The new global baseline in sustainability reporting

A regular briefing for the alternative asset management industry.

Last month, the International Sustainability Standards Board (ISSB) published its first set of sustainability disclosure standards. Building on a variety of other initiatives, and after rapid but extensive stakeholder consultation, the ISSB has laid out a disclosure framework and set some minimum requirements.

The ISSB's declared aim is to provide useful and comparable data to aid investor decision-making, and it hopes that these standards will become the "global baseline" for sustainability reporting.

There are good reasons to believe that will happen. While some companies will adopt these standards voluntarily, it is also expected that many national regulators – including in the UK – will, in time, make them mandatory, perhaps with additional requirements layered on top.

In this first phase, there are two new IFRS standards – S1, a general standard, and S2, which is focused on climate – but other issue-specific standards are expected to follow in due course. (Our detailed note on the standards is available here.)

IFRS S1 sets out the test for whether any given matter must be included in a sustainability report. It requires a reporting entity to "disclose information about all sustainability-related risks and opportunities that could reasonably be expected to affect the entity’s cash flows, its access to finance or cost of capital over the short, medium or long term". This requirement is framed as a "financial materiality" test, but is deliberately very expansive. In appropriate cases, information about the entity's value chain will fall within scope.

The general standard adopts the four key themes that will be familiar to those who have prepared TCFD-compliant disclosures: Governance, Strategy, Risk Management and Metrics and Targets. There are requirements laid out for each of these categories, and accompanying guidance offers further explanation for reporting entities. Companies are expected to look beyond the standards themselves in determining how to report specific matters, including by using metrics developed by other organisations when a specific IFRS standard does not (yet) exist.

The climate-specific standard, IFRS S2, is designed to be used in combination with the general standard. It focuses on the physical risks and the transition risks of climate change, as well as any climate-related opportunities. The ISSB's standard goes beyond the TCFD requirements in certain respects, but anyone who has prepared a TCFD-compliant report will be well-placed to comply with S2. Required disclosures include Scope 1, 2 and 3 greenhouse gas emissions, including financed emissions where the discloser's activities include asset management, commercial banking or insurance.

The ISSB's declared aim is to provide useful and comparable data to aid investor decision-making, and it hopes that these standards will become the "global baseline" for sustainability reporting. There are good reasons to believe that will happen.

The ISSB's Sustainability Disclosure Standards are likely to be widely used and will be a major step forward in ensuring sustainability disclosures are rigorous and comparable. The standards are awaiting endorsement by IOSCO, which consists of over 130 countries' market regulators, and a number of countries have already indicated their intention to adopt them. In the UK, it is expected that the government and the financial regulator, the FCA, will integrate ISSB standards into both corporate and financial entity reporting requirements. An advisory body has already issued a Call for Evidence on the suitability of the final standards for the UK market and any amendments that might be needed.

Companies reporting under the EU's Corporate Sustainability Reporting Directive (CSRD) will take some comfort from the fact that the EU standard-setters have been working with the ISSB to ensure that the EU standards, now in near-final form, are "inter-operable" with IFRS standards. However, the ISSB notes that the development of the EU standards predates the very existence of the ISSB, resulting in a need to "backsolve" the global baseline. There are some important differences, perhaps most notably the EU's insistence on a "double materiality" threshold: CSRD reporting entities must consider both "impact materiality" – effectively, the entity's impact on the outside world – as well as financial materiality.

The extent to which the ISSB's expansive definition of financial materiality excludes matters which would fall within the EU's definition of impact materiality is not yet clear. However, the EU's prescriptive process of stakeholder engagement (where even nature is considered a "silent stakeholder") that is embedded in its methodology to establish impact materiality would seem to impose significant additional obligations on a CSRD-reporting entity. That process makes it more likely that impacts will be identified, but also gives rise to further litigation risks.

Many alternative asset managers that are regulated in the UK – essentially, those with assets under management of at least £5 billion – are already preparing to issue sustainability reports consistent with the TCFD recommendations, and many large private companies will also be in scope of similar reporting requirements. In developing processes to collect relevant data, and establishing structures to manage sustainability risks and opportunities, it will be sensible to be mindful of these new ISSB requirements, even if they are not mandatory for the time being.

We are hosting a webinar on sustainability reporting standards, especially the ESRS standards that will be mandatory for firms reporting under the EU's CSRD on 20 September 2023. Register your interest in attending.