Worldwide: International Sustainability Standards Board ("ISSB") Publishes Global Sustainability Disclosure Standards

On 26 June 2023, the ISSB issued its inaugural standards concerning sustainability-related disclosures for international capital markets: IFRS S1 General Requirements for Disclosure of Sustainability-related Financial Information ("IFRS S1") and IFRS S2 Climate-related Disclosures ("IFRS S2") (together, the "ISSB Standards"). The UK's Financial Conduct Authority ("FCA") published a statement on the same day emphasising that it intends to update its climate-related disclosure rules to reference the ISSB Standards stating that the ISSB Standards answer "the clear market demand for complete, consistent, comparable and reliable corporate sustainability disclosures".

Whether or not the ISSB Standards eventually become the international harmonising framework for corporate sustainability disclosures is certainly debateable, but it is worth noting that the UK Government has consistently signalled its strong support of the ISSB Standards and with over 40 jurisdictions backing the creation of the ISSB, it suggests that the ISSB Standards may eventually fill the role of the global sustainability standards leader, in what is currently a frustratingly fractured reporting landscape for many.

Background to the ISSB

The Trustees of the International Financial Reporting Standards Foundation ("IFRS") announced the formation of the ISSB on 3 November 2021 at COP26 in Glasgow. The IFRS, which has been known by several names since its creation in the 1970s, has a primary purpose of developing and promoting accounting standards – with a focus on long-term financial stability in the global economy.

It has long been identified by many stakeholders acting within international financial markets that the increasingly fragmented framework of voluntary sustainability-related reporting standards causes significant issues from a compliance perspective and is particularly confusing for investors, seeking comparability and transparency in disclosures in order to inform investment decisions.

When the ISSB was launched, with support from the G7, the G20 and the International Organization of Securities Commissions ("IOSCO") it set out four key objectives:

• to develop standards for a global baseline of sustainability disclosures;
• to meet the information needs of investors;
• to enable companies to provide comprehensive sustainability information to global capital markets; and
• to facilitate interoperability with disclosures that are jurisdiction-specific and/or aimed at broader stakeholder groups.

As set out by the ISSB's Chair, Emmanuel Faber, in an interview, within the context of seeking to establish a 'global baseline', the ISSB Standards "have been developed by consolidating voluntary initiatives". This means that the ISSB Standards are built on work that has already been undertaken in this area "including the industry specific SASB standards (which now form part of the IFRS), as well as the TCFD recommendations, so companies that have already adopted these will be in a great place to apply IFRS S1 and IFRS S2."

The IFRS has also worked closely with EU advisory group EFRAG in developing the European Sustainability Reporting Standards ("ESRS"), being the standards that organisations in the scope of the EU's Corporate Sustainability Reporting Directive ("CSRD") will need to report. Some key differences in approach exist between the ISSB standards and the ESRS, though EFRAG acknowledged in response to the final publication "the high level of interoperability reached on climate between ESRS and ISSB standards, therefore avoiding undue complexity for ESRS reporting entities and supporting the progress of a global baseline". The ISSB is expected to publish further information in the coming months to help companies to navigate the key differences. (For more details on the ESRS, see our briefings here and here.)

Importantly for UK focused firms, those who apply IFRS S1 and IFRS S2 will purportedly be "fully compliant" with the TCFD recommendations. The ISSB have received market feedback from 1,400 commentors, including representatives from China, the EU, Japan, UK and US. Last year, ISSB signed a memorandum of understanding with the Global Reporting Initiative ("GRI"), described as "the leading global standard-setter for multi-stakeholder focused sustainability reporting" to enable some alignment between the two. The ISSB Standards can work alongside standard accounting obligations (not just IFRS

standards) but are "built on the same concepts" as the IFRS Accounting Standards. Given the fact that IFRS financial standards are required by 140 jurisdictions, ISSB is perhaps justified in its grand claims of having created "a truly global baseline".

Key takeaways from The ISSB Standards

As set out in the ISSB's announcement, IFRS S1 has been created to provide a list of disclosure requirements to assist companies in communicating to their investors. This will be useful to investors, on a short, medium and long term basis, when making decisions relating to providing resources to a company.

IFRS S2 in turn sets out the specific climate-related disclosures and requires the disclosure of information about both cross-industry and industry specific climate-related matters (adding to the requirements of IFRS S1). IFRS S2 includes guidance derived from the Sustainability Accounting Standards Board ("SASB") Standards, which has been integrated into the ISSB standard. IFRS S2 also effectively subsumes the TCFD recommendations (with a few additional differences, as noted below).

IFRS S1 Key Points

IFRS S1 states that it requires "an entity to disclose information about all sustainability-related risks and opportunities that could reasonably be expected to affect the entity's cash flows, its access to finance or cost of capital over the short, medium or long term. For the purposes of this Standard, these risks and opportunities are collectively referred to as 'sustainability-related risks and opportunities that could reasonably be expected to affect the entity's prospects'." In contrast to the ESRS, this reflects a "single materiality" approach to reporting, focusing on the impact that sustainability matters have on the organisation rather than the impacts of the organisation on sustainability matters.

IFRS S1 consists of four core content areas (which will be familiar to users of TCFD) that enable investors to understand:

• Governance - processes, controls and procedures used to, manage and oversee sustainability-related risks and opportunities;
• Strategy - for managing sustainability-related risks and opportunities;
• Risk Management - processes to identify, assess, prioritise and monitor sustainability-related risks and opportunities; and
• Metrics and Targets - performance in relation to a company's sustainability-related risks and opportunities, including progress towards any targets the company has set, or any targets it is required to meet by law or regulation.

To comply with the requirements of IFRS S1, a company is required to disclose 'material' information about the sustainability-related risks and opportunities that could reasonably be expected to affect its prospects.

• The definition of material information is aligned with that used in IFRS Accounting Standards – "that is, information is material if omitting, obscuring or misstating it could be reasonably expected to influence investor decisions". That information must be presented in a fair way – meaning it must be complete, neutral and accurate.

The relevant reporting entity would be the same as the reporting entity for the financial statements (e.g. the entity which reports the consolidated financial statements). Information related to the company's value chain is required to be included. In IFRS S1, value chain refers to "the full range of interactions, resources and relationships related to a reporting entity's business model and the external environment in which it operates."

"Connected information" is also required as part of IFRS S1, to assist investors in understanding connections between the various risks and opportunities identified, in addition to connections between the sustainability linked disclosures and wider financial statements.

• An example given of this kind of connected information concerns where a company finds it has a supplier who has employment practices 'which fall short of international norms' and therefore the company decides to cancel the relevant contract. That cancellation has an impact on the company's overall supplier costs and therefore the company must disclose that connection between the cancellation based on violations of social standards and the overall financial statements.

Generally speaking, publication of the sustainability-related disclosures will need to be at the same time as the relevant financial statements (covering the same period), however, in the first year of compliance, this is not an obligation and the sustainability-related disclosures can be provided in the organisation's next half-year report.

Comparative information need not be provided in the first year a company applies the ISSB Standards. A company that complies with all requirements in the ISSB Standards will be obligated to make a clear statement of compliance, but this can only be made if it meets all the relevant requirements.

In terms of identifying what kinds of sustainability information to report, unlike the ESRS, the ISSB standards are not prescriptive. Rather, organisations are required to consider where and what material sustainability risks and opportunities sit within their business across the range of environmental, social and governance topics. The guidance published alongside the ISSB Standards notes that companies should refer to other sources of guidance, such as relevant SASB Standards, GRI Standards and European Sustainability Reporting Standards in deciding which disclosure topics to include in their reports.

IFRS S2 Key Points

ISSB S2 on climate-related disclosures has been designed to closely align with the Task Force on Climate-related Financial Disclosures ("TCFD")), and increasingly accepted and internationally recognised standard for climate-related financial reporting.

However, though using TCFD's structure, there are some differences, with IFRS S2 being the more demanding reporting standard, both in terms of granularity of data required under the common disclosures, and in introducing new disclosure requirements. With that said, organisations already producing a TCFD report should be well positioned to prepare a IFRS S2 disclosure (and vice versa). During the drafting phase, ISSB published a helpful table summarising the differences between IFRS S2 and TCFD.

IFRS S2 is intrinsically linked to IFRS S1, as any company applying IFRS S1 is obligated to apply IFRS S2 to identify and disclose material information about its climate-related risks and opportunities. As under IFRS S1, a company is required to disclose information about its governance, strategy, risk management and metrics and targets related to the climate.

• Climate-related risks includes physical risks (e.g. increase in flooding) along with transition risks (e.g. changes in technology).
• Climate-related opportunities refers to those matters which might benefit a company as a result of climate change (e.g. the development of new business opportunities).

As part of governance, the company is required to identify those within the business (e.g. a relevant committee) who has oversight over the relevant risks and opportunities and to disclose information about, for example, how strategies within the business are overseen and how management is looking at related processes and procedures. It is noted in the guidance that governance disclosures can be integrated across IFRS S1 and IFRS S2 where relevant (e.g. where governance overlaps between sustainability-related risks and climate-related risks).

In terms of climate strategy, a company is required to disclose information about a number of areas, including current and anticipated changes to its business model, adaption and/or mitigation efforts, transition plans and climate-related targets (insofar as those exist). As part of strategy disclosures, there is also a requirement to disclose financial effects and information concerning resilience.

As part of the assessment of resilience, there is an obligation to use climate-related scenario analysis, although no specific scenario is specified (e.g. Paris-aligned, high-warming etc.). The guidance also notes that a proportionate approach to scenario analysis would require the organisation to first consider its climate exposure – an organisation with higher climate-related risk should take a more sophisticated approach to climate-related scenario analysis including quantitative data.

IFRS S2 requires a company to disclose information that enables investors to understand the processes the company uses to identify, assess, prioritise and monitor climate-related risks and opportunities. As in relation to governance disclosures, these can be integrated across IFRS S1 and IFRS S2 where there is commonality.

As part of the metrics and target disclosures, along with providing information that helps investors to understand performance, IFRS S2 requires a company to disclose its total greenhouse gas ("GHG") emissions. Emissions must be measured in accordance with the GHG Protocol Corporate Standard (unless a jurisdiction requires a company to use a different approach to measurement). A company is required to provide information about Scope 1, Scope 2 and Scope 3 GHG emissions (except in the transitional phase, as noted above).

• In respect of Scope 3, the ISSB is keen to emphasise that these are critical for investors when trying to understand a company's value. Specifically in relation to the asset management, commercial banking and insurance industries, there is a requirement to disclose information about 'financed emissions' (i.e. those emissions associated with its investments).

Asset managers have additional disclosure obligations in relation to climate-related risks. These are:

• absolute gross financed emissions, disaggregated by Scope 1, Scope 2 and Scope 3
• for each disaggregated emissions category, the total amount of assets under management ("AUM") included in the financed emissions disclosure
• the percentage of total AUM included in financed emissions and, if less than 100%, an explanation of the exclusions including types of assets and amount of AUM excluded
• the methodology used to calculate financed emissions.

Implementation and alignment

IFRS S1 and IFRS S2 are effective for annual reporting periods beginning on or after 1 January 2024. This means that investors will start to be able to see relevant information in 2025 (where the ISSB Standards have been adopted for a 2024 reporting cycle). They can be applied in accordance with IFRS Accounting Standards or other generally accepted accounting principles or practices ("GAAP").

Companies are required to apply IFRS S1 and IFRS S2 together. However, the ISSB provides transition relief for some requirements in the first year – a company has the option to limit its sustainability disclosures to information about climate-related risks and opportunities under IFRS S2, and it may furthermore omit Scope 3 greenhouse gas emission disclosures (including financed emissions) under IFRS S2 for the first year.

The ISSB is awaiting endorsement by IOSCO (which consists of over 170 countries' market regulators). The UK Government has indicated its intention for UK companies to adopt the ISSB Standards. An endorsement decision is expected to be made within 12 months of IFRS S1 and IFRS S2 being issued, however the exact form of this adoption has not yet been determined. It is expected that the UK Government and the FCA will integrate ISSB standards into both corporate and financial entity reporting requirements. Given that the UK was the first country in the world to mandate TCFD reporting, it would not be surprising if it has ambition to also be the first country in the world to legally require ISSB reporting. More news on endorsement is expected towards the end of the year.

ISSB S1 and S2 are just the beginning of the ISSB's work. Further research projects are already underway concerning sustainability-related risks and opportunities associated with biodiversity - ecosystems and ecosystem services, human capital and human rights, which are anticipated to eventually be integrated into the ISSB Standards framework.

Originally published 28 June 2023

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