On June 26, the International Sustainability Standards Board (ISSB) issued its inaugural standards on sustainability-related disclosures for international capital markets – IFRS S1 and IFRS S2.
The UK’s Financial Conduct Authority (FCA) published a statement on the same day reiterating its previous commitment to update its climate-related disclosure rules to reference the ISSB standards.
New standards
- IFRS S1: General requirements for disclosure of sustainability-related financial information
- IFRS S2: Climate-related disclosures
More generally, the ISSB standards have been broadly welcomed, particularly as they are being trailed as a “global baseline for sustainability reporting”. Welcome news indeed for anyone trying to navigate the commonly referenced ‘alphabet soup’ of environmental, social and governance (ESG) disclosure regulations and standards.
However, questions remain about where exactly the ISSB standards fit in the overall regulatory landscape and what businesses should already be doing to comply with them, if anything.
The key point to note is that application of the ISSB standards is, for now, voluntary. This may not be immediately obvious from the language in the standards, which talk of a January 1, 2024 “effective date” and “required” reporting. That said, the standards have been developed in an international forum, and certain countries are expected to be early adopters, including Japan, Chile and Canada, as well as the UK.
As noted, the UK’s FCA is a particularly enthusiastic proponent of the ISSB standards, and fully expects to make them mandatory in the UK. But to do that would necessitate a consultation and potentially new regulations, neither of which happen overnight – particularly in view of the current political climate.
Financial sector firms may expect to see swifter implementation than corporates given the efficiency of an FCA consultation compared to a government department rule-making process, and these firms may want to start thinking about how to accommodate ISSB sustainability reporting should it be mandated within the next 12 to 18 months.
What now?
The next stage of the journey for the ISSB standards is endorsement by the International Organization of Securities Commissions (IOSCO), which will hopefully confirm the standards’ suitability for use in global capital markets prior to their adoption into national regulatory frameworks.
firms may justifiably be feeling bruised from the onslaught of ESG regulations
IOSCO has said that in parallel with its endorsement assessment, assurance standards will be developed, allowing firms to report against the standards for the first time for the end-2024 accounts.
Even though many firms in the financial sector have taken a responsible approach to sustainability in general, they may justifiably be feeling bruised from the onslaught of ESG regulations over the last three years, particularly if they are based in or market into the EU.
Firms that are grappling with the EU’s Sustainable Finance Disclosure Regulation, the Taxonomy Regulation and the upcoming Corporate Sustainability Reporting Directive (CSRD) will be particularly fatigued.
Reporting challenges
Many firms will also be caught by the UK’s requirements for reporting under the Task Force on Climate-related Financial Disclosures (TCFD), and potentially new disclosure requirements under the FCA’s proposed Sustainable Disclosure Requirements regime – the likely home for mandatory ISSB reporting by financial firms.
Although the content of IFRS S2 on climate disclosures will be familiar to TCFD reporters, adopting the same four key pillars, there are some differences, including that S2 requires disclosure of “financed emissions” by asset managers, commercial banks and insurers (from the second year of reporting).
Generally acknowledged to be one of the most difficult aspects of carbon reporting, financed emissions reporting drives at the contribution that the firm’s provision of capital makes to the emissions of the investee company. It is often wrapped up (or glossed over) in scope 3 emissions reporting, and its scale will normally eclipse scope 1 and 2 emissions numbers by a large margin.
The size of the reporting task under S2 is immediately clear, whereas S1 – on general requirements for disclosure of sustainability-related financial information – poses a somewhat different problem.
The “materiality assessment” is the key to good disclosures
Unlike the EU’s draft reporting standards under CSRD – the European Sustainability Reporting Standards (ESRS) – which set out in detail all the topics an organisation must consider in disclosing sustainability-related impacts, risks and opportunities, ISSB S1 leaves the business to decide what sustainability topics are material for it.
The “materiality assessment” is therefore the key to good disclosures; however, without a standardised approach, comparability of the data will inevitably be compromised. The EU is expected to publish guidance on conducting a materiality assessment soon, and it will be interesting to see whether it is recommended by ISSB for use with S1. Those hoping for a silver bullet might, however, be disappointed, if early indications of the guidance’s usefulness are true.
Interoperability with the ESRS
The good news is that the ISSB has worked closely with the European advisory body developing the ESRS to ensure some degree of interoperability between them. While the ESRS have important differences from the ISSB standards, the two bodies are committed to easing the burden on business by highlighting the differences.
Generally speaking, compliance with ESRS represents the high-water mark of sustainability reporting, and many firms are choosing to focus their time, energy and professional fees on the ESRS for that reason. Unfortunately, as it stands, it is not open to firms wishing to participate in the EU market to opt instead for ISSB reporting, and given key differences between the regimes, a finding of equivalence seems unlikely.
And with GRI
Less good news, given their longevity in the market, is that interoperability between the ISSB and Global Reporting Initiative (GRI) standards is rather more limited. GRI standards, which are used by large numbers of organisations reporting sustainability information voluntarily, are focused on “impact materiality” rather than financial materiality (though GRI may argue that the two are inextricable).
The two organisations signed a memorandum of understanding last year and it was briefly rumoured that they may merge, but this has been ruled out by ISSB’s CEO. In fact, very recent comments from GRI suggest that discussions on how to retrofit the two sets of standards into a compatible position are at a relatively early stage.
Next steps
So for now, to wait or not to wait is the question. While firms will not want to fall dramatically behind the market in terms of preparations, there may be prudence in focusing on first assessing the impact, if any, of the CSRD on the firm. Then, if it is applicable, focusing on common elements between the ISSB and ESRS standards such as the materiality assessment.
It is fully intended by the EU that this should be a strategic rather than a formulaic exercise, and is very unlikely to be time wasted for any firm with even moderate sustainability ambitions.
Doug Bryden is head of environment and operational regulatory and Sarah-Jane Denton is a consultant in the risk and operational regulatory group at law firm Travers Smith.
