CSRD, ESRS, and EFRAG are new acronyms ‘made in Brussels’ that have become the bête noire of executives of many companies in the European Union, from Ireland to Poland. The three acronyms refer to the EU’s corporate reporting regulation, standards, and technical advisory body.
Large, listed EU firms represent the first wave of entities required to comply with these standards when filing their 2024 annual report next year. The new disclosure requirements will catch more firms yearly and eventually go global by 2028, thanks to their extraterritorial power (see ‘Fixing The Market Mess.’)
The vast compliance project requires a holistic self-due diligence process compelling companies to consider who they are, what they do, what they want to achieve, and how they plan to get there, considering long-term environmental and socio-economic trends.
At the core of the CSRD, each company must perform a ‘double materiality assessment’ (‘DMA’) by engaging with relevant stakeholders. The approach helps identify material sustainability risks and opportunities considering both ‘impact materiality’ (inside-out perspective) and ‘financial materiality’ (outside-in perspective). Critically, this analysis ought to be performed along the entire value chain.
This new risk management tool is immensely complex: firms must evolve from (i) a company-focused, single-dimensional materiality assessment mainly relying on a qualitative approach to (ii) a double-dimensional evaluation considering their entire value chain with a comprehensive set of quantitative data points. It is a monstrous task (even more so for diversified companies.)
Based on the first 12 reporting standards across environmental, social, and governance topics, corporates are faced with the potential disclosure of more than 1,000 data points, a quarter of which are numerical, which creates acute data collection and quality challenges. Here is a real-life example of a firm that has implemented elements of the CSRD a year ahead of the regulatory deadline.
The new EU disclosure regime has been heavily criticized. It does not go far enough for those keen to promote a sustainable economy via better-informed capital allocation. It is horrifyingly misguided for those who see massive costs, management distraction, and, eventually, shareholder value destruction.
But… Can firms coherently claim to offer solutions to solve a problem related to the scarcity of the planet’s resources (energy, water, natural materials, clean air, labor), as most do to boost their earnings, while resisting enhanced transparency about their own dependence and impact on these resources?
Ultimately, the CSRD will be what each firm makes of it: a management tool to tighten a strategy, assess and improve operational performance through benchmarking, and build a lasting competitive advantage; or non-sensical red tape deemed irrelevant to decision-making.
I would choose the first option. In fact, many firms will learn how to translate their new ‘sustainability statements’ into IR and PR materials by contextualizing material non-financial data. It will allow them to enhance their equity story from a growth and quality perspective to appeal to long-term value-creation-focused investors – whether labeled ‘ESG’ or not.
Over time, I expect the integration of non-financial data into IR/PR to prove effective with investors and win over sceptics around the world.
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