Is ESG harmonization and convergence finally coming?

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Last week, the U.S. House of Representatives passed legislation that would require public companies to report environmental, social and governance (ESG) metrics. The disclosure would be broad as well as dictate specific reporting expectations on climate risks, political spending, CEO pay and taxation rates.

The bill, simply titled the ESG Disclosure Simplification Act of 2021, comes on the heels of the U.S. Securities and Exchange Commission’s (SEC) decision to open public comments on climate change disclosures to inform its impending guidance — and gets us one more step closer to mandatory ESG disclosure.

Yet, if simplification is the goal, two standards are starting to dominate 2021 ESG reports: the Sustainability Accounting Standards Board (SASB) and the Task Force on Climate-related Financial Disclosure (TCFD). Take for instance, these numbers: In 2020, 558 companies reported against the SASB standards. Halfway through 2021, the number already stands at 611. This from just 118 adopters in 2019.

Simplifying standards

The reasons for this expansion, at least in the U.S., are twofold. First, SASB finally has helped provide much-needed clarity on the ESG issues most important to investors. And it made the entry point simple by encouraging companies to adopt the guidance to the best of their ability instead of holding off until they feel they can respond to every question in its entirety. Gradual transparency has been key to move companies along.

With no common denominators in how ESG reporting is scoped or structured, standardizing voluntary reporting has been tough if not completely out of reach.

Second, SASB and TCFD work well together with complementary indicators, providing reporters and investors with comparable data on these specific issues in a consistent and standardized manner.

In anticipation of this momentum, SASB and the International Integrated Reporting Initiative (IIRC) have merged to form the Value Reporting Foundation (VRF). The two united organizations are working with their expanded networks and global scale to influence policy and regulation with the ultimate goal being consistency and standardization.

Or as Neil Stewart, VRF’s director of corporate outreach, puts it, “harmonization and convergence.”

“We want to create simplification, not additional complications,” he said. “Global companies must disclose in a more standardized manner for ESG risks to become truly quantifiable. While SASB has been gaining traction in the U.S., IIRC is predominantly used in Europe to inform integrated reporting, and that’s OK.”

Connecting the dots

In part, Stewart is alluding to the reality inside most companies for the past two decades. With no common denominators in how ESG reporting is scoped or structured, standardizing voluntary reporting has been tough if not completely out of reach. ESG reports led by companies’ legal affairs or investor relations departments are decidedly different in scope and structure than those led by the corporate communications or philanthropy team. What’s needed is the right connecting of dots between these teams.

The SEC’s ESG Taskforce is conducting due diligence in how ESG reporting should be defined and structured to provide the data investors need for decision making, so this is poised to change quickly.

For Stewart, the solution, in the end, must be market-led and investor-driven. “We’re still very much guiding companies to use materiality to guide their reporting,” he told me. “For some industries, SASB guides them on what those material issues. For others, IIRC is a more meaningful way for disclosure. And that might be OK as long as we are ultimately driving enterprise-wide decision making.”

Since my own adventure with sustainability/ESG communications began, I have always recommended to companies that they approach reporting as a tool and not an outcome in itself. In the end, that effort is only useful if it identifies gaps, improves internal processes and directly influences how a company integrates ESG risks into its decision making. Then an ESG report becomes a tool for change.

Quantifying value

It is at that turn that you start to see disclosure informing integrated thinking. And integrated thinking leads to integrated action, which in turn gets rewarded with easier flow of capital. “Being able to show these connections between climate change and business continuity, between human rights and business continuity, etc., that can inform management decisions as well as engage stakeholders and shareholders is when ESG reporting is at its best,” explained Stewart.

Not as high on his list of best practices? Inserting a two-pager on ESG performance in an annual report. That’s not integrated reporting, he says. Nor does it necessarily show how the company is incorporating ESG risks and opportunities into future-proofing its business. “That’s not enough context. That’s not enough to tell me how ESG performance is creating or destroying value for the business in the long term.”

As the SEC’s public comment period ends, several more organizations and companies have submitted their comments about mandatory climate risk reporting. After all, it is worth remembering that the SEC serves the interests of business and investors.

As of June 21, the SEC website includes just over 440 comments. Roughly 4,300 publicly listed companies are on the stock exchange and mandatory reporting would touch every single one of them. Get started here.