The fast-evolving ESG space is encouraging trustees to consider how best to plan for future regulations.
Fifty-three per cent of trustee boards now consider ESG an important agenda item, according to research produced by the Pensions Management Institute and BMO Global Asset Management in 2021.
This is up markedly from 2020, when ESG was important for just 29 per cent of trustee boards.
With current regulatory shifts and changes to disclosure standards driving up the importance of ESG matters, trustees are now thinking in earnest about what ESG disclosures will look like in the future.
Company disclosures will need to evolve to demonstrate a full assessment of the key dimensions material to a company
Thomas Höhne-Sparborth, Lombard Odier
Turning up the volume
The trend of climate-related reporting across the FTSE 100 over the past few years illustrates a potential trajectory for the scale of ESG disclosures being made.
Between 2015 and 2020, disclosures quadrupled, according to Diana Rose, head of ESG research at Insig AI.
“Climate disclosure will keep increasing in the UK over the next five years, driven by the Task Force on Climate-related Financial Disclosures becoming mandatory from April 6 2022 for large companies,” she says.
“I’d expect to see a big increase compared with 2020 in TCFD-related disclosures in the 2022-23 reporting cycle, but by no means a peak.”
Within the same time frame, Chris Fidler, senior director of global industry standards at the CFA Institute, is expecting the International Sustainability Standards Board to issue climate-related disclosure standards. These guidelines will create adherence within “major capital markets”, he says.
On the back of this, Fidler expects the “quality and availability of issuers’ ESG disclosures related to other ESG issues to improve as well”, although it is unlikely to result in the same extent of standardisation.
Thomas Höhne-Sparborth, head of sustainability research at Lombard Odier, says a focus on the “larger spectrum of material sustainability factors with a broader scope across a company’s full supply chain”, can be expected alongside the recognition of a company’s impact on its wider environment, as well as the possible impact of that wider environment on the company.
“We believe company disclosures will need to evolve to demonstrate a full assessment of the key dimensions material to a company,” he says.
“On environmental issues, this extends beyond an analysis of carbon footprints and other widely reported data, to a broader appreciation of dimensions such as biodiversity impact, waste footprints, water scarcity and availability, and chemical pollution, among others.”
Höhne-Sparborth adds that disclosures must “recognise two sides of the same coin” by demonstrating the company’s understanding of the impact it has on the wider environment and the company’s exposure to transitional and physical risks is a two-way street.
“As such, disclosures should focus both on the company’s wider impact, as well as its financial exposure to key risks,” he says.
Social risks
On the social side of ESG, the trend for increasing volumes of disclosures is also apparent, particularly around workforce, human rights and community issues, Rose says.
“I’d expect to see more disclosure focusing on a company’s supply chain, or ‘value chain’. There are growing calls from all sides for greater transparency on issues such as modern slavery, but very little meaningful disclosure on it yet,” she continues.
“It will take a big shift and there will be push-back from corporates as it’s hard to do, but they may have no choice thanks to the combined pressures of media and consumer awareness, vocal watchdogs and, of course, regulation.”
But five years is a long time for a space “still immature and so connected to both the financial dynamics and ethics of a volatile world”, Rose adds.
“The current war in Europe is a reminder to expect the unexpected to rock what ESG means to investors, trustees, corporates and other stakeholders alike.
“As investors pin down specific ESG attributes that translate to better returns or pose the greatest risk, these will no doubt be a driving force in shaping the disclosure landscape, alongside the social and environmental agendas hoping finance will bring about the change they want,” she says.
Preparing for change
Efforts to improve ESG disclosures currently face several barriers, including the lack of a universal taxonomy and data standards, increasing workload impacting trustees, and a lack of ESG expertise, according to experts.
Rose does not believe that these challenges will be solved entirely within five years, but observes that the “market is responding” with a growing pipeline of young ESG professionals converging with improved reporting frameworks.
Upcycling sustainability knowledge: our training guide for trustees
As ESG issues move to the top of the agenda, trustees have to upskill quickly to meet the requirements of increasing regulatory demands and societal pressure, writes Cardano’s Georgia Harsham.
The scale of upheaval facing both the pensions sector and the wider world means exposure to the transition must be “carefully managed”, Hohne-Sparborth says.
He believes the market is currently “ill-adapted” to the rise of ESG and is not yet “pricing in the significant downside and upside risks our economy is exposed to.”
Yet there is a need to prepare for these changes now, and Hohne-Sparborth says trustees must begin by identifying partners that have the “capabilities, expertise and mindset to help them navigate the transition in a manner aligned to their investment priorities”.
