When Mark Carney launched the Task Force on Climate-related Financial Disclosures (TCFD), he thought it would be instrumental in navigating the economy and society away from a tragic horizon impacted by dangerous climate change. We now have just three months to go until the Task Force publishes its recommendations. These are expected to focus on disclosure in firms’ mainstream financial filings, and CDP and CDSB look forward to the task of implementing these recommendations, so we can make climate-risk disclosure mainstream.
The mainstream report is evolving
The mainstream model comprises the reporting requirements and practices in the annual audited financial results governed by the corporate, compliance or securities laws of the relevant countries. For many years, it has been the primary source of authoritative information for investors. The standards for the preparation of financial statements are mature and the infrastructure embedded into corporate practice.
As the external landscape has changed and crises struck, the mainstream report has evolved to cover reporting organization’s relationship with communities and its environmental record and ethical policies, for example.
Financial results alone are no longer deemed sufficient to assess corporate performance. There are now new performance measures - social impact and most importantly businesses’ contribution to and mitigation of climate change.
The objective is to ensure there is not overload and pertinent information is not obscured. The challenge for the TCFD and for the reporting community will be to determine how best to add more or new information on climate change to mainstream reports without exacerbating the perception of clutter.
In the US, the SEC already requires inclusion of climate change information in mainstream (10-K) reports where it is material. Despite the specificity and authority of the SEC’s guidance, research by Ceres found that about 40% of S&P 500 companies are silent on the subject of climate change in their mainstream reports. Those that do report provide little discussion of material issues and do not quantify impacts or risks, and most S&P 500 companies that disclose via CDP’s reporting system provide significantly more information through that channel than in their mainstream reports.
So what are the implications for the Task Force of this potential lack of engagement and how can we make this work better?
We outline three key elements for the reporting community to consider:
1. Prepare reporting infrastructure
The Phase 1 report hinted that the TCFD expects existing infrastructure to be used where possible for climate change and that “such disclosures should be subject to internal governance processes that are the same or substantially similar to those used for financial reporting.” The reporting community will need to consider what this means in practice.
Whereas financial reporting infrastructure is well developed, it is not always capable of being adapted to non-financial reporting and there is little or no equivalent infrastructure specifically aimed at climate change-related reporting.
To support successful implementation of the Task Force’s recommendations, the reporting community could work on a practical set of recommendations designed to help companies with the process of gathering and organizing information in preparation for mainstream reporting.
Although there is no indication that climate related-financial disclosures recommended by the Task Force will need to be assured, by being presented in the mainstream report, they will at least be read by the financial statement auditor and more sophisticated infrastructure will be required to pave the way for assurance.
2. Practical integration of climate change information into mainstream reports
To support successful implementation of the Task Force’s recommendations, the reporting community could work on practical guidance to show how climate change-related financial information could best be incorporated into mainstream reports.
Sustainability practitioners who are likely to be involved in the reporting process might not be familiar with the structure, rationale and expectations of the mainstream report, nor where or how information should be presented. The development of templates by the reporting community could prove particularly helpful. The mainstream reporting model (without climate disclosures) is already under review in many jurisdictions. The reporting community will therefore need to think about how best to incorporate climate information into a moving target.
3. Materiality
Climate risk reporting in mainstream reports has not always been successful even where legislators such as the SEC have issued guidance clarifying reporting requirements. One possible reason for this is that management may conclude that climate change does not present material risks over the business time horizons/scenarios they consider. CDSB’s research into the FTSE 350’s response to UK law requiring disclosure of greenhouse gas emissions and other environmental information found that 44% of companies that did not disclose information cited materiality as the main driver.
The TCFD’s Phase 1 report acknowledges the “considerable disagreement over what constitutes a “material” climate risk that triggers disclosure requirements in most jurisdictions”, despite the fact that existing laws already require disclosure of material climate-related risk.
The reporting community can help drive this forward by developing guidance that helps companies to distinguish between reporting content that is material to the performance and prospects of the reporting company (i.e. entity-specific information); and reporting content that is material at aggregate/system-wide level.
Collaboration is key
There is a crucial role to play to ensure the success of the TCFD’s recommendations and create a reporting landscape where decision-useful information is disclosed through the mainstream report. CDP and our sister organization CDSB have been working on creating the infrastructure needed for reporting and developing a community of best practice in mainstream reporting to lead to common practice. Other members of this community have also been equally instrumental in the evolution of reporting and as a result, many of the building blocks needed to support the implementation of the TCFD’s recommendations now exist. We must now work together towards a happier horizon.