Sustainability has become increasingly popular, especially with younger generations who want to ensure the world is a safe place to live for their children and grandchildren. In recent years there have been many key regulations put in place to govern companies and monitor the impact their operational practices have on the environment.
What is CSRD?
With an influx of interest surrounding environmental issues, the European Union (EU) implemented a new regulation called the Corporate Sustainability Reporting Directive (CSRD) to track and manage data regarding the environmental impact companies are causing through their daily operations. The CSRD initiative is being expanded to include more companies and stricter parameters on their reporting.
ESG and How it Impacts CSRD
ESG stands for Environmental, Social, and Governance and quantifies the social and environmental impact that organizations cause with their business practices. By early 2024, the EU parliament is requiring sustainability reporting for every company of a particular size, with the end goal of requiring all companies to report their sustainability in the future.
ESG is a great way to attract financing and investors because, for the most part, companies want to be ethical and environmentally responsible. ESG performance reports are a great way to shine in the public eye, show that your company cares about the carbon footprint it is leaving on the world, and attract future investors.
The European Union currently has the most comprehensive collection of ESG regulations which was created to help deliver on the EU’s promise to fight environmental degradation and climate change. The EU’s goal is:
- By 2050, to eliminate emissions from greenhouse gasses
- Leave no place or person behind
- Disassociate resource use and economic growth
ESG versus Sustainability
These terms are commonly used to mean the same thing, but there are a few differences that should be noted:
- Sustainability is the relationship between a business and the environment, whereas ESG includes corruption and social responsibility in that relationship.
- ESG is an outside financial investment system, or a type of metric, that aids in the assessment of the performance and risk of a firm by investors and helps businesses communicate their actions. Contrarily, sustainability is viewed as an internal structure that directs the company’s capital expenditures. In short, sustainability serves as the driving force and ESG serves as the reported result.
- ESG serves as a reporting system, so companies that are publicly traded will look attractive to investors and financiers.
What is Changing and Who is Affected?
CSRD is built upon previous regulations to expand the depth and scope of companies impacted. Some of what is included in the CSRD are:
Climate and societal impact – companies will be required to report risks related to climate change and the effect those risks could have on the climate and society. A new approach for international and U.S. companies that are unaccustomed to these regulations will be implemented.
Supply chain information – the CSRD initiative will require reporting sustainable information through a company’s supply chain (Scope 3). Currently, many U.S. companies do not report or only report their Scope 1 or 2 emissions. There are reporting exemptions that should be noted.
Third-party quality assurance – A third-party audit or other independent assurance service provider’s verification will evaluate the procedures a business has in place for acquiring data. Ensuring reliable data-gathering procedures and a trustworthy data trail will ultimately necessitate the digitalization of data and compel businesses to make technology investments. Both the parent scoping for the EU and non-EU are consistent with this. Limited assurance will do for now, but the European Commission wants to eventually switch to reasonable assurance.
Varying-sized companies will be affected – Between 2024 and 2029, about 50,000 European Union companies of every size must implement the new CSRD rules.
Transferring information for sustainable reporting will be more efficient and easier to stay in compliance with CSRD through digitization. Going digital for files and reports will ultimately save companies money in the long run and save time by promoting accessibility, transparency, and accountability.
In compliance with the European Single Electronic Format Regulation, businesses must employ XHTML formatting when preparing their reports. Through a digital categorization system that should be created in conjunction with the European Sustainability Reporting Standards (ESRS), companies are also expected to tag sustainability information inside the report.
Cost is one downside to digitization because the short-term cost will be higher. Regardless, there may be an increased cost for companies because of the increasing demand for sustainability information. With intentions of incorporating and harmonizing reporting standards over the medium- to long-term, short-term expenditures are probably going to be minimized at the same time.
Who Will Be Affected by this Initiative?
The CSRD will largely affect businesses with headquarters in the European Union (including Iceland, Norway, and Liechtenstein), but it will also apply to non-EU businesses that have sizable operations there.
What Should I Do Right Now?
For industries that are impacted by the sustainability regulations environment, implementing proactive steps now could prove to be beneficial. Some recommended actions include:
- Familiarize yourself with CSRD regulations – Study Scope 3 and CSRD so you understand the reporting expectations. Being fully transparent and prepared for these changes could be favorable for investors and stakeholders.
- Collaborate with peers – Learn how other companies in your industry are participating in Scope 3 emissions and their approach to reporting sustainability practices. U.S. businesses can gain insight using the CSRD regulation to learn how their E.U. companies report Scope 3 emissions and sustainability for future knowledge when the SEC updates its requirements.
The number of ESG-related laws will keep growing over the next five years, and deadlines will quickly approach for implementing current requirements. Companies may also face difficulties soon due to rising expenses and complexity associated with international standards and frameworks.
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