The significant European regulation of the Corporate Sustainability Reporting Directive (CSRD) continues to make headway. Since its adoption by the European Commission in 2022, the rules and guidelines for this new European directive, aimed at improving how companies report on their sustainability efforts, have been getting clearer.
From 2024, the CSRD will usher in a new era of transparency for European companies, superseding the previous Non-Financial Reporting Directive (NFRD). With an ambitious scope, targeting approximately 50,000 firms, it aims to standardize sustainability reporting and combat greenwashing, to accelerate the environmental and social transition in Europe by redirecting financial flows.
This article outlines challenges faced by companies in implementing CSRD, including stakeholder engagement and data collection, and emphasizes the importance of a comprehensive approach and how the right software solution can act as a support service for companies navigating CSRD requirements.
Where do we stand?
In November 2022, a set of standardized reporting standards called “ESRS“¹ was proposed by EFRAG². After gathering feedback from public consultations and making adjustments to reduce the administrative burden on companies, the European Commission released the proposed final version for a four-week public feedback period in June 2023. The motion for a resolution of some EU Members of Parliament to push back the ESRS has been rejected. Through the delegated act of July 31, 2023, the European Commission officially adopted the final version of the ESRS.
What were the key revisions in this final version of the ESRS?
The main idea was to simplify processes. EFRAG had already eased its standards’ requirements. This included reducing the number of disclosure obligations by nearly half and limiting mandatory standards to three out of twelve (covering General Disclosures, climate, and own workforce). With the new version of the ESRS, the European Commission aimed to make reporting even simpler for companies, all while maintaining the legislation’s ambitious goals.
Now, all standards, disclosure requirements and data points, except for the General Disclosures, will be subject to materiality assessment. This seeks to establish whether the standards’ themes are relevant to the company. For example, the topic of biodiversity impact for a company with offices only in metropolitan areas may not necessarily be material, and therefore, the company may have no reporting obligation on this subject. However, not all standards are treated equally. Particular attention is given to the one related to climate, for which the immateriality of the issues will need to be proven and publicly justified. Moreover, it’s important to note that when material, disclosure requirements are not optional.
The EU Commission has converted several mandatory data points proposed by EFRAG into voluntary data points and introduced certain flexibilities for some of the mandatory data points.
To assist companies in comprehending and assessing the impact and financial materiality of each standard, the EU Commission has also requested EFRAG to provide additional guidance and educational materials. EFRAG is currently formalizing a methodology to assess double materiality for all entities subject to the CSRD. The final version of the methodology, of which the pre-consultation version is already available, is expected to be released in Q1 2024. It will clarify the framework to standardize the assessment of both impact and financial materiality for companies.
What comes next?
Right now, these initial ESRS are sector-agnostic, applying to all companies falling within the scope of the CSRD, regardless of their industry. In the coming years, the EU Commission will create more specific rules for different types of companies. The CSRD mandates the EU Commission to adopt sector-specific standards, proportionate standards for listed SMEs, and standards for non-EU companies by June 2024. Sector-specific standards related to Oil and Gas, Mining, Quarrying and Coal are anticipated to be released as of January 2024. The others might be postponed by up to two years, to 2026.
In addition, each EU member state must now transpose this directive into their national law, selecting certain options and adaptations allowed by the text. France is taking the lead and has officially published the transposition of the CSRD into French law on December 7th, with this ordinance scheduled to come into effect on January 1st, 2024. The French text emphasizes the requirement to have information related to the CSRD certified by an auditor or an accredited independent third-party organization (ITPO), applying requirements and guarantees similar to those currently governing financial statement certification. Violations of this requirement can lead to penalties of up to 75,000 euros in fines and up to 5 years of imprisonment for professionals involved.
The thresholds established to determine whether a company is subject to the CSRD are set to change, especially to reflect inflation by +25% (i.e., €25 million balance sheet and €50 million turnover). However, member states have the option to retain the initial thresholds (i.e., €20 million balance sheet and €40 million turnover).
The regulatory landscape is becoming clearer, and companies are gradually taking the necessary steps to adapt to this new directive. This significant transformation brings both new opportunities and challenges for companies, as detailed below.
What are the major challenges faced by our clients in implementing CSRD?
In addition to the inherent challenges related to understanding the requirements of the CSRD and concerns about the scale of efforts required to comply with this new directive, companies also face false preconceived ideas and very practical challenges in defining materiality, monitoring data, engaging stakeholders, etc. These challenges add a layer of complexity to the CSRD compliance process, requiring companies to carefully consider their approach to stakeholder engagement, data collection, and risk assessment. Since the data will undergo an audit, and being well-prepared for this process is essential, below we some common challenges for many companies and offer tips to ensure maximum clarity.
1. Identifying the Stakeholders Involved
Although CSRD focuses on sustainability, it has implications for the whole company, from finance and strategy to operations and communication. An integrated approach is essential for its effective implementation.
Most standards apply to the entire value chain of the company. For instance, one of the social standards is directly linked to workers in the value chain and many environmental data (such as climate-related ones) must include both the company’s operation and upstream/downstream activities.
Therefore, one of the initial challenges is identifying the stakeholders to engage with to identify risks and opportunities and assess the materiality of the various themes covered by the CSRD.
Tips to follow:
- Conduct a stakeholder mapping: list all your company’s stakeholders
- internal (employees, managers, shareholders, board members)
- external (customers, suppliers, regulators, local communities, etc.)
- Organize a general presentation for all the identified stakeholders to get them involved
- Organize workshops, surveys and forums to gather insights and concerns from the stakeholders
- Maintain an open dialogue with your stakeholders throughout the process
Note – The list of stakeholders and their concerns may evolve over time. It’s therefore essential to regularly reassess this list and update your strategy accordingly.
2. Raw Risk, Opportunities and Double Materiality
The double-materiality analysis goes beyond just assessing a company’s impacts on the environment and society. It also looks at how environmental and societal issues might impact the business itself, in terms of risks and opportunities. It allows businesses to identify not only potential threats but also areas where they can leverage their sustainable initiatives.
First step is therefore determining the raw risks for the company, the environment, and society. The nature of the impact, its scope (i.e., the number of potentially affected individuals or the affected area), its reversibility, and the likelihood of its occurrence are all essential dimensions for evaluating raw risk. This can be a challenging task for a company, especially if it’s their first experience with such an exercise.
Tips to follow:
- Carrying out the analysis of risks, opportunities, and their materiality is the first step to take. This analysis covers two aspects:
- Financial materiality: how environmental, social, and governance (ESG) issues impact a company’s financial performance, risks, operations, and opportunities. This focuses on the potential inward effects on the company.
- Impact materiality: how a company’s operations, products, and services impact the environment and society at large, and the potential opportunities that arise from positive contribution. This focuses on the outward effects stemming from the company.
- Performing a gap analysis between the ESRS and the practices already established by the company (implemented policies, tracked KPIs, etc.) should be done in a subsequent phase. This refocuses the work on elements that are truly relevant for the business.
3. Determining the Scale of Data Collection and Reporting on a Case-by-Case Basis
While financial materiality generally applies at the Group level, the scale of impact materiality is assessed on a case-by-case basis. For some themes, the impacts can vary significantly from one business area to another or from one location to another. The challenge is to identify the most relevant scale to evaluate the impact. For example, climate-related data can be consolidated at Group level while impact on biodiversity must be determined at site level.
4. Data Collection and Disclosure
A fully automated tool does not exist for CSRD, and it would be very ambitious to create one because the approach is highly customized according to the company and its industry sector. Issues that are material for one company may not be material at all for another. Moreover, CSRD does not rely solely on quantitative data (only about 1/3 of the data to be reported); it also, and primarily, involves monitoring the practices, initiatives, actions, and implementations carried out by the company in relation to its governance and strategy. And this requires more than a machine to assist companies in this substantial work.
Tips to follow:
- Draw inspiration from sector-specific guides and existing tools to identify relevant data and the best way to collect it.
- Start by listing what is already established internally, such as the company’s policies, actions, and objectives.
- Define a clear roadmap with formalized steps to best prepare for data collection.
Put things into perspective and seek guidance from experts.
Cority’s Sustainability Software and Solutions for CSRD Implementation
Complying with the CSRD is a major undertaking for companies, and it is essential to develop the right approaches and use the right tools. Cority is supporting companies in implementing CSRD requirements and is already assisting many corporate clients – from listed large organizations to small companies new to the exercise – with sustainability advisory and reporting software implementation.
We know that embedding the right software needs subject-matter expertise to make sure time and resources are used most effectively. Cority’s award-winning Sustainability Performance Management software integrates carbon management and global standards with pre-defined European Sustainability Reporting Standards (ESRS) data aligned with the EU Corporate Sustainability Reporting Directive (CSRD) requirements.
This software + advisory approach to CSRD ensures that customers are prepared for CSRD and beyond. Contact us to learn more about our customized support based on the challenges and the level of maturity of your company.
References
1 ESRS (European Sustainability Reporting Standards) is a set of European standards and indicators for sustainability reporting.
2 EFRAG (European Financial Reporting Advisory Group) is a private association established in 2001 with the encouragement of the European Commission to serve the public interest. EFRAG provides Technical Advice to the European Commission and is composed of European stakeholders, National Organisations and Civil Society Organisations. For more information: https://www.efrag.org/.
