How small is too small to report on material ESG issues?
In a recent podcast, Emmanuel Faber, chair of the International Sustainability Standards Board (ISSB) shared many enlightening insights about the IFRS Sustainability Disclosure Standards (IFRS S1 on general sustainability-related financial disclosures and IFRS S2 on climate-related disclosures). I am a fan of his work and his obvious dedication and tireless efforts to advance a cause that is ultimately for the greater good: sustainability disclosures will not solve all the world’s problems, but they are a necessary component of driving systems change.
During the interview, Mr. Faber also related his personal experience as former CEO of Danone, explaining how the company came to embrace a sustainability-driven business model many years ago, well before it was a ‘thing’. In closing this topic, he candidly reflected that “the longer a company has been around, the more established its reputation, brand and size, the more it can and should think about how solid, sustainable, long-term it is.”
I thought that this was a slippery slope… one that Mr. Faber willingly slid down when he added “if you are a smaller company, I don’t think you should be doing the same. The agenda, given the size and level of development, cannot be the same on sustainability and we need to look at it in a very pragmatic manner. This is why we are not saying that very small companies should do them. I think our standards are too complex the way they are to apply to groups of companies that are too small.”
How small is too small to think about being sustainable?
If one adheres to the premise that identifying and managing their material environmental, social, and governance (ESG) issues is good risk [and opportunity] management and value creating for companies – in fact it’s the very reason why investors integrate ESG considerations into their investment decisions and therefore require decision-useful information – how can good management and value creation remain the exclusive privilege of large companies?
I would think it should be the other way around: integrating sustainability should be easier for smaller businesses. In fact, sustainability should be integrated from conception and inception, so that a business becoming profitable by benefitting from environmental or social externalities or by generating negative impacts should not be allowed to exist in the first place.
If we followed Mr. Faber’s logic, we would be encouraging startups, such as this company harvesting glacier ice in Greenland and shipping it 9,000 nautical miles to be made into ice cubes for hotel drinks in Dubai; we would wait until it was profitable to pick up reporting standards to assess its material risks and opportunities across its value chain and over the long term… Surely we can do better than that.
If we exclude small companies, we’re missing a big piece of the puzzle
Small businesses represent roughly 90% of all companies and are responsible for 50% of employment worldwide, as well as up to 40% of GDP in emerging markets. In Canada, 98% of the 1.2 million employer businesses are small businesses with less than 100 employees. They account for two-thirds of the private labour force.
In every country, small companies are important system constituents. They have a role to play in addressing system-level issues and achieving a state of sustainability, and by the same token stand to benefit themselves from addressing the sustainability-related risks and opportunities associated with their activities. We should be doing everything we can to bring them along in the paradigm shift towards double materiality assessment and regulated, standardized, and audited disclosure practices.
IFRS SDS are intended to be universal, let’s keep it that way
Mr. Faber’s statements run counter to the language of the IFRS Sustainability Disclosure Standards, which was very carefully crafted to be as accommodating as possible, precisely because the intention was to create a realistic ‘global baseline’ of disclosures, with standards that could be implemented by companies of all sizes. IFRS S1 states that:
(Art. 37) In preparing disclosures about the anticipated financial effects of a sustainability- related risk or opportunity, an entity shall: (a) use all reasonable and supportable information that is available to the entity at the reporting date without undue cost or effort; and (b) use an approach that is commensurate with the skills, capabilities and resources that are available to the entity for preparing those disclosures.
(Art. B10) An entity need not undertake an exhaustive search for information to identify sustainability-related risks and opportunities that could reasonably be expected to affect the entity’s prospects. The assessment of what constitutes undue cost or effort depends on the entity’s specific circumstances and requires a balanced consideration of the costs and efforts for the entity and the benefits of the resulting information for primary users. That assessment can change over time as circumstances change.
On its FAQ website, the IFRS Foundation further specifies that :
The requirements in IFRS Sustainability Disclosure Standards are designed to be proportionate—that is, a company is required to use an approach that ‘scales’ or is commensurate with its available skills, capabilities and resources. For example, a smaller company with limited resources and limited experience of sustainability reporting may not be able to disclose to the same level as a larger company with substantial resources and extensive experience of sustainability reporting. However, over time the ISSB expects that companies with limited skills and capabilities will be able to further advance and improve their reporting.
The requirement to use ‘all reasonable and supportable information that is available … without undue cost or effort’ is designed to ease concerns around the need for flawless data. More specifically, it is intended to support preparers in dealing with measurement uncertainty and to scale the requirements in IFRS S1 and IFRS S2 specifically for companies with fewer resources, which could include small companies, companies new to sustainability reporting, and companies operating in jurisdictions where capital markets are less developed or that have had little exposure to (or experience with) sustainability reporting.
No business is too small to adopt a sustainability-driven business model. Whether or not small companies need to disclose information about their sustainability-related performance is not determined by their size, but by whether or not someone is wanting/needing information to make their decisions pertaining to the company. Once that happens, companies should apply appropriate disclosure standards, commensurate with their capabilities and resources. Those can be the IFRS SDS, or the European reporting standards for small- and medium-sized enterprises.