Investor calls for ESG reporting heat up

The call for corporate accountability for environmental, social and governance (ESG) issues is getting louder.

Australian climate change policies have been widely criticised as inadequate, but pressure for increased climate-related reporting is building independently of government policy.

The Australian Council of Superannuation Investors (ACSI) states that its members, with combined assets of more than A$1 trillion, will vote against the re-election of directors they believe have failed to manage climate risk appropriately.

Investors are increasingly expecting companies to address material climate-related risks, including adopting the Financial Stability Board’s Task Force on Climate-related Financial Disclosures (TCFD) recommendations, aligning their strategies with the Paris Agreement based on scenario analysis, setting emissions reduction targets and managing physical risks.

That call is increasingly being answered by companies, with the uptake of ESG reporting gaining momentum under a variety of different frameworks, including sustainability reporting, integrated reporting, climate-related disclosures and reporting against the UN sustainable development goals or Paris-aligned accounts.

In November this year, the International Financial Reporting Standards Foundation established the International Sustainability Standards Board (ISSB) to sit alongside the International Accounting Standards Board, with a sustainability reporting standard to be issued in 2022.

The ISSB will help to establish a standardised approach to sustainability reporting to meet market demand.

Shift in regulatory expectations

The significant shift in focus for corporate reporting is being fuelled not only by investor lobbyists, but also by regulatory expectations and risk mitigation by the entities themselves. The US Securities and Exchange Commission is expected to mandate climate-related disclosures following its recent consultation. The UK has committed to the introduction of climate-related reporting before 2025 with a staged approach, meaning that a significant portion will be in place by 2023. In New Zealand, mandatory climate-related disclosure reporting is being introduced from 2023, with assurance on reported emissions to follow in 2025. This will drive a sharp uptick in demand for professionals and firms that have the necessary expertise in both sustainability reporting and assurance.

Although mandatory requirements for ESG reporting and assurance in Australia are limited to Clean Energy Regulator schemes, other regulators are providing increasingly strong direction on their expectations for climate-related disclosures.

 

"The capacity and capability of firms to conduct audits of financial statements will need to be matched by capacity and capability to provide ESG assurance in the near future."

 

The Australian Prudential Regulation Authority (APRA) has highlighted the need to address climate risk, setting out its expectations in a guide. APRA is also undertaking a Climate Vulnerability Assessment with Australia’s largest five banks.

The Australian Securities and Investment Commission similarly expects regulated entities to consider physical and transitional climate risks, while the Reserve Bank of Australia has warned that the cost of capital will go up for Australian companies if they do not address climate change.

Industry bodies are also recognising the importance of addressing this issue, with CPA Australia issuing a climate change policy statement and committing to a call to action as a member of Accounting for Sustainability’s Accounting Bodies Network.

The Australian Institute of Company Directors has launched the Australian Chapter of the Climate Governance Initiative and has issued a Climate Risk Governance Guide, spelling out directors’ duties and expectations with respect to climate risk and the litigation risks they face if they ignore these risks.

Assurance and reporting quality

The EY Global Climate Risk Disclosure Barometer shows that there is now extensive reporting under TCFD globally, but quality is lagging. There is a need for assurance to enhance the quality of climate-related reporting.

The International Federation of Accountants’ benchmarking report, The State of Play in Sustainability Assurance, has found that 91 per cent of the 1400 companies examined globally – the largest companies in 22 jurisdictions – are reporting on sustainability. However, only 51 per cent of these companies have obtained assurance over their sustainability disclosures, the majority provided by audit-affiliated firms using the auditing and assurance standards issued by the International Auditing and Assurance Standards Board or national equivalent.

The lag between reporting and assurance is understandable, as robust reporting needs to be in place before effective assurance is possible.

There is a significant amount of work in establishing systems, processes and controls in order for an entity to be ready for assurance on ESG reports.

Nevertheless, external assurance will be increasingly needed to provide credibility and trust in ESG reports, as well as confidence that reporting is not “greenwashing”, but instead an accurate reflection of the reality of the entity’s activities.

As entities are gearing up for more fulsome ESG reporting, practitioners need to be building their capabilities to provide assurance on those reports.

Accounting and ESG assurance

The accounting profession needs to be prepared to meet growing demand for increased sustainability reporting and assurance. The capacity and capability of firms to conduct audits of financial statements will need to be matched by the capacity and capability to provide ESG assurance in the near future.

While the accounting profession is in a strong position to provide that ESG assurance and, indeed, the larger firms are already doing so, it is not a given that the profession can claim or retain this space without upskilling.

In order to exercise professional judgement and professional scepticism, assurance practitioners cannot rely on experts alone, but must themselves have an adequate depth of understanding of the subject matter.