Chapter 11: Sustainable Finance, Reporting and Strategy Frameworks PDF

Chapter 11: Sustainable Finance, Reporting and Strategy Frameworks Sustainable Business Management Sustainable Finance Sustainable finance refers to the process of taking environmental, social and governance (ESG) considerations into account when making investment decisions in the financial secto...

Chapter 11: Sustainable Finance, Reporting and Strategy Frameworks Sustainable Business Management Sustainable Finance Sustainable finance refers to the process of taking environmental, social and governance (ESG) considerations into account when making investment decisions in the financial sector, leading to more long-term investments in sustainable economic activities and projects. (European Commission, 2023a). • Sustainable finance’s most mature form maximizes financial, social, ecological value à Aligned with value creation principle (chapter five) • Financial investments support entrepreneurship and innovation • ESG concept in sustainable finance: • Ethical trilemma application • Considers Environmental (E) and Social (S) impact • Requires supportive internal Governance (G) structures Sustainable Business Management Sustainable Finance • Trade-off belief challenged by recent data à Sustainable financial investments can outperform traditional ones • Performance comparison using MSCI World SRI index • Excludes specific industries (e.g., nuclear power, tobacco) • Selects companies via extensive evaluation for socially responsible investment • Performance graph: Yellow line (traditional index), Blue line (SRI index) • SRI index consistently outperforms traditional index in recent years • Demonstrates non-trade-off nature of total value creation Sustainable Business Management Stages of sustainable finance • Finance-as-usual: Traditional finance view: focus on maximizing shareholder value • Stage 1: Sustainable Finance 1.0 • Exclude companies with evident negative impacts • Similar to MSCI's SRI index exclusions (nuclear, weapons, tobacco) • Divestment approach pressures certain sectors or companies à Focus: still shareholder perspective but a refined approach • Implement systems for clean energy, emissions reduction, sustainable purchasing • Driven by incentives to cut costs, reduce risks, enhance reputation • Aims for increased profit (and shareholder value) • Short-term strategy, visible results in reported financials Sustainable Business Management Stages of sustainable finance • Stage 2: Sustainable Finance 2.0 • Financial institutions integrate negative social and environmental externalities • Initial step towards integrated value creation • Calculation involves subtracting social and ecological cost from financial value • Goal is to balance financial, social, ecological value for the highest integrated value à Focus: Negative externalities are considered as a strategy for risk reduction: • Not yet considering additional social/ecological value. • Aimed at reducing negative impacts. • Results of investments visible in the medium term. Sustainable Business Management Stages of sustainable finance • Stage 3: Sustainable Finance 3.0 • Integrated value creation evolves into opportunitybased approach • Shift from risk-based to proactive investment strategy • Financial institutions actively seek sustainable companies for investment • Investment outcomes maintain a fair financial return as financial viability remains a requirement à Focus: Value for common good • Beyond direct stakeholder value creation • Considers value for future generations • Long-term strategy aligned with common good Sustainable Business Management Stages of sustainable finance • Challenges in Sustainable Financing Implementation • Stages highlight need for tools, frameworks, and information • Social and ecological value calculation is a significant challenge • Financial value calculation: • Derived from accounting department: straightforward and accessible • Social and ecological value calculation: • Externalities are often complex • Requires inquiries and qualitative data interpretation • Limited data accessibility and lack of transparency from some companies Sustainable Business Management Sustainable Finance: Financial instruments - Bonds • Green Bonds • Issued to finance environmentally beneficial projects. • Designed to raise capital for sustainability, climate change mitigation, environmental conservation. • Issuers: governments, municipalities, development banks, corporations. • Proceeds used for projects meeting specific ecological criteria. • Project examples: renewable energy, clean transportation, sustainable agriculture, waste reduction. • Social Bonds • • • • Issued to finance projects with social benefits. Address social challenges affecting well-being. Examples: affordable infrastructure, health, education, food provision. Post-COVID crisis: Increased issuance for recovery and rebuilding projects Sustainable Business Management Sustainable Finance: Financial instruments - Bonds • Sustainable Bonds • Issued for projects with combined social and environmental benefits • Sustainability-Linked Bonds (SLB) • • • • Proceeds for general financing, linked to issuer's ESG goals Not directly for specific sustainable projects Financing committed companies achieving sustainable goals Coupon, maturity, repayment tied to goal attainment • Transition Bonds • Focus on decarbonization of companies • Financing projects aiding transition to greener profile • Unlike green bonds, doesn't require a predefined green company/project profile Sustainable Business Management Sustainable Finance: Financial instruments – Impact Investing • Impact investing • Strategy: Invest in companies with products/services improving lives • Focus on creating social and ecological value alongside financial value • Profitability misconception • Impact investing isn't inherently less profitable • Challenge of Impact Measurement: • Financial data is quantitative, social and ecological value is not as easily quantified • Difficulty in measuring impact Sustainable Business Management Sustainable Finance: Financial instruments – Impact Investing • SFDR: Sustainable Finance Disclosure Regulation • Introduced by the European Union for transparency in sustainable finance • Aim: Promote transparency, consistency in sustainable finance practices • Key Objectives of SFDR 1. 2. Transparency • Financial market participants disclose sustainability policies • Reveal integration of sustainability risks into investment processes • Explain consideration of adverse sustainability impacts Sustainability Risks • Disclose integration of sustainability risks in investment decisions 3. Adverse Sustainability Impacts • Disclosure of negative environmental or social effects from investment choices 4. Taxonomy Regulation Link • Closely linked to Taxonomy Regulation • Taxonomy sets classification for environmentally sustainable economic activities Sustainable Business Management Sustainable Finance: Financial instruments – Impact Investing • Impact Measurement • Challenges in Measuring Non-Financial Impact • Comparatively harder than measuring Return on Investment (ROI) • Financial Reporting vs. Non-Financial Reporting • ROI reports readily available via finance & accounting departments • Social and environmental impact data not consolidated in one database • Smaller team responsible for CSR, sustainability, social impact • Lack of Standardization for Non-Financial Metrics • • • • Financial data governed by regulations so easier for comparison ESG impact reporting becoming legally obligatory (2023) KPIs and ratios for impact expected to become more common Adaptation to these new metrics takes time • Data Acquisition and Complexity • • • ESG impact data may not be quantitative, harder to measure Data collection often external to the company Accuracy and completeness depend on external resources Sustainable Business Management Sustainable Finance: Financial instruments – Impact Investing • Impact Measurement • Impact Investment Criteria • Criteria includes ability to measure and assess impact • Limited standardized impact measurements • Methods available for evaluating investment outcomes • Quantitative Assessments • • • • Utilizes numerical data for impact measurement Examples: Beneficiary count, outcome percentage change, cost savings, emission reduction Provides concrete and measurable results Facilitates easy comparison and tracking over time • Qualitative Assessments • • • • Involves subjective information collection Methods: Interviews, surveys, case studies Focuses on capturing personal experiences, opinions, and stories Gathers insights from individuals or affected communities Sustainable Business Management Sustainable Finance: Financial instruments – Impact Investing • Impact Measurement – Methods • Social Return on Investment • Assigns financial value to social and environmental impacts • Identifies and values sustainable impacts, compares to investment cost • Theory of Change • Systematic, participatory approach explaining intervention's expected change. • Maps out change pathway, identifies assumptions, risks. • Clarifies selection of relevant impact measurement indicators. • Randomized Controlled Trials (RCTs) • Measures effectiveness of interventions. • Randomly assigns participants to affected and control groups. • Useful for assessing policy change effectiveness, reduces bias. Sustainable Business Management Sustainable Finance: Financial instruments – Impact Investing • Impact Measurement – Methods • Comparative Analysis • Compares impacts of different approaches • Identifies effective practices, informs decision-making • Understanding outcome variations • Multi-Stakeholder Feedback • Engages stakeholders, gathers feedback. • Methods: Surveys, focus groups, interviews, consultations. • Insights from beneficiaries, partners, stakeholders' perceptions and experiences. Sustainable Business Management Sustainable Reporting • Importance of Non-Financial Impact Assessment • Crucial for investment decisions • Sustainable reporting essential for fair assessment • EU Corporate Sustainability Reporting Directive (2023) • Legal obligation to report ESG impact • Other Reporting Standards and Frameworks • • • • TCFD (Task force on Climate-related and Financial Disclosure) CDP (Carbon Disclosure Project) GRI (Global Reporting Initiative) ISSB (International Sustainability Standards Board) • Note • Numerous other standards available • Mentioned standards are well-established and widely used Sustainable Business Management Sustainable Reporting - CSRD • Corporate Sustainability Reporting Directive (CSRD) • • • • In force since January 2023 Applies to large companies and listed SMEs Mandates reporting on non-financial sustainability matters Aims for increased transparency and informed choices for investors and customers • Objectives of CSRD • Harmonize corporate sustainability reporting • Easier comparison of non-financial performance • Implementation and Reporting Timeline • To be applied for financial year 2024, reports in 2025 • European Sustainability Reporting Standards (ESRS) expected in 2023 Sustainable Business Management Sustainable Reporting - CSRD • Expected Reporting Structure (ESRS) • Likely to include 'Governance', 'Strategy', 'Impact, Risk and Opportunity Management', and 'Metrics and Targets' areas • Built on TCFD reporting areas • Three reporting layers: company-specific, sector-level, and all-companies level • Double Materiality Concept • Focuses on both financial and environmental/social materiality • Considers impacts and activities comprehensively Sustainable Business Management Sustainable Reporting - CSRD • Financial Materiality • Significance to investors, creditors, stakeholders in financial assessment • Relevant to financial performance, prospects, and risks • Environmental and Social Materiality • Significance in comprehending environmental and social impacts • Encompasses environmental footprint and social impact à Double Materiality • • • • Considers financial and non-financial factors Acknowledges both contribute to company's performance and risk profile Sustainability issues can impact financial implications Understanding and managing these issues is essential for long-term value creation Sustainable Business Management Sustainable Reporting - TCFD • Task Force on Climate-related Financial Disclosures (TCFD) • Globally recognized framework for disclosing climate-related financial risks and opportunities. • Established by the Financial Stability Board (FSB) • Key Focus Areas of TCFD 1. Governance • Disclosing climate-related risk management at board and senior management levels 2. Strategy • Disclosing climate-related risks/opportunities over short, medium, long term • Integrating these factors into business strategy • Assessing strategy resilience in various climate scenarios Sustainable Business Management Sustainable Reporting - TCFD 3. Risk Management • Disclosing processes for identifying, assessing, managing climate-related risks • Covers both physical and transition risks • Integrating climate-related risks into overall risk management 4. Metrics and Targets • Disclosing specific metrics to assess climate risks/opportunities • Reporting scope 1, scope 2, and, if applicable, scope 3 greenhouse gas emissions • Disclosure of emission reduction and climate resilience targets • Mandatory vs Voluntary Use • TCFD not mandatory, largely covered by CSRD for applicable companies • Voluntary use for companies not under CSRD to enhance transparency and decision-making Sustainable Business Management Sustainable Reporting - CDP • CDP (Carbon Disclosure Project) • International non-profit organization operating a global environmental disclosure platform • Focuses on climate change, water security, and deforestation • Encourages measurement, disclosure, management, and action on environmental impacts • Areas of Focus (Up until 2021) • Climate Change • Measures organizations' greenhouse gas emissions (carbon dioxide, methane) • Asks for actions taken to address climate change • Reports risks and opportunities related to climate change • Water Security • Addresses water resource availability and management • Collects data on water usage and future water scarcity risk • Encourages water conservation plans and protection of water sources Sustainable Business Management Sustainable Reporting - CDP • Forests • Focuses on forest conservation and responsible sourcing of forest products • Assesses companies' involvement in deforestation • Requests information on steps to prevent deforestation and promote sustainable sourcing • Data Utilization • Gathers environmental performance and disclosure data from companies, cities, regions, investors • Provides stakeholders with information about environmental actions and impacts • Purpose: • Raises awareness about environmental issues • Encourages organisations to take actions that mitigate climate change, ensure water security, and protect forests Sustainable Business Management Sustainable Reporting - CDP CDP's Expanded Strategy (2021–2025) • Expansion of Scope • CDP's strategy from 2021–2025 aims to cover all planetary boundaries, as discussed in chapter four • The scope will encompass climate, land, resilience, biodiversity, waste, oceans, freshwater, forests, and food • Environmental Targets and Progress Tracking • The new strategy places a stronger focus on environmental targets • A mechanism will be implemented to track progress toward these goals • Collaborative Approach • Collaborates with investors, corporations, governments, and non-profit organisations • Advocates for sustainable practices and transparency in environmental reporting Sustainable Business Management Sustainable Reporting - GRI • Global Reporting Initiative (GRI) • an independent international organization that offers a framework for sustainability reporting and disclosure • Guidelines and Standards: GRI provides guidelines and standards that help organizations understand and report on their environmental, social, and governance (ESG) impact • Enhancing Comparability and Transparency: The reporting standards aim to enhance comparability and transparency in sustainability reporting • Stakeholder Information: GRI's standards serve as valuable information for various stakeholders, including investors, policy makers, and customers • Three Sets of Reporting Standards • Universal Standards: Apply to all organizations and provide a foundational framework for reporting • Sector Standards: Enable reporting on sector-specific impacts, tailoring reporting to industry contexts • Topic Standards: List disclosures relevant to specific sustainability topics Sustainable Business Management Sustainable Reporting - GRI GRI Reporting Process: 1. Introduction and Familiarization • Companies get acquainted with the GRI framework and key elements of GRI Standards • Understand the application of reporting principles: stakeholder inclusiveness, sustainability context, materiality, completeness, and reliability 2. Context and Impact Assessment • Companies identify and assess their sustainability-related impacts • Understanding the organizational context helps assess the significance of actual and potential impacts • Determine priority impacts for reporting based on assessment 3. Material Topics and Reporting Standards • Using GRI Standards, companies report relevant disclosures • Address material topics that influence financial performance (financial materiality) or have social and environmental implications (environmental and social materiality) 4. Publication and Accessibility • The company's sustainability report is published • The report is made accessible to stakeholders through various platforms Sustainable Business Management Sustainable Reporting - ISSB • International Sustainability Standards Board (ISSB) • ISSB Establishment: Formed by IFRS Foundation in Nov 2021 for global sustainability disclosure tailored to investors' needs • Foundation: Built upon existing frameworks like CDSB, SASB, and TCFD • SASB Integration: SASB will be fully integrated into ISSB's framework • SASB - Sustainability Accounting Standards Board • Nonprofit organisation creating industry-specific sustainability accounting standards • Focus: Disclosing sustainability impacts that materially influence a company's financial performance Sustainable Business Management Sustainable Reporting - ISSB • Key Aspects of SASB Standards • Industry-Specific Focus: Tailored to each industry sector, addressing sectorspecific sustainability issues • Financial Materiality: Prioritize sustainability factors with significant financial impact on company performance and valuation • Market-Informed & Evidence-Based: Developed through research, expert consultation, and public feedback, following financial accounting standards approach • Cost-Effectiveness: Designed for cost-effective implementation by companies • Decision-Useful: Information produced aids investors in informed decisionmaking • IFRS suggests using SASB standards until ISSB standards are finalized. Sustainable Business Management Sustainable Reporting - ISSB • The Climate Disclosure Standards Board (CDSB): • Mission: Develop a corporate reporting model treating natural capital on par with financial capital • Framework: CDSB Framework guides companies in disclosing climate-related information in annual reports • Objectives: Assist companies in identifying, measuring, and communicating climate-related risks and opportunities • Alignment: CDSB framework aligns with TCFD, GRI, CDP, and other sustainability reporting frameworks • Future: ISSB's potential to unify global sustainability reporting system, similar to accounting standards, currently in development Sustainable Business Management Sustainable Strategy Frameworks • Incorporating Sustainability Strategies: 1. ISO26000: Guideline for Social Responsibility 2. Economy for the Common Good (ECG) 3. EMAS (Eco-Management and Audit Scheme) and EFQM (European Foundation for Quality Management) 4. Sustainable Development Goals (SDGs) • Set by the United Nations to guide sustainable development efforts. • Often used as a framework to lead companies toward sustainability. • These strategy frameworks offer diverse tools for organisations to transition towards a more sustainable business model and assess their impact on various levels of sustainability Sustainable Business Management Sustainable Strategy Frameworks - ISO26000 ‘It provides guidance to those who recognise that respect for society and environment is a critical success factor. As well as being the “right thing” to do, application of ISO26000 is increasingly viewed as a way of assessing an organisation’s commitment to sustainability and its overall performance.’ (ISO26000, 2023) • ISO 26000 serves as a valuable guideline for organisations striving to integrate sustainability into their operations and decision-making processes Sustainable Business Management Sustainable Strategy Frameworks – ISO 26000 ISO 26000 Core Subjects for Sustainable Business Management: 1. Organizational Governance • Ensuring responsible decision-making and accountability 2. Human Rights • Respecting and promoting human rights within operations and relationships 3. Labor Practices • Upholding fair and safe working conditions for employees and stakeholders 4. Environment • Addressing environmental impact, resource conservation, and sustainability. 5. Fair Operating Practices • Promoting ethical behavior, anti-corruption measures, and transparency 6. Consumer Issues • Ensuring product safety, information accuracy, and fair practices for consumers. 7. Community Involvement and Development • Contributing positively to local communities and society at large Sustainable Business Management Sustainable Strategy Frameworks - ECG • The ECG (Economy for the Common Good) model promotes a holistic approach to economics, emphasizing societal well-being, environmental responsibility, and ethical values over profit maximization • ECG-Criteria for Sustainable Impact: Stakeholder Dimension Criteria: 1. Human Dignity: Ensuring respect, equality, and justice for all individuals 2. Solidarity and Social Justice: Promoting fairness, cooperation, and equitable distribution 3. Environmental Sustainability: Fostering ecological responsibility and resource conservation 4. Transparency and Co-determination: Enabling openness, participation, and accountability 5. Social Well-being and Cooperation: Enhancing community, education, and social cohesion Sustainable Business Management Sustainable Strategy Frameworks - ECG Value Dimension Criteria: 1. Basic Ethical Values: Upholding human rights, democracy, and non-violence 2. Cooperation and Solidarity: Encouraging collaborative, mutually beneficial actions 3. Ecological Sustainability: Safeguarding the environment and natural resources 4. Social Justice: Addressing inequalities and supporting social welfare 5. Democratic Co-determination: Involving stakeholders in decision-making Sustainable Business Management Sustainable Strategy Frameworks - EMAS • EMAS (Eco-Management and Audit Scheme): European Commission's environmental management instrument • • • • Evaluates, reports, and enhances environmental performance Focus on sustainable practices beyond legal requirements Requires Environmental Management System (EMS) implementation Encompasses policy, objectives, targets, and continuous improvement • Benefits and Requirements: • • • • • Promotes recognition for sustainability efforts Legal compliance verified by external entities Emphasis on continuous environmental improvement Performance verified by trained assessors Publication of key environmental data in annual report Sustainable Business Management Sustainable Strategy Frameworks - EFQM • EFQM (European Foundation for Quality Management): Non-profit membership organization in Europe • Advocates quality management and organisational excellence • Offers a framework and criteria for performance assessment and improvement • Sustainability Integration: • While not solely focused on sustainability, the EFQM model can incorporate sustainability principles • Provides a versatile framework adaptable to sustainability challenges • Enables organisations to address social, environmental, and economic sustainability within their pursuit of excellence • Benefits: • • • • Balances organisational excellence with sustainability Offers a structured approach to performance improvement Supports alignment with sustainability goals Encourages organisations to excel while being socially and environmentally responsible Sustainable Business Management Sustainable Strategy Frameworks - EFQM EFQM Model and Sustainability Integration: 1. Holistic Approach • EFQM model encourages holistic view of operations, similar to sustainability's comprehensive perspective encompassing social, environmental, and economic dimensions 2. Stakeholder Engagement • Both EFQM and sustainability stress stakeholder engagement for understanding needs and addressing concerns 3. Sustainable Leadership • EFQM model promotes effective leadership; sustainable leadership aligns with long-term thinking, shared value creation, and driving sustainability initiative 4. Social Responsibility • Sustainability involves social responsibility; EFQM model recognizes social benefits and community well-being as significant 5. Continuous Improvement • Both EFQM and sustainability emphasize continuous improvement, reflecting ongoing excellence and improved social and environmental performance Sustainable Business Management Case: Hapag-Lloyd (p.344-345) • Can you identify the possible financial impact and the ecological/social impact of these material topics? • Can you find reporting and targets for the three main areas in CDP (before 2021) in the sustainability report? • Use the ECG matrix to assess the company’s performance on the different criteria. What is your assessment? Sustainable Business Management