Mandatory sustainability reporting on the way!
In a pivotal milestone for sustainability reporting, the International Sustainability Standards Board (ISSB) on 26 June 2023 released their inaugural IFRS global sustainability standards.1 This follows more than 18 months of intensive work and extensive industry consultation. The standards are designed to guide local jurisdictions in constructing their own sustainability reporting frameworks and to assist companies in assessing and making appropriate disclosures.
Following the ISSB release, the Australian Treasury on 27 June 2023 commenced its second round of consultation on mandatory climate reporting.2 This builds on the previous discovery consultation that closed in February 2023 whereby the Treasury received 194 submissions and the stakeholders were almost universally supportive of mandatory climate risk disclosures.3 The end goal is that the Australian government intends to introduce standardised, internationally aligned reporting requirements for businesses to ensure investor relevant climate-related disclosures.
In previous articles (accessible here and here), the authors (Thomas and Kenneth) addressed how Australia’s emissions target became law in the Climate Change Act 2022 (Cth), and the impact of ESG on mergers and acquisitions. Thomas and Kenneth are corporate lawyers who have a particular interest in how ESG and climate change is shaping corporate transactions, as businesses adapt to the impacts of climate change and the transition to a net zero emissions world.
What are the international standards?
The two IFRS standards aim to improve trust and confidence in corporate disclosures about sustainability to inform investment decisions. IFRS S14 focuses on general requirements for sustainability-related financial disclosures whilst IFRS S25 focuses on climate-related disclosures specifically. These standards aim to ensure disclosure of investor relevant information regarding sustainability-related risks and opportunities, and connectivity between sustainability information and financial statements. The four main content areas are (1) governance, (2) strategy, (3) risk management, and (4) metrics and targets. These are the same areas covered by the Task Force on Climate-related Financial Disclosures framework which many large companies are already applying.
Development timeline for Australia’s mandatory reporting standards
The release of the IFRS standards by the ISSB is relevant because the draft Australian climate-related disclosure standards are expected to closely align to the ISSB requirements in IFRS S2. Figure 2 (below) from page 11 of the Treasury consultation paper outlines the overall process and the two key workstreams – (1) Policy development whereby the Treasury consultation on design of mandatory requirements will feed into the Corporations Act 2001 (Cth (Corporations Act) amendments expected to be implemented from 1 July 2024; and (2) Standards development whereby the Australian Accounting Standards Board will consult on draft Australian standards prior to the expected issue of the Australian standards in Q2 2024. These indicative timelines are subject to passage of legislation.
Source: Australian Treasury, ‘Consultation Paper – Climate-related financial disclosure’, p11 (June 2023) <https://treasury.gov.au/sites/default/files/2023-06/c2023-402245.pdf>.
Key Proposals by the Australian Treasury
In its consultation paper, the Treasury has put forward various indicative proposals for stakeholders to consider. This article only presents a high-level overview and does not cover the proposals in detail as that is beyond our scope.
- Who do the requirements apply to? All entities that meet prescribed size thresholds and that are required to lodge Chapter 2M financial reports under the Corporations Act would be required to make climate-related financial disclosures.6 This proposal is in response to feedback that requirements should apply to large listed and unlisted entities and financial institutions.
- When do the requirements come into effect? A three-phased approach is proposed whereby the requirements will first apply in 2024-25 to a relatively limited group of very large entities that expands to apply to progressively smaller entities over a three-year period. This is to allow more lead time for smaller entities before the mandatory requirements apply to them so those entities can develop the skills and capability needed to comply. For further details, please refer to the proposed assurance roadmap and timeline for climate-related disclosures on page 26 of the Treasury consultation paper.7
- What materiality threshold applies to disclosures? Principles of financial materiality would apply. Climate-related financial information would be material if omitting, misstating or obscuring it could reasonably be expected to influence decisions that the primary users of general purpose financial reports (existing and potential investors, lenders and other creditors) make on the basis of the reports.
Governance and strategy
- What about climate-related governance? From commencement of the requirements, companies would be required to disclose information about governance processes, controls and procedures used to monitor and manage climate-related financial risks and opportunities.
- Do scenario analysis and methodology need to be disclosed? From commencement of the requirements, reporting entities would be required to use qualitative scenario analysis to inform their disclosures, progressing to quantitative scenario analysis once the mandatory climate requirements are fully applicable following the phase-in three-year period. Reporting entities would be required to disclose climate resilience assessments against at least two possible future scenarios, one of which must be aligned with the global temperature goal in the Climate Change Act 2022 (Cth).
- Do transition plans and climate-related targets need to be disclosed? From commencement of the requirements, transition plans would need to be disclosed, including information about offsets, target setting and mitigation strategies. All entities would be required to disclose information about climate-related targets (if they have them) and progress towards these targets.
Risks and opportunities / Metrics and targets
- Do climate-related risks and opportunities need to be disclosed? From commencement of the requirements, entities would be required to disclose information about material climate-related risks and opportunities to their business, and how the entity identifies, assesses, and manages risk and opportunities. Entities would be required to disclose information about where risks and opportunities are concentrated in the entity’s supply chain, the anticipated time horizon and metrics that help investors understand the scale and impact of risks and opportunities.
- Do scope 1 and 2 emissions need to be disclosed? From commencement of the requirements, scope 1 and 2 emissions for the reporting period would need to be disclosed. Scope 1 emissions cover direct greenhouse gas emissions from sources owned or controlled by the reporting entity, whilst scope 2 emissions cover indirect greenhouse gas emissions from the generation of purchased electricity, steam, heating and cooling utilised by the reporting entity.
- Do scope 3 emissions need to be disclosed? Disclosure of material scope 3 emissions would be required for all reporting entities from their second reporting year onwards. Scope 3 emissions cover all other greenhouse gas emissions that arise upstream and downstream in a reporting entity’s value chain. Scope 3 emissions disclosures made could be in relation to any one-year period that ended up to 12 months prior to the current reporting period.
- Industry-based metrics? Reporting entities would be required to have regard to disclosing industry-based metrics, where there are well-established and understood metrics available for the reporting entity.
- Will there be penalties for non-compliance? New climate reporting requirements would be drafted as civil penalty provisions in the Corporations Act. The application of misleading and deceptive conduct provisions to scope 3 emissions and forward-looking statements would be limited to regulator-only actions for a fixed period of three years.
Climate change is no longer a side issue. It is now a global priority which cannot be ignored by businesses and is deemed to be the greatest risk to the global economy over the next 10 years by the World Economic Forum.8 A key aspect of managing risk is proper disclosure. These Treasury proposals are indicative and subject to change but represent a significant step forward towards future mandatory climate reporting standards in Australia.
Our recommendation is to consider these proposals now to understand how they may apply to your company because mandatory reporting may commence as soon as 2024-25. Your company should assess its data needs to report against these proposed requirements and whether the appropriate processes and procedures are in place.
This article was written by Thomas Kim, Partner and Kenneth Lee, Special Counsel.
1 International Sustainability Standards Board, ‘ISSB issues inaugural global sustainability disclosure standards’ (26 June 2023) <https://www.ifrs.org/news-and-events/news/2023/06/issb-issues-ifrs-s1-ifrs-s2/>.
2 Australian Treasury, ‘Climate-related financial disclosure: Second consultation’ (27 June 2023) <https://treasury.gov.au/consultation/c2023-402245>.
3 Australian Treasury, ‘Consultation Paper – Climate-related financial disclosure’, p3 (June 2023) <https://treasury.gov.au/sites/default/files/2023-06/c2023-402245.pdf>.
4 International Sustainability Standards Board, ‘IFRS S1 General Requirements for Disclosure of Sustainability-related Financial Information’ (26 June 2023) < https://www.ifrs.org/issued-standards/ifrs-sustainability-standards-navigator/ifrs-s1-general-requirements/>.
5 International Sustainability Standards Board, ‘IFRS S2 Climate-related Disclosures’ (26 June 2023) <https://www.ifrs.org/issued-standards/ifrs-sustainability-standards-navigator/ifrs-s2-climate-related-disclosures/>.
6 Australian Treasury, ‘Consultation Paper – Climate-related financial disclosure’, p6 (June 2023) <https://treasury.gov.au/sites/default/files/2023-06/c2023-402245.pdf>.
7 Ibid, p 26.
8 World Economic Forum, ‘The Global Risks Report 2023’ (11 January 2023).