US holds back on support for global sustainability standards

Sustainable investment — these days, everyone in financial markets talks about it. But not all agree on what it means. Plenty of sustainability consultants stand ready to offer their services, yet investors and companies need more clarity: they want agreed standards for investments that depend on environmental, social and governance (ESG) criteria. Shareholders also need more information on the financial impact of sustainable practices on their holdings.

Sustainability reporting covers a broad area. Standards can help companies simply meet legal requirements on specific public policy objectives in a given jurisdiction. But investors also need guidance when comparing global sustainability-related financial disclosures.

As yet, no set of generally accepted standards exists. However, the process to formulate one has begun. Progress has followed two tracks: meeting the needs of all stakeholders; and meeting the needs of capital markets. So far, the bodies that oversee generally agreed international accounting principles have moved ahead more quickly than those watching over the US standards.

In September 2020, the IFRS Foundation — the international arbiter of accounting standards — decided to establish an International Sustainability Standards Board (ISSB). Recently, it began a search for a chair and vice-chair.  

The IFRS Foundation preferred not to confuse financial accounting rules with this newer area of sustainability. That makes sense, as the latter has a fuzzier feel. Plus, sustainable investing includes a social aspect, which broadens the task of reporting greatly.

It helps that the IFRS Foundation has broad credibility. It was created two decades ago as a not-for-profit, public interest organisation to harmonise the various financial accounting principles used around the world.

Of course, for all the reams of information now provided in sustainability reports and ESG-related disclosures, such as carbon emissions, they do not play the same role as accounts. They will not necessarily help investors understand the health of a company as a going concern.

But, while there is still a need for financial accounting guardrails on the path to sustainability, the pandemic has encouraged companies to widen their outlook and focus on all their stakeholders — not just shareholders.

This has not suited all parties involved in the oversight of company financial reporting, though — including the US Securities and Exchange Commission. Objections to the ISSB in the US have hinged on its broad approach and the question of who has the right to set such standards for US investors. However, early this year, Allison Lee, interim SEC chair at the time, invited US investors and market participants to share their views on requirements for company disclosure on climate change.

Gary Gensler, the SEC chair appointed by President Joe Biden, has since followed this up. In a speech in July, Gensler said there had been hundreds of requests from the public for guidance from the SEC on ESG.

However, concerns expressed by commissioners appointed by the previous US administration, suggesting the ISSB would have too broad a mandate and consult with too many stakeholders, seem to have had an effect. Now, the new ISSB will aim to find standards that focus on the needs of investors, rather than all stakeholders. That makes some sense, as straying too far from the material needs of capital markets could make for vague and even politically contentious standards.

Also, the ISSB will start with climate-related standards. Given the growing quantity of data made available by companies in their efforts to reduce global warming, that looks to be a sensible starting point and fits with the aims of the Biden administration.

But that does not necessarily mean the US will agree to join the effort by the ISSB to establish standards. The SEC has a public mandate to regulate capital markets and facilitate capital formation. Whatever credibility the ISSB has, in the end, it can only provide guidance — it has no legal powers.

Straying too far from the material needs of capital markets could make for vague standards

Still, other securities regulators, as represented by the International Organization of Securities Commissions (which includes the SEC), have backed the move by the IFRS Foundation for a global board. The SEC has also promised to provide some climate change reporting standards for the management discussion and analysis sections of companies’ earnings reports by the end of this year.   

Many companies provide reports on meeting ESG criteria, but few publicly assess the financial risks for important areas such as climate risk, says Sue Harding, an accounting analyst.

Harding knows, having contributed to a recent report by the Climate Accounting Project, an informal group of finance and investment executives, and think-tank Carbon Tracker. They found that of 107 multinational companies reviewed, more than 70 per cent provided no explicit financial analysis about climate risks.  

Keeping tabs on sustainable investment promises means international standards are required more than ever. Yet these will provide guidelines only on the data needed. Assessing the financial risk to companies and investors will be the necessary follow-on for any work on global sustainability standards.

Alan Livsey is the Financial Times’ Lex research editor

Climate Capital

Where climate change meets business, markets and politics. Explore the FT’s coverage here.

Are you curious about the FT’s environmental sustainability commitments? Find out more about our science-based targets here