ESG investing is tethered to the philosophy of ‘sustainable investing.’ It involves researching and factoring in environmental, social, and governance issues, in addition to the usual financials, when evaluating potential stocks. Until recently, ESG reporting has been more of a niche. Companies are making voluntary disclosures in their annual report or in a standalone sustainability report. In support of this, activist investment firms like Aneuvia, work with clients to reassess their ESG footprint and operations to increase value among investors.
Since ESG metrics are not part of mandatory financial reporting, corporate ESG data has historically been lacking in quality, consistency, and comparability, which makes it difficult for asset managers to determine where to direct investments.
Now, regulators are jumping in to address the lack of common reporting standards in ESG reporting. Our latest whitepaper The US’s ESG Regulatory Environment: Past, Present, and Future shares a few trends that are likely to shape the future of ESG reporting:
Universal and sector disclosures
Forthcoming European proposals are focused on “universal disclosures” which means regulators will pick a subset of the myriad of ESG topics and require all companies to report on them. When it comes to what exactly will comprise the list of universal disclosures, more alignment is needed particularly when it comes to climate change). Climate change has been prioritized so it is safe to forecast that reporting on corporate carbon footprint will become mandatory. In addition to this, the Sustainability Accounting Standards Board (SASB) has also looked into sector standards, which establishes sector-based disclosures.
Materiality refers to how companies select the topics that they will report on. This flexibility and the onus placed on a company-by-company basis has also been problematic. Forthcoming European proposals suggest that regulators and standards setters will decide materiality. This will help achieve data comparability.
The SEC’s Asset Management Advisory Committee has advocated for mandatory standards that can provide guidance for the current principles-based materiality requirements. The committee urged for a parsimonious, rather than a comprehensive approach, advising to develop a limited set of industry-level materiality metrics, to be monitored by an independent standard-setter such as SASB.
Establishing global consistency
A complaint about the ESG reporting world is the lack of consistency. There are several organizations providing overlapping reporting standards, which adds confusion and results in inconsistent disclosures.
Amidst concerns of fragmentation, reprieve came last September when the International Financial Reporting Standards (IFRS) Foundation announced its plans of creating global sustainability standards by drawing inputs from key ESG reporting frameworks and standards. While the methodologies, definitions, purposes and audiences might vary, these ESG reporting bodies are lending their support to the harmonization drive and making efforts to align with each other.