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The Corporate Sustainability Reporting Directive is a regulation that requires companies to disclose information about their environmental and social performance in a separate annual report. The main purpose of the CSRD is to increase transparency and accountability of companies’ sustainability performance, which will enable investors, shareholders, and other stakeholders to make more informed decisions.
The CSRD is connected to other regulatory frameworks in several ways. One of the main connections is with the EU Taxonomy, which is a classification system for environmentally sustainable activities. The EU Taxonomy provides a framework for companies to identify and report on environmentally sustainable activities, which is relevant to the CSRD’s requirement for companies to disclose information about their environmental performance.
Another connection is with the Sustainable Finance Disclosure Regulation (SFDR), which is a regulation that requires financial market participants and advisers to disclose information about their adherence to sustainability risks and factors. The CSRD and SFDR both aim to increase transparency and accountability of sustainability practices in the financial sector.
In addition, the CSRD is connected to other European regulatory frameworks such as the Non-Financial Reporting Directive (NFRD), which also aims to increase transparency and accountability of companies’ sustainability performance. The NFRD requires companies to disclose information on their environmental and social performance, as well as their policies and due diligence processes. The CSRD can be seen as the natural progression of the NFDR and aims to close some loopholes of the older regulatory framework. This progression can be seen in the timeline below:
In conclusion, the CSRD is connected to other regulatory frameworks, such as the EU Taxonomy, SFDR, and NFRD, which share the same goal of increasing transparency and accountability of companies’ sustainability performance. These frameworks are complementary and provide a comprehensive approach to sustainability reporting and disclosure.
The CSRD is a complex regulatory framework, which we are going to analyze in detail in the next section. However, it is important to understand the broad areas that will be affected by the new regulation and what it will assess in the future.
Under the CSRD regulatory framework, you will be required to provide insights and report about your strategy, especially the business model. Primary risks regarding sustainability issues and dependencies must be identified. While the management and supervisory board’s role in relation to sustainability must be clearly highlighted and stated.
Your company also needs to publish information about the implementation of sustainable corporate practices. Of special importance are Due diligence procedures for operations and the supply chain, policies addressing sustainability factors and the target setting for any sustainable KPIs.
While the third big part of CSRD is the reporting on sustainability and performance regarding all the evaluated KPIs.
As we have already mentioned in the introduction of the article, the CSRD will take the current EU Directive and extends it massively. To make a clear comparison between the status quo and the future of sustainable reporting in the EU, we created this table below, comparing both among six different factors.
Step 1 — Assess your business against the criteria for disclosure requirements
As mentioned in the previous section, the following companies will have to comply with the disclosure requirements laid out in the CSRD:
Step 2 — Take notice of the CSRD reporting standards
The CSRD was introduced as the world’s most far-reaching mandatory reporting regime under the ESG premise. In line with a broad range of ESG issues, the directive operates on the pillars of European Sustainability Reporting Standards (ESRS). The initials draft for the standards has been conceptually divided into two sets of standards, with the first guidelines coming into effect by June 2023. The combined draft ESRS include ten subject matter-specific standards across the “E”, “S”, and “G” pillars, and would cover 84 discrete disclosure requirements in respect to 1,144 quantitative and qualitative data points.
The first set of standards addresses two main concepts, namely double materiality and quality of information:
1. Double Materiality: Refers to the process of identifying all potential negative and positive impacts on society and the environment. This aspect is directly with a company’s operations and value chain.
2. Quality of information: Required standards on how you should ensure your sustainability information is of high quality (e.g., truthful representation, comparability, verifiability, etc.). Also explaining the standards for the general reporting and significant sub-topics. Some of the most critical sub-topics are climate change, workers in the value chain, general business conduct and environmental pollution. More generally, the standards can be structured into general, environmental, social and governance standards.
Consequently, the second set of standards will be adopted the following year, in 2024. The remaining conceptual guidelines go as follows:
Furthermore, the general ESRS outlined above will be complemented with sector-specific standards. Those mandatory industry-specific disclosures will apply to a broad range of sectors including IT, financial services, oil and gas, energy production and utilities, agriculture, pharmaceuticals among many others. The sector-specific standards will be developed by EFRAG over the course of 2023, and will be rolled out under the CSRD requirements by June 2024.
Step 3 — Measure your environmental performance
According to the CSRD proposal, it will follow the TCFD, which implies that the companies will have to report their emissions in compliance with Greenhouse Gas Protocol (GHG). However, as previously mentioned in the article, CSRD expands beyond climate alone. The directive follows EU Taxonomy, addressing the six criteria of that framework related to the information on the environmental impact. Therefore, a full environmental footprint of a company needs to be measured to accurately assess the full scope of impact. For that purpose, it is recommended to follow the scientific footprinting method of Life Cycle Assessments (LCA).
Step 4 — Set targets
Once you established a measurement system of your company’s footprint (e.g. GHG), it is time to define clear environmental reduction targets. Multiple aspects can be factored into this decision process. For instance, which part of your supply chain shows the biggest impact? Additionally, set targets on how to improve the social aspects of your business.
Step 5 — Monitor relevant KPIs
ESG reporting is a hallmark of the investment world, providing a framework by which potential investors can gauge a business’ inherent risks. ESG reports show the environmental, social and governance factors that may affect a company’s performance. These risks could range from the inability to attract workers to environmental impacts, which may draw ire from customers. By showing that your companies monitors and continuously improves upon the mentioned KPIs, you have the chance to convince investors on your performance, while also showing that you lower investment risks. To further monitor the progress, it is essential to identify the relevant KPIs connected to your environmental, economic, and social impacts:
However, after aligning the reporting practices with the CSRD, this is only the start! With the following graphic, we highlight how CSRD affects company reporting practices for the next five years.
Obviously, there are more than enough discussion about if we really need tighter regulation or if the market can handle itself. If you want to believe the invisible hand of the market, you might find only really limited reason for regulation. There is the other side of Michael Porter, who makes the statement that tighter regulation can even foster more radical and disruptive innovation. While you can find arguments for both sides, we intend to provide some entirely different reasons for complying with regulation and reacting positively to it. There are two interesting concepts, namely legitimacy theory and social contracts. With this brief introduction to the concepts, we present tools that you can leverage in your next talks with colleagues about environmental regulation.
The social contract refers to the expectations and obligations that exist between an organization and society. According to legitimacy theory, a company’s activities should align with societal rules and beliefs, and social and environmental disclosure is a means to gain or maintain legitimacy.
Companies that operate in environmentally sensitive industries, are large, or have poorer environmental performance are likely to face greater exposure and legitimacy threats. To address these threats, they may provide more extensive positive environmental disclosures to offset negative perceptions. Compliance with environmental regulation can also be seen as a way to maintain the social contract and preserve the company’s license to operate.
Failing to meet societal expectations and breaking the social contract can lead to the withdrawal of social resources and jeopardize the company’s existence. Therefore, companies may make significant efforts to ensure the preservation of the social contract by complying with environmental regulations.
In summary, legitimacy theory and social contracts provide a theoretical foundation for companies to engage in environmental regulation and comply with it. Companies operating in environmentally sensitive industries or with poor environmental performance face greater legitimacy threats and can benefit from positive environmental disclosures and compliance with regulations to maintain their license to operate. The preservation of the social contract is essential for the survival of organizations, and compliance with environmental regulations is one way to ensure its preservation.
The CSRD has three main sections, including strategy, implementation, and performance, which touch on all areas of a company’s sustainability practices. The first draft of the European Sustainability Reporting Standards includes ten subject matter-specific standards that cover 84 discrete disclosure requirements respecting 1,144 quantitative and qualitative data points, divided into double materiality and quality of information. It is essential for companies to begin preparing for CSRD alignment as soon as possible, as it is the world’s most far-reaching mandatory reporting regime under the ESG premise, and non-compliance can result in fines. The steps we have identities are:
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