Climate-related reporting’s ability to effect change
There is now considerable interest in sustainability — and climate-related reporting. Hans Hoogervorst, chairman of the International Accounting Standards Board, discusses climate change’s possible impact on companies’ business models and the potential of sustainability reporting to alter business behaviour.
What you’ll learn from this episode:
- The risk that climate change poses to companies’ business models.
- Sustainability reporting’s ability to effect business change.
- An argument for consolidating the number of sustainability standards setters.
- The role of material sustainability issues in company annual reports.
- Why climate-related reporting is not yet mandatory on a global basis.
Play the episode below:
To comment on this podcast or to suggest an idea for another podcast, contact Oliver Rowe, an FM magazine senior editor, at Oliver.Rowe@aicpa-cima.com.
Oliver Rowe: Hans — welcome. You've been chair of the International Accounting Standards Board or IASB since 2011, and recently you spoke at a conference on climate-related financial reporting which was co-hosted by Cambridge Judge Business School and the Cambridge Institute for Sustainability Leadership. So to start off, how big a risk is climate change to company business models?
Hans Hoogervorst: Well, I suppose that all depends on the kind of business that you are in. A business like insurance is already affected by climate change because they insure disasters and that is already going on in a greater frequency than in the past, so there's a direct impact there. On the other hand, if you are a supermarket chain, I am not sure that climate change will have a big effect on you in the short term and even the long term I don't know. So, in short, it really depends on the kind of business that you are in.
If you look at the automobile industry, for example, important industry, I think one of the reasons why they are switching to electrical cars is because these cars are more energy efficient, and I'm sure that the fear of more regulation in the future is driving that change as well. So again, it depends a little bit on the business that you're in.
Rowe: You touched on change just then. So, in what way can sustainability reporting be a catalyst for change?
Hoogervorst: A good indicator of that you should not expect too much change just as a result of reporting is what's going in the airline industry. It's one of the main sources of greenhouse gases. We all know there is a huge sustainability issue. I am sure that all airliners write beautiful sustainability reports and nevertheless this just goes on and on.
People like their trips abroad. There are no taxes on flying, no significant taxes. There is no kerosene tax. There's no VAT. So in effect it is a subsidised industry.
All the reporting in the world is not necessary to know that there is a problem here, and it's not going to change people's behaviour. It's not going to change the airlines, the industry behaviour. So reporting can never be a substitute for effective public policy.
I use the example of the G20 [which] took the initiative for climate-related disclosures. That is all very fine, but it would be much better if they could agree on introducing a kerosene tax, for example. That would be a thousand times more effective.
I think there are basically two strands of sustainability reporting standards. There is the older standards’ focus more on what is it that a company is doing to limit its environmental impact. So what is it doing for the earth, for the public good. Tries to stimulate corporate social responsibility. And then there is another strand — the newer standards that are more looking at what do sustainability issues like climate change mean for the future financial performance of the company? So it looks at the company, rather than to the planet.
So what I said in my speech [is] that I think while it's perfectly legitimate to ask a company to state what it is doing for the planet, I think I'm not sure that that will lead to a lot of change. In the end, business is about making profits, and don't expect the mere financial reporting to lead to drastic changes in strategies of companies.
On the other hand, if a company is in business where sustainability issues can really be a burden on future profits, then I think that sustainability reporting can give more information about those future earnings, future cash flows; and that kind of sustainability reporting I think is more important and can help a company think better about its future and change course in time.
Rowe: Thank you. You mentioned CSR, corporate social responsibility. Is there still a role for that within this area?
Hoogervorst: Yes, I think there will always be some demand for it. I know for example in my own country, the Netherlands, we have some really big pension funds and those pension funds are really interested in investing in enterprises that are socially responsible. So, yes, that has a function as well. I just think that, overall, you know investors will also remain interested in the future returns and for that reason I think that the sustainability standards that give information about the possible financial effects of sustainability issues will lead to more change.
Rowe: There's been a push from some for FASB, the US Financial Accounting Standards Board, and the International Accounting Standards Board to cover ESG reporting. Do you see their role expanding in that way?
Hoogervorst: No, I don't think so. The FASB is really not interested in this area. I've also said in my speech we don't have the expertise to write sustainability standards. However, what we are working on is writing a new set of guidance for companies how to write the front end of their annual report. And in the annual report you obviously want to give broader financial information. You want to give context through your financial statements. Financial statements are very important, but they cannot possibly tell the whole story. They cannot give forward-looking information sufficiently, and they also can say very little about the value of your intangibles, because these are very hard to capture in assets or liabilities.
And for that reason the narrative is also very important. And we think that sustainability issues, as sustainability questions become more and more important, should find a place in an annual report. So we hope that our guidance will help companies tell the story, including sustainability issues if they are there, if they’re material.
Rowe: Thank you. There's been a proliferation of sustainability reporting initiatives. SASB, the Sustainability Accounting Standards Board and the Global Reporting Initiative are just a couple. Has that been helpful?
Hoogervorst: Yes, I think so, because some of these standards are very good — SASB and GRI are both important organisations. I think the main problem is that there are too many of these standards, too many initiatives — there are more than 100 initiatives around sustainability reporting. I think it's high time that there is more consolidation. In the world of financial reporting you have my organisation, the IASB. There are simply too many standards around and I think that's very confusing for companies, so it's high time that there is more consolidation in that area.
Rowe: And what's the role of integrated reporting in this area?
Hoogervorst: I believe that integrated reporting is an important new development. They are trying to pull together all sorts of strands of reporting, including sustainability reporting. We will use the progress that has been made in this respect certainly to update our management commentary practice statement, which is the guidance for the annual report that we are currently developing.
Rowe: And how accurate can climate-related reporting be and does this pose a problem for investors in comparing company performance?
Hoogervorst: Well, I think climate-related reporting looks into the future. Everything that is in the future is less certain. So don't expect the information that that provides to be very exact. That's why a lot of climate-related reporting works with scenarios and sensitivity analyses, and I think that is very useful. So these are all indicators of possible future developments rather than the more exact looking-back function of financial reporting.
Rowe: Thank you. And how do climate-related disclosures help companies focus on long-term value creation?
Hoogervorst: Well, exactly for the reason that climate-related issues pop up in the future. It forces you to think about the future, forces you to think about your business in the perspective of newly arising sustainability issues and possible development of regulation in the world. So it is really important information about the future value of the company.
Rowe: And there's a question of how mandatory should climate-related reporting be? Could you say something about that please?
Hoogervorst: Well, it isn't yet, although in some national and also in the EU legislation companies are at least asked to provide information about sustainability. So there is an element of it being mandatory. However, how precisely that needs to be done and which standards you need to use — that is all still on a voluntary basis. And I do not see that becoming truly mandatory until there is more progress in this field, and as I said before there has to be consolidation of standards. You really have to look at the future in which there is basically one or perhaps two standard setters who make high quality standards that are generally accepted around the world, and I think only then will this become more mandatory than currently is the case.
Rowe: Hans — thank you.
Hoogervorst: OK. Quite welcome.