The world, as we know it today, needs to take sweeping steps to prevent environmental degradation. The concerted efforts of multinational companies in this direction can put processes in place to ensure sustainable growth. For its fruition, a robust and mandatory set of sustainability-related reporting requirements will get enforced soon, entailing mandatory audits as well. Financial reporting would also witness stringent checks, contrary to the less strict set-up prevalent now.
The European Union (EU) remains steadfast in making sustainability reports from all big companies a mandate, including foreign companies operating within its borders, starting in 2024. The objective of this discussion is to understand this initiative more comprehensively.
- Sustainability Reporting Audits
The reports will undergo limited assurance first by employing the services of an outside firm for these checks, gradually giving way to robust full-time audits in a few years.
Soon the initiative will get more impetus with the publication of two sustainability standards, covering climate and general sustainability reporting, by The International Sustainability Standards Boards, strengthening it further. The intention behind framing the new rules is auditing disclosures which will subsequently be adopted by individual countries or regions such as the EU, with each country deciding if audits will be mandatory.
- Limited versus reasonable assurance
It is imperative to comprehend the difference between the two as many companies already have assurance over their voluntary ESG disclosures.
Limited assurance is a well-known concept in financial accounting. It is built on negative assurance meaning nothing has been found to suggest management claims are erroneous. As opposed to this, in the case of “reasonable” (but not entire) assurance, there are no material misstatements.
It is pertinent to share that limited assurance can sometimes take more than half of the time required for a full audit. To avoid any dichotomy and standardise the definition, the IASSB is now working on a steadfast auditing standard for ESG disclosures, including defining full and limited assurance. It is worth mentioning that around half of the global companies have their sustainability disclosures assured, and 83% of these companies use limited assurance (Bloomberg Tax, 2023). It is significant because of these reasons that the draft is likely to be published this year, with the target of final approval ahead of March 2025.
3. Requirement of limited assurance
The domain of ESG is in constant flux, and companies are facing a challenge in collating and calculating the data for all the areas falling under its ambit. Assimilating and analysing sustainability reporting-related data entails extensive costs to the companies. In addition, the companies must also understand the finer nuances of the new reporting requirements before obtaining reasonable assurance. The European Financial Reporting Advisory Group (EFRAG) will review the reporting requirements every three years, followed by a change in the reporting requirements.
The above-stated reasons further advance the cause for the requirement of limited assurance initially.
4. Clarity required for performing audit work
An initiative of this magnitude requires clarity on the stakeholders’ part. It requires a coordinated and concerted effort from countries to ensure the International Sustainability Standards Board (ISSB) audits are conducted for the initiative’s execution to be successful. All the countries so far have shown their disinterest in using the standards or the need for being audited. Sensing their rampant disillusionment, the EU has unequivocally said that competent organisations, in addition to accountants, could do the work, averting an attempt by big firms to monopolise the field.
It has had a bearing on accounting firms which have pushed to hire more ESG personnel, marking a preference over hiring personnel from a purely financial accounting background. Some organisations like KPMG have already launched programmes to train all its staff in sustainability matters.
5. Financial Audits
The nature of financial and ESG disclosures is disparate, necessitating separate audits. It presents a strong case for a single firm doing both audits because assurance is essential for their credibility.
The ISSB and International Accounting Standards Board (IASB) have joined hands, underscoring the need to coordinate disclosures. The two will work in tandem reviewing guidance for the management observation, a description section of the accounts housing ESG disclosures.
Voluntary ESG reporting rules set by Global Reporting Initiative (GRI) are used by around 10,000 companies worldwide. Along with ISSB standards, G-20 countries are deliberating on announcing these through legislation or other means, such as stock exchange requirements. It depends on us today on which side of history we would like to be on.
Bibliography
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[Accessed 6 February 2023].
2. Image Source- HQTS, 2022. Blog. [Online]
Available at: https://www.hqts.com/esg-reporting-importance/
[Accessed 2 March 2023].
3. Image Source- Vaultinum, n.d. ESG Audit. [Online]
Available at: https://vaultinum.com/esg-audit
[Accessed 6 February 2023].