An organization’s ability to have a positive impact on environmental and social change is increasingly becoming a top priority for businesses. ESG (Environmental, social and governance) factors cover a wide horizon of issues that range from climate impact, company culture, sourcing standards to employee compensation.
Large organizations have played a significant role in recognizing the impact of ESG on market behaviour, investor relations and financial stress early on. Before that, these factors were not a part of financial reporting. As a matter of fact, now, a vast majority of the Global Fortune 500 companies employ a recognized framework for sustainability reporting. Global Reporting Initiative (GRI) standards are utilized by almost 80% of the world’s largest companies (BizJournals) in order to provide and maintain transparency to investors, customers and various other stakeholders.
What is sustainability reporting?
Also known as ESG reporting, sustainability reporting is defined as the sharing of company’s sustainability goals, actions and achievements with their customers, investors, stakeholders and the community. In other words, sustainability reporting is an overview of an organization’s environmental, social and economic impacts due to their everyday activities. This document contains a set of sustainability disclosures from a company for a period of time. The medium of publishing this data can be done either through a regularly updated website, a stand-alone report or as a component of the annual report.
Depending on the type of company, the purpose of the sustainability report might vary:
- It can include the details and insights about a company’s competitive positioning in the emerging ESG space
- It can address other stakeholders who are not addressed by the integrated report (financial capital providers)
- It can provide a holistic overview of the company’s initiatives regarding human, social and natural capital.
The importance of sustainability reporting
As a response to investors’ demand to provide more and more information on ESG matters, organizations have been increasingly providing sustainability reports. Now, since people are paying more attention to the activities of the company such as, what the company is planning to do in order to reduce greenhouse emissions etc, sustainability reporting is playing a significant role in helping companies become more accountable, showcase competitive advantage, track progress, and retain employees and customers. Additionally, it is a great risk management tool which helps organizations improve operational efficiency as well. According to The Survey of Sustainability Reporting 2020 by KPMG, there has been a 7%-point increase in the N100 sustainability reporting rate in the Americas (comprising North America & Latin America), where a notable 90% of companies are reporting. The report also reveals that 80% of companies across the world now report on sustainability.
- Better risk management: Some experts believe that risk management and sustainability reporting go hand in hand. Both functions, ERM (enterprise risk management) and sustainability reporting focus on identifying the prioritizing risk, majorly dominated by internal reporting, external disclosure and transparency. When it comes to formulating a mitigation strategy, sustainability reporting can be thought of as one of the first activities. In addition to traditional business risks, organizations nowadays are exposed to social and environmental risks in the long term, which are majorly outside a company’s competency and have the potential to affect the business on several levels. A good sustainability report can facilitate the management of such risks, helping investors make better investment decisions. According to a research by PwC, 65% of investors believe that their purpose of considering ESG issues is to help manage investment risks.
- Enhancement of operational efficiency: Companies across the world are realizing that significant costs can be saved through operational efficiencies that are sustainability related. Investors are noticing the correlation between better financial performance with better ESG performance, highlighting the fact that the graph of financial performance maintains an upward path for sustainable companies. Several companies are improving their returns on capital through sustainability and reducing operational costs by improving natural-resource management.
Some more benefits of sustainability reporting are:
- Increased understanding of opportunities
- Increased emphasis on activities linking financial and non-financial performance
- Influence on long term business plans, strategies and policies
- Process streamlining and cost reduction
- Benchmarking and assessment of sustainability performance with regards to norms, law, standards and voluntary initiatives
- Comparison of internal performance and between companies
- Mitigation of negative ESG impacts due to company’s activities
- Ensuring that external stakeholders get a holistic overview of the company’s true value, tangible and intangible assets
- Demonstrating how sustainability-related expectations influence an organization
Which sustainability reporting framework(s) to choose?
With the increase in demand and supply of sustainability-related information, several private organizations have emerged with standards that companies can use at their own will. Various organizations both private/non-private and government/non-government have formulated different sustainability reporting frameworks and guidelines. However, massive confusion has risen in the marketplace because of the emergence of a plethora of ESG standards such as the Global Reporting Initiative (GRI), the Sustainability Accounting Standards Board (SASB), the World Economic Forum’s International Business Council (IBC), the International Integrated Reporting Committee (IIRC) and many more.
Companies are prompted to sift through various acronyms of sustainable organizations and the various disclosure schemes each provide in order to find the right reporting framework(s) which suits their needs. Many companies are hesitant to commence sustainability reporting due to the inability to decipher which framework to choose. It is a challenge to understand which frameworks cater to which environmental concerns, industries or geographical regions. Companies face difficulties in understanding which framework is best suited for them and how they should use it.
In July, a report about ESG reporting by The Government Accountability Office (GAO) revealed that several voluntary disclosure regimes have left companies indecisive about which framework(s) to use. Additionally, because there are various sets of reporting standards varying according to company type, there are inconsistency and comparability issues, making it difficult for investing analysts to extract value from different ESG reports.
The good news is – active efforts are being made to resolve this issue.
SASB and GRI have recently announced that they would be collaborating in order to make sustainability reporting clearer and more comparable. In a statement on July 13,2020, the two organizations disclosed that, they have an understanding about the complications in the sustainability disclosure landscape and for the companies that use both standards, the effort of reporting can be tremendous. In order to address this, the two organizations are collaborating to demonstrate how both sets of standards can be used together to provide insights. The successful collaboration between these two organizations will surely give a boost to ESG or sustainability reporting.
More challenges in sustainability reporting
With a plethora of frameworks and standards emerging, it is up to the companies to decide which ones to use. These sustainability frameworks and standards provide companies considerable freedom to select their sustainability disclosures. A majority of the companies choose their disclosures by consulting investors, customers, employees, stakeholders, local communities, governments etc. Recently, the stakeholders have demanded increased disclosure on how organizations are addressing sustainability trends-related risks and opportunities such as water scarcity, climate change, which has the potential to significantly impact a company’s operations, assets and reputation.
The comprehensiveness of these disclosures can differ remarkably according to the approach a company chooses for sustainability reporting – which stakeholders to address, which framework(s) and standards to follow, which information to make public etc. The diversification of these disclosures, which is an integral feature of sustainability reporting, is a challenge.
Investors are increasingly taking interest in companies’ sustainability reports with the expansion of sustainable investment markets. However, many a times, the information they require doesn’t meet their expectations. According to McKinsey, sustainability reports would deliver less value unless investors help clarify the sustainable disclosures they need and rationalize frameworks and standards. From an investor’s standpoint, a sustainability report must have financial materiality, consistency and reliability. A substantial shift has been noticed in the expectations for sustainability disclosures. Earlier it was ‘values-based’ (investments that are aligned to our values) now it is ‘value-based’ (investments getting value addition through sustainability).
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