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Climate change is an emergency that requires all hands on deck. However, for Andromeda Wood, vice president of regulatory strategy . The final documentation of the ISSB standards should acknowledge that most investors have significant, largely uniform interests in beta impacts. The General Requirements Standard recommends that companies disclose material sustainability-related information, defined as information that could reasonably be expected to influence primary users assessments of an entitys enterprise value, with the responsibility for the materiality assessment resting on the reporting entity. Last November, IOSCO chair Ashley Alder set out a five-point roadmap that securities watchdogs expect the IFRS Foundation to follow if they are to endorse the climate-change standard before the end of 2022 as the global baseline for climate disclosures. Finally, a number of prominent global financial regulators including the SEC, the UK Financial Conduct Authority, the European Commission, the European Financial Reporting Advisory Group (EFRAG), the Japanese Financial Services Authority, the Sustainability Standards Board of Japan Preparation Committee and the Chinese Ministry of Finance have agreed to join a working group focused on compatibility between the ISSBs standards and new regulations. The CSRD takes a more comprehensive approach than the ISSB, adopting what it calls a "double materiality perspective". They must do so again. Once such a standard is established, failure to adhere will become a reputational and regulatory risk, so that the question of meeting that standard becomes financially material. If their content is not aligned, then the status quo will continue: piecemeal reporting, inconsistencies, confusion, and limited progress towards understanding the effect of ESG matters. On March 24, 2022 the IFRS Foundation (the Foundation) and the Global Reporting Initiative (GRI) published a press release announcing "a collaboration agreement under which their respective. At a time when regulation alone seems increasingly inadequate to the task of addressing threats to the environment and our social fabric, an apparent retreat from a market-based solution in a document as influential as the ISSB standards would be a serious setback. The ISSB has the critical mass of support from established market participants necessary to bring the same uniformity (and thus utility) to sustainability reporting that now exists for standard financial reporting. Eight othersmostly based in Europe, and including Allianz, Amundi, BNP Paribas, DWS, and Schrodersencourage the ISSB to consider a double materiality approach, incorporating companies' impacts on the environment and wider society, in line with the European Commission's proposals. Despite all the talk of urgency from IOSCO, the climate-change standard will not be in place until next year. This then helps create the business case for companies to take action on the priorities that their investors, customers and others really care about. Far from it, assured the ISSBs vice-chair, Sue Lloyd, during the ISSBs 21 September meeting: [F]or those listening, I think we need to be careful to be very clear that this isnt because we are not worrying about the comments that we received and the feedback that weve got. Double materiality can be a decision left to jurisdictions such as the EU, China or the US, which are currently working on their own systems of mandatory climate risk reporting. Socially responsible investing. The US Securities and Exchange Commission is also beavering away on its own climate-reporting proposals. A consultation paper on the SDR is expected in the second quarter of 2022.. Sustainability reporting standards promise to do the same. The decision to leverage two well-established and tried and tested frameworks means less of a learning curve for corporates and investors. Importantly, however, to the extent that E/S impact and enterprise value at a company are not correlatedi.e., to the extent that value and values do not aligninvestors and companies will have to choose between optimizing enterprise value and optimizing E/S impact, or make some compromise between the two. This can impair broader economic returns when such regulation hinders the development of other, more economic companies or sectors. So, in practical terms, the gulf is no gulf, but a gap. But the trade is inevitablethe only question is which type of investor it will favor. Excluding beta information from the reporting standard does not reflect evolving recognition of the importance of beta. This convergence is illustrated in Figure 1 below. Sustainable investing. In their 2021 book, Moving beyond Modern Portfolio Theory: Investing that Matters, Jon Lukomnik and James Hawley explained that these systematic risks inevitably swamp any alpha strategy: It is not that alpha does not matter to an investor (although investors only want positive alpha, which is impossible on a total market basis), but that the impact of the market return driven by systematic risk swamps virtually any possible scenario created by skillful analysis or trading or portfolio construction. In practice, this shifts the focus to the forward-looking or anticipatory aspects of double materiality. But these standards do not provide for a grade or make a judgment as to whether the companys treatment of workers or fuel efficiency will in fact threaten its cash flows and enterprise value: that is generally left for investors to decide. At a time when regulation alone seems increasingly inadequate to the task of addressing threats to the environment and our social fabric, an apparent retreat from a constructive market reform in a document as influential as the ISSB standards would be a serious setback. It is likely that if companies begin to report accurately on their sustainability profile, the information they provide will be illuminatingly different from what the market thought it knew. However, sustainability reporting is not just about the sustainability-related impacts on the company (or its enterprise value) that can be material, but also the impacts of a company on the environment, climate or other sustainability issue so-called double materiality, Russell added. The UK government has gone a step further, signaling it intends to adopt the ISSBs standards as part of future mandatory sustainability reporting requirements under the Sustainability Disclosure Regulation (SDR).2. The IFRSs accounting rules issued and maintained by the International Accounting Standards Board (IASB), on which the ISSB is modeled, have been adopted in over 100 countries, and the IFRS intends to co-develop the two independent sets of standards to ensure their connectivity, compatibility and relevancy to investors. And so the fact that the ISSB and SEC have asked companies to see the long term as material today and in the context of a market perspective means that much of what a business considers to be its impact on the environment or society will be reflected in its consideration of enterprise value. Were taking that all very, very seriously. The Technical Readiness Working Group (the TRWG) recently released a set of recommendations for general requirements for the ISSB standards (the General Requirements) that addressed this question by defining what would be material for the standards overall. This idea extended beyond security selection and included influencing corporate behavior by voting shares and engaging with management. The following chart sums up the four possible uses of data for which the ISSB might be optimized: As investors have become more cognizant of the importance of corporate impact on society and the environment, disclosure standards proliferated, making it difficult to compare the impact of companies that report on different standards. On 3 November 2021, at COP26, the IFRS Foundation Trustees announced the creation of the International Sustainability Standards Board (ISSB). TNFD has stated that it should align with the newly instituted International Sustainability Standards Board (ISSB) as part of efforts to consolidate sustainability standards. The ISSB standard could be of more limited value for certain jurisdictions. The increasing recognition of the importance of beta to investors could make a beta-free ISSB standard obsolete from the start. Green Finance Institute director tells Chatham House while MP support double materiality approach. Like the U.S. Securities and Exchange Commissions (SEC) recently proposed climate-related risk disclosure rule1, the ISSBs General Requirements and Climate Standards are based on the recommendations of the Task Force on Climate-Related Financial Disclosures (TCFD). Lastly, the fact that many companies will have to report new information and in large quantities could have the potential to cause a period of significant volatility in markets. See Thomas C. Schelling, On the Ecology of Micromotives, 25 Pub. The distance between the emerging definitions of materiality in sustainability reporting is smaller than you think and heres why it shouldnt prevent progress towards global alignment. In its October 2022 board meeting, the ISSB . Many of the comment letters on both standards are broadly supportive, but there were some niggles among the praise. Companies and investors have, in the past and on other topics, risen to the challenge. Additionally, EFRAGs draft European Sustainability Reporting Standards for the Corporate Sustainability Reporting Directive incorporate disclosure obligations that include entities impacts on nature, society and the climate. Analysts will have to change their models to take into account new and essential information that companies consider material to their success and survival. SASB's materiality map was so valued by the markets because it illuminated what mattered per industry. Planetary forces much greater than cataclysmic weather events have decided that. Related research from the Program on Corporate Governance includes Companies Should Maximize Shareholder Welfare Not Market Value by Oliver Hart and Luigi Zingales (discussed on the Forum here); Reconciling Fiduciary Duty and Social Conscience: The Law and Economics of ESG Investing by a Trustee by Max M. Schanzenbach and Robert H. Sitkoff (discussed on the Forum here); and Exit vs. Voice by Eleonora Broccardo, Oliver Hart and Luigi Zingales (discussed on the Forum here). Double materiality is the union (in mathematical terms, i.e. Faber predicts that Europes financial reporting adviser-turned-sustainability-standard-setter will finalise its technical advice to the Commission on sustainability reporting in the next couple of months. In doing so, it has removed the existing definition of 'enterprise value' and the words 'to assess enterprise value' from the objective and description of materiality in the proposals. Businesses, regulators, and governments will have to convene and work together rapidly to develop them. The International Sustainability Standards Board (ISSB) is analysing feedback to its consultation on two proposed standards and will consider how to respond to stakeholder comments on topics such as enterprise value and materiality, the head of the IFRS Foundation said. As Hales explained: "Dual materiality and dynamic materiality are not new concepts, it's just that there's new language and an evolving understanding of these issues [that] helps to bring some clarity to frankly a concept that has been very challenging to communicate about for a long time." One key element of materiality is its specificity. These projects help investors determine a companys fair share of a limited common resource or the proper social and environmental boundaries for individual companies that are necessary to preserve the systems upon which all companies rely. This time pressure leaves the board with little time to explore a draft sustainability-reporting standard drawn up by Prof Richard Murphy from Sheffield University Management School. Although the financial-materiality test articulated in the General Requirements seems inadequate to address the system level issues, the drafting implications may be more theoretical than practical, especially if the drafters understand the concern. These institutions cannot simply subordinate financial returns to concern for workers lives or the environment. In his workplan briefing in March, Faber said the board aim[ed] to issue the new Standards by the end of the year, subject to the feedback. IFRS 13 is one standard that does refer to future amounts when it talks about valuation techniques that convert future amounts (such as cash flows or income and expenses) to a single current (discounted) amount. What ISSB asks for. On its face, the exclusive choice of enterprise value as the measuring stick for materiality means the standards will only be useful for investors who want to use environmental and social data to determine how a particular company will perform financially, in order to decide whether to buy or sell it, or perhaps to use their shareholder rights to push the company to change its practices to improve future cash flows. But enterprise value under the ISSB and SECs proposed sustainability standards say that what affects cash flows over the short, medium, and long term should be reported today. Just like any issue that can factor into the market price for a debt or equity security, sustainability issues can affect the likelihood, timing and amounts of potential cash inflows and outflows resulting from a companys activities over any time horizon. measuring and reporting carbon emissionsthat serve both purposes. This is similar to the architecture of the TCFD and ISSB. 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