What Emmanuel Faber likes about climbing mountains is how it forces him to find his own way. Well-trodden paths are not for him; the discipline of the ascent clears his mind.
Finding his own way was what he did during seven years as chief executive of Danone, a period in which he positioned the firm as an environmental, social and governance (ESG) champion. His reward for that was to be pushed out in March 2021 by activist shareholders unhappy at what they saw as disappointing financial performance – a move that catalyzed a fierce debate in France and further afield on the extent to which financial and social objectives could be compatible.
Faber has certainly needed clarity of thought in his latest challenge. He is now the chair of the International Sustainability Standards Board (ISSB), a body that sits within the International Accounting Standards Board (IASB) and which was established at the COP26 climate conference in 2021 to create a global baseline of sustainability standards.
When Euromoney speaks to him at the end of March, Faber has just announced the publication of the first two sets of ISSB draft standards: one covering general disclosure requirements for sustainability-related information and the other specifically targeting climate-related disclosures.
The drafts are now in a consultation period that will run until July 29, with final standards expected to be published by the end of the year.
The finance industry by now understands that change is coming, with central banks and the FSB stress testing the financial system on climate and carbon emissions
This process is happening at a time when the climate discussion as it relates to energy in particular has been thrown into sharp focus by the war in Ukraine and the ramifications it will have for energy supply in Europe – not least in terms of the debate around accelerating the transition away from fossil fuels.
“I think the situation only reinforces the need for having the right metrics when making those decisions,” says Faber. “The shifting energy model in Europe is an obvious topic, but decision-makers lack metrics that are solid enough to assess consequences on carbon footprints and decarbonization pathways, which is where the metrics that we are creating will help.
“Investors will be able to assess the enterprise value impact of different scenarios through more lenses to inform their decisions about allocating capital and at which cost.”
Since its establishment, the ISSB has been busy with its own arrangements as well as its work on developing its draft standards. Faber was appointed in December 2021, while IASB vice-chair Sue Lloyd moved in March 2022 to take up the same role at the ISSB.
The board is also recruiting additional members to bring it to at least a quorum of eight out of an eventual bench of 14.
In March, the ISSB formally opened its Montreal office for the Americas region, the second leg of what it calls its global multi-local office structure. This began with its seat in Frankfurt, which was established at the start of March. Still to come is a decision on where its Asia presence will be set up.
Integration of the various other standards organizations that will gradually coalesce within the ISSB is also being ticked off. The Climate Disclosure Standards Board was brought into its aegis at the end of January, and work on integrating the Value Reporting Foundation (VRF) is making progress and should be completed in June.
The blending of the infamous climate alphabet soup is finally well under way.
Legacy
There is other integration happening, too – of ideas rather than institutions. In particular, the ISSB is seeking to reflect and build on the work done over the years by the Task Force on Climate-Related Financial Disclosures (TCFD), a body within the Financial Stability Board (FSB), as well as the legacy of the Sustainability Accounting Standards Board (SASB), which merged with the International Integrated Reporting Council last year to create the VRF.
TCFD’s nature as a framework meant that the body was reluctant to get into the business of standard setting itself. But in the ISSB’s project, it can observe a continuation of its approach.
“In many ways TCFD sees the global baseline of standards of ISSB as a legacy of its own work, and we wanted to be true to that,” says Faber. “That is why we are embedding every bit of TCFD into our four core pillars of governance, strategy, risk management and metrics.”
Mary Schapiro, head of the TCFD secretariat, certainly welcomes that.
“By building on the TCFD’s framework, the ISSB’s climate proposals will create further consistency, comparability and reliability across climate disclosure so investors can make more informed financial decisions,” she said when the ISSB’s drafts were published.
When it comes to the SASB, Faber says that the integration of that body’s standards into the ISSB’s draft standards was a critical step, as was the positioning of the SASB at the top of its recommended hierarchy of standards to be used in the absence of relevant ISSB standards.
“It is important to make this a seamless process,” says Faber. “Half of the top 1,500 listed companies in the world use the SASB standards, and we want them to continue to do so while we develop them into ISSB standards.”
The desire to build on the SASB posed challenges, however. Many SASB standards are highly US-centric, says Faber, designed for US institutions and built with US regulations in mind.
“One of the things we have been doing in moving from our prototypes to our climate-exposure drafts has been to internationalize those SASB standards, when they were too jurisdiction-specific,” he says. “This internationalization is necessary for our overall standards to be fit for purpose as a global baseline.”
Using the SASB standards as the foundation for much of what the ISSB is doing brings a second leg to the body’s engagement strategy with the market. Some 140 jurisdictions use the international accounting standards established by the IASB, and the International Financial Reporting Standards (IFRS) Foundation has always taken a jurisdictional approach to its work, supported by the International Organization of Securities Commissions (Iosco).
“It is going to be very important for us to build on that, but what SASB brings us is another very powerful adoption strategy, which is direct voluntary market adoption,” says Faber, who used SASB standards in his former life at Danone. “There is a compelling proposition here to add a market adoption layer to the jurisdictional approach.”
For its part, Iosco welcomed the publication of the new standards, saying that it would review them with a view to endorsing them for use within its member jurisdictions.
“Endorsement by Iosco can pave the way for adoption of the standards around the world, delivering much-needed consistency and comparability in sustainability-related information to the capital markets,” said Iosco chairman Ashley Alder in a statement.
Strengthening of standards
The ISSB published early prototypes of its proposals at the time of its launch in 2021, and there has been some evolution in the drafts since then. Much of that has been focused on ensuring that they correctly build on work that companies and investors are already familiar with from the SASB.
“But we have also strengthened the climate proposition, for example by introducing separate offset disclosures as part of a decarbonization strategy,” says Faber.
The biggest strengthening of the proposed standards, however, related to the financial sector and specifically the need to ensure that financial institutions take steps to report the extent to which their business contributes to climate change at the level of their clients.
“The finance industry by now understands that change is coming, with central banks and the FSB stress testing the financial system on climate and carbon emissions,” he says. “And our conversations with the sector made clear the urgent need to cope with the ‘financed emissions’ category, in other words, the Scope 3 of financial services, to come up with a common, agreed measure for those.
“What we are now proposing is to have that proper discussion.”
If you are a CEO thinking about climate transition, you quickly realize that the first stumbling block of that transition is going to be social
Scope 3 emissions are those that are outside the immediate control of a particular entity but which are a by-product of their activities, for instance in financing a client’s own emissions-producing activities.
And Faber adds that he takes a tough starting point in terms of the obligations that institutions should have in terms of undertaking climate scenario analysis.
“Consistent with TCFD, we are proposing to go further than anyone else at this stage in terms of disclosures relating to climate scenario analysis,” he adds. “Our principle is that if you are able to do it, you should be doing it.”
Getting the standards into a form where they were ready for publication has been difficult work, but not because of disagreements on what the objectives should be, says Faber.
“There were lots of debates but no conceptual disputes whatsoever around what we are proposing – and ultimately there was a consensus from everyone on the team; and our basis for conclusions paper is transparent about those discussions,” he says. “But the challenges were formulating the exact wording and making sure that we were being as precise as possible.”
Faber is conscious that the ISSB has moved ahead even before its own board is quorate, but he says that the consultation has been designed with this in mind, with detail behind the proposals and flexibility that is intended to ensure that nothing is too rigid at this point.
“We acknowledge that this is a significant act from our side, so we are coming with a very rich basis for our conclusions,” he says. “And we are proposing questions that are super-open because we want very open feedback on the drafts from as many market participants as possible.”
Not only that, but Faber encourages stakeholders to comment on all current consultations, including those being run by the US Securities and Exchanges Commission and the European Financial Reporting Advisory Group (Efrag), both of which have their own sustainability proposals out for scrutiny.
“This is a one-time opportunity to collect feedback through different angles,” he says.
‘Just transition’
Once the consultation period on its proposed standards is completed, the ISSB plans to open another consultation on what its standard-setting priorities should be. Faber already has his own ideas on those.
“Consistent with market feedback at inception, we have always said that the ISSB would be about climate first, but not climate only,” he says. “The social aspect will be critical, and there are many related aspects of diversity and inclusion, and how transition will impact on workers’ and consumers’ situation.”
The combination of social and climate concerns is what many organizations refer to as the ‘just transition’. So far, combating the direct effects of climate change has been the priority in much of the global debate, with the social aspects of such a transition appearing to take a back seat. Euromoney asks Faber why that might be.
“The issue is that there is limited global conversation about ‘just transition’, therefore there is no consensus,” says Faber. “But if you are a CEO thinking about climate transition, you quickly realize that the first stumbling block of that transition is going to be social.”
As he notes, when European car manufacturers make pledges to switch entirely to electric vehicles within 10 years, that carries with it an implied need for hundreds of thousands of jobs to be reskilled – a process that has barely begun.
“Companies will need new ecosystems to achieve that and incentives from governments,” he adds.
The social aspect is one of the obvious follow-ups to the ISSB’s climate work that he thinks will emerge in the consultation on the organization’s priorities for the future. Another is the recognition that looking to nature itself can provide answers to some of the challenges of transition.
“A focus on water management is likely to be one part of that, as is biodiversity, because they bring solutions to climate change,” he says. “They will be enablers to the transition.”
German and French companies want EU alignment with ISSB standards
One body closely following developments at the International Sustainability Standards Board (ISSB) and sustainability discussions in the European Union is Deutsches Aktieninstitut (DAI), a German think tank that calls itself the voice of the capital market and represents some 200 members that make up about 85% of German listed companies.
Just two days before the ISSB unveiled its draft standards, DAI published a letter from more than 40 German companies appealing to German finance minister Christian Lindner and justice minister Marco Buschmann to advocate within Europe for a legal obligation to adopt future ISSB standards in the text of the European Commission’s Corporate Sustainability Reporting Directive (CSRD).
The timing with the ISSB’s own announcement was a coincidence, but DAI was intentionally seeking to coincide with the start of the trialogue negotiations on the final text of the CSRD between the European Parliament, the Commission and the European Council at the end of March.
“So far we haven’t seen any legal obligation for the European Commission to align with international standard setting,” Maximilian Lück, head of the EU liaison office at DAI, tells Euromoney. “Our call is to ministers who will be involved with the discussions to ask them to bring their political weight to find a wording that obliges the European Commission and Efrag [the European Financial Reporting Advisory Group] to align with international standards, and in particular the global baseline being sought by the ISSB.”
Much like the ISSB, what DAI and its members are worried about is the risk of not just different sustainability reporting requirements but divergent ones.
“Our members are internationally active corporates, and it would suit them and their investors to have comparable standards in terms of metrics and data,” adds Lück. “Without that there will be a patchwork of requirements.”
The April 2021 proposal for the CSRD handed responsibility for preparing draft EU sustainability reporting standards to Efrag, a publicly and privately funded association that was set up in 2001 with a mandate to serve the public interest in matters of financial reporting.
These days Efrag divides its responsibilities into two pillars: the financial reporting side, in which it attempts to influence the development of International Financial Reporting Standards Foundation standards with the goal of promoting the efficiency of European capital markets; and a sustainability reporting pillar that is tasked with working on EU standards.
Wishful thinking?
One of the things that bothers DAI is the way in which Efrag is seeking to go well beyond a climate baseline in terms of its scope into areas of social and governance matters. ISSB also has this ambition, but over a longer time horizon.
“This is a question of timing and prioritization,” says Lück. “We deem climate to be the most important issue right now and we want Efrag to focus on that in parallel with the work of the ISSB.”
That might be wishful thinking. Efrag and the European Commission are aiming for adoption of CSRD by October and the bloc seems determined to be the frontrunner on each of the environmental, social and governance (ESG) criteria. But critics argue that a headlong rush to establish a social and governance remit will set the tone and force bodies such as the ISSB to either diverge or else accept the Commission’s approach as a fait accompli and try to align with it.
Doing the latter would go against the goal of starting from a global baseline and building regional approaches on top of that – something that governs the thinking at the ISSB. But the picture is complicated by the fact that the EC has been working on these issues for longer than the ISSB.
The complexity of EU sustainability reporting standards is another concern of DAI, which followed up its first letter with a plea in April to Mairead McGuinness, commissioner for financial services at the European Commission, in which it was joined by the Association Française des Entreprises Privées (AFEP), a body representing large French companies.
In their letter to McGuinness, DAI and AFEP argued that working documents released by Efrag showed the EU proposals to be too complex, too extensive and lacking in prioritization.
“Instead of following a principle-based approach, the 24 draft standards for companies include roughly 200 disclosure requirements, 200 authoritative application guidelines, comprising more than 1,000 data points,” they said.
Taking the lead
In response to questions from Euromoney, Efrag noted that the working documents would be open for public consultation from the end of April. Submissions to that consultation will then be examined by two new Efrag bodies, the Efrag Sustainability Reporting Board and the Efrag Sustainability Reporting Technical Expert Group, a process that will result in proposals to be sent to the European Commission.
“Of course, compatibility with existing international standards will be taken into consideration at the same time as the response to European regulatory requirements,” said a spokeswoman for Efrag.
Ironically, the original impetus for much of the EU’s work on sustainability was a belief that there was too much fragmentation in sustainability reporting – but the Commission then added to it by developing its own approaches.
There is little question, however, that the EU has taken the lead on many areas of sustainability. A UK taxonomy is not expected to be unveiled until later this year, two years after the EU published its own. The US is a notable laggard, although DAI and others have welcomed the moves by the US Securities and Exchanges Commission to publish its own proposals for climate-related disclosures in March.
But after years of pressure groups calling for action on ESG matters, is it reasonable to complain there is too much action now? Lück at DAI thinks it is.
“We fear that a hasty approach will lead to a lack of quality and comparability,” he says. “We call for more reflection and coherence – and we don’t see that now. The CSRD already tackles issues related to supply chains, for instance, but at the same time the Commission has released a separate proposal on due diligence along the value chain.”
And he highlights another example – that the EU is working on standards before even arriving at a final text for the CSRD. DAI thinks that one should follow the other rather than being developed in parallel.
“There are initiatives at the European level that seem not to be perfectly coordinated,” says Lück.
