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Articles • 07/06/2021

The Strategic Imperative for ESG Reporting

By David E. Kolan, CPA

Consumer passion to live more socially conscious and environmentally responsible lives has seeped into the corporate world. Companies are now expected to address their impact on these societal issues with the same level of enthusiasm as its customers and investors. It is consequently no surprise that more than 90 percent of U.S. companies traded on the S&P 500 report voluntarily on their environmental sustainability, social responsibility and corporate governance (ESG) practices along with their required financial disclosures.

However, without a single set of standards by which to measure and quantify actual efforts, ESG reporting can be quite deceptive. It is not uncommon for businesses to make inaccurate statements and engage in “green washing” and “social washing” to make it appear they are more socially responsible than they really are.  To minimize public embarrassment and breach of consumer trust, many companies are engaging certified public accountants (CPAs) to examine or review the veracity and accuracy of their actual environmental protection, social responsibility, and governance efforts.

Corporate Shift in Priorities
The ways in which businesses report financial performance and shareholder value have not changed substantially over the years. Financial transparency, accuracy and reporting consistency require businesses across industries and countries to conform to a set of standards that, for public companies, require review, audit and verification by independent accountants using a similarly uniform set of principles. However, what has been lacking from these metrics, are the non-financial risks that can have significant impact on a company’s bottom line.

For example, consider the financial and reputational repercussions that can occur when a company faces charges of racial or gender inequality, or when it fails to address the rising risks of climate change on its operations. With so many choices of where to spend and invest their hard-earned dollars, a growing number of people are limiting their decisions to those companies that share their personal values especially when it comes to ethics, social equality and environmental protections.

Evidence of this corporate shift in priorities from returns of shareholder value to collective stakeholder value was apparent at the 2020 World Economic Forum (WEL) in Davos, Switzerland.  Business leaders and policymakers introduced a new manifesto defining the purpose of a company to extend beyond its own self-interests and shareholders to include its responsibilities as influential members of a larger society to protect its people and the planet.

According to the language of the WEL renewed manifesto, “the purpose of a company is to engage all its stakeholders in shared and sustained value creation. In creating such value, a company serves not only its shareholders, but all its stakeholders – employees, customers, suppliers, local communities and society at large.” As such, it “fulfils human and societal aspirations as part of the broader social system. Performance must be measured not only on the return to shareholders, but also on how it achieves its environmental, social, and good governance objectives.”

One ESG Reporting Model
To back up this strategic imperative, the WEL’s International Business Council (IBC) issued recommendations for public companies to adopt a common standard for reporting environmental, social and governance-related information along with financial disclosures. However, the IBC’s proposal does not include a universal set of reporting standards for all companies to employ but rather allows businesses to determine what they individually deem material to report to their stakeholders based on four key metrics: its people, the planet, prosperity of the community and principles of governance and accountability.

This is expected to change in 2021 as the world’s top sustainability accounting standard groups have begun working together under the newly formed Value Reporting Foundation to unify their divergent guidelines into one comprehensive ESG reporting model for all businesses across all industries and international borders. This group includes the Sustainability Accounting Standards Board (SASB), the Global Reporting Initiative (GRI), the International Integrated Reporting Council (IIRC), the Carbon Disclosure Project, and the Climate Disclosure Standards Board.

Among its plans for developing a universal ESG reporting standard, the Value Reporting Foundation aims to provide businesses with guidance on how these standards would complement and integrate with their existing financial reporting responsibilities under the United States generally accepted accounting principles (GAAP) and the International Financial Reporting Standards (IFRS). Until that point, however, businesses must find other methods for evaluating and verifying their ESG claims or risk public backlash. This is especially true when looking back on the past year and the dramatic rise in social activism for climate change and gender, racial and income equality. Those companies that failed to address these issues and their related risks found themselves subject to the new cancel culture.

ESG Examinations Are Key for the Future
While financial reporting remains a critical focus of business performance, businesses can no longer overlook the non-financial ESG interests of all its stakeholders and their impact on their companies’ bottom line and long-term viability.  Now is the time for businesses to reach out to their CPAs to conduct ESG examinations or reviews based on existing standards. While a review may be sufficient, an examination will carry more weight and prepare the business for the coming wave of required assurances in the future.

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David Kolan, CPA
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