The introduction of global reporting standards is a reflection of society’s growing demand for corporate accountability. Rafael Echechipia, Winner of the 2024 CoBS Student CSR Article Competition at FGV-EAESP, puts them under the lens to what impact they have

On December 22^nd 2023, the European Union published the first set of European Sustainability Reporting Standards (ESRS), making European and European-operating companies scramble to understand what they would be required to report in 2025, as well as how they would go about collecting and managing all the information needed.

The standards are the final reflection of the European Corporate Sustainability Reporting Directive (CSRD), effective in January of the same year. At its core, the ESRS is the European Union’s attempt at modernizing and regulating non-financial corporate information reporting.

At a broader level, the CSDR is part of a global trend, along with the likes of the Global Reporting Initiative (GRI) and the Sustainability Accounting Standards Board (SASB), of addressing the impacts of corporate activities via systematized reporting.

Such a trend, born out of the growing pressure of society for increased corporate accountability, could be boiled down as a demand for companies to “do good while doing business”. That much is clear to anyone who is moderately aware of the global business landscape. However, even if it seems natural today, how did these demands start? And can they hope to achieve what they propose?

How did we get to “doing good while doing business”?

One of the most famous early cases of environmental consciousness dates back to 1962, when author Rachel Carson published “Silent Spring”, a book denouncing the consequences of the use of chemicals in agriculture. The book achieved such notoriety that legislation was created to restrict the usage of certain pesticides, solidifying it as one of the first instances of limiting companies’ activities due to environmental concerns. This marked the beginning of the focus on the relationship between economic development and environmental factors (Gokten et al, 2020).

Nonetheless, it would only be many years later, with the United Nations’ Resolution 42/187, that the idea would evolve into a rudimentary version of the modern concept of “sustainable development”. This meant that with the advent of international attention, firms were acknowledged for their role in either advancing or hindering progress towards a sustainable future.

The next milestone would come in the form of one of the worst environmental disasters to date in the Alaska Exxon Valdez oil spill of 1989. After causing irreversible damage to the ecosystem, public outcry and huge financial losses resulting from lawsuits pressured stakeholders into demanding information about environmental practices.

Finally, five years later, sustainability reporting evolved to include social aspects with the introduction of the Triple Bottom Line (TBL) by John Elkington in 1994. The TBL approach recognized that firms impacted social and environmental spheres just as much as they were impacted by them. With its introduction, sustainability reporting started quickly picking up pace with the creation of the GRI in 1997 as a joint effort between non-profits, and subsequent release of the first GRI Guidelines (G1) in 2000.

Recent chapters

As sustainability awareness gained strength, so did the pressure to report. In 2010, the United Nations Global Compact recognized the GRI guidelines as the recommended framework for reporting progress and impacts. One year later, the SASB was created as a non-profit to provide industry specific standards focused on identifying risks and opportunities to cash flow generation due to sustainability reasons.

Currently, the three major frameworks (GRI, SASB and ESRS) have an estimated (or expected, in the case of the ERSR) reported adherence of 10,000, 3,300 and 50,000 companies respectively. The popularity achieved by them alerts companies to the need to incorporate sustainability compliance into their strategies. In fact, the creation of the GRI professional certification exam in 2015 is a sign of sustainability reporting becoming a consolidated field with licensed-based professionals and dedicated departments. But what is at the core of those standards?

Materiality

Sustainability reporting allows companies to identify and manage sustainability risks and opportunities in the form of a concept known as double materiality. Standard materiality normally refers to any information that may affect a company’s bottom line. When applied to the context of this kind of reporting, the information will relate to some type of environmental, social, and governance (ESG) issue that is critical to the firm. Take for example an electronics manufacturer. It could report as materiality the risk of fees incurred by surpassing a certain carbon emissions threshold.

Double materiality, on the other hand, is an expansion of that concept. It will refer not only to ESG factors that can impact a company’s margins but also to any of the company’s operating practices that can be harmful to the environment and external stakeholders. Using the same example, the manufacturer would now have to report on its contribution to climate change given that its industrial processes involve emitting carbon into the atmosphere.

These guiding principles are at the core of the reporting frameworks, where the European standards and the GRI both push for variations of double materiality reporting, and SASB places a bigger focus on financial materiality aspects. In that sense, they offer an interoperability that allows investors and stakeholders to make more informed decisions about their involvement in participating companies. But what else is in it for those willing to report?

A gateway to corporate sustainability

Undeniably, having better informed investors will lead to easier long-term access to capital, the fruit of better risk management policies, and the attraction of sustainability-linked lending and increased investor confidence (Amel-Zadeh and Serafeim, 2017; Kahn and Upadhayaya, 2019). Moreover, research has shown that the benefits can trickle down to seemingly unrelated areas such as talent acquisition and employee productivity (Barrymore and Sampson, 2021).

Furthermore, some suggest that the reporting should be viewed at a more profound level. Rather than an annual burdensome exercise of assessing materiality, it should be viewed as a way to leverage sustainable thinking throughout the organization all the way to its core business strategy. Nonetheless, the wider public is increasingly more aware of how naive that sounds in scenarios of voluntary reporting.

A key factor on the effectiveness of the system comes from the incentives in places for its compliance. In the case of the European framework, as the new directive trickles down to the national legal systems of member countries, companies will be bound by law to produce such an analysis. The GRI and SABS, however, do not enjoy the same legal backing, and must instead rely on leveraging on the benefits they bring to reporting companies. Similarly, there is no mechanism to ensure that ESG thinking will be adopted at a deeper level.

Is sustainability reporting sustainable?

On the topic of a deeper level of sustainability thinking, the reporting framework suffers from the same oversight frequently brought up by critics of ESG or impact investing – the issue of missing the point entirely.

To explore this, we must draw from the book “Wealth supremacy” by author Marjorie Kelly. She argues that even the most committed ethical investors expect at minimum a market rate return over their efforts. There is little room for a trade-off between the externalities of a company’s operations and the financial results it can produce. It is as if investors simply needed to have put their money into ESG friendly companies from the start and all would be well. The baseline is, ESG investing operates under a logic where profits should not suffer in exchange for addressing sustainability concerns.

According to Kelly’s book, this explains the obsession with determining if responsible investing yields lower or higher returns when compared to their counterparts. Her questioning echoes the sentiment that this view still prioritizes income potential over societal issues.

As a consequence, reporting will follow the same logic as investments, where companies are expected to report in a voluntary or compulsory manner, not out of the importance of understanding externalities as a means of mitigating negative impact, but rather providing stakeholders with more decision-making tools to better allocate capital to guarantee good returns. In essence, sustainability reporting, by not addressing the wider culture companies are inserted in, has been made submissive to profit maximization logic.

So, how can reporting frameworks reshape the culture around sustainability?

Unfortunately, that remains a big question. There isn’t enough body of research to predict the effects of mandatory reporting on corporate behavior, and the same applies to a consensus on how the standards can induce a deeper level of cultural change.

The evolution of sustainability reporting, driven by societal pressures and regulatory changes, has significantly transformed the corporate landscape. However, the journey towards “doing good while doing business” is far from over. The concept of double materiality has broadened the scope of corporate accountability, but the effectiveness of sustainability reporting as it is proposed still hinges on the incentives for compliance, the depth of ESG integration into business strategies, and more importantly the ability of investors to see financial performance on sustainable companies.

Sustainability reporting: A compass, not a destination

Therefore, the question remains: how can these frameworks reshape the culture around sustainability? While there isn’t a definitive answer yet, the increasing adoption of these frameworks and the growing awareness of sustainability issues suggest that we are moving in the right direction.

As we continue this journey, it is crucial to keep questioning, reporting, and pushing the boundaries of what it means to do business more than what makes a company sustainable.

Useful links:

• Link up with Rafael Echechipia on LinkedIn
• Read a related article: Tango of Tensions: Argentina, accounting, and sustainability reporting
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• Browse and apply for a bachelor’s degree at FGV-EAESP.

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