ESG Reporting to Become Mandatory in Europe

ESG reporting will become mandatory. The problem is that many of those affected do not know how to integrate it into their processes or which software to use for this purpose.

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Climate-neutral by 2050 – that is the EU’s goal

For this to succeed, the economy is also challenged: It must act more sustainably. ESG reporting is intended to make a contribution to this and takes a comprehensive approach to the topic of sustainability. This is because reporting not only discloses how corporate activities affect the environment but also takes a look at the areas of social and corporate governance – in other words, environmental, social, and governance.

In addition, ESG reporting describes how the factors in these three areas affect the company’s market position, performance, and further development, and also the extent to which companies can change themselves and their processes in order to align themselves sustainably.

More and more companies are taking action

A number of companies have already been affected by ESG reporting since this year: All those that employ an average of 500 employees in the fiscal year, whose sales exceed €40 million, or whose total assets amount to at least €20 million. Accordingly, almost 12,000 companies in the EU will have to submit ESG reports for the 2021 reporting year.

Next year, the number will increase more than fourfold because the requirements will change with the revision of the Non-Financial Reporting Directive (NFRD) to the Corporate Sustainability Reporting Directive (CSRD): More than 49,000 companies will then be subject to the reporting obligation. This does not only affect manufacturing industries that emit CO2 during production and have to convert their processes to climate neutrality; the financial sector also plays a flanking role in achieving climate targets because it can steer financial flows in the direction of sustainability.

More and more regulators and associations are therefore increasingly taking credit institutions to task for identifying internal and external sustainability risks. ESG factors are increasingly in demand, as are sustainable investments – in Germany alone, they totaled €335.3 billion last year. ESG reporting should therefore not just be seen as a chore, but also as an opportunity.

The big challenge is to integrate ESG reporting into existing processes. Companies need to clarify where they place the reporting and which system they use for it. The most obvious solution is to integrate ESG reporting into reporting close to the financial statements or directly into the consolidated financial statements and to use the software solutions already in use for this purpose.

Implement EU taxonomy in ERP systems

In order to review economic activities and their environmental, social, and governance impacts, the EU Commission has developed its own taxonomy that classifies six environmental goals and is intended to be used to review economic activities in terms of sustainability.

At least one of the following six objectives must be achieved by the economic activity, and none of the others must be compromised, but rather must meet certain minimum requirements: These include climate change mitigation, adaptation to climate change, sustainable use of water resources, transition to a circular economy, pollution prevention, and finally, protection of ecosystems and biodiversity.

This taxonomy and the associated list of emissions data from 70 economic activities that form the basis for the assessment can be implemented in existing ERP systems. The data required for reporting can then be extracted from the upstream systems via extended export interfaces and automatically transferred to the Group system. If the upstream systems are to remain unchanged, it is also possible to enter the classification of the values manually; the data is then broken down in the system for group reporting.

However, the degree of automation is very low with this approach, and it is also more difficult to record the required information because it is no longer available in granular form in group reporting.

Query additional data in the consolidated financial statements

It, therefore, makes more sense to adapt the upstream systems accordingly. Additional data that is required can be queried directly in the consolidated financial statements system. In order to comment on the individual business activities, it makes sense to use the commenting solution that is already used for financial statement reporting.

The standard tools of the consolidation solution are suitable for subsequently transferring the ESG reporting into the required report layout. Only the special format requirements for ESG reporting need to be taken into account separately: For example, the report should be prepared in the European Single Electronic Format (ESEF format) in the future and include appropriate tagging of the information.

Finally, ESG reporting looks at revenue (turnover), operating expenses (OPEX), and capital expenditures (CAPEX), and is thus done holistically at the company level using consolidated values. In this way, it is possible to check whether – or to what extent – a company complies with the EU taxonomy and its minimum requirements. In addition, companies can also derive options for action for a more sustainable orientation and activity.

This is because reporting encompasses both the inside-out and the outside-in perspective, i.e. the extent to which the company’s activities impact the environment and society, as well as the influence of ESG factors on the company’s profitability and performance. Sustainability and profitability can thus be reconciled.

Challenges can be contained

In order to meet climate targets, the EU is making it mandatory for more and more companies to file ESG reports. The challenge for companies can be kept within limits if they include ESG reporting in their consolidated financial statements or in reporting close to the financial statements.

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(Featured image by geralt via Pixabay)

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First published in IT-BUSINESS, a third-party contributor translated and adapted the article from the original. In case of discrepancy, the original will prevail.

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