The EU’s new corporate reporting directive should give fund managers and other investors the transparent sustainability information they have long desired – but they will be held to account for what they do with it, says Dr Matthew Bell, EY global climate change and sustainability services leader.
The EU’s landmark Corporate Sustainability Reporting Directive (CSRD) comes into force in a phased approach next year. The directive is a game-changer in corporate reporting since it will require nearly 50,000 European companies within scope to report on a wide range of sustainability-related matters that are relevant and material to their business.
It’s widely acknowledged that the CSRD is momentous for companies. What is less discussed, however, is that the directive is just as significant for the fund management industry. For years, investors have been calling for more consistent, comparable and reliable sustainability reporting, with better disclosure of the material risks facing businesses. But what will the advent of CSRD reporting mean for them now they are finally getting the conformity and disclosure they have long desired? The answer is that it will be both an opportunity and a challenge.
With many investors aligning to seismic sustainability targets, like the 301 signatories to the Net Zero Assets Alliance (with $59 trillion in assets under management), implementing the CSRD will pose a new challenge. It will shine a spotlight on their progress to date, or lack thereof, as greater transparency emerges on the exposure of portfolio companies to climate risk and whether they’re aligned to Net Zero trajectories. Certainly, fund stakeholders – including their customers and regulators – will expect them to use the information reported strategically that demonstrates how they’re accelerating the shift to a more sustainable economy.
ESG scrutiny: Fact versus fantasyAccording to the latest EY Global Corporate Reporting and Institutional Investor Survey, 99% of investors already use companies’ ESG disclosures in their investment decision-making. Unfortunately, however, this focus appears to have a limited impact on driving companies to become more sustainable. Only around half of finance leaders surveyed for the research (55%) said that investors were increasing their scrutiny of the company’s performance against ESG goals.
The EY research also found that over three-quarters of investors (78%) believe companies should forego short-term profitability to achieve long-term sustainability objectives. Companies tell a different story, however. They say that while investors claim to prioritize long-term sustainability, in practice, investors are paying insufficient attention to material risks and remain overly focused on short-term results. Over half of the large companies surveyed for the research (those with revenues of more than $10 billion a year) said they face short-term earnings pressure from investors, which impedes their longer-term investments in sustainability.
As a result of the CSRD, investors will increasingly find themselves in the spotlight over sustainability – in the same way that companies have been. Their stakeholders will expect them to scrutinize the sustainability performance of companies and hold those companies to account when they don’t deliver on their net zero targets or effectively manage their environmental, social, or economic sustainability risks. They will also be expected to encourage companies to pursue the myriad business opportunities associated with sustainability actively.
To add to the pressure on investors, it is not just the CSRD that will force them to prove the authenticity of their sustainability credentials. The EU’s proposed Corporate Sustainability Due Diligence Directive (CSDDD) will require companies to meet due diligence requirements concerning human rights and environmental standards in their supply chains. This will unveil yet more about the true sustainability of each organization’s supply chain. As a result, investors will need to consider how they will respond to specific supply chain risks as disclosed by companies. For example, will they change their investment mandate should a threat such as child labour be systemically exposed in a particular sector?
CSRD: Time for actionEffectively the CSRD and the proposed CSDDD leave investors with nowhere to hide. Like the companies they invest in, they should turn their warm words on sustainability into concrete actions. If they fail to do so, they risk being exposed as ‘greenwishers’ at best and ‘greenwashers’ at worst – with all the reputational and financial consequences that those terms entail.
So, what actions should they take? Firstly, they should develop their understanding of the information available to them under the CSRD and the CSDDD, as well as the implications of having that information. Then they should put in place the systems and processes that will enable them to assess companies’ sustainability properly and genuinely embed sustainability considerations into their decision-making processes so that they help to accelerate the transition to a more socially and environmentally friendly economy.
Finally, there is no time to waste. Vital investment decisions should be taken today for our planet to be sustainable tomorrow. Investors should start preparing now for the implementation of the CSRD.
*Matthew Bell is EY's global leader of climate change and sustainability services.
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