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Preparing for the EU’s new reporting directive

May 31, 2023 | Public | 0 comments

Back in January, the European Union enacted its much anticipated corporate sustainability reporting directive, or CSRD. A part of the European Green Deal, the framework is set to bring sustainability reporting in line with financial reporting, building on the foundations laid out by its predecessor, the Non-Financial Reporting Directive (NFRD).

Unlike the NFRD, though, the CSRD has a much broader scope and more stringent rules.

As a result, a larger set of companies will be expected to report on sustainability; about 50,000 from within the EU will be covered by the regulations, compared to 11,700 covered under the NFRD. Outside the bloc’s borders, an additional 10,000 businesses must step up reporting to comply, of which about a third are estimated to be U.S. firms.

Is your company affected?

Under the old reporting rules, only companies with more than 500 employees were expected to report on sustainability. Now, the scope is somewhat wider.

For companies headquartered within the EU, all large enterprises will be expected to comply with the CSRD, if they meet two of the following three criteria:

  • A balance sheet greater than about $21.5 million.
  • Net turnover greater than about $43.1 million.
  • More than 250 employees.

Companies listed on regulated EU markets will need to report to the CSRD, too, except those small enough to be defined as “micro-undertakings,” where two of these three criteria are met:

  • A balance sheet less than about $377,000.
  • Net turnover below about $754,000.
  • 10 or fewer employees.

As well as listed enterprises, certain other types of business will also be subject to the requirements set out by the CSRD. These include small and non-complex credit institutions and captive insurance undertakings.

Companies based outside of the EU must comply if their net turnover exceeds approximately $165 million for two consecutive financial years and one of the following applies:

  • The business has an EU subsidiary that meets the requirements for EU companies (see above).
  • The business has a branch in the EU that generated more than about $43.1 million in the preceding financial year.

Here’s something that non-EU companies might not fully appreciate: For any non-EU company to which these criteria apply, reporting will need to be carried out across the entire organization, not just the parts within the bloc itself.

Bookmark this timeline

Although the CSRD became law Jan. 5, reporting is being phased in over a four-year period, beginning in 2025.

  • 2025: The 11,700 large businesses already covered under the NFRD will need to submit reports, based on 2024 data.
  • 2026: Large businesses defined under the CSRD scope will begin reporting on 2025 data.
  • 2027: Listed SMEs, small and non-complex credit institutions and captive insurance undertakings will start reporting on 2026 data, although there is the possibility to opt out until 2028.
  • 2029: Non-European companies that fall within the CSRD will report on data from 2028.

Understanding what’s different

One of the biggest shifts in reporting will be in how companies discuss materiality. Under the CSRD, companies will be mandated to take a double materiality approach to reporting. This means businesses must assess both the inward impact that sustainability matters have on operations (the concept of financial materiality)  and offer an outward-facing view of how their operations affect the planet and society (the concept of impact materiality).

“Imagine a solvent manufacturer,” Kate Conlan, sustainability strategy and reporting consultant at consulting firm Ricardo Energy and Environment, told me when explaining the concept of double materiality. “One of the products this company produces is commonly used by dry cleaning businesses. This particular solvent contributes less than 1 percent to the company’s annual revenue and is therefore financially immaterial. The solvent is, however, known to be a toxic air pollutant. Even though this product does not have a large financial impact on the company, the use of the solvent can have a strong adverse impact on the environment and human health. It is, therefore, material from an impact perspective, and the company should consider including impact risk mitigation discourse in their ESG or sustainability strategy.”

Those companies who are just viewing this as another compliance requirement are undoubtedly finding it very challenging.

Another key inclusion in the directive is the need to disclose on Scope 3 emissions from across the entire value chain. This means companies will be required to report emissions that are not directly linked to their own activities, such as those from suppliers, distributors and customers.

The bottom line is this: The CSRD will require more in-depth and far-reaching disclosure than anything that came before it.

What challenges can businesses expect?

Implementing legislation at this scale and scope is unlikely to be straightforward, especially for companies with fewer resources. Identifying what challenges lie ahead is a useful exercise for any business leader. Indeed, for many this process has already begun.

“Those companies who are just viewing this as another compliance requirement are undoubtedly finding it very challenging,” said Victoria Cross, partner at ERM, a global pure-play sustainability consultancy helping many clients navigate the CSRD. “There’s a lot to do in a short space of time, and without internal cross-functional buy-in to a bigger strategic imperative, it can be overwhelming.”

“I keep hearing the phrase we’re building the plane as we’re flying it, and that’s exactly the case,” Cross said. “The sector standards, some of which are expected in November, will undoubtedly help, but knowing what good will look like is a very real challenge for companies just now. It’s about taking a proportionate right-sized approach, not just measuring 1,144 more data points for the sake of it.”

Another challenge, Cross said, is for companies that are already far along their sustainability reporting journeys to integrate the new standards: “They are needing to work out how to integrate their existing [Global Reporting Initiative] or [Sustainability Accounting Standards Board] aligned materiality into the [European Sustainability Reporting Standards] double materiality framework, without having to go back to the drawing board.”

One factor that can’t be ignored is the sheer volume of resources that alignment is going to require.

“Materiality assessments and data collection processes are administratively challenging and time-consuming,” said Dana Muntean, head of international sales at Plan A, a software company that enables businesses to measure, report and reduce their emissions. Using “expert technology,” she explained, “will ensure the business’ resource allocation towards sustainability activities […] are as efficient and accurate as possible.”

What opportunities might arise?

While it’s certainly true that implementing sustainability reporting kicks up some challenges for businesses, there are also opportunities to be had from understanding the impacts — both internal and external — of a company’s operations.

Laura Harron, a sustainability consultant at software and consultant firm ClearVUE.Business, pointed out that “both private and institutional investors are gearing up to finance companies working towards sustainability targets. Companies that can align business models [and] delivery of goods and services with what is now clearly defined as sustainable will have continued access to wider investment.

“Additionally, sustainable businesses have shown that they can perform better against standard success metrics, retain higher customer loyalty and attract purpose-driven employees.”

Double materiality assessments, when done correctly and thoroughly, can take several months. It can then take many months after that to properly integrate your findings into your ESG strategy and reporting.

Muntean agreed, highlighting the fact that, according to research from Oxford University, “more than 80 percent of mainstream investors now consider ESG information when making investment decisions.”

Other opportunities that were pointed out by sustainability experts included cost savings — from both the mitigation of climate-associated risks and via efficiency savings — and greater prospects for innovation.

Tips on preparing for the CSRD

So, getting to grips with the CSRD might be an uphill battle at first, but there are rewards to be claimed if companies can embrace the new standards. With that in mind, how should your business go about getting prepared?

“Licensing sustainability software is highly recommended for any business that wishes to not only ensure compliance with the CSRD but also reap the long-term benefits of sustainability,” Muntean said. “Having all impact data in a single place across departments helps with the continuous tracking, monitoring and reporting of, for example, the organization’s GHG emissions — which are a central focus of the CSRD.”

Meanwhile, Harron suggested making sure your reporting is aligned with your business’ strategy: “There’s a risk that companies can get lost in the reporting drive with the objective of only reporting data rather than focusing on a more strategic direction, one in which their business can contribute to the regenerative solutions we desperately require when working towards a low-carbon and healthy economy.”

For Conlan, getting going quickly is imperative: “[We advise our] clients to start preparing as early as possible. Double materiality assessments, when done correctly and thoroughly, can take several months. It can then take many months after that to properly integrate your findings into your ESG strategy and reporting.”

Conlan also pointed out that aligning with the CSRD early can “have the dual benefit of preparing a business for reporting under the U.S. Securities and Exchange Commission’s (SEC) Climate Disclosures.” As of this writing, that proposal is in draft form.

To sum it all up, Cross said that “the profession of sustainability has never had a moment quite like this. […] Embrace the opportunity to build renewed collaboration on the most material sustainability topics within and beyond your organization.”

The post "Preparing for the EU’s new reporting directive" appeared first on Green Biz

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