March 2022 Issue
FW discusses environmental, social and governance impacts on corporate reporting with Donal Boyle, Fiona Gaskin, Eugene Nel, Deirdre Timmons and Sinead Phelan at PwC Ireland.
FW: What factors are driving global companies to adopt greater transparency and accountability in financial and non-financial spheres of their operations?
Gaskin: The increased awareness around sustainability, focusing on the needs of the present without compromising future generations, has come sharply into focus in recent years as the world suffered the shock of coronavirus (COVID-19) and questioned our effects as humans on the planet and its resources. This, coupled with a growing concern around climate change, has resulted in increased scrutiny on how companies may be impacting the planet and society through their use, or abuse, of resources and how they treat their employees and society in general, including in their supply chains. Governments, shareholders, financiers, employees, customers and society at large are now demanding transparency and accountability from global companies to justify the decisions they take and strategies they pursue. Capital markets are now also demanding that companies demonstrate they have understood and considered both the opportunities and the risks of sustainability. In many parts of the world, this is now also being seen via pressure from regulators, with sustainable finance regulations becoming increasingly widespread.
“Companies need to ensure that the different parts of the business are communicating with each other, as this is a critical element in developing the financial reporting model around ESG.”
FW: Generally speaking, how would you characterise the quality of corporate reporting on ESG issues? What steps do companies need to take to gather the data necessary to analyse their performance and produce accurate reports and financial statements?
Timmons: From a non-financial reporting angle, the quality is very mixed. There are many global leaders that have embraced sustainability and established themselves as the benchmark in their field. Such companies have integrated sustainability into their corporate strategy and how they run their business. As a result, their reporting can focus on what matters – the risks and opportunities the company faces, how these are assessed, and the data and targets used to monitor these factors. There are others that see such reporting as a mere compliance exercise and respond accordingly. However, I think it is fair to say that standards globally are being challenged and the bar is being raised on an annual basis, which is resulting in an overall improvement in standards generally. Companies should begin by ensuring they are clear on how sustainability is relevant to their business, and then setting out what reporting is required to communicate those factors in a transparent manner. This may be articulated as a reporting ambition. An awareness of the regulatory requirements, both present and future, is a must before starting out on the reporting journey. This, combined with a company’s reporting ambition levels with regard to sustainability reporting, will allow companies to decide which voluntary reporting frameworks, such as the Sustainability Accounting Standards Board (SASB), Global Reporting Initiative (GRI) and the Task Force on Climate-Related Financial Disclosures (TCFD), among others, they wish to align with, alongside those that they are required to report under. Setting targets, identifying key performance indicators, setting milestones and building these into a reporting roadmap will help frame the exercise. Only at this point is it possible to fully understand the data requirements. Most importantly, the data gathered and the information reported should be treated with the same level of care and due diligence that any mandatory financial information would be treated, as it may be relied upon by stakeholders to inform decisions.
Boyle: The impact of climate change on financial reporting has been limited to date. However, we are expecting this to improve during 2022 and beyond in light of the recently published International Accounting Standards Board (IASB) educational publications, as well as increased pressure from stakeholders and regulators. From a financial reporting perspective, companies should prepare detailed assessments outlining a clear and full understanding of where climate change will impact their business and the associated financial reporting implications. From there, it is about identifying the areas impacted, how these might require adjustments to the measurement of assets and liabilities, and additional environmental, social and governance (ESG) risk disclosures in the financial statements. One of the most impacted areas we have seen to date is impairment disclosures, as these depend on the company’s future cash flow expectations, and, in turn, it is important to understand how climate factors may impact the company’s budgets and forecasts that are used for impairment testing. There is also an expectation that reporters will clearly explain in their accounting policies how climate impacts have been factored into the financial results. There will also have to be an increased focus on data management, and better communication between different areas of the business will be needed. For example, financial controllers and climate and sustainability representatives should have regular meetings to ensure they are using the same assumptions about the future of the business.
“Standards globally are being challenged and the bar is being raised on an annual basis, which is resulting in an overall improvement in standards generally.”
FW: How successful has legislation such as the EU’s Non-Financial Reporting Directive (NFRD) been in providing investors, regulators and customers with standardised, comparable ESG data?
Gaskin: As things stand in Europe, the Non-Financial Reporting Directive (NFRD) will be considered the foundation stone for what is becoming a very complex and dynamic reporting environment. The current scope of the NFRD only applies to 11,600 large public interest entities, which is a very limited scope and only provides data for a small subset of European Union (EU) companies. The new proposed version 2.0 of NFRD, the Corporate Sustainable Reporting Directive (CSRD), would increase that scope to just under 50,000 companies taking in all listed companies, many small and medium-sized enterprises (SMEs) and private firms, which will be a game changer in terms of data availability. In addition, the scope of the original NFRD was very limited in its data points and not prescriptive on methodologies, whereas under the new CSRD, additional reporting, such as the EU taxonomy, is very prescriptive in terms of data points and moves away from much of the discretion that companies have had in terms of sustainability reporting. These new regulations require a robust materiality assessment to be completed and should result in more standardised and comparable data over time.
“The IFRS Foundation also published two prototype standards - this will drive natural harmonisation in what is an extremely topical and new area.”
FW: With ESG criteria critical to assessing corporate risk and performance, how close are we to the creation of a comprehensive, unified ESG reporting standard? What challenges are involved in achieving harmonisation?
Nel: From a financial reporting perspective, due to the increased call for high quality, transparent, reliable and comparable reporting by companies on climate change and other ESG matters, the IFRS Foundation launched the International Sustainability Standards Board (ISSB) in November 2021. This entails the Climate Disclosure Standards Board (CDSB), an initiative of the Carbon Disclosure Project (CDP), and the Value Reporting Foundation (VRF), which houses the Integrated Reporting Framework and the SASB’s standards, being consolidated into the ISSB. The IFRS Foundation also published two prototype standards that provide those who are likely to comment on the standards the benefit of seeing what expected exposure drafts relating to general requirements and to climate-related disclosures might contain when issued. This will drive natural harmonisation in what is an extremely topical and new area.
Gaskin: From a non-financial reporting perspective, it is not just the end users of the data that are calling for standardisation, but also the companies that are collating and reporting the data, which has resulted in companies using numerous methodologies or frameworks, which are ultimately trying to provide similar information on common topics in similar ways. The work of the various standards boards will be enormously useful, in addition to many geographic locations globally working toward common environmental taxonomies, for example. In addition, CSRD requires in-scope companies to report in compliance with European sustainability reporting standards adopted by the European Commission (EC) as delegated acts. These standards are currently being developed by the European Financial Reporting Advisory Group (EFRAG). These standards will be critical, as companies must obtain assurance over their disclosure. The proposed European Single Access Point as part of the EC’s digital finance strategy, whereby companies will report all financial and non-financial data into this single depository, should also help toward standardisation of financial and non-financial reporting.
FW: What essential advice would you offer to companies on developing sound financial reporting processes in respect of ESG issues? Generally, what improvements would you encourage them to make?
Phelan: Companies need to ensure that the different parts of the business are communicating with each other, as this is a critical element in developing the financial reporting model around ESG. One recommendation is for financial team members to be part of any climate strategy working groups, to ensure they can bring insights back to the finance function that may impact forecasts and estimates developed as part of the financial reporting function. This will ensure that any ESG data aligns closely with the financial data used to prepare the financial statements. Ensuring that you are up to speed with the latest guidance and thought leadership in this space is also important. Keeping an ear to the ground is key as this topical subject continues to develop.
“The assurance of non-financial reporting is gradually becoming mandatory, starting with limited assurance under the new CSRD regulations.”
FW: Could you discuss the requirements of Task Force on Climate-Related Financial Disclosures (TCFD) reporting for UK premium listed companies from December 2021?
Timmons: Under new Financial Conduct Authority (FCA) requirements which came into place on 1 January 2022, all premium listed companies in the UK are now required to report under the TCFD framework. That means companies are using the framework to report on their 2021 data. This is quite a challenge for many organisations, as TCFD expects a level of maturity in terms of identifying and managing climate related risks and opportunities, as well as having the appropriate supporting governance, risk management and metrics. The FCA requirement to complete TCFD reporting is expanded beyond premium listed entities in 2022.
FW: What challenges do you see companies facing with regard to upcoming legislation on taxonomy and Corporate Sustainability Reporting Directive (CSRD) reporting requirements?
Gaskin: The main challenge we see regarding these regulations is that many companies are now being required to capture data which they typically would not have captured previously. Collation of data from subsidiaries which may be operating on different IT platforms, collation of data from supply chains which may involve multiple small companies and ensuring the reliability of these data points are some of the challenges we have encountered. The dynamic nature of the taxonomy regulation, given its continuous evolution, is an additional challenge in terms of keeping at least abreast, if not ahead, of requirements. And finally, the requirement to have this non-financial data assured is proving to be a challenge. This will require auditing the data, applying similar standards as that of a financial audit, and will require very robust reporting structures and systems to be put in place by firms.
“It is important to understand how climate factors may impact the company’s budgets and forecasts that are used for impairment testing.”
FW: What are your predictions for ESG financial and non-financial reporting in the years ahead? How do you expect regulations to evolve, and what additional pressures do you expect companies to face in 2022 and beyond?
Boyle: From a financial reporting perspective, I would expect to see the development of a standard by the ISSB in 2022 which will hopefully address the consistency issues we are currently seeing in the market. It will set a minimum bar for disclosure and introduce accountability and auditability for ESG information. I also anticipate that companies will be under more pressure from regulators and stakeholders to make sure that they link climate impacts to how it impacts recognition, measurement and disclosure of the various financial statement line items, and this to become standard practice among reporters.
Gaskin: Undoubtedly, requirements will become more onerous as time evolves. Frameworks that are today still voluntary in many cases, such as the TCFD, are increasingly becoming the norm or mandatory. We will see a lot more social issues being reported, particularly in light of the development of the EU social taxonomy and a move toward reporting of natural capital accounting and new frameworks such as the Taskforce on Nature-related Financial Disclosures (TNFD) being utilised. The assurance of non-financial reporting is gradually becoming mandatory, starting with limited assurance under the new CSRD regulations.
Donal Boyle is a partner in capital markets and accounting advisory services (CMAAS) at PwC Ireland. Based in Dublin, he is focused on advising clients on the impacts of environmental, social and governance (ESG) issues on financial reporting. He can be contacted on +353 1 792 8304 or by email: donal.boyle@pwc.com.
Fiona Gaskin is a partner at PwC Ireland and leads on environmental, social and governance (ESG) reporting and assurance. She can be contacted on +353 1 792 6923 or by email: fiona.m.gaskin@pwc.com.
Eugene Nel is a director in capital markets and accounting advisory services (CMAAS) at PwC Ireland. He heads up the financial reporting impacts of environmental, social and governance (ESG), as well as helping clients assess the impact of ESG on financial reporting. He can be contacted on +353 1 792 7110 or by email: eugene.h.nel@pwc.com.
Deirdre Timmons is a director in risk and assurance services (RAS) and trust and transparency (T&T) at PwC Ireland. She is focused on assisting clients with all aspects of sustainable finance. She can be contacted on +353 87 915 9296 or by email: deirdre.timmons@pwc.com
Sinead Phelan is a senior manager in capital markets and accounting advisory services (CMAAS) at PwC Ireland. She is focused on assisting companies with the financial reporting implications of climate risks and environmental, social and governance (ESG) reporting. She can be contacted on +353 1 792 7198 or by email: sinead.s.phelan@pwc.com.
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