Anyone who has dipped a toe in environmental, social, and governance (ESG) investing knows that there is an alphabet soup of reporting standards aiming to measure corporate adherence to sustainability.
Because government regulators have been reluctant to establish mandatory reporting standards, a host of mostly nonprofit groups have worked for decades to build consensus among the private sector, governments, investors, and stakeholders to build out voluntary reporting systems, such as the Global Reporting Initiative (GRI), or the Carbon Disclosure Project (CDP).
Companies were left to pick and choose between reporting frameworks, confounding investors’ ability to compare companies across platforms – and in some cases, enabling greenwashing by companies able to cherry-pick data for a particular reporting system.
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Enter the International Sustainability Standards Board (ISSB), a new effort to merge many ESG disclosure standards into one, and to encourage the uptake of these standards globally.
An Introduction to the ISSB
The International Sustainability Standards Board was announced this week at the COP26 global climate conference in Glasgow. Thirty-eight governments expressed support for the standards, including the U.S.
The ISSB will be managed by the International Financial Reporting Standards (IFRS) body, based in Germany. The IFRS released a working draft of climate-related disclosures that will be vetted over the next few months, and released in mid- to late 2022.
Erkki Liikanen, chair of the IFRS Foundation Trustees, says "Sustainability, and particularly climate change, is the defining issue of our time. To properly assess related opportunities and risks, investors require high-quality, transparent and globally comparable sustainability disclosures that are compatible with the financial statements. Establishing the ISSB and building on the innovation and expertise of … others will provide the foundations to achieve this goal."
The International Organization of Securities Commissions (IOSCO) will oversee the ISSB, and its goal is to ensure that ESG disclosure is as standardized and universal as financial reporting. IOSCO says that it had made clear "in 2020 that it was not happy with either the fragmented way private-sector standard setting for sustainability was developing or with the scale of the risk of greenwashing."
Will the ISSB Have Teeth?
A key question is how the ISSB will ensure buy-in from regulators and companies, who often complain that ESG reporting is not based on materiality (financial performance).
Happily, the IFRS Foundation established "first principles" for the ISSB standards. These include a focus on investor needs, on building company value, and other approaches that, according to the CFA Institute, "are explicitly intended to facilitate economic decision making."
Whether companies are required to report on the finalized ISSB climate reporting standards will depend in part on geography and timing. The European Commission is working with various reporting bodies to develop mandatory ESG reporting for roughly 49,000 large companies operating in the European Union or trading on EU exchanges. These standards will likely be published in 2022, implemented in 2023 and first reported on by companies in 2024, and they will be incorporating ISSB standards as appropriate for the EU region.
For U.S.-based companies with operations in the European Union, subsidiaries might be required to report based on these standards. Or the parent companies might decide that using EU standards is simpler than adopting multiple standards.
The IOSCO might also prove pivotal to adoption of some form of ISSB standards in the US. The IOSCO counts as members 95% of the world's securities markets – including the Securities and Exchange Commission (SEC). According to Reuters, the IOSCO could push for harmonization of ESG reporting.
The SEC this year issued preliminary guidance for climate disclosure by U.S. companies. Although there appears to be broad support for this effort within the SEC, it is by no means universal, and may be subject to political pressure.
Still, if executed well, the ISSB could lead to standardized, reliable ESG data on a universe of global companies, with a strong underpinning of materiality.
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