CSRD as a part of broader investor communication: three topics for IR, analysts and CFOs to consider – not to forget the Board member

The new Corporate Sustainability Reporting Directive requires companies to provide material information about company-specific sustainability topics. In the best case, analysts and investors might get additional beneficial details with which to assess risks and opportunities related to a company or a sector. Moreover, those details could also support capital markets to build their valuation assessments. In the worst case, CSRD reports may cause confusion, and even lead to nonintentional misleading of capital markets.

There are three main practical issues for everyone involved to consider, to avoid the worst case. (That said, the amount of legislative, accounting and reporting details related to CSRD is huge and I am not delving into that in this article.) Those issues arise because of the increasingly intertwined nature of financial reports, management reports and CSRD reports and the fact, that all of those together should serve shareholders with adequate information about the company in question.

Clarity of key messages, avoiding overlapping info and ensuring adequate materiality assessment

In short, CSRD requires companies to report material sustainability topics and explain why the topic is material and what the relative impacts on society and company financials are. Considering that financial reports should also include information material for the company, the most significant topics should have already been included in the financial reports if the financial impacts are clear. CSRD ads an additional, yet hopefully beneficial, layer to public reporting. However, to avoid the worst-case scenario of CSRD implementation the below topics need to be carefully considered, by the analysts, investors and company representatives on their daily work.

1)     The quality and uncertainties related to sustainability materiality assessment.

a.     Businesses should provide information about their material environmental and societal impacts. Impacts might be either negative or positive such as risks related to physical impacts of climate change, significant emissions to water, or risk for biodiversity impacts such as a unit located close to sensitive natural areas. Assessing this complex set of information and the significance of the information requires that the process of materiality assessment is reviewed closely. How has it been done, has it included expertise from natural sciences such as biology, geography and/or societal sciences? What are the uncertainties related to the outcome and is there a type of sensitivity analysis? IR experts and analysts are facing the need to increase their knowledge on a variety of topics outside the usual economic area to ensure that the most significant issues are identified properly and then emphasized in a way that reflects the relative size of the topic itself.

b.     The financial impact of ESG topics is often, if not always, intertwined with societal (including environmental) impacts. However, there are significant uncertainties related to many ESG topics- such as the likelihood of certain types of risks occurring. Additionally, analysts and IR experts need to dive deep into the impacts of increasing environmental regulation, Green Deal, the US Inflation Reduction Act and international trade policy to assess whether and to which extent company ESG programs and business strategies account for the changing regulative environment. However, uncertainties related to financial impacts remain significant in many occasions which, from a capital market point of view, means a rather useless set of information. Explaining uncertainties clearly is a heavy exercise and requires sensitivity analysis, but is better than providing markets with few surprises in the coming periods.

2)     The challenge of repetition, overlapping info and non-alignment.

When we look at companies and sectors where the green transition is already visible (Neste, Orsted, Fortum, etc.) key ESG-related topics have already been part of financial reports for a long time. Even in sectors where the transition is slower, key environmental risks or costs have been reported as part of financial reports (such as remediation costs related to remediation of environmental impacts). In both cases, ESG is, as often said, part of the strategy, or a key element to manage, and it has direct impacts on earnings and/or growth potential. Now, we enter an area where increasing amount of repetition may occur when communicating about ESG topics. Financial figures and sustainability statements will contain the same information. Risks for non-alignment and overlapping increase when requesting new sets of communication and reporting processes. From an analyst’s point of view, the more clarity there is between how things are intertwined the better, to avoid confusion or wrong interpretations.

3)     Clarity of the key messages.

Key messages to capital markets might be lost in the jungle if they are not highlighted clearly and bravely. Analysts do not assess each reported data point, rather there are certain drivers and sector-specific initiatives that they monitor carefully as those are relevant to the growth of the whole sector and thereby the valuation process. Preparing legally compliant ESG reports with a lot of legal jargon and without clear key messages is not something they enjoy. It is also good to remember that an analyst’s job is to focus on certain sectors, they know what they are doing, and monitoring relevant ESG topics in the sector is part of their day-to-day job. So, emphasizing relevant things, in a relevant way and a concise manner is more crucial to communicate the key messages. This also helps to create trust. Understanding the relative scope, scale and concrete impact from investors’, analysts’ and an earnings perspective is crucial to be able to highlight the key messages related to ESG properly.  

CSRD may cause a headache to everyone, it has already. It requires an understanding of phenomena related to nature and society, trade policies and regulation, as well as a financial accounting and capital market mindset. Not to mention other stakeholders. It will require new capabilities from analysts, investors and companies in the longer run. Time will tell whether it will succeed and bring some clarity to this rather foggy ESG landscape. The best case scenario is attracting, more accurate and relative info about most relevant sustainability risks, opportunities and impacts.