ESG: EFRAG sustainability reporting standards – SMSG’s advice to ESMA

On 11 July 2022, the Securities and Markets Stakeholder Group (SMSG) submitted its advice to ESMA on the European Financial Reporting Advisory Group’s (EFRAG) consultation on its first set of Exposure Drafts (EDs) on the European Sustainability Reporting Standards (ESRS).

What’s the background?

The draft Corporate Sustainability Reporting Directive (CSRD), which was adopted by the European Commission (Commission) on 21 April 2021, will require in scope undertakings to report on a full range of sustainability information (environmental, social and governance) in accordance with new European sustainability reporting standards (ESRS).

On 21 June 2022, the EU Parliament and Council announced that they had reached provisional political agreement on this directive. See our summary of the proposed CSRD here.

The draft CSRD mandates the Commission to finalise an initial set of ESRS by 31 October 2022, based on drafts prepared by EFRAG, with further sector-specific standards due by 31 October 2023.

In April 2022, EFRAG launched a public consultation on the EDs of the first set of ESRS. These cover cross-cutting standards and topical standards on the full range of sustainability matters: environment, social, governance with a sector-agnostic angle.

The consultation seeks feedback on three key aspects of the EDs:

1. The relevance of the proposed architecture, the implementation of the CSRD principles and the overall content of each ED

2. The possible options for prioritising/phasing-in the implementation of the ESRS

3. The adequacy of each disclosure requirement mandated by each ED.

ESMA intends to respond to the consultation and asked its SMSG to provide advice to help it do so before the consultation period closes on 8 August 2022.

What does the SMSG’s advice recommend?

The SMSG considers that

• the ESRS provide “key elements framing the architecture and clarifying key concepts and content” of the proposed CSRD
• to maximise operability of the framework and comparability, the balance between sector-agnostic and sector-specific disclosure obligations should be reviewed and an appropriate balance struck between (a) the data needed from stakeholders and (b) the operational burden for those preparing the reports
• a holistic approach (which takes into account efforts required for transitioning and which strikes the right balance between different factors that could impact the capital markets) is of great importance
• EFRAG's work constitutes “an essential prerequisite” for the implementation of the SFDR and Taxonomy Regulation – the SMSG has previously pointed out the problems that arise because the disclosure requirements for financial investment products preceded the disclosure requirements for investee companies
• the sequence of this implementation, though, is a concern
• the deadline for adopting the Delegated Acts and the entry into force of the legislation is also a worry – the SMSG recommends extending the deadlines to give EFRAG sufficient time to submit its technical advice to the Commission
• this work needs to be aligned with the KPIs required under Tables 1 and 2 of SFDR and “delays should also be considered in these regulations”
• the ESRS should be effectively coordinated with those of other standard setters, such as the International Sustainability Standards Board (ISSB) and the FASB (which will apply to 60% of the worldwide equity market capitalisation) so unnecessary regulatory fragmentation and duplicative reporting is avoided. To this end, the Commission should also encourage the ISSB to work closely together with EFRAG on its building block approach so the global baseline standards are sufficiently clear and ambitious to ensure appropriate convergence and full compatibility with the EU framework
• definitions across the cross-cutting and topical standards and the scope of the reporting perimeter in the value chain should be clarified
• there should be a thorough analysis of the complexity of obtaining appropriate EU compliant data from non-EU undertakings within the value chain
• that, to ensure that the information which needs to be presented in the Management Report is concise, undertakings should be allowed to cross-reference to relevant information in other documents so the reports are readable and clear for individual retail investors.