Expectations for public and private companies to build sustainability and awareness of environmental, social and governance (ESG) issues into their business have grown significantly in a year impacted by a global pandemic, racial injustice, and economic weakness, as well as the ongoing effects and long-term impact of climate change.
Such ESG risks and opportunities and their impacts on long-term value creation are top of mind for investors and other stakeholders. They want to understand which issues are of greatest risk or strategic significance to the company, how they are embedded into the company’s core business activities, and whether there is strong executive leadership behind the ESG efforts as well as enterprise-wide buy-in.
To that end, boards should encourage their management teams to reassess the scope and quality of the company’s corporate reporting. How is the company benchmarking against peers? What reporting standards have been considered? Are risks explicitly stated and disclosure provided on how they are mitigated? Is the link to the strategy clear? Are you prepared to comply with evolving regulation?
For boards and audit committees taking a deeper look at the company’s ESG reporting practices, here are some critical questions to consider:
What are the ESG topics that align to the company’s and stakeholders’ priorities?
Audit committees should take time to understand stakeholders’ priorities and the company’s material ESG issues, particularly, where those two topics overlap.
Sometimes referred to as an ESG materiality assessment, this practice helps focus decisions on corporate initiatives as well as reporting strategies. Fundamentally, reporting should reflect both how the company’s activities affect people and the environment (impact materiality perspective) and how sustainability matters affect the company and its enterprise’s value (financial materiality perspective), also considering what the company is doing now and where it is going, with accompanying metrics and goals.
Is the company currently reporting on its ESG efforts, and where?
The data’s importance to a company’s ESG strategy, including financial materiality, should align with corresponding regulations and levels of risk associated with the data. This should determine the reporting method. Of course, ESG information included within the annual report should be monitored with the same rigor as conventional financial data. Audit committees should be probing the risks that come with different approaches to sharing these metrics as stakeholder demands increase. Important to note that the current Non-Financial Reporting Directive already requires Public Interest Entities to disclose non-financial information, including metrics, in the annual report or attached to the annual report. The EU Commission’s recent proposal of the Corporate Sustainability Reporting Directive (CSRD) will require even more companies to report ESG information in the management report.
Are there established processes and controls in place for data collection and reporting?
Collecting data by a consistent method is important, especially for businesses with global operations and multiple product lines. In some cases, there is an established standard that is accepted by almost all investor groups. For example, the Greenhouse Gas Protocol is widely recognized as a way to report on emissions.
Still, tracking greenhouse gas emissions means companies need to have all those responsible for collecting data to gather it in the same way. Every level of the business should understand the metric, and how often it should be reported among other criteria. The audit committee line of inquiry should focus on understanding the procedures and controls in place.
What level of assurance is the company getting on ESG metrics? What is being assured, by whom, and what is the value of the assurance?
The CSRD – initially proposed in April 2021 and revised at the end of June 20221 – specifies mandatory limited assurance of the reporting requirements. According to this proposal, entities that are currently obliged to report under the Non-Financial Reporting Directive (NFRD) (i.e. large PIEs with more than 500 employees) will have to report in accordance with ESRS standards for reporting periods beginning on or after 1 January 2024. From 1 January 2025 the obligation will be expanded to all large companies, i.e. all entities that exceed two of the following three criteria: 250 employees, Net revenue of EUR 40mn, and Total assets of EUR 20mn. From 1 January 2026, the obligation will be expanded further to cover all listed entities, except for so-called micro-undertakings, i.e. entities that do not exceed two of the following three criteria: 10 employees, Net revenue of EUR 700,000, and Total assets of EUR 350,000.
Given the short timeframe towards the expected adoption of the CSRD, it’s critical for companies to start taking action by identifying their material topics and the related key performance indicators (KPIs). As reporting processes for these KPIs might not be as robust and mature compared to financial reporting, it is crucial for the company to thoroughly assess the readiness of these processes, systems and data to ensure that the materiality assessment and reported indicators can pass the test of assurance when the time comes. Audit committees can help the company define the road towards assurance, setting priorities and overseeing the compliance with the expected new requirements. Further, the audit committee can assist in monitoring the reporting and data quality subject to the assurance process.
How should audit committees think about value creation and competitors when engaging on ESG?
Audit committees should take steps to understand the business and competitive environment regarding ESG strategy and reporting. What are competitors measuring and reporting? Are there emerging regulatory requirements in other jurisdictions that a company should be aware of?
Understanding the current landscape and the company’s way forward, coupled with strategic investment in data collection and integrity, not only responds to stakeholder demands, but also may expand an organization’s perspective, exposing new risks to its business model along with opportunities for growth and transformation. This is the true significance of bringing standardization and rigor to ESG measurement and reporting.
Developing a clear ESG strategy, along with a standardized reporting process, can set a company apart from its competition as investors, customers, and other stakeholders increase their scrutiny. Regardless of whether a company is still developing goals and policies, focusing on metrics and reporting, or working to push the limits – effectively addressing ESG strategy and reporting should be a long-term objective aligned with the company’s core business.
This article was originally written by Maura Hodge, KPMG IMPACT, Audit Leader, KPMG in the US, and adapted by Mike Boonen, Audit Partner and Sustainability Reporting Lead, KPMG in Belgium, and Steven Mulkens, Executive Director, Audit & Assurance and Sustainability Services, KPMG in Belgium, to reflect the European Council’s and European Parliament’s provisional political agreement on the revised Corporate Sustainability Reporting Directive (CSRD).
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With the new Corporate Sustainability Reporting Directive (CSRD), companies will have to communicate more elaborately and transparently.
Companies will have to communicate more elaborately and transparently.