Despite criticism, the new international board has emerged from COP26 – and it has a challenging task ahead, argue Dr Muhammad Nadeem and Dr Rashid Zaman
With frightening 3C global warming scenarios having the potential to impact every single being on this planet, world leaders, investors and other stakeholders are pushing for low-emissions economies. They want firms to realise and report on what climate change might mean to them in risks and opportunities, and put mechanisms in place to address those challenges.
Several countries have pledged to significantly cut their net carbon emissions. New Zealand aims to achieve its target of zero carbon by 2050 and has recently proposed mandatory climate-related disclosures by large financial institutions.
Similarly, starting from April 6, 2022, more than 1300 of the largest UK-registered companies and financial institutions will have to disclose climate-related financial information on a mandatory basis.
The regime aims to ensure the effects of climate change are routinely considered in business decisions and that investors and other stakeholders receive the information needed to understand the impact of climate change on the future performance of their investment.
Business complicity or lack of standardisation?
While sustainability reporting is now a global norm, with 93 percent of the world’s largest companies engaging in it, critics complain that sustainability reporting is subject to managerial capture, whereby reporters primarily discuss positive performance, while providing little to no information on negative performance.
Such poor quality sustainability reports act as a façade, hiding corporate hypocrisy and thereby preventing sustainability reporting from achieving its goal of promoting transparency and corporate sustainability accountability.
When asked about the lack of such practices, businesses seem to commonly blame lack of understanding, constrained resources, and unavailability of universally accepted standards and laws – something the financial reporting regime has enjoyed for a long time.
Despite business complicity, the lack of universally accepted standards for sustainability seems an important issue that needs to be addressed.
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A plethora of existing standards by several bodies (including Global reporting Initiatives-GRI, CDP: International Integrated Reporting Council – IIRC and Sustainability Accounting Standards Board – SASB) exacerbates firms’ confusion about the users and usefulness of non-financial or climate change disclosures, leading to poor or inconsistent sustainability disclosure.
Such disclosure practices reduce the comparability of sustainability reports across businesses, making it difficult for stakeholders, particularly those that have power and intent to make companies accountable for forging their climate responsibilities.
Journey to International Sustainability Standards Board
Steering the ship in the right direction at COP26, the International Financial Reporting Standards (IFRS) Foundation – a widely accepted, credible body for financial reporting standards – announced the formation of the International Sustainability Standards Board (ISSB).
The ISSB consolidates the Climate Disclosure Standards Board (CDSB) and the Value Reporting Foundation (VRF), and publication of prototype disclosure requirements.
The aim is to provide global financial markets with high-quality disclosures on climate and other sustainability issues to meet investors’ information needs.
The announcement of ISSB might be a new milestone for many, however, the IFRS (parent foundation for ISSB) has been working on this proposal and has sought public feedback on whether or not there is a need for ISSB, and the role IFRS can play in the formation of universally accepted (common) sustainability standards.
Despite enjoying the hospitality of the G20 Leaders and the Financial Stability Board, the proposal has received enormous criticism for its intention to shift the focus to financially material disclosures and its unintended consequences for other dimensions of sustainability, including social issues.
Notable critics include the Commissioner of the United States Securities and Exchange Commission (“SEC”), Hester Peirce, who opposes the very basic idea of ISSB formation, as well as scholars and editors of accounting journals, who have concerns about little or no engagement with the extensive body of published accounting research on the topic of sustainability accounting.
Key challenges for ISSB
Amidst these schisms, ISSB has taken flight. However it will face significant challenges.
Sustainability standard setting is inherently more subjective, less precise, less focused, and a more open-ended activity than financial accounting standard-setting. If ISSB aims to set standards to aid economic decision-making, then organisational focus on sustainability is expected to be limited to the environment, and businesses will continue pursuing economically beneficial sustainability initiatives.
Therefore, in our opinion, the ISSB has a challenging task ahead to go beyond financially material disclosure and require businesses to disclose efforts on social and other aspects of sustainability.
The ISSB will also face challenges in setting up requirements for assurance of sustainability information – similar to what’s achieved through financial audits of financial statements. However, assurance of social issues, as shown by existing research, is significantly challenging, if not sensitive.
The IFRS has undoubtedly taken a much-anticipated step with the announcement of ISSB. Whether it improves consistency and comparability in sustainability reporting or serves a sub-group of legitimate stakeholders with respect to corporate sustainability reporting, only time will tell.
For the time being, rather than starting from scratch, we recommend ISSB use a converge approach, and the recent framework proposed by the five leading sustainability and integrated reporting organisations – CDP, CDSB, GRI, IIRC and SASB – can be the first step in the right direction.
