29 June 2020

The Tipping Point for ESG is Now (Part Two)

VICTORIA GEDDES, Executive Director.

In Part 1 of our article on ESG last month* we looked at the extent to which ESG reporting has gained hold in Australia and whether the strong performance of ESG funds recently might represent a moment in time when investing according to ESG principles becomes mainstream.

We introduced the Standard Setters in the industry – four organisations globally that have established ESG reporting frameworks for organisations.

Each of these organisations’ approaches the question of what to report on and how best to promote a collective commitment to corporate sustainability differently. In this newsletter we take a closer look at the origins of each reporting framework, how they differ and who, amongst Australian corporates, have adopted them. We also highlight a development in Europe that could signal the inevitability of companies including non-financial disclosure for sustainability in their annual reporting calendar.

The United Nations Global Compact

This is the world’s largest corporate sustainability initiative. It provides a universal language for corporate responsibility and builds a framework around Principles and Goals.

In Australia, the business-led Global Compact Network Australia brings together signatories to the UN Global Compact, including a number of Australia’s leading companies, non-profits and universities, to advance corporate sustainability and sustainable development.

Listed companies that are signatories include Brambles, Worley Parsons, Pact Group, Orora, Suncorp and Westpac.

The Task Force on Climate Related Financial Disclosures (TCFD)

This was an initiative of the G20 Financial Stability Board (FSB), a body which was set up in the wake of the 2008 financial crisis to try to avoid similar market shocks. A task force developed a set of voluntary, consistent disclosure recommendations for use by companies in reporting on their climate-related financial risks. The final version of this framework was released in June 2017 attracting the support of over 240 organisations, including 150 financial institutions that manage a combined AU$100 trillion.

The TCFD framework recommends companies incorporate climate risk disclosures into mainstream annual financial reporting. Their guidelines emphasize overall governance, strategy, risk management, metrics and targets. They provide suggestions for implementing disclosures in a practical manner, including the use of “scenario analysis”. For example, how a business would respond to and address the risks brought on by a 1.5 to 3-degree change in average temperatures.

Activist group, Market Forces, actively monitors the quality of company disclosure in relation to TCFD guidelines. There are at least 25 Australian listed companies that reference TCFD as guiding their disclosures including AGL, Stockland, South32, Macquarie Bank, Commonwealth Bank, BHP, Westpac, ANZ and Dexus.

The Global Reporting Initiative (GRI)

This is an international, independent standards organization that helps businesses, governments and other organizations understand and communicate their impacts on issues like climate change, human rights and corruption. Headquartered in Amsterdam, it was founded in 1997 with the help of the United Nations Environment Programme, Ceres, and the Tellus Institute.

There is a wealth of information and resources available on the GRI website (www.globalreporting.org) including a library of company sustainability reports that have been developed using GRI standards and a reporting starter kit for those beginning the process.

There are close to 40 Australian companies that have registered their Sustainability Report with GRI over the past three years (www.globalreporting.org/reportregistration/verifiedreports) including Viva Energy, iress Group, Sydney Airport, Sandfire Resources, Oceana Gold, Independence Group, Amcor, Telstra, Wesfarmers and ANZ.

The Sustainability Accounting Standards Board (SASB)

SASB is a nonprofit organization headquartered in San Francisco and founded in 2011 to develop and disseminate sustainability accounting standards. An Investor Advisory Group (IAG) was formed in 2016 which today comprises 51 asset owners and asset managers–spanning 11 countries across Asia, Europe, and North America–with roughly US $40 trillion in assets under management. Australia’s Future Fund joined the IAG in April this year.

In 2018, after six years of intensive research, the SASB approved the world’s first industry-specific sustainability accounting standards. They are designed to improve the effectiveness and comparability of corporate disclosure on ESG factors by meeting the need for industry-specific reporting standards. In doing so the Sustainable Industry Classification System® (SICS®) was developed covering eleven sectors and 77 industries with companies grouped into industries based on shared sustainability risks and opportunities. An interactive Materiality Map is provided which helps businesses identify and compare what disclosure topics are financially material to their sector and industry.

The SASB framework is divided into five categories, which are referred to as “dimensions”: environment, social capital, human capital, business model and innovation, and leadership and governance. These dimensions cover issues ranging from health-and-safety, to the industry’s environmental footprint, and bribery and corruption.

Given that the SASB framework was released two years ago it is still early days in terms of adoption. There has however already been strong adoption by companies in the US (257) with Westpac the first to report according to SASB guidelines in Australia.

A Global Non-Financial Reporting Template is Coming

While it is true that ESG reporting is not mandatory, the fact that fund managers and asset owners who control companies’ access to capital, including the powerful global index funds, are taking it seriously makes it increasingly hard for companies to ignore.

In the US and most other countries in the western world, companies are required to disclose any information that could have a material impact on the company’s bottom line with +/- 5% being a standard rule of thumb. The SASB standards potentially have the power to be as binding, particularly in the US given that they are bound by the same disclosure laws governing US securities. As a result failure to report on the sustainability standards could have serious consequences.

Europe is already well down the track on ESG. In 2014 a directive was issued that corporations with more than 400 employees must also report on non-financial disclosure for sustainability in their reports (NFRD). Within three years, more than 7,000 European companies were reporting on environmental, social and employee-related, human rights, anti-corruption and bribery matters. The approach taken by the NFRD is rigorous in that it requires companies to disclose not just how sustainability issues may impact the company, but also how the company affects society and the environment – the double-materiality approach.

The European Commission is currently in the process of reviewing submissions regarding changes to the NFRD which it is thought could lead to a globally accepted system of standards for non-financial disclosure. As we saw with MiFID 2, regulatory changes impacting financial markets and reporting in Europe, quickly become adopted globally.

* firstadvisers.com.au/the-tipping-point-for-esg-is-now/

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