This article is sponsored by Cority.
In recent years, environmental, social and governance (ESG) reporting for companies has evolved from a ‘nice-to-have’ to an integral part of business strategy. Increasing awareness of the need to address material environmental and social risks and opportunities against a backdrop of strong governance is driving increased reporting. Meanwhile, stakeholder pressure to measure and manage ESG performance is increasing, further supported by regulatory tailwinds.
Increasing regulations around the world require companies to disclose information about the non-financial aspects of their operations to interested stakeholders. Thus, it has become a business imperative to be proactive in monitoring current and emerging ESG regulations to ensure compliance and remain competitive.
It can be difficult to keep up with all these changes. To help you better understand the latest news on the ESG regulatory landscape – primarily in Europe and the United States – here is some guidance for companies on how they can effectively navigate and prepare for these complex and rapidly evolving requirements.
ESG regulations in Europe
Until 2018 and the adoption of the European Union (EU) Sustainable Finance Action Plan, each EU country faced varying degrees of regulatory burden for sustainability disclosure and action. The application of the Non-Financial Reporting Directive (NFRD) varied from country to country, causing a lot of confusion when it came to reporting requirements.
The Corporate Sustainability Reporting Directive (CSRD) is the latest EU regulation regarding ESG and extra-financial reporting. It is a step above the Non-Financial Reporting Directive (NFRD), significantly expanding the number of registered companies as well as the scope of required disclosure.
CSRD requires mandatory reporting and holds companies accountable for ESG actions and policies, driving a push for sustainable corporate behavior. The new legislation works in harmony with GRI standards and expands the EU’s current green taxonomy, requiring disclosure on topics such as human rights, environmental impacts and climate change. In particular, CSRD requires companies to report under the concept of ‘double materiality’, where disclosures must not only include how ESG issues impact a company’s operations, but also describe the company’s impact on a range of sustainability issues.
Companies must first conduct a double materiality assessment to identify the material topics they need to report on. The EU Sustainability Reporting Standards (ESRS) outline the mandatory concepts and principles with which companies reporting under CSRD must align their sustainability statements. ESRS also provides a range of quantitative and qualitative indicators that can be reported on for each topic. The aim is to provide investors, civil society organizations, consumers and other stakeholders with more comprehensive and comparable sustainability information to evaluate companies’ sustainability performance as part of the European Green Deal.
From 2024, the CSRD will only apply to EU-based companies. But for financial years beginning on or after January 1, 2028, non-EU companies must report whether they have a significant presence in the EU (defined by minimum EU turnover and asset thresholds) and must report on a global, whole-group basis . As a result, many multinationals based outside the EU will have to start reporting under the detailed EU rules in 2029 and consider how to ensure compliance, and what EU compliance could mean for the company’s obligations in other legal areas.
To add to this complexity, prior to the adoption of the CSRD, Britain changed its extra-financial reporting requirements for UK incorporated companies, requiring certain UK companies to report in accordance with the guidelines established by the Taskforce for Climate-related Financial Disclosures. TCFD) of the International Financial Stability Board (IFSB).
ESG regulation in the US
Since the March 2022 proposal from the U.S. Securities and Exchange Commission (SEC), publicly traded companies have been anticipating reporting their progress on carbon emissions and reductions alongside their financial results. While some new reports required by the SEC may not appear until 2024 and beyond, many companies aren’t waiting to get started. Many investors are already asking for climate data and transition plans.
US-listed companies with a significant presence in the EU will need to consider the interplay between EU reporting requirements and liability provisions under US securities law. According to an article in The Wall Street Journalmore than 50,000 EU-based companies and approximately 10,400 non-EU companies will be subject to CSRD compliance. Nearly one in three of these non-EU companies (31 percent) are based in the US – so mandatory ESG reporting will soon be a reality for these companies too.
A global movement
ESG regulations are certainly not exclusive to Europe and the US. In recent years, there has been a significant global movement, with governments and international agencies demanding greater transparency and greater climate action. There has been a huge increase in new regulations in countries such as Australia, Canada, Chile, Colombia, India and Singapore. In addition, according to the Initiative for a sustainable fair34 global exchanges have mandatory ESG listing requirements. This has raised awareness on a variety of ESG topics: from climate awareness to diversity, equity and inclusion (DE&I) standards to executive compensation. And it won’t stop there.
How companies can navigate the regulatory landscape
More than ever, companies are under pressure to adapt their approach to ESG, not only to meet regulatory demands, but also to avoid reputational damage from non-compliance. Below are five key steps to prepare for and navigate the complex and rapidly evolving regulatory landscape.
1. Confirm your reporting obligations
Companies need to have a clear understanding of the jurisdictions in which they operate and which regulations they fall under. This includes product compliance obligations for the markets in which companies sell their products. ESG standards, regulation and reporting and the complexity of operational impact vary dramatically by geographic region, sector and company size. So confirming your company’s specific obligations is a crucial starting point.
2. Assess your reporting readiness
To get started, companies should first conduct a gap analysis to understand their level of reporting maturity. This should include an inventory of all their current data collection and reporting processes. Readiness can then be determined when analyzed against applicable regulations and best practices. Various business units may already be collecting data and KPIs that could impact your future reporting. Data coverage and quality are important metrics to consider when identifying opportunities for improvement
3. Look outside your own business operations
You will likely need to look beyond your own operations and into your value chain to assess ESG exposure. Although a company itself may fall outside the scope of certain regulations, customers, suppliers or investments may be subject to certain regulations. If a company controls its own emissions, its overall carbon footprint can be heavily influenced by others in its supply chain or in its investment portfolio (Scope 3 emissions), which could impact regulatory obligations. Another example is the ESRS framework, which may need to take into account employees in the value chain.
4. Build a cross-functional team
Historically, sustainability and ESG teams may have worked separately from risk management and regulatory compliance departments. Poor communication between these teams and competing priorities may have caused problems. Now these teams must work together to create a more holistic sustainability strategy. Members of the cross-functional team must have sufficient seniority and access to information across business units and regions. This transparency helps the team collectively explore and manage the full scope of ESG-related risks and opportunities.
5. Make your reporting future-proof
Given that the global regulatory landscape is complex and constantly evolving, companies must be agile, with established and well-thought-out plans for how they can adopt best practices from one regulation or framework to another. Implementing processes and tools in your ESG strategy that scale with your requirements as they evolve is essential to ensure your plan supports your long-term goals. Staying abreast of voluntary standards is the best way to plan for future regulations. Even if these requirements are not mandatory today, addressing them will help differentiate your business, meet stakeholder expectations, and stay ahead of regulations if they become law in the future.