ESG fraud a growing risk for Canadian businesses, KPMG finds

Canadian businesses that have experienced fraud are deeply concerned about a new and emerging type of scam: ESG fraud, according to new research from KPMG in Canada.

Last month, KPMG polled 300 Canadian organizations victimized by fraud to learn about the types of scams they have experienced. The survey showed 24 per cent of respondents that had experienced fraud within the past five years have discovered ESG fraud, and some are currently still dealing with it. ESG fraud occurs when a company's environmental, social and governance efforts or data are exaggerated, embellished, or distorted.  

As the pressure mounts on organizations to deliver on ambitious sustainability targets, nearly nine in 10 (89 per cent) respondents said they are facing intense scrutiny from their stakeholders to demonstrate tangible progress on ESG targets. Additionally, 86 per cent are concerned that the pressures are increasing the risk of ESG-related fraud happening within their organizations, and 81 per cent are concerned their organization could inadvertently commit ESG fraud.

"The fact that stakeholders are demanding accountability for ESG performance is a positive factor for driving change, but unfortunately it can motivate – and already is motivating – some individuals or teams within organizations to misrepresent or inflate their sustainability and financial metrics for corporate or personal gain," says Becky Seidler, a partner in KPMG in Canada's forensic and dispute advisory practice. 

"The consequences of ESG fraud can be significant, including financial and reputational harm, and quite possibly the loss of social license to operate if stakeholder trust is damaged," she adds.

Ms. Seidler says the survey findings underscore the need for organizations to implement strong controls that properly address ESG fraud. ESG fraud can take many forms, such as falsifying carbon offsets in ESG reporting, greenwashing and other types of data "washing", misusing ESG grant funds, breaching ESG regulations and bribery and corruption, for example. 

"ESG fraud is a new and emerging risk for many organizations. That's why it's crucial for businesses to build anti-fraud defenses into their ESG strategies early and proactively, rather than reacting after the fact," she says.

• 24 per cent of 300 Canadian companies victimized by fraud in the past five years reported that they are experiencing or have experienced ESG fraud
  • 9 per cent are currently dealing with or have previously dealt with internal ESG fraud; that is, employees or teams within their company have been found embellishing, distorting, or exaggerating ESG data or efforts
  • 8 per cent are currently dealing with or have previously discovered external ESG fraud; that is, their suppliers or vendors are embellishing, distorting, or exaggerating their ESG data or efforts
  • 7 per cent report that they are experiencing or have experienced internal and external ESG fraud
• 86 per cent are concerned about the growing risks of ESG fraud within their organization given how important ESG is becoming
• 81 per cent are concerned their organization could inadvertently commit ESG fraud
• 89 per cent say their stakeholders are increasingly demanding proof of their ESG records
• 89 per cent say their stakeholders are increasingly demanding proof of compliance with anti-corruption and anti-money laundering regulations

Amid widespread concerns about the growing risk of ESG fraud, nine in 10 respondents (90 per cent) say their organization has an ESG compliance program and 92 per cent also have anti-corruption compliance programs in place.

When asked to characterize the effectiveness of their programs, nearly six in 10 (59 per cent) say their ESG compliance programs "meet or exceed industry peers", and 56 per cent say the same about their anti-corruption compliance programs.

While Ms. Seidler calls those numbers encouraging, she warns that ESG regulations are still evolving in many countries including Canada, and compliance programs need to continually evolve in lockstep to mitigate the risk of ESG fraud.

"Loosely and self-defined ESG metrics provide an opportunity for potential misstatements," Ms. Seidler says. "Even when the metrics are clear, an organization's internal controls over ESG reporting and regulatory compliance might still be immature.  For example, if there are no qualified individuals to review ESG reporting for accuracy, completeness and understandability against a consistent framework, or the company lacks external assurance over its ESG reporting, the risk of fraud increases.

"Given the complexity and changing nature of ESG regulations and metrics, compliance programs need to be updated regularly. Companies really need to be proactive," she adds.

Another major consequence of ESG fraud is the risk of legal action. Nearly nine in 10 (89 per cent) respondents say ESG fraud is an emerging litigation risk.

Conor Chell, KPMG in Canada's national leader of ESG Legal Risk and Disclosure says litigation is a serious risk for businesses if activists and other investors find inconsistencies in an organization's reporting of ESG data.

"There's a heightened scrutiny around ESG disclosure and performance right now, and any fraudulent or negligent misrepresentation in financial or other public ESG disclosures – for example, a company's ESG report – could lead to a securities or Competition Bureau investigation, or even class action litigation from shareholders or customers," Mr. Chell says.

Mr. Chell says recently announced draft proposals on Canadian standards for sustainability-related financial information and climate-related disclosures by The Canadian Sustainability Standards Board (CSSB) will also help provide more clarity for organizations on their ESG reporting.

"Once the CSSB standards are finalized – and if adopted by the Canadian Securities Administrators as law – one of the potential consequences of non-compliance will be litigation, so adhering to the new standards will help organizations mitigate that risk," he notes.

"Companies can guard against ESG litigation risk by proactively and comprehensively identifying the sources and types of ESG legal risk that could exist internally, as well as external factors that span well beyond the four corners of a company's ESG report," he says.

For more insights into sustainability reporting, visit KPMG Canada's ESG reporting page.

KPMG in Canada surveyed business owners or executive level C-suite decision makers at 300 small-and-medium-sized Canadian companies that were victimized by fraud. The survey took place between February 13-21, 2024 using Sago's premier business research panel. Seventy per cent of the companies surveyed have annual gross revenue between $50 million to $299.9 million; 20 per cent have between $300 million to $1 billion; and 9 per cent have over $1 billion. No respondents under $50 million in annual revenue were included in the survey. Over half (51 per cent) are privately held and 49 per cent are publicly traded. Thirty-seven per cent are based in Ontario, 34 per cent in Quebec, 12 per cent in Alberta, and 7 per cent in B.C. The remaining respondents are from other regions across Canada.