Companies' sustainability reporting practices may need broader uplift 9 min read
The International Sustainability Standards Board (the ISSB), established by the IFRS Foundation at COP26 in November 2021, is currently developing a global framework for sustainability- and climate- related financial disclosures. The framework is intended to act as a baseline for such disclosures, and provide investors, and other capital market participants, information about companies' sustainability- and climate-related risks and opportunities. On 31 March 2022, the ISSB launched for consultation two separate draft reporting standards (the ISSB Standards), and is aiming to finalise and issue them as early as possible in Q1 of 2023 with a recommended reporting commencement date of 1 January 2024.
In this Insight, we analyse the ISSB Standards, including recommending what Australian companies can do now to be prepared for their potential impact.
- The ISSB Standards go beyond climate by creating a standalone framework for broader sustainability-related disclosures. 'Sustainability' includes the extent of a company's impacts and dependencies on resources and relationships, such as its workforce and supply chain, and relationships with local communities (including Indigenous peoples) and natural resources.
- As currently drafted, the ISSB Standards require more specific climate-related disclosures than is required under the Recommendations of the Task Force on Climate-Related Financial Disclosures (the TCFD Recommendations). For instance, whereas the TCFD Recommendations require that reporting entities 'describe' certain matters without qualifying the level of detail needed, the ISSB Standards require more granular information about current and future sustainability as well as how they intend to respond to those matters.
- Following support from Australian regulators – including ASIC and APRA – for the draft ISSB Standards, the Federal Government has recently commenced consultations on whether to introduce climate reporting requirements that would align with the ISSB Standards.
- The Government is proposing that such climate reporting requirements apply to 'large listed companies' and 'large financial institutions' (including banks, insurers, credit unions and super funds). The Government is seeking views on whether the requirements should also apply to 'large, unlisted entities', and has noted it is expected that disclosure requirements could gradually be applied to, for example, 'smaller listed entities', as climate reporting capability is institutionalised in Australia. This suggests that the ISSB Standards (or a similar type of standard) may move from being voluntary to mandatory for certain Australian companies.
- As an initial step, we recommend that Australian companies conduct a gap analysis of their current reporting practices against the ISSB Standards' proposed disclosure requirements, in the event that reporting under the ISSB Standards becomes mandatory for that company.
The ISSB Standards build on certain existing reporting frameworks, including:
- the TCFD Recommendations, which are a set of recommendations for the voluntary disclosure of climate change-related financial risks; and
- the Standards of the Sustainability Accounting Standards Board (the SASB Standards), which identify particular environmental, social and governance issues for companies in over 70 industries to report on, again in a voluntary manner.
The ISSB is aiming to finalise and issue the ISSB Standards as early as possible in Q1 of 2023 with a recommended reporting commencement date of 1 January 2024, after which it will be for regional and national legislators to decide whether reporting under the ISSB Standards will be mandatory in their respective jurisdictions, and whether there will be any any transition or phasing-in allowances to give companies time to prepare for the new standards.
Relevantly, the Federal Government has proposed to introduce climate-related reporting requirements for certain Australian entities, and to empower the Australian Accounting Standards Board (the AASB) to develop broader sustainability-related reporting standards, which requirements and standards would most likely align with the ISSB Standards.
Australian companies that are currently reporting voluntarily under the TCFD Recommendations should be reasonably well placed to deliver climate-related disclosures in line with the ISSB Standards. However, reporting practices may require a broader uplift going forward, in order to bridge the gap between the two reporting frameworks. In this Insight, we:
- explore the core content requirements for the sustainability-related ISSB Standard (known as IFRS S1);
- assess the main differences between the TCFD Recommendations and the climate-related ISSB Standard (known as IFRS S2); and
- provide recommendations on what an Australian company can do now in order to be prepared for the impact of the two ISSB Standards - whether that Australian company intends to report in accordance with the ISSB Standards on a voluntary basis, or in the event that reporting against the ISSB Standards by that Australian company becomes mandatory.
Over the past few years, there has been a global proliferation of voluntary reporting standards relating to sustainability- and climate change-related financial risks and opportunities.
These include the TCFD Recommendations, the beta draft Recommendations of the Task Force on Nature-Related Financial Disclosures (the TNFD), the Standards of the Global Reporting Initiative (the GRI Standards) and the SASB Standards.
The ISSB Standards are intended to be a global baseline reporting framework (to an extent, consolidating the above standards) for sustainability- and climate-related risks and opportunities. They aim to provide primary users of financial information — such as investors, creditors and lenders — with comparable and verifiable data when making investment assessments or decisions.
The ISSB Standards focus on 'sustainability-related risks and opportunities'. This concept is not defined by the ISSB Standards and, as such, may cover any 'E', 'S' or 'G' category to the extent that the relevant risk or opportunity is material (defined below) as to the reporting entity's enterprise value and 'value chain' (defined below). This approach contrasts with other reporting frameworks, including the European Union's Corporate Sustainability Reporting Directive, which specifies certain environmental, social and governance factors that entities are expected to consider in preparing disclosures. 1
The ISSB Standards take the form of two exposure drafts: Draft S1 General Requirements for Disclosure of Sustainability-related Financial Information (IFRS S1) and Draft S2 Climate-related Disclosures (IFRS S2). IFRS S1 and IFRS S2 both adopt a four-pillar core content framework (similar to the TCFD Recommendations), which requires an entity to provide disclosures about:
- Governance — the governance processes, controls and procedures the entity uses to monitor and manage sustainability-related and climate-related risks and opportunities.
- Strategy — the approach for addressing sustainability-related and climate-related risks and opportunities that could affect the entity’s business model and strategy over the short, medium and long term.
- Risk management — the processes the entity uses to identify, assess and manage sustainability-related and climate-related.
- Metrics and targets — information the entity uses to assess, manage and monitor its performance in relation to sustainability-related and climate-related risks and opportunities over time.
The ISSB Standards will serve as a voluntary reporting framework, with jurisdictions around the globe strongly encouraged by the ISSB to consider codifying the ISSB Standards to ensure they are fit for purpose in their own jurisdiction's reporting landscape. At present, we note that there is no set scope for the ISSB Standards, which means it will be up to each jurisdiction to prescribe which companies will be caught by the reporting obligations under the ISSB Standards, and whether those obligations will be voluntary or mandatory in the relevant jurisdiction.
The ISSB has said that the disclosure requirements should be scalable among entities that are smaller, less resourced, or located in emerging markets. ASIC, APRA, the Reserve Bank of Australia and the Treasury have also identified the issue of scalability in parallel with the need for reporting requirements to be phased in so as to allow entities adequate time in preparing and upskilling for any new disclosure requirements.2
Key reporting concepts under IFRS S1 include:
- Entities are required to report all material information about 'sustainability-related risks and opportunities', which arise from an entity's dependencies on resources and its impacts on resources, and the relationships the entity maintains that may be positively or negatively affected by those impacts and dependencies.
- Sustainability-related financial 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 reporting make on the basis of that reporting. More specifically, this would be information about a risk or opportunity that could reasonably be expected to affect the entity’s business model, strategy and cash flows, its access to finance and its cost of capital, over the short, medium or long term.
- Further, entities are required to describe where significant sustainability-related risks and opportunities are concentrated in their 'value chain'. The term 'value chain' is defined broadly to mean the activities, resources and relationships an entity uses and relies on to create its products or services throughout its whole lifecycle. Relevant activities, resources and relationships include those in the entity’s operations, such as human resources, or those along its supply, marketing and distribution channels (and the financing, geographical, geopolitical and regulatory environments in which the entity operates).
The four pillars of IFRS S1 in detail
IFRS S1 requires reporting entities to disclose the following information:
Information about the entity's sustainability governance (which can include a board, committee or equivalent), and information about management’s role, including:
- how the entity's responsibilities for sustainability-related risks and opportunities are reflected in its terms of reference, board mandates and other related policies; and
- how the entity and its committees consider sustainability-related risks and opportunities when overseeing its strategy, decisions on major transactions and risk management policies.
Information about the effects of significant sustainability-related risks and opportunities on an entity's:
- business model and value chain (this would include a description of where in its value chain significant sustainability-related risks and opportunities are concentrated – eg geographical areas, facilities or types of assets, inputs, outputs or distribution channels); and
- strategy and decision-making, which would include how the entity is responding to significant sustainability-related risks and opportunities, and what trade-offs between sustainability-related risks and opportunities were considered by the entity – eg in a decision on the location of new operations, a trade-off between the environmental impacts of those operations and the employment opportunities they would create in a community, and the related effects on enterprise value.
- Risk management:
Information about the:
- entity's process (or processes), which it uses to identify, assess and prioritise sustainability-related risks and opportunities; and
- the extent to which and how these processes are integrated into the entity’s overall risk management process.
- Metrics and targets:
Information about the:
- metrics used by the entity to manage and monitor sustainability-related risks and opportunities, including how the metrics are defined and whether they are validated externally;
- targets the entity has set to assess progress towards achieving its strategic goals; and
- the entity's performance against its disclosed targets, and any revision of those targets.
The ISSB Climate Standards require disclosure of more specific and granular information than is required under the TCFD framework. We have set out below some of the main differences between the TCFD Recommendations and IFRS S2.
- Governance: Where the TCFD requires an entity to describe its board's oversight of climate-related risks and opportunities, the ISSB Standards requires additional information, including:
- the identity of the body or individual responsible for oversight of climate-related risks and opportunities, and how that body’s responsibilities for climate-related risks and opportunities are reflected in the entity’s terms of reference, board mandates and other related policies;
- how the individual or body ensures that the appropriate skills and competencies are available to oversee strategies designed to respond to climate-related risks and opportunities; and
- information about whether dedicated controls and procedures are applied to the management of climate-related risks and opportunities and, if so, how they are integrated with other internal functions.
- Strategy: Where the TCFD requires an entity to describe climate-related risks and opportunities, the impact of those risks and opportunities on its businesses, strategy and financial planning, and its resilience to different climate scenarios, the ISSB Standards requires more granular information, such as:
- how the entity is directly responding to risks and opportunities, including changes to its business model, strategy, resource allocation, production processes, products and workforce;
- how it is indirectly responding to risks and opportunities, including working with customers and suppliers;
- how its strategy and plans will be resourced;
- expected changes in financial position over time, including investment plans and sources of funding;
- expected changes in financial performance over time (revenue and costs); and
- significant areas of uncertainty for resilience, and capacity to adjust over time.
- Risk management: Where the TCFD requires an entity to describe its processes for identifying, assessing and managing climate-related risks, and how the processes are integrated into the entity's risk management framework, the ISSB Standards additionally require information on:
- the inclusion of processes used to identify and prioritise opportunities;
- the input parameters it uses to identify risks (eg data sources, the scope of operations covered and the detail used in assumptions); and
- whether the entity has changed the processes it uses compared with its prior reporting period.
- Metrics and targets: Where the TCFD requires an entity to disclose metrics, including Scopes 1, 2 and 3 emissions, and targets used to assess and manage climate-related risks and opportunities, the ISSB Standards also require information on:
- industry-based metrics relevant to an entity and its activities;
- treatment of greenhouse gases, which includes:
- for Scope 1 and Scope 2, a separate disclosure of emissions for (1) the consolidated accounting group, and for (2) associates, joint ventures, unconsolidated subsidiaries or affiliates not included in the consolidated accounting group; and
- Scope 3 emissions (though not required for the first year of IFRS S2's operation)3;
- how the targets the entity has set to manage climate-related risks and opportunities compare with those created in the latest international agreement on climate change (which, as at the date of this Insight, is the Paris Agreement) and whether it has been validated by a third party; and
- whether the targets the entity has set were derived using a sectoral decarbonisation approach, and whether the entity intends to use carbon offsets to achieve those targets.
While reporting in accordance with the ISSB Standards is not yet mandatory in Australia, several Australian regulators and agencies, including ASIC and AASB, have endorsed them. ASIC has also recommended that Australian listed companies adopt the TCFD Recommendations in preparing for the transition to the ISSB Standards.4
Against this background, the Federal Government has committed to establishing a reporting framework that aligns with international standards.5 In the Federal budget, it announced $6.2 million of funding over four years 'for the Treasury and the Australian Accounting Standards Board to develop and introduce climate reporting standards for large businesses and financial institutions, in line with international reporting requirements'.6 Consistent with that commitment, Treasury recently published a consultation paper on standardised climate-related reporting requirements for certain 'large, listed entities' and 'large financial institutions'.7 It is seeking views on whether these climate-related reporting requirements should also apply to 'large, unlisted entities', and has noted it is expected that reporting requirements could gradually be applied to, for instance, 'smaller listed entities' as climate reporting capability is institutionalised in Australia. Treasury has asked for submissions on several topics by 17 February 2023, including whether climate reporting requirements are to be aligned with the ISSB Standards; which entities would fall within the reporting threshold; who should be responsible for administering the proposed requirements; and whether the proposed requirements should account for non-climate focused areas of sustainability reporting such as social and governance disclosures.
As for sustainability reporting more broadly, the Government has also opened a consultation period in relation to draft legislation that would amend the Australian Securities and Investment Commission Act 2001 (Cth), to empower the AASB to develop non-binding sustainability standards that align with the ISSB Standards, and empower the Auditing and Assurance Standards Board to develop auditing and assurance standards for sustainability purposes.8
These developments demonstrate that the corporate reporting landscape in Australia is moving towards greater alignment with international baselines, and may lead to a need for significant uplift in reporting requirements for certain Australian companies.
We also note that 20 of Australia's most influential business and finance peak bodies, including the Australian Banking Association, the Financial Services Council, CPA Australia, the Australian Institute of Company Directors and the Australian Council of Superannuation Investors, have welcomed the ISSB Standards and support the ISSB's objective of creating a globally consistent, comparable, reliable and verifiable reporting framework.9
As noted above, the ISSB is aiming to finalise the ISSB Standards as early as possible in Q1 of 2023.10 The ISSB has explored, but not yet agreed on, whether the European Sustainability Reporting Standards may be used if there is no directly applicable ISSB Standard for reporting certain sustainability-related risks and opportunities.11 More recently, in its December meeting the ISSB agreed to explore incremental enhancements that complement IFRS S2, including in relation to natural ecosystems (with the TNFD to be considered as part of the design process) and human capital matters such as the just transition, modern slavery and rights of indigenous peoples.12 This development complements the Federal Government's foreshadowed inclusion of non-climate matters, such as labour standards and relations with First Nations stakeholders, in its reporting proposal.
We expect developments in this area to keep pace in early 2023, as the ISSB finalises the two ISSB Standards and Treasury's consultation period for climate-related financial disclosures closes.
In light of growing regulatory, government and investor interest in the ISSB Standards, Australian companies can prepare for a potential uplift by:
- identifying any gaps between their current reporting practices and the proposed disclosure requirements of the ISSB Standards, particularly with respect to the more comprehensive ones, such as disclosing Scope 3 emissions, and identifying material information across all 'E', 'S' and 'G' categories (whereas current voluntary reporting in Australia tends to focus predominantly on 'E'-related topics);
- uplifting reporting to align with existing frameworks upon which the ISSB Standards have been developed, including the TCFD Recommendations and the SASB Standards;
- enhancing internal governance structures to bring sustainability, legal and finance functions closer together and avoid siloing, given that disclosure in accordance with the ISSB Standards is expected to be made as part of, and for the same time period as, general purpose financial reporting. Noting that the ISSB Standards may necessitate the disclosure of more specific information than is asked for by existing reporting frameworks, companies should consider engaging cross-functional expertise across legal, finance and sustainability teams, to ensure disclosures are accurate and to manage the risks of greenwashing and bluewashing;
- keeping track of the ISSB's ongoing deliberations and the content of the ISSB Standards, which are expected to be published sometime in 2023, and developing a roadmap to prepare for the Federal Government's proposed climate-related disclosure reforms, which may include governance uplifts, risk assessments, uplifting emissions target setting and data collection practices, and informing internal stakeholders; and
- considering the legal and strategic implications of the Federal Government's proposed reforms, including the impact of increased peer comparability that may arise as a result of standardised disclosures, and the potential legal risks associated with the reforms.
Should you have any questions or concerns relating to the ISSB Standards and what they may mean for your teams or on what you can be doing to prepare, please don't hestitate to contact the team below.
Proposal for a Directive of the European Parliament and of the Council amending Directive 2013/34/EU, Directive 2004/109/EC, Directive 2006/43/EC and Regulation (EU) No 537/2014, as regards corporate sustainability reporting, art 1(4).
Australian Council of Financial Regulators, Comment Letter on the ISSB Exposure Drafts, Australian Council of Financial Regulators Comment Letter (27 July 2022), https://www.ifrs.org/content/dam/ifrs/project/climate-related-disclosures/exposure-draft-comment-letters/a/australian-securities-and-investments-commission-7f6db4a7-bf19-47b1-bf45-b45906e3418f/final-cfr-submission---draft-issb-standards-27-07-2022.pdf
IFRS, 'ISSB announces guidance and reliefs to support Scope 3 GHG emission disclosures' (media release, 15 December 2022), https://www.ifrs.org/news-and-events/news/2022/12/issb-announces-guidance-and-reliefs-to-support-scope-3-ghg-emiss/?utm_medium=email&utm_source=website-follows-alert&utm_campaign=immediate.
ASIC, Climate risk disclosure by Australia's listed companies (September 2018), https://download.asic.gov.au/media/4871341/rep593-published-20-september-2018.pdf, p 12; Karen Chester, 'Playing the green card' (media release, 9 August 2022), https://asic.gov.au/about-asic/news-centre/articles/playing-the-green-card/; ASIC, 'ASIC welcomes new International Sustainability Standards Board and updated climate-related disclosure guidance' (media release, 14 December 2021), https://asic.gov.au/about-asic/news-centre/find-a-media-release/2021-releases/21-349mr-asic-welcomes-new-international-sustainability-standards-board-and-updated-climate-related-disclosure-guidance/; Karen Chester, 'ASIC update at the Financial Services Council member webinar' (speech, 16 June 2022), https://asic.gov.au/about-asic/news-centre/speeches/asic-update-at-the-financial-services-council-member-webinar/; APRA, Prudential Practice Guide: Draft CPG 229 Climate Change Financial Risks (April 2021), https://www.apra.gov.au/sites/default/files/2021-04/Draft%20CPG%20229%20Climate%20Change%20Financial%20Risks_1.pdf.
The Hon Chris Bowen MP, 'Address to the IGCC 2022 Climate Change Investment and Finance Summit' (speech, 17 June 2022), https://www.minister.industry.gov.au/ministers/bowen/speeches/address-igcc-2022-climate-change-investment-and-finance-summit.
Australian Government, Budget Paper No. 1: Statement 1 – Budget Overview (25 October 2022), https://budget.gov.au/2022-23-october/content/bp1/download/bp1_bs-1.pdf.
Australian Government, Climate-related financial disclosure (Consultation Paper, December 2022), https://treasury.gov.au/sites/default/files/2022-12/c2022-314397_0.pdf.
Explanatory Materials, Treasury Laws Amendment (Measures For Consultation) Bill 2022: Sustainability Standards (Cth) (Exposure Draft), https://treasury.gov.au/sites/default/files/2022-11/c2022-340878-em.pdf.
ACSI, 'Major consensus reached on Australian climate risk reporting' (media release, 1 August 2022), https://acsi.org.au/media-releases/media-re/.
IFRS, 'ISSB unanimously confirms Scope 3 GHG emissions disclosure requirements with strong application support, among key decisions' (media release, 21 October 2022), https://www.ifrs.org/news-and-events/news/2022/10/issb-unanimously-confirms-scope-3-ghg-emissions-disclosure-requirements-with-strong-application-support-among-key-decisions/#:~:text=The%20ISSB%20is%20carefully%20considering,early%20as%20possible%20in%202023.
IFRS, 'ISSB progresses discussions on reference to other standards to support increased interoperability' (media release, 3 November 2022), https://www.ifrs.org/news-and-events/news/2022/11/issb-progresses-discussions-on-reference-to-other-standards/?utm_medium=email&utm_source=website-follows-alert&utm_campaign=immediate.
IFRS, 'ISSB describes the concept of sustainability and its articulation with financial value creation, and announces plans to advance work on natural ecosystems and just transition' (media release, 14 December 2022), https://www.ifrs.org/news-and-events/news/2022/12/issb-describes-the-concept-of-sustainability/?utm_medium=email&utm_source=website-follows-alert&utm_campaign=immediate.