The Race to Establish ESG Reporting Standards Must Be a Race to the Top

The quest to achieve a single set of widely accepted standardized indicators for companies to report their environmental, social and governance (ESG) performance has reached a new stage this week, with the publication of final “common metrics for stakeholder capitalism” by the World Economic Forum (WEF).

Coming only days after the “statement of intent” towards greater collaboration from the world’s five largest sustainability and integrated reporting frameworks and of the separate creation of a European task force to define its own ESG reporting standards, the momentum towards standardization of sustainability or non-financial reporting is building fast.

For those not following these debates in great detail, you will appreciate the irony that a process designed to combat the proliferation, fragmentation and confusion of different sustainability reporting frameworks, is itself fragmented and diffuse.

For those mired in these debates over several years, there is the temptation to say the new metrics simply add ‘just another framework’ to the now 200 which the World Business Council on Sustainable Development has catalogued - with already some 2,000 different ESG indicators.

Company buy-in is crucial

However, it is pressure from companies themselves and from investors, which is both behind this new momentum for standardization and which appears to have set in train an unstoppable race to ensure it reaches a conclusion.

The WEF International Business Council initiative, first announced at Davos in January and whose revision following consultation was unveiled on Tuesday, has the merit of speed, of the Forum’s enviable reputation and of the active support of the world’s “Big 4” accountancy companies in the background.

The combination of compulsory and optional metrics is largely drawn from the methodologies of the existing ESG reporting frameworks and will be implemented immediately by 140 of the world’s largest companies, comprising the Council’s membership.

It is here now.

However, the process so far lacks the independence which has been necessary for standard-setting initiatives in other spheres to gain legitimacy. There is also a question mark over whether reporting which is aimed at measuring value to wider stakeholders, can be properly achieved without fair representation of stakeholders in establishing it.

It also worries me that many touchstone issues are included in the “extended” metrics which means they may easily be excluded from comparable and consistent reporting. These include political lobbying, science-based targets, resource circularity, freedom of association, the living wage, social value and business and human rights issues.

However, this week’s launch committed to further “tweaking” the metrics based on practice, and argued business buy-in is an important component in seeking universal acceptance.

Making connections to strengthen ESG reporting

Meanwhile, the statement of intent from the family of existing voluntary frameworks - GRI, SASB, CDP, CDSB and IIRC - is genuinely innovative in laying out a vision for a comprehensive reporting system, which connects financial and non-financial reporting.

It reflects the shift in the accountancy profession in the last year towards the aim of “connected reporting,” where integrated reporting is not the ultimate aim in itself, but the new conceptual framework which would link existing financial reporting standards to the creation of a proposed new independent non-financial reporting standards board.

The question remains open as to how closely this is linked to the International Accounting Standards Board, responsible for much of the world’s financial reporting?  The decision of its own trustees - the IFRS Trustees - to move towards their own consultation on non-financial reporting, something which would have been impossible only three years ago, is a sure sign that the tectonic plates are shifting.

Central Banks, prudential regulators, stock exchanges and securities commissions are all traditional financial actors, who are now fully engaged in these debates.

They are all pursuing systems solutions, important at a time when what we are seeking is system change. 

Simplification is a must

However, for report preparers in companies who may be less interested in what this grand architecture looks like, but to what it will mean to them, it does hold out hope that the much-demanded simplification is on its way.

The statement of intent commits to a single set of sustainability topics and disclosure requirements, with the existing frameworks as the “building blocks.”  It maintains the commitment to financially-material non-financial information being incorporated in the mainstream company report, as well as in other communications.

However, it is right to ask how far the statement differs from the ESG reporting dialogue comprising the same actors from two years ago? That cooperation was underpinned by a commitment to actual alignment between the frameworks, rather than the language of “interoperability,” “complementarity” and “concurrence” which marks this latest statement.

It is actual alignment or convergence, which many investors and corporates now demand.

To be fair, the previous collaboration did enable a two-year project which showed companies how they could use each or a combination of the frameworks to report on the recommendations of the Task Force for Climate-related Financial Disclosure, (TCFD).  I declare an interest as its convener at the time, but this led me to being personally persuaded that the potential for alignment was present. 

Perhaps too, this latest statement is a recognition that the leadership required for such collaboration, has to come from outside the existing frameworks, to enable it to happen.

This year, the GRI has already been undertaking a consultation on its universal standards, the IIRC a global consultation to update its own framework. Valuable lessons are being learnt, without doubt. But a sure sign to the market that all five of the frameworks are serious about deeper collaboration, would be if they committed to an embargo on any further new standards development, unless undertaken jointly with their other partners.

It is difficult to claim a commitment to closer collaboration, while at the same time still moving in the direction of divergence. Examining the feasibility of joint standard-setting, referred to in the statement of intent, may not be moving quickly enough for what the market wants and needs.

This collaboration must also remain open to new players, including the SDG Benchmarks being drawn up by the World Benchmarking Alliance and the ground-breaking work of the Impact Management Project, which itself is seeking to amalgamate other initiatives. 

Getting reporting standards up and running

Next, we come to the EU developments, first announced by the European Commission in February this year and with its task force to develop the new ESG standards already up and running.

This initiative benefits from significant political will, which sees its work rooted in the bloc’s €100 billion ($117 billion) Green Deal, a commitment to stricter emissions targets by 2030, and already-agreed ESG disclosure requirements for investors.

The EU approach combines the advantages of speed and of specificity seen in the WEF, as it has already demonstrated in its detailed taxonomy on sustainable activities, published last year.

The European approach also shares the advantages of the frameworks in enjoying widespread stakeholder representation, and in recognizing the concept of “double (and sometimes dynamic) materiality,” in which non-financial information is collected and published according to both what investors and other stakeholders demand.

The quest for ESG standards in Europe also has its own “grand design,” in the form a recent report drawn up for the French government last year by Patrick de Cambourg, now chair of the EU’s new task force.

The question for Europe is whether it can gain the legitimacy in global markets, when coming from a single region of the world, albeit a leading one?

The ground-breaking Non-Financial Reporting Directive from 2014 showed between 6,000 to 12,000 companies starting non-financial reporting and has not been seen to hold back the other global initiatives, but arguably enhanced them. In addition, the European Commission’s action already to set up an International Platform on Sustainable Finance, including China and India, shows it is committed to acting on and not simply talking about its leadership role.

In any case, the statement of intent from the frameworks acknowledges Europe’s leadership role and outlines how support from public policy makers is an essential component of bringing legitimacy to any standard-setting effort. The statement of intent was also coordinated by the World Economic Forum and the Impact Management Project, together with Deloitte. The WEF report commits to further work with system actors to pursue “convergence of the ecosystem.” The Impact Management Project is represented on the new EU Task Force.

This all indicates that genuine coalescence between these three standard-setting initiatives may be possible. 

The real challenge lying ahead for ESG reporting

The challenge to Europe, is no different to that facing the other initiatives and - in truth - representatives of a majority of professionals reading this article.

All of these initiatives correctly identify the need to re-assess risk in the light of climate change, global health pandemics like COVID-19 and the other system “shocks” which are becoming increasingly prevalent.

But as the one research project demonstrated earlier this year, too much of existing sustainability reporting addresses risks and policies in ESG, but not actual targets or results, in this new era when impact is the true ultimate goal.

When I wrote for TriplePundit during last year’s Climate Week, asking if progress towards ESG standardization was “too glacial for the glaciers,” I think I would have been pleasantly surprised to see the progress made during the intervening period.

Contrary to some of our debates on these topics, if this is a race, it is certainly a race to the top and it is a race which is already well underway. 

But, to maintain momentum in the next year, let me suggest a question for each of the standardizing initiatives:

To the World Economic Forum, will you work with other global stakeholders to undertake a much broader consultation of ESG standardization?

To the ESG reporting frameworks, will you introduce that embargo on new standards development after the existing rounds are completed, and re-commit to actual alignment between your different frameworks, to accelerate the path to the single set of disclosure requirements, to which you now aspire?

To the European Union, will you maintain your timetable for achieving non-financial reporting reform in the face of the inevitable political obstacles which will arise, and will you take practical steps to ensure dialogue with non-European actors in the world, as the process advances?

Finally, to each of the initiatives and to all of us committed to business sustainability and ESG reporting, can we test all our efforts, so that actual impact is integral to the information which we need?

Image credit: Tyler Casey/Unsplash