Corporates “must continue to adapt” to investor demand for ESG data

Trends in investor demands and behaviours mean that financial reporting regulations and practices must continue to evolve at pace, according to market participants.

“As investors and other users of financial statements continue to increasingly use and place reliance on digital information, we as preparers must continue to adapt,” said Michelle O’Hara, group technical accounting director at manufacturing firm Smith & Nephew, speaking at a UK Endorsement Board (UKEB) panel discussion.

Held in partnership with the International Accounting Standards Board (IASB), the discussion provided an opportunity for UK stakeholders to offer feedback on the key questions in the IASB’s Third Agenda Consultation.

The information gathered will be used to help shape the Board’s activities and new projects between 2022 and 2026.

O’Hara went on to express concerns around technology, outlining the four different formats currently used for the firm’s annual financial report (printed; interactive pdf; flat pdf; tagged HTML), in addition to forthcoming tagged XHTML and ESG data-tagged formats. The complexity and cost of preparing this range of formats on a single platform is a major concern, she argued.

“One of the key areas where I think the IASB could do more is in relation to the International Financial Reporting Standards [IFRS] taxonomy. I think the quality and consistency of tagged financial data is key to being able to use and place reliance on it.”

Data tagging is quickly gaining popularity as a method of enhancing financial reporting. It uses computer codes to label different forms of data, allowing for financial information to be seamlessly found and analysed by institutional investors.

“A significant challenge for preparers is the extent to which we can’t find the tag that we need. In the taxonomy we have to use a custom tag. And when we use a custom tag, we reduce comparability between companies,” said O’Hara.

The extent of this issue is highlighted by Securities and Exchange Commission (SEC) data showing that over 40 percent of the tags used in financial data submitted by the IFRS between 2017 and 2019 were custom tags. Data from US GAAP filers, however, reveals a striking contrast, with the average rate over the same period being significantly lower than that of the IFRS data (18 percent).

“The use of custom tags should be reduced, and the taxonomy could also be extended. This would improve consistency of application or be more valuable to users and people trying to read that data.”

The panel also noted a series of concerns surrounding the burgeoning appetite among investors for environmental, social and governance (ESG) principles in financial reporting.

“There’s clearly enormous investor interest in ESG, and I think a growing portion of investors regard those as financially material,” said Rick Lacaille, global head of ESG at financial services company State Street.

Lacaille went on to lament the fundamental disparities that exist between conventional financial forecasting and ESG data, arguing that they compound the challenges faced by corporations and financial institutions.

“A lot of the ESG data, in contrast to what we normally have, is forward-looking, particularly around climate. That information is of great value to investors, but it’s hard to square with normal reporting methodology, which is to look at more factual and backward-looking data.”

The topic of high-frequency data also featured, with Lacaille noting the somewhat ironic contrast between the motive of “long-termism” within ESG principles and the growing “thirst for shorter-term data”.

“This is now coming into the investment decision process in a variety of ways. I do think that’ll continue to be a theme – there’ll be an emerging group of issuers who will increasingly focus on delivering shorter-term information.”

The panel went on to acknowledge the overall significance of climate-related risk in financial reporting, offering some final thoughts on how the matter should be addressed by standard-setting boards and regulators in the future.

“Climate-related risk is now and will increasingly become a reporting priority,” said O’Hara. “I would recommend that the board [IASB] seeks to align with the existing sustainability reporting regulations, so as to not unnecessarily burden preparers, but also to support ease of implementation and consistency of application.”

Lacaille echoed this, arguing that new standards must be established within this space in order to move forward in alignment with emerging trends and demands.

“Because there is no mandatory or standardised reporting, that creates a lot of uncertainty for investors about the validity or the veracity of the data.

“We do need to have a sense of urgency around that and make sure that even if we don’t get to the final nirvana of everybody agreeing globally, we’ve actually begun to establish some baseline reporting that’s going to be useful for investors.”

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