Getting ready for Sustainability-related Financial Information Reporting and Disclosure
If the private and public sector have a set of comparable standards to work to, they can be held accountable by shareholders and the investing public. This is why a uniform set of metrics and baselines reporting that set a globally consistent start point on which other regional jurisdictions can add additional reporting requirements as they consider appropriate is important. The issue otherwise is that sustainability reporting will be fragmented and continue to be seen as an additional compliance requirement, rather than being central to evaluating company performance and future prospects, including financial risks of climate change.
“Real progress to be made will come down to businesses taking the lead and getting specialist help.” ¹
To my mind the message behind COP 26 is clear in that companies should:
By providing application guidance companies will become sustainable in their reporting and more holistic in highlighting new types of risk that may have been overlooked. While the task of combatting climate change is complex, the development of the International Sustainability Standards Board (ISSB) is a step in the right direction to push the hand of businesses onto a sustainable path to promote accountability for their action or inactions.
“We are, after all, the greatest problem solvers to have ever existed on Earth. If working apart, we are a force powerful enough to destabilise our planet. Surely working together, we are powerful enough to save it.” — Veteran British broadcaster and documentary maker Sir David Attenborough
General Requirements for Disclosure of Sustainability-related Financial Information Prototype- an outline of the draft proposal (Subject to consultation)
The general requirements for the draft disclosure of sustainability-related financial information prototype were published on the 3rd November 2021, in the runup to COP26, which embraces content from the International Accounting Standards Board’s IAS 1: Presentation of Financial Statements and aligns with the recommendations of the (TCFD) Task Force on Climate-related Financial Disclosures that is structured around the four TCFD pillars on governance, strategy, risk management and metrics and targets.
Note that although an effective date is still yet to be announced, it will usually be for annual reporting periods beginning on or after 1st January. Will it be 2022? – possibly I guess, may be for large listed businesses and financial institutions, but I’m just pre-empting here, as there is a need for urgency to take action, with other businesses looping in after 2023. Early adoption/ application, as always will be an option and will need to be disclosed as fact. Optional exemptions, I am guessing are likely to be granted for any period before the date of initial application where it will be both costly and arduous to do so.
The main themes of the draft Standard / the Conceptual Framework for Disclosure of Sustainability-related Financial Information is as follows:
Objective and Scope:
The objective is to provide information about the significant sustainability-related risks and opportunities to which the reporting company is exposed to may be useful to primary users of general-purpose financial reporting in deciding whether to provide resources to the company. It prescribes financial information that: (a) is comparable both with sustainability-related financial information of previous periods and with the sustainability-related financial information from other entities; and (b) is connected to the other information in the company’s general purpose financial reporting.
General purpose financial reporting must include risks and opportunities to assist users of the general-purpose financial reporting in predicting the value, timing and certainty of the company’s future cash flows, over the short, medium and long term and therefore inform users’ assessment of enterprise value.
Companies are permitted to apply IFRS Sustainability Disclosure Standards when the company’s related financial statements are prepared in accordance with IFRS Accounting Standards or other GAAP.
Materiality:
Information is material if omitting, misstating or obscuring that information could reasonably be expected to influence decisions that the primary users of general-purpose financial reports make on the basis of those reports. Material information could include but is not limited to information about: (a) company’s impacts on society and the environment, if those impacts could reasonably be expected to affect the company’s future cash flows; and (b) events considered to have a low likelihood but a high potential impact on the company’s future cash flows.
Management will need to apply judgement to identify the information about sustainability risks and opportunities and the associated metrics that are material to the company’s circumstances.
Reporting Company Boundary:
Disclose material information about significant sustainability-related risks and opportunities arising from activities, interactions and relationships with parties outside the reporting company’s boundary that affect users’ assessment of enterprise value.
Connectivity:
A complete set of sustainability-related financial disclosures is required so that users can understand the connections, dependencies and trade-offs that may apply between sustainability-related financial disclosures and other information in general purpose financial reporting. Some sustainability-related financial information could be positioned in the relevant sections of a general-purpose financial report together with information from the financial statements to provide users a complete depiction of the company’s business. Specific required metrics and targets should be disclosed together with information on governance, strategy and risk management where these metrics and targets support such disclosures.
Governance:
To provide an understanding of the governance processes, controls and procedures used to monitor and manage sustainability-related risks and opportunities. Such information supports evaluations of whether sustainability-related financial risks and opportunities receive appropriate oversight by those charged with governance. To achieve the objective, companies needs to disclose a description of the body or bodies (which may be the board, committee or equivalent body charged with governance) with oversight of existing and emerging sustainability-related risks and opportunities and the Board’s role with respect to existing and emerging sustainability related risks and opportunities.
General Features:
Companies should disclose information that focuses on matters critical to the way they operates, following the TCFD four pillars of governance, strategy, risk management, and metrics and targets. The prototype sets out objectives for each of these pillars and disclosure requirements to achieve these objectives.
Comparative Information:
Unless permitted or otherwise, companies shall present comparative information regarding the previous period for all amounts including metrics and key performance indicators reported in the current period. When relevant to understanding the current periods sustainability-related financial disclosures a company shall also disclose comparative information for narrative and descriptive information. Comparative information that reflects updated estimates will be required too. Presenting the most recent estimate of the comparative information enhances comparability.
Frequency of reporting:
Companies are expected to disclose sustainability-related financial disclosures for the same reporting period on which the company’s financial statements are based and therefore report every twelve months and at the same time as those financial statements. If a company changes the end of its reporting period and discloses sustainability-related financial disclosures for a period longer or shorter than twelve months, it shall disclose the period covered by the sustainability-related financial disclosures and the reason for using a longer or shorter period and the fact that the amounts presented in the sustainability-related financial disclosures are not coterminous.
Reporting Channel:
Subject to any regulation or other requirements that apply to a company, there are various possible locations in its general-purpose financial reporting in which to disclose sustainability-related financial information. Sustainability-related financial disclosures can be included in the company’s management commentary where management commentary forms part of a company’s general purpose financial reporting. Management commentary provides management’s insights into the factors that have affected the company’s financial performance and position and the factors that could affect the company’s ability to create value and generate cash flows. Management commentary can be known by or incorporated in reports with various names, including management’s discussion and analysis, operating and financial review, integrated report and strategic report.
Identifying the Financial Statements:
If the related financial statements are not prepared in accordance with IFRS Accounting Standards, the sustainability-related financial disclosures shall disclose the basis on which the financial statements are prepared.
Financial Data and Assumptions:
Financial data and assumptions shall be consistent with the corresponding financial data set and assumptions included in the company’s financial statements. A company need not disclose information required by an IFRS Sustainability Disclosure Standard if local or regional laws or regulations prohibit the company from disclosing that information. If a company omits material information for that reason, it shall identify the type of information not disclosed and explain the source of the restriction and reason for departure.
Fair Presentation:
Applying IFRS Sustainability Disclosure Standards, with additional disclosure, when necessary, is presumed to achieve a fair presentation, that also requires a company: (a) to disclose information that is relevant, reliable, comparable and understandable; and (b) to provide additional disclosures when compliance with the specific requirements in IFRS Sustainability Disclosure Standards is insufficient to enable users to understand the impact or potential impact of significant sustainability-related risks and opportunities on the company’s enterprise value. Consideration of all relevant facts and circumstances is required on deciding how to aggregate information in sustainability-related financial disclosures, without obscuring material information with immaterial information or by aggregating material items with different natures or functions.
Sources of Estimation Uncertainty:
When metrics cannot be quantified directly and can only be estimated, measurement uncertainty arises. The use of reasonable estimates is an essential part of preparing sustainability-related metrics and does not undermine the usefulness of the information if the estimates are clearly and accurately described and explained. Companies will need to identify metrics it has disclosed that have significant estimation uncertainty, disclosing the sources and nature of the estimation uncertainties and the factors affecting the uncertainties. When qualitative information, such as explanations of possible effects of a sustainability factor, relate to possible future events about which there is significant outcome uncertainty, it must identify and disclose the sources of significant uncertainty and the factors affecting these sources of uncertainty.
Errors:
Prior period errors are omissions from and misstatements in the company’s sustainability-related financial disclosures for one or more prior periods arising from a failure to use, or misuse of reliable information that: (a) was available when the general-purpose financial reporting for those periods was authorised for issue; and (b) could reasonably be expected to have been obtained and taken into account in the preparation of those sustainability-related financial disclosures. Such errors include the effects of calculation mistakes, mistakes in applying definitions for metrics, targets and key performance indicators, oversights or misinterpretations of facts and even fraud.
Statement of Compliance:
A company whose sustainability-related financial disclosures comply with all of the relevant requirements of IFRS Sustainability Disclosure Standards shall include an explicit and unqualified statement of compliance. A company should not describe sustainability-related financial disclosures as complying with IFRS Sustainability Disclosure Standards unless they comply with all the relevant requirements of IFRS Sustainability Disclosure Standards.
Conclusion
While the framework is fairly generic, the real challenge will around transformational project planning, people, systems and processes, master data completeness and capture, providing sustainability leadership and management as subject matter experts, including very strong technical capability to deliver this challenging piece of work that passes external audit/ regulatory muster.
“There’s no more time to hang back or sit on the fence or argue amongst ourselves. This is a challenge of our collective lifetimes. The existential threat, threat to human existence as we know it, and every day we delay the cost of inaction increases. So let this be the moment that we answer history’s call..." —U.S. President Joe Biden
If you are contemplating on starting your sustainability-related financial disclosures implementation programme after an effective date has been announced by the ISSB and require help in setting out a robust end-to-end plan and implementation to properly and permanently embedded it in your organisation, please feel to reach out to Kothari Partners.
Dee Singh Kothari is a senior partner in Kothari Partners
¹ At Kothari Partners, we have worked with various UK and overseas listed and PE-backed clients across various industries to consider how their business and finance services can bring them both cost reductions and performance improvement. Our approach is to help our clients understand their current situation, identify the value and decide on the scope, vision and set of strategies for what they could achieve for their business. We help plan their implementation and support them and deliver the solution/ change needed, so it is embedded in their organisation. We aim to help past and future clients by delivering high-quality work to their organisation, generate real efficiencies and free up time to support better business decisions. For a confidential discussion please free to contact us, via our corporate website: https://dipakagkothari.wixsite.com/website