ESG Accountability Disclosures on the Horizon

6th September 2021 by CMIA

On top of investor demand and stakeholder pressures, attention from U.S. regulators is driving expectations that climate-related and other sustainability disclosures will soon become part of the regulatory environment, making it essential that companies start preparing.

Since President Biden’s day-one action to rejoin the Paris Climate Agreement, climate change has been a central topic in U.S. policy discussions in many government departments, including the Securities and Exchange Commission. From Commissioner (then Acting Chair) Allison Herren Lee directing the SEC’s Division of Corporation Finance to enhance its focus on climate-related disclosures in public company filings, to SEC Chair Gary Gensler’s recent statement that the SEC has the necessary rulemaking authority on climate, human capital, and other environmental, social, and governance (ESG) disclosures, it is clear that climate-related and other ESG regulations are on the horizon.

Ahead of the changing regulatory environment, companies may need to rapidly enhance their existing disclosures if the oversight mechanisms the SEC applies to climate-related and other ESG disclosures are similar to those for financial reporting.

Biden Administration Climate Commitments and Policy Proposals

At the recent climate summit, President Biden unveiled an enhanced nationally determined contribution (NDC) for the United States, pledging to reduce greenhouse gas emissions by 50% to 52% from 2005 levels by 2030. The U.S. NDC, developed by the National Climate Task Force, would be achieved through enhanced regulation of key industries and aggressive action in key states. Companies will likely be required to comply with additional regulations and legislation that have yet to be specifically identified.

Companies may need to rapidly enhance their existing disclosures if the oversight mechanisms the SEC applies to climate-related and other ESG disclosures are similar to those for financial reporting.

The new U.S. NDC was announced amid climate-related discussions, actions, and recent policy proposals made by the Biden administration. President Biden recently signed an executive order directing all government agencies to develop a strategy for identifying and disclosing climate-related financial risks to government programs and assets within 120 days.

U.S. Regulatory ESG and Climate-Related Developments

As detailed in Deloitte’s March 22, 2021, Heads Up and the May 2021 issue of Deloitte Digest, recent developments in the United States concerning climate regulation, reporting, and compliance policy include:

  • The Commodity Futures Trading Commission (CTFC) established a new climate risk unit.
  • The Federal Reserve created two committees to identify, address, and respond to climate-related risks to financial stability.
  • The FASB released a staff educational paper on intersection of ESG matters with financial accounting standards.
  • The SEC announced the formation of the Climate and ESG Task Forcerequested input on whether current climate change disclosures adequately informed investors, issued a risk alert on ESG investing, and established a Web site to highlight actions and provide ESG investing information.
  • The House Financial Services Committee advanced the Climate Risk Disclosure Act, which would amend the Securities Exchange Act of 1934 to require disclosures related to climate change.
  • SEC Commissioner Allison Herren Lee gave a speech addressing her views on common misconceptions regarding materiality in the context of ESG disclosure.

Global Convergence of ESG Disclosure Standards

In addition to U.S. activity, substantial recent progress has been made to establish global climate-related and other ESG disclosure standards. In April 2021, the IFRS Foundation trustees indicated they were moving forward on their proposal to create an International Sustainability Standards Board (ISSB), which will take into account the work of other standard setters, such as the Task Force on Climate-Related Financial Disclosures and a prototype framework for climate-related disclosures proposed by an alliance of five standard-setters. The proposed ISSB has received increasing support from other global and U.S. organizations, including the SEC and the Department of Treasury. In addition, the IFRS trustees aim to issue a proposal by the end of September 2021 and may announce the establishment of an ISSB at the 26th United Nations Conference of the Parties in November 2021.

While it remains to be seen how this activity will affect U.S. companies, it is further evidence  that the focus on ESG performance and disclosures will almost certainly increase.

Financial and Operational Impacts of Climate- and Other ESG Events

Climate change creates risks and opportunities in the capital markets and can have both financial and operational impacts on businesses. Increasingly severe weather events and rising sea levels may lead to asset damage and higher insurance premiums. Carbon taxes and reputational risks may increase operating costs and create barriers to accessing capital or high-quality talent.

Investors and stakeholders are seeking reliable and comparable information on these potential impacts so that they can better assess the resiliency of corporate strategies to climate-related and other ESG events. As detailed in Deloitte’s May 26, 2021, Heads Up, these events could affect a company’s financial accounting and reporting in the context of the existing accounting guidance, the current regulatory environment, and financial statement audits.

How to Prepare for Quality Climate-Related and Other ESG Disclosures

Companies should begin to prepare for mandatory climate-related and other ESG disclosures, since this regulated landscape for ESG disclosures will differ significantly from the current landscape of voluntary reporting.

To adapt to disclosure standardization, companies will need to focus on improving data integrity and reliability by enhancing management processes and controls. Regulatory oversight will help drive ESG integration and transparency, which are currently being demanded by investors and other stakeholders. As a result, ESG reporting processes and controls may soon be expected to mature to the level of financial reporting. To establish effective internal controls that improve the integrity of climate-related and other ESG disclosures, companies can leverage existing resources, including Internal Control — Integrated Framework of the Committee of Sponsoring Organizations of the Treadway Commission.

The Role of Assurance

As climate-related and other ESG disclosure guidance transitions to mandatory, the role of assurance will become critical for disclosure effectiveness. Currently, only 11% of S&P 100 companies have received assurance from a professional services assurance provider regarding some of their ESG information. Assurance providers can help companies navigate the regulatory developments and assess the current state of their internal controls over climate-related and other ESG metrics and disclosures.

As companies begin to integrate climate-related and other ESG considerations into their systems of internal control and their broader business decisions, they may consider asking the following:

  • Is the company currently following a framework or a standard for disclosing this information?
  • How is climate-related and other ESG information captured in company systems? How is this information currently used?
  • What is the company’s governance and oversight over this information?
  • What additional controls and procedures should be implemented to subject climate-related and other ESG disclosures to the same level of internal controls as financial reporting?
  • What is the company’s current preparedness to receive assurance services over climate-related and other ESG information? How can the company enhance its preparedness?

The Biden administration’s actions to address climate change, SEC discussions to mandate climate-related and other ESG disclosures, and the pending formation of an ISSB signal forthcoming standardization and regulation of this information. To prepare, it will be essential that companies improve the completeness, accuracy, and reliability of their ESG-related disclosures by employing sound governance, oversight, and data-management processes and controls. They can seek assurance readiness and third-party assurance services to enhance the maturity of their systems, processes, controls, and governance related to this information.