What is ESG and how do you comply with sustainability reporting regulations in a timely manner?

As sustainability becomes an increasingly important topic, organizations need to be socially responsible, corporate responsible, and environmentally responsible in their operations. In order to be able to track and demonstrate their targets and progress, many companies are required to prepare and file ESG reports for reporting periods beginning on and after 1 January 2024.

What is ESG (Environmental, social, and corporate governance)?

Given current trends and the responsibility of companies to adapt their activities to climate change, there is a growing understanding of the need to collect and analyze non-financial ESG data.

The European Commission’s decision to adopt the CSRD (Corporate Sustainability Reporting Directive) defines ESG performance as a key indicator of future sustainability reporting.

What does ESG mean?

ESG stands for Environment, Social, and Governance. A commonly used acronym for Sustainability Reporting or Sustainability Disclosure, it refers to a set of factors that define corporate responsibility.

Environmental, social, and governance indicators are the components of a sustainability assessment.

What each of these factors means in the context of ESG reporting will be discussed in the following lines.

1. Environmental performance (Environment)

Measure a company’s sustainability efforts and focus on assessing the company’s environmental impact. This could include the use of renewable energy in offices, resource use in construction carbon emissions caused by logistics, and many other indicators depending on the individual and the context in which it operates.

Some key metrics that measure an organization’s efforts in this category are: 

• Greenhouse Gas Emissions/Carbon Emissions/Carbon Footprint;
• Energy consumption;
• Water Use;
• Waste Management and Recycling/Pollution Control;
• Compliance with environmental regulations;
• Setting emission reduction targets.

2. Social indicators (Social)

“The ‘social’ part of ESG performance relates to the company’s treatment of people. Social metrics look at diversity and inclusion statistics, and how the company fulfills its social responsibilities.

The indirect impact resulting from the company’s activities on employees of suppliers and partners may also be reported.

Some key ESG indicators that may fall under here are:

• Workforce diversity and inclusion indicators;
• Compliance with labor standards;
• Occupational health and safety data;
• Compliance with supplier code of conduct;
• Community investment and philanthropic activities;
• Human rights policies and practices.

3. Governance indicators

A key point about ESG data is that it is specific and different for each industry.

Good governance focuses on promoting ethical behavior, transparency, accountability, and effective decision-making processes within the organization. It aims to ensure that the interests of shareholders, employees, communities, and other stakeholders are adequately represented and protected. Some of the key indicators that fall under the governance component of ESG are:

• Board composition and oversight;
• Remuneration of the management and supervisory bodies;
• Ethics and anti-corruption policies;
• Stakeholder engagement and rights;
• Business Ethics;
• Transparency and Accountability;
• Compliance and regulatory compliance.

Monitoring and evaluating these governance indicators can provide insight into the strength and effectiveness of a company’s governance practices, which is critical for investors and stakeholders in making informed decisions and promoting sustainable business practices.

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ESG reporting objectives

The primary objective is to provide information on the extent to which an economic entity manages its environmental impact, social responsibility, and corporate governance. 

Companies with a good ESG rating are often more attractive to consumers, investors, and employees. Conversely, companies that violate ESG standards risk reputational damage and even legal penalties.

ESG reporting aims to create a framework through which organizations can demonstrate their commitment to creating long-term value, fostering trust, and aligning their business strategies with sustainability goals.

The path to a reporting standard: the European Corporate Sustainability Reporting Directive (CSRD)

The Corporate Sustainability Reporting Directive (CSRD), adopted by the European Commission, extends the existing reporting framework to more companies by including the reporting of environmental impact data. The extension is designed to report on the company’s environmentally sustainable economic activities to the board Sustainability reports are also subject to sustainability audits. The CSRD is due to apply for the 2024 financial year.

Non-financial reporting is an incentive for companies to rethink their climate and environmental goals, and in general about their ESG actions. With publicly available data, the goal is for organizations to take increasingly targeted actions for a more sustainable future.

A general framework for ESG reporting

Sustainability reporting regulations can be challenging, but to facilitate this, several frameworks provide some level of standardization on this broad and complex topic.

The existence of these frameworks is a challenge in itself, as the sheer number of different guidelines makes it difficult to understand which ones are applicable.

The most important highlights to know are:

CSRD (Corporate Sustainability Reporting Directive)

• It stands for Corporate Sustainability Reporting Directive;
• Replaces NFRD (Non-financial Reporting Directive);
• Enters into force in 2024;
• Contains more specific reporting requirements;
• External audit is mandatory;
• Requires numerical tagging of data in line with ESEF;
• Applicable to more organizations;
• Part of the governance report.

ESRS (European Sustainability Reporting Standards)

• Stands for ‘European Sustainability Reporting Standards’;
• An additional part of the CSRD consisting of 12 standards;
• ESRS 1 provides general guidance with no specific requirements;
• ESRS 2 is mandatory for all companies subject to CSRD;
• All other requirements are subject to a double materiality assessment.

EU Taxonomy

• For the most part, this is a voluntary framework. Companies that are covered by the NFRD, and in the future will be covered by the CSRD, are required to disclose.
• The framework is based on 6 objectives:

1. Climate change mitigation
2. Adapt to the impacts of climate change
3. Sustainable use and conservation of water and marine resources
4. Transition to a circular economy
5. Pollution prevention and control
6. Conservation and restoration of biodiversity and ecosystems

• Within this framework, there are 3 key performance indicators to be considered:
  • Turnover: what percentage of the company’s turnover is in line with the taxonomy objectives;
  • Capital expenditure: What percentage of the company’s capital expenditure is in line with the taxonomy objectives;
  • OpEx: What percentage of the company’s operating expenses are consistent with the taxonomy’s objectives?
• In addition to the 6 objectives and 3 KPIs, it is also categorized by the Do No Significant Harm (DNSH) objective, which means that the harm caused by a company initiative cannot outweigh the benefits.

IFRS Sustainability disclosure standards

Two standards were created on 26 June 2023 by the International Sustainability Standards Board (ISSB), intended to be applied together but covering different areas.

IFRS S1

Consists of core sustainability reporting standards. Requires disclosure of material information about sustainability risks and opportunities alongside financial statements. Industry-specific disclosures should be used in addition to SASB standards for guidance.

Reference should be made to external sources to identify sustainability-related risks and opportunities (excluding IFRS S2). Provide disclosures that link resilience risks and opportunities to the financial statements. Not limited by GAAP requirements.

IFRS S2

Strategy disclosures should distinguish between physical and transitional risks. Disclosure of plans to address climate-related risks and opportunities, including compliance with legal and regulatory objectives.

Conduct scenario analysis to explain the potential impacts of climate-related events on the business. Incorporate climate-related metrics and targets, such as GHG emissions (cross-industry), industry metrics, and company-specific metrics used by the board or management to measure progress.

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Which companies are required to prepare and submit ESG reports?

2024 is the first year in which Sustainability Reports under the CSRD are mandatory for certain companies. The companies that are required to include sustainability disclosures in their reports are those that are currently required to prepare a non-financial disclosure – these are all companies with more than 500 employees engaged in public interest activities.

In May 2023, the European Commission changed the threshold for companies that will be required to prepare ESG reports from 2025 and 2026.

According to the changes adopted in 2025, all large enterprises meeting two of the following conditions will be added to this scope:

• have more than 250 employees;
• they have a total balance sheet of more than EUR 25 million;
• have net revenues of more than EUR 50 million.

As of 2027, all small and medium-sized enterprises whose securities are admitted to trading on a regulated market in the EC and meet two of the following conditions will be added to the companies that will be required to produce EG statements (starting in 2026):

• have more than 10 employees;
• the total amount of their balance sheet exceeds EUR 450 000;
• their net turnover is over EUR 900 000.

How to meet ESG reporting requirements on time?

Using ESG reporting software is crucial for several reasons.

Firstly, it allows organizations to accurately measure and track their ESG performance, enabling them to identify strengths and weaknesses in their sustainability efforts.

Second, the software provides a centralized location for data collection, analysis, and reporting, simplifying the process of complying with ESG regulations.

The use of ESG reporting software promotes better decision-making, enabling organizations to drive positive environmental, social, and corporate governance change.

More on ESG reporting software and how to choose the right solution for your company coming soon on the Balkan Services blog.

No business nowadays can grow and be competitive without the use of IT systems. Choosing the right software solution and implementing it is a complex, difficult but critically important decision.

At Balkan Services we have expert knowledge of business, technology, and legislation, and we speak all three languages. We will listen carefully and advise you on choosing the right business system for your needs.

Balkan Services has been supporting businesses on their digital transformation journey since 2006. We have already helped more than 390 companies to digitalize their business by implementing well-established software solutions and IT infrastructure management.

Source: The blog of our partner LucaNet