Emergence of Sustainable Finance

Sustainable finance refers to the process of taking due account of environmental, social and governance (ESG) considerations when making investment decisions. In short, it revolves around the reorientation of capital flows towards sustainable economic activities that help achieve social and environmental goals.

What actually is meant by ESG?

• Environmental considerations refer to climate change mitigation and adaptation, as well as the environment more broadly, such as the preservation of biodiversity, pollution prevention and circular economy.
• Social considerations refer to issues of inequality, inclusiveness, labour relations, investment in human capital and communities, as well as human rights issues.
• The governance of public and private institutions, including management structures, employee relations and executive remuneration, plays a fundamental role in ensuring the inclusion of social and environmental considerations in the decision-making process

Sustainability Reporting

• Sustainability reporting is a tool to increase transparency and accountability in the issues that include the linkages between environmental, social and governance issues; as discussed in pervious section.
• In short, a sustainability reportis a report about an organization’s environmental and social performance and health.
• Sustainability reporting can also improve organizations’ ability to understand and manage sustainability related risks and enables organizations to consider their impacts on a wide range of crosscutting sustainability issues.
• Sustainability reporting can also improve the internal awareness of sustainability issues in the organization. This helps organizations reach better decisions and can enhance long-term financial prospects.
• Further, reporting can act as a tool for leadership, increase employee satisfaction and make organizations attractive to new employees.
• Sustainability reporting can help companies attain cost savings, because it encourages an organization to use natural resources more efficiently and improve process efficiency. For example, paying attention to energy consumption and possible measures to reduce it, can help to reduce energy bills and spending.

Reported information and disclosures are most constructive when they are consistent across time periods, comparable across companies and countries and are reliable. Some major frameworks across globe are GRI, IIRC, SASB, TCFD, CDSB among others.

How reporting frameworks differ?

Reporting frameworks mainly differ around “materiality aspect” for a business. Materiality are “those topics that have an impact on an organization’s ability to create, preserve or erode economic, environmental and social value for itself, its stakeholders and society.

Materiality to GRI is outward looking; it refers to “the impacts of the company on the environment”.

SASB’s materiality revolves around the impacts of sustainability topics on a company’s financial condition, suggesting a more inward-looking approach.

CDSB sees materiality from a holistic view, in the sense that it considers equally how the organization impacts the environment, and vice versa.

IIRC considers a matter to be material if it could substantively affect the organization’s ability to create value in the short, medium or long term.

Reporting Frameworks in a nutshell

• GRI Framework
  • Main Focus: Corporate social responsibility with an equal weight on environmental, social and governance factors. Focus on stakeholder engagement to determine materiality.
  • Pros:  Easily implemented from a reporting perspective.
  • Cons:  Mainly adopted by European companies.
• TCFD Framework
  • Main Focus: Climate related risks and opportunities. Focus on Environment and Governance and not on social aspect. Metric and targets are used to assess climate related risks and opportunities.
  • Pros: Closest framework to a mandatory/regulatory requirement and will therefore be most widely adopted by companies.
  • Cons:Largely climate related disclosures.   Some complexity around the requirements, which may make it difficult for companies to report.
• SASB Framework
  • Main Focus: Focus on US public companies only. Industry-specific issues deemed material to investors. Stakeholder consultation
  • Pros: Provides industry-based guidelines and focuses on the needs of communicating with investors. Currently have standards for 11 industries. Consideration of materiality for each industry standard.
  • Cons: Mainly focuses on USA but adopted by other global organisations that have a presence in the USA.
• IIR Framework
  • Main Focus:  Value creation for organisation through sustainable reporting.
  • Pros: Supports value creation for companies over short, medium and long term. Global coalition of regulators, investors, companies, standard setters, the accounting profession and NGOs.
  • Cons: No specific metrics for measuring climate related risks and opportunities.No specific metrics to measure scope 1, 2 or 3 [as in TCFD] for greenhouse gas emissions.

Although approaches and terms for describing sustainability and ESG disclosures vary, many reporting frameworks share the following objectives:

1. To secure a sustainable future in environmental, social and economic terms.
2. Enabling investors to make an informed assessment of the performance of investee companies with regard to various sustainability issues.

The crux of any non-financial reporting framework is to encourage better corporate decision-making and long-term value creation through the use of transparency.