Companies and auditors are still flying blind – better co-working is needed between finance and sustainability for more coherent reportingDr. Jane Thostrup Jagd, Deputy Director, Net Zero Finance, We Mean Business Coalition
Some 98% of multinationals are not providing sufficient evidence that their financial statements include climate impacts. While 96% of company audits reviewed do not provide comprehensive evidence that they have considered these issues. What can be done to address the lack of information? And how can companies and their auditors meet investors’ urgent need to understand the impacts of material climate-related issues on financial reporting?
These were some of the important issues discussed during this morning’s COP27 Business Pavilion for Climate Leadership event hosted by Carbon Tracker Initiative and Climate Action 100+. Titled Accounting for Climate: What are we still missing? 2022 Dialogue Meeting, the event was one of a number of finance-themed events taking place at the pavilion throughout the day.
The panel discussed how companies and auditors can best provide transparent and consistent climate-related information in their financial reports. This is critical because failure to provide this information raises questions about whether companies are reflecting the financial consequences of climate risk and the energy transition.
The analysis: huge gaps in corporate accounts
During the event, Carbon Tracker introduced the results of its latest analysis of corporate accounts: Still Flying Blind: The Absence of Climate Risk in Financial Reporting. This is the second year Carbon Tracker has performed the analysis, using the new CA100+ Climate Accounting and Audit Alignment Assessment.
Unfortunately, the latest analysis shows that of 134 multinational companies responsible for up to 80% of corporate industrial greenhouse gas emissions, the majority (98%) did not provide sufficient evidence that their financial statements include the impacts to their business from climate change.
One of the most spectacular insights from the analysis was that 96% of the audit reports reviewed did not indicate whether and how auditors considered the impact of factors such as emissions reduction targets, changes to regulations, or declining demand for company products when auditing these companies. Only one auditor provided comprehensive evidence of consideration of climate change and highlighted inconsistencies in the company reporting. Five provided this information partially. The rest did not.
Notably, there are significant geographical differences. None of the auditors of the 46 US companies reviewed provided evidence that they comprehensively considered the impacts of climate matters in such audits. There are also some, perhaps surprising, sector specific differences. Companies operating in the energy sector cluster (including oil and gas companies and utilities) continue to score the highest in terms of transparency of reporting.
Coherence in company reports is an investor need
Addressing the omission of climate impacts from financial reporting, and aligning financial and sustainability/ESG (environmental, social and governance) reporting will be better for the climate, investors and companies themselves. That’s why We Mean Business Coalition strongly urges both companies and their auditors to consider the impact from climate change on a company’s financial position now and in the future.
This means companies need to account for the risks and opportunities of climate impacts for their business, which is also one of the main purposes of the framework from TCFD (Taskforce on Climate-related Financial Disclosure). And, in fact, this financial requirement is already part of both US GAAP (General Accepted Accounting Principles) and IFRS (International Financial Reporting Standards).
If it can be foreseen that the company is exposed to risks – in this case from climate change – then these risks should be considered within its financial report, so investors and other stakeholders have the complete picture. For instance, impairment tests of assets should take into account that assets may become stranded or overvalued as a result of the clean energy transition. There may be asset retirement obligations if a company will need to remove infrastructure and clean-up sites in order to shift to a less polluting asset, so as to achieve its emissions targets.
In addition, investors should be able to expect that a company’s reporting is coherent – regardless of whether the individual report is named a financial, sustainability or ESG report. Although a significant majority of the companies included in Carbon Tracker’s analysis had set emission targets or had ambitions to achieve net zero emissions by 2050 or sooner outlined in their sustainability or ESG reporting, just 2% of companies had aligned the information in their financial statements with achieving this drive.
Finally, TCFD is the basis for the upcoming ESG reporting legislation and standards from the US SEC (Securities and Exchange Commission), EU and ISSB (International Sustainability Standards Board). The new requirements from all these standard setters and regulators are now out in draft. Therefore, companies and their auditors will need to align their reporting in coming years, making considerations of coherence between the financial and ESG reporting even more pressing.
Much stronger co-work is needed
What can companies and their auditors do to ensure they are no longer flying blind? We need to see much stronger co-working between the finance and the sustainability departments within companies and auditor houses. It is no longer advisable to have these groups of employees in separate systems and different departments, where they perhaps never meet. They should be working together towards a shared aim of investor-useful and coherent financial and sustainability/ESG reporting.
As Natasha Landell-Mills of Sarasin and Partners stated at the beginning of today’s session: “If we ignore climate change, we will all suffer the consequences. Clearly many actions are needed but when it comes to business and investment, I would suggest that we start by getting the numbers right.”
Only then will investors be able to find the most profitable companies with the best climate risk profile – ensuring capital is deployed to companies aligned with a net zero world.
For more discussion of how to accelerate the transition to a net zero economy, join the COP27 Business Pavilion in person or via livestream, November 8-17, 2022.