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How to prepare for the EU’s new sustainability disclosure requirements

Authors

  • Lucy Godshall

    Principal, Climate Change and Sustainability Services, Ernst & Young LLP

  • Amanda Kraus

    Partner, US-Central Region Sustainability Reporting and Assurance Leader, Climate Change and Sustainability Services, Ernst & Young LLP

5 minute read 26 Aug 2024

Strategies from the double materiality assessment webcast can help companies tackle complex ESG reporting standards.

In brief
  • The European Sustainability Reporting Standards introduce an extensive set of sustainability disclosures for in-scope companies.
  • The double materiality assessment required under these standards considers both financial effects and impacts on the environment and society.
  • Companies should focus on robust documentation of their approach to this assessment and building repeatability into the process for subsequent years.

The European Parliament adopted the final Corporate Sustainability Reporting Directive (CSRD) regulations in January 2024. The CSRD is expected to impact more than 50,000 companies doing business in the European Union, requiring them to publicly disclose information and metrics related to sustainability. In the July webcast, the second of a three-part ESG education series, EY presenters discussed the requirements under the new European Sustainability Reporting Standards (ESRS) on how to approach the double materiality assessment (DMA) process.

How EY can help

Lucy Godshall, CSRD Advisory Leader at Ernst & Young LLP, explained that the 12 ESRS detail and organize the specific disclosure requirements for reporting under the CSRD. These disclosure requirements are complex and encompass more than 1,000 different data points. The ESRS include two cross-cutting standards and 10 topical standards on a range of environmental, sustainability and governance (ESG) topics, from biodiversity to climate change. The 10 standards contain 37 subtopics, many of which are further broken down into sub-subtopics, include the detailed disclosure requirements.

 

The ESRS require all companies within the scope of the CSRD to report on sustainability matters based on a double materiality principle. The DMA, to be completed for each reporting period, covers two dimensions:

 

  • Financial materiality: What financial effects are triggered by these sustainability topics?
  • Impact materiality: How do the company’s activities impact society and the environment?

 

A sustainability matter is material when it meets the criteria defined for impact materiality or financial materiality or both. These two aspects of materiality can be significantly interrelated. For example, a topic that is material today from an impact perspective could evolve and become financially material tomorrow.

 

Godshall recommended a three-step approach to determining materiality under the ESRS:

 

  1. Understand the business context: Know the activities and business relationships as well as the affected stakeholders. Also, consider any additional context, such as sector- or entity-specific topics.
  2. Identify the impacts, risks and opportunities (IROs): Consider the entire value chain, which is defined as the full spectrum of activities, resources and relationships from conception to the end of life of a product or service to identify IROs relevant to the company.
  3. Assess and determine the materiality of sustainability matters: Define materiality thresholds and detailed scoring criteria prescribed under the ESRS upon which to assess the IROs. Consolidate the results, document the process and report the outcomes.

 

The ESRS also emphasize both direct and indirect relationships, extending beyond first-tier suppliers to the country of origin and the broader value chain. Companies should consider two primary stakeholder groups: affected stakeholders and users of sustainability information. Affected stakeholders include employees, customers and vendors. Users of sustainability information include investors, creditors, business partners, governance bodies and analysts. Non-human entities, such as the environment, are considered a silent stakeholder. Companies should consider entities along the value chain and both sets of stakeholders in evaluating double materiality.

 

The ESRS provide guidance but also allow flexibility for defining materiality thresholds and developing scoring criteria. In doing this, the European Financial Reporting Advisory Group (EFRAG) guides companies to leverage existing internal processes, for example, to evaluate financial materiality or to identify risks and opportunities through a company’s enterprise risk management framework.

 

Amanda Kraus, CSRD Assurance Leader at Ernst & Young LLP, outlined the process for identifying and reporting material sustainability information under ESRS 1 and ESRS 2, which are known as the two topic-agnostic, cross-cutting standards. ESRS 1 describes the architecture of the ESRS and explains the drafting conventions, along with the fundamental concepts and requirements for preparing and presenting the sustainability information. It also outlines the double materiality principles. ESRS 2 describes the cross-cutting disclosure requirements that apply to all undertakings, regardless of sector and across the sustainability topics.

 

After completing the DMA, companies need to identify the disclosure requirements for reporting. Organizations should conduct an analysis to determine whether gaps exist in their current data and reporting processes against the disclosure requirements. The ESRS have minimum disclosure requirements (MDR) across four areas: policies, actions, targets and metrics. This structured approach helps companies create a roadmap to readiness for ESRS reporting.

 

Kraus also addressed assurance. The CSRD requires independent third-party assurance for sustainability statements, starting with the inaugural reporting year. Assurance encompasses three key areas:

 

  1. The DMA process
  2. The interaction of IROs with the entity’s strategy and business model
  3. The data points and disclosure requirements within the sustainability statement

 

Though the European Commission is expected to adopt a new assurance standard by October 2026, companies will want to prepare for assurance well in advance. Careful documentation in the inaugural year will help build repeatability into the process for future years.

The word of the day here is “document.” Documentation will be your best friend on this journey.

Amanda Kraus

CSRD Assurance Leader at Ernst & Young LLP

To have a successful DMA process, Kraus stressed four key steps:

  1. Set a realistic timeline.
  2. Plan for the appropriate subject-matter resources, particularly around IRO development and scoring.
  3. Tap the knowledge of cross-functional counterparts in finance and accounting.
  4. Verify alignment with the guidance and involve an external auditor.

The DMA process represents a steep learning curve, but companies should view this process as more than an exercise in compliance. “You can use the DMA and CSRD reporting as an opportunity to elevate your sustainability strategy and better manage sustainability risks and opportunities within your organization,” Kraus said.

Note: CPE is not available for this replay video.

Summary 

Companies will need to meet new sustainability disclosure requirements under the EU CSRD based on the ESRS, which require an annual DMA. For effective compliance and assurance, companies should focus on robust documentation and developing processes that can be repeated.

About this article

Authors

  • Lucy Godshall
    Principal, Climate Change and Sustainability Services, Ernst & Young LLP
  • Amanda Kraus
    Partner, US-Central Region Sustainability Reporting and Assurance Leader, Climate Change and Sustainability Services, Ernst & Young LLP
Related topics
Financial accounting advisory services
ESG Reporting

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