Despite war, inflation and a lack of political will, mandatory environmental, social and governance (ESG) reporting requirements are still on the way. But it seems some allowance may be made to give companies time to respond, says Stephen Ferguson, account to report advisory practice leader EMEA at The Hackett Group
This time last year companies were looking at the prospect of mandatory reporting. The creation of the International Sustainability Standards Board (ISSB) at COP26 in November 2021, with fulsome backing from the G20 and the International Organisation of Securities Commissions, seemed to make that a very firm likelihood.
One year later, rising inflation, recessionary fears and the war in Ukraine represent disruptive factors so we should keep a close eye on things as they develop.
There are headwinds for sure, but headwinds rarely stop a train when it has left the station.
However, it is our view that none of the current turmoil is likely to derail the momentum toward a destination of detailed and auditable ESG reports, and, therefore, a plan for the journey ahead is necessary.
We believe that there will be an evolutionary phase with an international climate standard getting over the line in the next year, and other social or environmental aspects being covered by standards released over the next 10 years. While scrutiny will be relatively relaxed at first, it will become increasingly rigorous over time.
Global organisations need to look at what is happening in the regulatory space. Those that follow US GAAP should monitor what the Security and Exchange Commission (SEC) and Financial Accounting Standards Board are saying. Whereas those that observe International Financial Reporting Standards should look at the country market regulatory position and monitor the EU directives – all should consider both group domicile and key markets where they operate.
In addition, it is worth paying attention to:
Right now, the companies we provide advice to seem divided between those that are genuinely trying to get ahead and those that are not sure what to do in the near term when they consider the headwinds brought by the current operational environment.
But while rising geopolitical risk, economic impacts and politics may create some pushback, we should not consider it likely this will derail the train even if it might have some impact on the journey. The ISSB and the SEC are moving forward as are the EU, the UK and many other nations. In the October board meeting, the ISSB voted unanimously to keep the challenging Scope 3 disclosures on greenhouse gas emissions in accordance with the Greenhouse Gas Protocol – this despite what we imagine was some robust pushback.
The refinements now being debated should be considered a planned test that will be passed via due process, and the dialogue phase is just part of a substantial change journey. The conversation will mature and be further informed by drawing on depth provided by the Task Force on Climate-Related Financial Disclosures, the Global Reporting Initiative, Sustainability Accounting Standards Board and the Greenhouse Gas Protocol that provide guidance that informs the necessary disclosures.
While disclosures are a compliance issue, it is important to recognise that accounting and reporting is only one aspect of how ESG will impact the finance function. If you promise that you will achieve a net zero position and make bold commitments by 2030, you will need an executable plan to achieve the end goal and demonstrate you are on the right path toward it by being public on progress against milestones.
Stakeholders are likely to be unforgiving of companies that miss their ESG targets. Any lack of integrity will be noticed by the markets, multilaterals that monitor reports and activists who delight in bringing corporations adverse publicity. Also, consumers and the employees of the future will be watching this carefully, and any lack of sincerity will cause detrimental impacts on enterprise value.
CFOs will need to make sure resources are applied to ensure that their organisation “gets on board”. This will mean setting the tone and encouraging the necessary operating model adjustments to achieve compliance. But it will also require a comprehensive rethink of risk management, strategic planning, investment appraisal and follow through to the setting of new ESG performance objectives.
Although the specifics and timing are being debated, the goal and thinking are solid, and there is every reason to expect ESG reporting will become just like traditional financial reporting in time. We believe it is appropriate to see mandatory reporting as an X-ray that will reveal an organisation’s ESG health and a snapshot of its ability to go the distance and deliver on its big ESG commitments. We feel taking a proactive stance is a wise approach, so you don’t regret being late for this train.
Stephen Ferguson is a director at The Hackett Group. He works for the Finance Advisory Program in Europe, an intellectual property driven advisory service provided to 150 major companies.
