on.
That means Philips needs to look at where the gaps are, Braaksma said. Companies may find some data points they are missing are covered by an internal policy “and you’ve not published it, so the moment you’ve published it – box ticked”, he noted. But if they are missing the data for one material metric then “you need to be a bit concerned” and immediately start collecting the data.
Braaksma said he has 60 people working on this – not full-time – across different disciplines including legal, fiscal accounting and sustainability. “It’s really an army of people,” he added.
A little or a lot
There are also questions – and different views – on where to set the threshold for what is material. This could lead to more confusion and complexity, and effectively less comparable disclosures for investors and other stakeholders.
The experience of Philips might suggest that undertaking a materiality assessment will not necessarily reduce the number of data points that companies need to report on – 950 is close to the 1,144 data points that could be reported on.
Indeed, many market participants believe that climate change – originally proposed as mandatory for reporting – is material to most, if not all, companies.
Christopher Larsson, senior manager, assurance and sustainability services at KPMG in Sweden and secondee to the EFRAG Secretariat, tells RI: “Although materiality is something entity-specific, if you’re a global corporate, say a manufacturer, and taking the value chain into consideration – wouldn’t almost all sustainability matters, on a topical level, be relevant?”
He emphasises that companies find the materiality assessment complex, as is determining the thresholds for what is material. “But I think the most important is that you can explain your reasoning and have dialogues with key stakeholders as part of the process, and remember that sustainability information needs be relevant and comparable.”
“If you’re a global corporate, say a manufacturer, and taking the value chain into consideration – wouldn’t almost all sustainability matters, on a topical level, be relevant?”
Christopher Larsson, KPMG
However, Calace wants to quell corporate fears about reporting too little and the idea it might be easier – and cheaper – to report on all data points, something he strongly disagrees with.
“Many still underestimate how powerful this system is – companies have yet to realise that with the materiality assessment, they could set a very conservative threshold,” he says, as long as they explain why and how they made the decision, and they support it with appropriate evidence.
“I’m not necessarily recommending conservative over comprehensive thresholds, but pointing out that each organisation has the ability – the responsibility, in fact – to do so.”
He adds: “What I’m hearing across different conversations is that companies – legal teams in particular – are pushing to adopt more conservative thresholds.”
The UK lawyer says the materiality threshold will be “really tricky to determine”.
“You have to think about it a bit like risk – a combination of impact and likelihood. Say you have a product in the market that certain stakeholders are banging the drum about, but they’re a bit niche and have an agenda – you can probably manage those. But if there’s something [in your operations] no one is talking about but there could be a wider issue, that’s material.”
It is clear that getting ready for CSRD reporting and everything it entails is no mean feat. But could there be more in it for companies than ensuring they provide relevant information to stakeholders? There is certainly an emerging view that companies should look at CSRD reporting as something more than a compliance exercise.
Responding to a recent survey by KPMG of 750 companies across industries, global regions and revenue sizes, around half said that, specifically on ESG assurance, there are benefits beyond compliance. These include helping to increase market share, spurring innovation, strengthening reputation and reducing costs.
Calace agrees. While companies need to be mindful that “it’s not just reporting, that’s not how it works”, he says, once a company deems something material “it should have an overview of the risks and opportunities”. It should then “set out policies, actions and targets surrounding the topic, and explain who is in charge of it in your governance structure”.
“You shouldn’t say biodiversity is material in your ESRS and then have no policies, actions and targets on biodiversity,” he adds.
“Compliance is just the floor. In the next few years, we’ll see champions emerging. When you’ve got your process in place, you can think, ‘How do I raise the bar here, how can I differentiate myself?’ – that’s the competitive edge.”
Calace acknowledges that, for now, there is little of this. Most companies are just trying to get their heads around how to comply with the reporting requirements.
“It’s a peculiar piece of regulation in a sense,” he says. “It should be there to ensure a level playing field for everyone, but this raised the bar even for companies which have done this for ages.”