AUTHOR – Jessica Di Bartolomeo
How regulated financial grade greenhouse gas reporting and assurance will shape corporate disclosure processes
Proposed regulations to integrate corporate climate risk disclosures in annual financial reporting, including the requirements the U.S. SEC put forth last year, are likely to enhance the rigour of greenhouse gas (GHG) reporting compared to voluntary practices, with the aim of making disclosures more comparable and consistent. In parallel, the International Sustainability Standards Board (ISSB) is setting structures for robust sustainability and climate-related reporting at the caliber of financial reports. Here, we unpack how new climate disclosure requirements will shape the processes that go into preparing auditable climate-related disclosures and what structures GHG tracking tools need to provide to support these changes.
A higher grade of reporting
Regulating disclosures on climate-related financial risks requires a grade of GHG reporting that is relevant to investors. In other words, the disclosures must provide sufficient confidence for investors to use them as a basis for decision-making. It follows that reporting companies1 need to instate processes to track emissions that ensure their disclosures provide information that is reliable for financial decisions and that a third-party can attest to.
The push to implement processes that improve the likelihood of producing reliable information has existed for decades2 in financial reporting to protect investors. Its extension into climate-related reporting exemplifies the importance of climate risks for financial information and the increased rigor required for regulated disclosures.
Disclosing with confidence
If financial grade reporting is distinguished by robust processes, including the actions a reporting company takes to track and report on GHG emissions and the checks they put in place to demonstrate they used complete data, then understanding these steps is key to identifying ways to improve the quality of reporting.
One such process is the controls that a reporter has in place, that is, the mechanisms and procedures that ensure the accuracy of a disclosure. These procedures can include comparing a subset of emissions against the equivalent value from the previous reporting period. Controls illustrate how a reporter reduces the risk of an error that would influence a financial decision, that is, a material error. While jurisdictions vary in how they word their definition of materiality3, information is material if a ‘reasonable investor’ would consider it important in its financial decisions. Reducing the risk of an error that would influence a financial decision therefore allows the investor to have more confidence in the reported information.
Since controls aim to reduce the risk of a material error, which in turn means higher confidence in the disclosure, it follows that proper controls increase confidence in the disclosure. Therefore, robust controls demonstrate to investors, and to regulators tasked with protecting them, why they can use the end result to inform a financial decision.
The proof in the attestation
To provide an additional layer of confidence to investors, a reporting company may voluntarily or by obligation seek out an independent third-party that can attest to the reliability of their disclosure.
There are multiple types of engagements that provide distinct levels of assurance, namely limited and reasonable assurance. The SEC, for instance, has proposed that accelerated filers phase in limited and reasonable assurance for their scope 1 and scope 2 emissions4. The European Financial Reporting Advisory Group (EFRAG) has proposed similar phase-ins for limited and reasonable assurance5 on disclosure to their environmental standards under the Corporate Sustainability Reporting Directive (CSRD).
The focus of assurance requirements points to the components of climate-related financial information that make disclosures reliable. Therefore, looking to them to design internal processes will help reporting companies meet financial grade reporting requirements.
In fact, it is examining the processes discussed here that differentiates a reasonable attestation engagement from a limited attestation engagement.
Limited assurance engagements primarily include procedures such as inquiries and analytical procedures and do not necessarily include a consideration of whether internal controls have been effectively designed, whereas reasonable assurance engagements require the assurance service provider to consider and obtain an understanding of internal controls. More extensive testing procedures beyond inquiries and analytical procedures, including recalculation and verification of data inputs, are also required in reasonable assurance engagements, such as inspecting source documents that support transactions selected on a sample basis. (SEC, p.231 footnote 604. Emphasis ours.)
Designing robust processes to track and report on greenhouse gas emissions therefore prepares a reporting company for a higher assurance level, and higher confidence, in disclosed GHG emissions.
As in financial reporting, these internal controls will involve comparing results to those in historical years. Although proposed limited and reasonable assurance requirements are likely to be phased in, the SEC has asked that a registrant provide the same historical information as in its financial statements as reasonably available. Therefore, GHG disclosures in the years prior to the proposed first attestation requirements will need to have the same robust processes in place.
Preparing your emissions reporting processes
We have demonstrated the importance of internal processes to track and report GHG emissions by examining how robust controls reduce the risk of material errors and increase investor confidence in disclosed information for making financial decisions. We have also highlighted how high standards of third-party assurance evaluate these very processes.
The choice of tools to manage GHG tracking for financial grade reporting will therefore need to support the proper processes to reduce the risk of errors such that it is relevant for investor-grade reporting, and do so prior to the phase-in of any regulated attestation requirements. These tools will need to facilitate providing the information required by a third-party auditor, including a view of comparing historical information, internal data controls, and full calculations.
The Ecometrica Platform embeds such financial grade controls in the reporting process with an integrated workflow for providing feedback and approving results. The Platform therefore has the structure in place to support internal checks to reduce the risk of error and provide confidence in the accuracy and completeness of the result. The controls on our own database of emissions factors and calculation methodologies are annually assured by PwC. The Platform also provides each step in the calculation pathway for transparency, with capacity to attach and centralize supporting evidence to test and review samples and ensure consistency year-on-year. These features are there to help prepare for an independent third-party to assure your disclosures or to simply to meet high standards of reporting.
Contact us about how to prepare for your financial grade GHG disclosures here.
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1Reporting companies: For the proposed SEC rule, reporting companies would include:
Large Accelerated Filers : Public float of $700 million and greater
Accelerated Filers : Public float of $75 million to less than $700 million and Annual revenues of $100 million or more
Non-accelerated Filers : Public float of $75 million to less than $700 million and Annual revenues of less than $100 million or Public float of less than $75 million
Smaller reporting companies : Public float of less than $250 million or less than $100 million in annual revenues and no public float or public float of less than $700 million
2See as an example on the timeline of corporate financial disclosures: Turning Down the Heat on the ESG Debate: Separating Material Risk Disclosures from Salient Political Issues
3Note that the U.S. SEC and Canadian Securities Administrators have different definitions of materiality. See https://www.esgglobaladvisors.com/news-views/a-comparative-analysis-of-u-s-sec-and-canadian-csa-climate-disclosure-proposals/
4See timeline in Appendix
5See https://ec.europa.eu/commission/presscorner/detail/en/SPEECH_22_7566
Reading Time: 8 Minutes
Date Published: February 7, 2023
TLDR:
Significant moves are being made towards standardising climate disclosure requirements by the International Sustainability Standards Board (ISSB). They are setting out structures for robust sustainability and climate-related reporting so that they are conducted with the same rigour as financial reports. This will also globally consolidate sustainability reporting and eliminate the need to produce multiple reports for private and public regulators.
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