EIOPA stresses ‘value and logic’ of double materiality in opinion on CSRD standards

EU’s financial watchdogs submit views on EFRAG’s draft sustainability standards to the European Commission.

EIOPA, the EU’s pensions and insurance regulator, has stressed the “value and logic for double materiality” in its opinion to the European Commission on draft sustainability standards put out by the bloc’s corporate reporting body EFRAG in November.  

All three of Europe’s financial regulators – collectively known as the ESAs – submitted technical advice on Thursday on the first set of European Sustainability Reporting Standards (ESRS), fulfilling a request from the commission in November. 

EFRAG’s first set of 12 standards comprise two on general principles and disclosures, and 10 “sector-agnostic” standards covering environmental, social and governance areas. 

All three regulators – EIOPA, EBA and ESMA – expressed their general satisfaction with the standards but suggested improvements.

In a section dedicated to interoperability with sustainable corporate reporting standards being developed internationally, EIOPA stated that in order to avoid fragmentation “ESRS standards should ensure that European companies that report under ESRS are automatically considered as complying with the IFRS sustainability reporting framework”.

The IFRS Foundation created the International Sustainability Standards Board (ISSB) in 2021 to develop a global baseline for corporate sustainability reporting. 

Impact versus enterprise value

A key difference between the approaches being pursued by EFRAG and ISSB is the former’s focus on “double materiality”, which seeks to capture a company’s impact on the environment and society in addition to the sustainability impacts on the company.

ISSB, by contrast, has adopted an enterprise value approach, which measures how sustainability impacts a company’s valuation. 

On the collaboration between the two frameworks, EIOPA said it “welcomes the alignment of the ESRS with certain key concepts under the ISSB, for instance with regard to the definitions of value chain and financial materiality”.

It noted that ESRS 1 had incorporated IFRS S1 definition of financial materiality and has sought to bring its definition of impact materiality closer to GRI’s.

“ISSB deliberations are ongoing,”  it wrote. “EIOPA welcomes the discussion taking place in the ISSB on this matter, and stresses the value and logic for double materiality.”   

Under the EU’s Corporate Sustainability Reporting Directive (CSRD), large companies in the EU, including insurers and pension funds, will have to regularly disclose information on sustainability-related risks, opportunities and impacts. The ESRS lays out the technical standards that underpin CSRD.  

Overall, EIOPA said it was of the view that the first set of ESRS “are well-aligned with the ISSB’s IFRS sustainability reporting standards”.  

The EBA, Europe’s banking regulator, said in its feedback to the commission that this trajectory should continue, recommending that future developments with the ISSB “be closely followed and, if needed, still considered by the Commission before adopting the first set of ESRS”. 

EU-wide consistency ‘critical’ 

EIOPA also argued that, in order to ensure consistency across European sustainability reporting requirements, it is “critical” that any amendments to the EU’s anti-greenwashing legislation SFDR be taken into account in adaptations to the ESRS and that “an expedient review process for adapting the Delegated Regulation implementing the CSRD is put in place”.   

The need for consistency across EU regulation as new developments occur was echoed by Europe’s securities and markets regulator ESMA in its opinion to the commission.

“To this end, the ESAs will continue to engage at staff level with EFRAG to help fill any gaps in terms of substantive requirements and definition of concepts and methodologies relating to ESRS data points that are linked to SFDR disclosures,” the regulator stated.

Commercial sensitivity clause 

One area flagged by EIOPA was the provision in CSRD which permits member states to allow firms to omit information from disclosures if doing so would be “seriously prejudicial to the commercial position of the group”.  

Depending on how EU countries transpose this provision, EIOPA warned that its use by companies “could be widespread”.

The regulator cautioned against “the possible wide application of ESRS 1 paragraphs 108-110” and advised the commission “to clarify further what is meant by ‘information that would be seriously prejudicial to the commercial position of the undertaking if disclosed’.” 

ESMA went further on the issue, advising the commission to “carefully assess this provision, in particular, by considering whether it is necessary to retain the provision”.  

It warned that the draft provisions constitute a blanket requirement
which may lead undertakings to omit material information on the grounds of an alleged risk of disclosing trade secrets”.

It added that if the provision is kept, the commission should consider amendment such as only allowing it to be applied in “exceptional circumstances”. 

Value chain boundaries 

Both EIOPA and EBA called for more clarity around value chain reporting in relation to financial institutions, with the former calling for guidance to be made available before the second set of ESRS are released.  

EIOPA highlighted that the main direct business relationships in insurers and pension funds’ value chain are their “investee companies and their policyholders or members and beneficiaries”.

The question, it added, is whether insurers or pension funds can report “without undue cost or effort on impacts on third parties that are linked to the entity via these direct business relationships, such as workers in the value chain”. 

Similarly, the EBA stated that applying the definitions in the ESRS as it stands could mean that investee and borrowing companies “may be part of a credit institution’s value chain”, despite the fact that credit institutions “usually hold non‐controlling interests in their investee companies or provide lending without gaining management influence”. 

EIOPA said further guidance is needed “to understand whether holding a non-controlling interest in an investee company in itself is sufficient to conclude that the investor could be part of negative impacts on third parties such as workers in the value chain”. 

CSRD audits  

Another area of agreement between the EBA and EIOPA is audits.

In its opinion, EIOPA recommended that the commission “clarifies the extent of the expected assurance” required as part of CSRD’s mandatory audit provision – which it said should occur before the first publications under the CSRD are made in 2025.

EIOPA noted that mandatory audit in the CSRD is important in enhancing “the reliability of the disclosures pursuant to the SFDR Regulation”. 

In a similar vein, the EBA argued that the adoption of audit standards for sustainability reporting “should be pursued ahead of the deadline set out in the CSRD in order to ensure consistent high-quality disclosures throughout the European Union”.  

Materiality assessment ‘concerns 

The EBA also reiterated its concern about the lack of definition around “impact materiality”, specifically the “lack of guidance to determine the ‘severity’ and the ‘likelihood’ of the impact”, which it said may lead to inconsistent materiality assessment across entities. 

As a result, the regulator encouraged the commission to consider requiring EFRAG to issue additional guidance and educational material “in order to foster consistency in the practical implementation of the materiality assessment”. 

Overall, EIOPA’s opinion on the ESRS was positive. It said the standards “broadly promote disclosure of material sustainability information of high quality and support sectoral and international interoperability”. 

EBA called the draft a “significant improvement” on the one put out in April for consultation. It added that the draft “represents a good basis for the implementation of the CSRD”, subject to “a few aspects” detailed in its opinion. 

ESMA stated that it found the standards to be “broadly capable” of addressing the twin aims of being conducive to investor protection and not undermining financial stability. “To bring [the draft] from broadly capable to fully capable of meeting that objective, ESMA advises the European Commission to address selected technical issues set out in the opinion,” it concluded.