Week 8 Lecture - Sustainability and climate change reporting (2)

Sustainability and
climate change reporting
Copyright © 2020 McGraw-Hill Education (Australia) Pty Ltd 32-1

Deegan, Financial Accounting 9e
SOURCE: Shutterstock/Marianna Ivanovska
Why report beyond numbers?
Business responsibility:
Friedman
Friedman rejects the view that corporate managers have any moral obligations
or responsibilities. He notes (1962, p. 133) that the belief in moral obligations
and responsibilities:
shows a fundamental misconception of the character and nature of a free
economy. In such an economy, there is one and only one social responsibility of
business to use its resources and engage in activities designed to increase its
profits as long as it stays within the rules of the game, which is to say, engages
in open and free competition, without deception or fraud
– Do we agree with Friedman?

Alternative view
• Managers should manage the organisation for the benefit of all stakeholders, not
just those with control over scarce resources
• If we accept that an entity has a responsibility for its social and environmental
performance, then accountants (or others) should provide an account of social
and environmental performance
• ‘Accounting’ does not have to be restricted to ‘financial’ performance alone
Possible motivations for disclosing information beyond numbers could include:

− to comply with legal requirements
− to forestall efforts to introduce more onerous disclosure regulations
− to influence the perceived legitimacy of the organization
− to manage particular (and possibly powerful) stakeholder groups
− to increase the wealth of the shareholders and the managers of the organisation,
and/or a belief on the part of managers that the entity has an accountability (or a
duty) to provide particular information.

A four-step approach to corporate reporting
1. Why report? That is, we will consider some possible explanations
for why managers would voluntarily elect to produce publicly available
information about their organisation’s social and environmental
performance
2. To whom will the organisation report? This issue will be directly

related to the issue above and will be influenced by decisions about
who are the ‘stakeholders’ of the organisation
3. What information shall be produced? This will be linked to the

above points and to the information needs and expectations of the
identified stakeholders of the organisation
4. How (and where) will the information be presented? As we will

see, there are various guidelines and approaches to reporting social
and environmental information

• There is a general lack of regulation in the area of alternative performance
reporting/measures (that includes social and environmental reporting) - an absence of
an accepted conceptual framework for social and environmental reporting, there is
much variation in how this reporting is being conducted.
• There are many aspects of financial accounting that make it unsuitable for providing
information on social and environmental performance.
• Financial accounting useful for providing information about financial performance to
stakeholders with a financial interest in an organisation, its value in providing
information about other aspects of performance is limited.
• The IFRS Foundation published in late 2020 educational material to highlight how
existing requirements in IFRS Standards require companies to
consider climate-related matters when their effect is material to the financial statement
s
.
• As accountants we should appreciate such limitations.

Limitations of traditional financial accounting
• Financial accounting is often criticised on the basis that it ignores many of the
externalities caused by reporting entities.
• Externalities can be defined as:
 impacts that an entity has on parties (not necessarily restricted to
human beings) that are external to the organisation, parties that
typically have no direct relationship with the organisation.
• Some of these effects or impacts relate to the social and environmental implications
of the reporting entity’s operations - the adverse health effects of pollution produced
by the entity, or injuries caused to consumers by the entity’s products, or the adverse
social effects of the workforce cutback.

Limitations of traditional financial accounting
• Some of the perceived limitations of traditional financial accounting, which act to
exclude these externalities, include:
– tends to focus on the information needs of stakeholders with a financial interest
– applies the ‘entity assumption’
– excludes from expenses the impacts on resources not controlled by the entity
– focuses on short-term results
– applies the recognition criteria of ‘measurability’ and ‘probability’
– applies the concept of ‘materiality’, and
– adopts the practice of discounting liabilities.
• As accountants it is important we understand these shortfalls.

Possible ways forward
• The Global Reporting Initiative (GRI) - organisations that are applying the GRI
Guidelines are required to produce what are referred to as ‘standard disclosures’—
which are divided into general standard disclosures and specific standard
disclosures.
• While many argue that the GRI Guidelines have brought about improvements to
sustainability reporting, it must be acknowledged that, not being mandatory, many
companies are selective about which indicators they choose to use in their reporting.
• Nevertheless, such companies might still indicate that they are using the GRI
Guidelines and therefore gain the ‘legitimacy’ that is associated with using the
guidelines.

• Integrated reporting
– The International Integrated Reporting Committee (IIRC) released its
International <IR> Framework in late 2013.
– According to page 33 of IIRC (2013), Integrated Reporting is defined as:
 A process founded on integrated thinking that results in a periodic
integrated report by an organization about value creation over time and
related communications regarding aspects of value creation.
– The IIRC Framework - primary purpose we find (par. 1.7, p. 7):
 The primary purpose of an integrated report is to explain to providers of
financial capital how an organization creates value over time.
• To many people, the restricted definition of the perceived users of integrated
reports is disappointing. It seems to embrace a ‘shareholder primacy perspective’.
– The focus seems to be on ‘value creation’ rather than on accountability.

• An interesting aspect of the framework is that it makes reference to six different
types of capitals. According to IIRC (2013, p. 11):
– All organizations depend on various forms of capital for their success. In this
Framework, the capitals comprise financial, manufactured, intellectual, human,
social and relationship, and natural.
– The capitals are stocks of value that are increased, decreased or transformed
through the activities and outputs of the organization. For example, an
organization’s financial capital is increased when it makes a profit, and the
quality of its human capital is improved when employees become better
trained.
• Natural capital (the environment) is defined in the framework as (IIRC 2013, p.
12):
– All renewable and non-renewable environmental resources and processes that
provide goods or services that support the past, current or future prosperity of
an organization. It includes:
air, water, land, minerals and forests
biodiversity and eco-system health.
The value creation process as depicted in the <IR>
Framework

GRI 200—Economic
Many potential disclosures identified in relation to:
• Economic performance
• Market presence
• Indirect economic impacts
• Procurement practices
• Anti-corruption
• Anti-competitive behaviour

GRI 300—Environmental
• Materials
• Energy
• Water
• Biodiversity
• Emissions
• Effluents and wastes
• Environmental compliance
• Supplier environmental assessment

GRI 400 - Social
• Occupational health and safety
• Training and education
• Diversity and equal opportunity
• Non-discrimination
• Freedom of association and collective bargaining
• Child labour
• Forced or compulsory labour
• Rights of indigenous people
• Human rights assessment
• Local community
• Supplier social assessment
• Customer health and safety
• Marketing and labelling
• Customer privacy
• Socioeconomic compliance

Integrated reporting (cont.)
Again, there are some broader philosophical issues to consider.
• As we can see from the definition of ‘natural capital’, the environment
seems to be considered on the basis to which it supports the ‘past,
future or current prosperity of an organization’
• Many people would question whether the environment should be
considered in such an organisation-centric manner
– Is not this one of the very reasons that the planet has the
environmental and social problems that it currently has?
• Referring to the environment as part of ‘capital’ also seems to
promote a view that it can be ‘drawn down’ to support growth in other
capitals
• Again, this view that the environment can justifiably be utilised and
degraded in exchange for economic gains is a major contributory
factor to our current global problems

In NZ – XRB Initiative
“Ngā pou o te kawa ora
• Ngā pou o te kawa ora refers to the pillars that are the principles of life and is the name of the project that
aims to establish a voluntary, non-financial reporting framework from an Aotearoa New Zealand perspective.
Why we’re developing this framework
• Traditional financial reporting frameworks limit the ability for entities to demonstrate value and impact
beyond monetary perspectives. The ability for entities to demonstrate the impact they are having on
current and future generations and convey this in a way that is unique to Aotearoa New Zealand is also
hindered by traditional financial reporting frameworks.
• As New Zealand’s standard setter, we want to respond to this by developing a reporting framework that will
increase transparency and provide entities with a consistent and comparable way of reporting non-financial
matters.
• A non-financial reporting framework has the potential to create immense value for reporting entities and their
shareholders. This includes:
• Increased trust and transparency
• Better information for decision-making and/or allocating resources
• Attracting investment
• Maintaining a social license to operate”

Climate Change
Climate change:
– Climate change can be defined as a change in global or regional
climate patterns, in particular, a change apparent from the mid - to
late 20th century onwards and attributed largely to the increased
levels of atmospheric carbon dioxide produced by the use of fossil
fuels.
– Climate change is an environmental crisis that is increasingly being
seen as likely to have major impacts on the planet.

A simple representation of the greenhouse effect

Risks and opportunities from Climate change—organisational perspective

• One of the reasons for our current environmental problems is that for many years companies
have treated the atmosphere as a ‘free good’ and have released emissions with no direct
implications for reported profit or loss.
• This has meant that economic activity has developed, and corporate profits and economic
growth have occurred at the same time that climate change has become a reality, thereby
creating serious problems for future generations.
• From a corporate reporting perspective, increasingly organisations to provide disclosures
pertaining to the implications for business of climate-change and that change mitigation policies.
Various stakeholders, including investors, increasingly consider risks associated with climate
change when making investment, consumption and other decisions.
• Risks: flooding, storm surges, unpredictable rainfall, freshwater scarcity and/or pollution – the
effects on supply chain.
• Climate change reporting has been focused so far on carbon disclosure/disclosure of emissions -
can lead to improved carbon management, reduction of energy consumption and costs (Matisoff,
2013).
• Carbon disclosure assists investors in estimating a company’s regulatory and natural risks related
to climate change (McLaughlin, 2011).
• Consequently – cap-and-trade schemes (or in NZ Emissions Trading Scheme (ETS).

Cap-and-trade schemes and their reliance on accounting
• Under a cap-and-trade system, ‘allowances’ or ‘credits’ are used to provide
incentives for companies to reduce emissions by assigning a monetary value to
pollution.
• The ‘cap’ phase of the program begins when a government or regulatory body
establishes an economy-wide target for the maximum level of aggregate
emissions permitted by companies in a specified timeframe.
• Then, a specific number of emissions allowances equal to the national target are
allocated (or auctioned) to participating companies based on a formula that
generally includes past emissions levels.
• Over time, the amount of permits (or units) made available is reduced by the
government in line with the quest to reduce carbon emissions.

• The ‘trade’ aspect of the program occurs when a company’s actual
emissions are greater or less than the number of allowances it holds.
• Companies that emit less than the number of permits they hold will have
excess allowances; those whose emissions exceed the number of
permits they hold must acquire additional allowances.
• Additional (or excess) allowances can be purchased (or sold) directly
between companies, through a broker, or on an exchange.
• Excess allowances can be ‘banked’ and used to satisfy compliance
requirements in subsequent years.
• The first Crown auction of New Zealand Units (NZUs) in the Emissions Trading
Scheme (ETS) was in March 2021. Auctions align the supply of NZUs with New
Zealand’s (NZ) emissions reduction target and emissions budgets.

Financial accounting and cap-and-trade schemes
• Emission permits or rights that have been allocated to a reporting entity are
considered to be intangible assets and recognised at their fair value at allocation
date.
• Permits recognised are subject to periodic impairment tests.
• The difference between the price paid and fair value of permits received from the
government - initially reported as deferred income and then systematically recognised
as revenue over the compliance period regardless of whether the allowances are held
or sold.
• Increases in fair value of permits - reported in shareholders’ equity (perhaps through a
revaluation surplus) and decreases in fair value recognised in profit or loss to the
extent they exceed the revaluation surplus.
• As greenhouse gases are emitted, the reduction in the value of any emission right or
permit recognised as an expense in much the same way that a non ‑current asset
would be depreciated over time.
• Should organisations emit at levels beyond their permits, the related financial
obligation - of the nature of a liability.
• What do we know from research on climate change and the reporting:
– Firms prefer to make positive disclosures (greenwashing).
– Customers have a positive impact on carbon disclosure by companies but there
are country-specific differences.
– There is a noticeable effect of the introduction of new and additional reporting
media on the level of environmental information disclosure within annual reports.
– The criticism of voluntary disclosure is from accounting perspective that such
information does not meet the attributes of comparability, understandability and
reliability therefore the voluntary reporting does not improve users’ decision
making.
– Some researchers propose a combination of voluntary and mandatory reporting
(Knox-Hayes and Levy 2011 and Sullivan and Gouldston, 2012) where voluntary
disclosure lays the groundwork for mandatory disclosure (Andrew and Cortese,
2011).

State of the play in NZ in 2024
• Task Force for Climate-related Disclosures (TCFD) adopted a complementary risk-focused perspective on
climate change - the quality and consistency of disclosures under TCFD have to date not met the needs of
investors, nor those of regulators charged with ensuring financial stability.
• In 2021 NZ became one of the first jurisdictions to legislate mandatory climate risk disclosure for publicly-
listed companies, insurers, investors, and banks. Unlisted companies and government entities, except for a
handful explicitly named, are currently excluded from the regime.
• With the legislation having passed in late 2021, NZ’s External Reporting Board (XRB), the Crown Entity
responsible for issuing NZ climate accounting standards - put in place a climate-related disclosures framework.
• This framework comprises of three climate disclosure standards and guidance containing key concepts to fit the
disclosures into the general financial and sustainability-related reporting requirements in NZ.
• Standards:
– NZ CS 1 Climate-related Disclosures
– NZ CS 2 Adoption of Aotearoa New Zealand Climate Standards
– NZ CS 3 General Requirements for Climate-related Disclosures
– Plus: Staff Guidance Entity level scenario analysis; All Sector Staff Guidance for NZ CS – Climate Related Disclosures Staff
Guidance

• Sector-specific guidance on reporting against the standards. The XRB issued the final
standards, along with accompanying documents, in December 2022. With the timeframes in
mind, the entities captured under the framework are required to disclose according to the
standard for accounting periods that start on or after 1 January 2023.
• Climate-related disclosures are mandatory for large listed companies with a market
capitalisation of more than $60 million; large licensed insurers, registered banks, credit
unions, building societies and managers of investment schemes with more than $1
billion in assets; and some Crown financial institutions (via letters of expectation).
• The main disclosure standard and is based on the recommendations of the Task
Force on Climate-Related Financial Disclosures (TCRF).

International Standards on Sustainability
International Sustainability Standards Board (ISSB)’s standards:
• IFRS S 2 – General requirements for Disclosure of Sustainability –
Related Financial Information
• IFRS S 1 – Climate Related Disclosures
– Issued 26 June 2023 – Applicable from 1 January 2024
• IFRS S1 contains the conceptual foundations, general requirements and the
requirements related to the exercise of judgement, uncertainties and errors.
• IFRS S1 sets out overarching requirements for disclosing information about
sustainability related risks and opportunities.
• IFRS S2 sets out requirements that relate specifically to climate-related risks and
opportunities. In addition, the appendices to IFRS S1 and IFRS S2 include mandatory
application guidance.
• XRB has on issue Comparison Document - Comparison NZ CS to IFRS S1 and S2 (xrb.govt.nz)

XRB on climate risk reporting - A reporting entity needs for climate risk
reporting:
• Understand the terminology: “climate” in your organisation and familiarising with some of the
key material issued by the TCFD.
• Measure carbon footprint: One of the key disclosures in the TCFD is focused on measuring
greenhouse gas emissions. There are a lot of resources available – such as MfE’s
Measuring emissions: Detailed guide 2020 which includes interactive workbooks, sample
reports and inventories.
• Climate-related disclosures on the agenda of senior management and the board. Engaging
sustainability, finance and risk together because climate risks and opportunities shouldn’t be
considered in isolation.

Other reporting standards - sustainability
• The External Reporting Board is currently developing a voluntary, non-financial reporting
framework for Aotearoa New Zealand - Ngā pou o te kawa ora
• The XRB intends for this framework to be available for all entities in Aotearoa New Zealand to
voluntarily adopt and apply.
• How is the framework developed? - Because many Māori organisations already apply an
intergenerational lens to their strategy and operations, development of the framework is initially
informed through a series of wānanga with Māori reporting entities. The mahi ultimately to include input
from a range of Māori and non-Māori reporting entities and stakeholders across Aotearoa New Zealand.
• Timing - the Framework – later 2024.

Extended External Reporting
• What is Extended External reporting (EER) and Integrated Reporting - EER/integrated reporting are umbrella terms used
to refer to broader and more detailed types of reporting beyond financial statements.
• It can include information on:
– purpose and business model
– governance
– material risks and opportunities
– prospects (including forward-looking financial information)
– strategies
– economic, environmental, social and cultural impacts
• The term encapsulates:
• sustainability reporting
• non-financial reporting
• pre-financial reporting
• management discussion and analysis
• management commentary
• ESG reporting (environmental, social and governance)
• corporate responsibility reporting
• community and environmental reporting.

Credibility and trust in EER – assurance of EER and
climate related disclosures
• Assurance over EER is a rapidly-evolving area,
• There is significant variation across different countries,
• The majority of assurance engagements for EER tend to be narrow in
scope—covering only selected indicators rather than a complete
report. (Almost all can only be limited assurance engagements rather
than reasonable assurance engagements).
• The International Auditing and Assurance Standards Board (IAASB) has
developed guidance for practitioners to apply the applicable assurance
standard (ISAE (NZ) 3000 (Revised)) to emerging forms of external
reporting in a consistent and appropriate way.
• NZ SAE 1 Assurance Engagements over Greenhouse Gas Emissions
Disclosures – applicable for periods ending on or after 27 October 2024.
Extended External Reporting (EER)
The questions below are designed to assist in providing an overview of extended external
reporting and illustrate using examples of EER frameworks.”
1. Explain what EER means/ includes?
2. Explain why EER should be undertaken (there are five reasons on the XRB website -
various ‘benefits’ is only one of these)?
3. What is the XRB’s position on where EER information should be included?
4. The XRB refers to EER Resources under three categories: NZ resources, Global
Resources and Global Initiatives. Briefly explain any one resource from each of these
three categories?
5. Explain what the Task Force on Climate-related Disclosures (TCFD) is, as well as:
a. what their core recommended disclosures are, and
b. recent NZ government responses and standards related to the TCFD
recommendations.


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Sustainability and

climate change reporting

Copyright © 2020 McGraw-Hill Education (Australia) Pty Ltd 32-1

– Do we agree with Friedman?

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Possible motivations for disclosing information beyond numbers could include:

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2. To whom will the organisation report? This issue will be directly

3. What information shall be produced? This will be linked to the

4. How (and where) will the information be presented? As we will

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– NZ CS 2 Adoption of Aotearoa New Zealand Climate Standards

– NZ CS 3 General Requirements for Climate-related Disclosures

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