Need to know: New European ESG reporting standards
CWS 3.0 - Contingent Workforce Strategies
Need to know: New European ESG reporting standards
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Environmental, social and governance reporting has gained traction in the 21st century as investors increasingly rely on all manner of metrics to gauge the value and growth potential of an organization. Consumers also choose to do business with organizations that align with their beliefs about governance and sustainability they exhibit more brand loyalty to those organizations that report positive progress on ESG initiatives. According to Thomson Reuters, 95% of global companies disclosed environmental, social and governance matters in 2021.
On Jan. 5, 2023, the European Union’s Corporate Sustainability Reporting Directive (CSRD) came into force. This new directive updates and strengthens the rules concerning the reporting of an organization’s sustainable and ethical impact on the environment, society and governance (ESG). The CSRD makes the European Sustainability Reporting Standards (ESRS), adopted by the EU in June 2023, mandatory for use by companies that are obliged to report certain sustainability information.
Meanwhile, the US Securities and Exchange Commission has issued proposals and guidance for climate-related disclosure as part of ESG reporting as well as proposing future regulations. Individual exchanges, including the New York Stock Exchange and the Nasdaq composite, have also encouraged issuers to provide ESG reporting.
EU law already requires all large companies and all listed companies (except listed micro-enterprises) to disclose information on what they see as the risks and opportunities arising from social and environmental issues and on the impact of their activities on people and the environment. However, according to the European Commission, there is ample evidence the sustainability information that companies currently report is not sufficient.
This is why the Commission is adopting common standards (the ESRS) which will help companies to communicate and manage their sustainability performance more efficiently and therefore have better access to sustainable finance.
Large companies — even ones based outside of the EU — as well as listed SMEs will now be required to report on sustainability from 2025 (for financial periods beginning on or after Jan. 1, 2024). Companies meeting two of the following three conditions will have to comply with the CSRD:
- €50 million (US$54.2 million) in net turnover
- €25 million (US$27.1 million)
- 250 or more employees
In addition, non-EU companies that have a turnover of above €150 million (US$162.5 million) in the EU, will also have to comply.
Article 29 of the CSRD requires companies to describe their due diligence process; the principal actual or potential adverse impacts connected with their own operations and with its value chain; and the actions taken to identify and track these impacts.
The ESRS requires mandatory disclosure of general information (“general disclosures”) by all companies within scope of CSRD as well as specific additional information — such as a description of policies, processes and targets — under 10 ESG topic areas if they have a “material” impact on the company.
A company may only omit certain information if it decides it is not relevant, based on a “materiality assessment.” In assessing whether information has a material impact on the organization, the company must consider not only the ways that sustainability issues can cause financial risks for the company (financial materiality), but also how the entity’s own behaviour can impact, positively and negatively, people and the environment (impact materiality).
Impacts include those connected with the undertaking’s own operations and the upstream and downstream value chain, including through its products and services, as well as through its business relationships, not limited to direct contractual relationships (guidance on determining “materiality” is given in the ESRS under section 3).
Contingent Workforce Management Impact
Two out of the 10 ESG topic areas address reporting on workers:
- ESRS S1: own workforce (which includes individuals in an employment relationship with the undertaking, agency workers and individual self-employed contractors)
- ESRS S2: workers in the value chain. A “value chain” is defined as encompassing the activities, resources and relationships the undertaking uses and relies on to create its products or services from conception to delivery, consumption and end-of- life.
In performing a materiality assessment on these topics, the company is required to conduct a detailed assessment across identified workplace sub-topics which include:
- working conditions (including secure employment, adequate wages, working time, worker engagement, collective bargaining, health and safety, work-life balance);,
- equality, diversity and inclusion; and
- other work-related rights (including child and forced labor, privacy, and adequate housing).
These topics are not exhaustive, and businesses will need to disclose any other material matters that they identify. If a company concludes that information regarding working conditions in the value chain, for example, is not a material topic and does not report in accordance with that standard, it must provide a detailed explanation of the conclusions of its materiality assessment about the topic.
Companies may also omit certain data (Appendix C of the ESRS lists phased-in disclosure requirements) relating to the following in the first year of preparation of their sustainability statement:
- Characteristics of nonemployee workers in the undertaking’s own workforce.
- Collective bargaining coverage and social dialogue with regard to its own employees in non-EEA countries.
- Percentage of employees with disabilities.
- Training and skills development.
- Cases of work-related ill health and number of days lost to injuries, accidents, fatalities and work-related ill health.
- Health and safety in relation to nonemployees.
The ESRS and CSRD are complex and detailed and will require investment in time and resources by those companies affected. Additional standards, including sector-specific ESRS, are expected to follow (published by EFRAG, which drafted the ESRS and provides guidance on how to comply) and the EU has also promised technical guidance on the application of the standards this year.
Affected companies should seek advice from their counsel on compliance and allocate resources to collate and report the requisite data. This will be an ongoing task, as organizations must review and update the report every year.