Defining Corporate Sustainability Reporting Directive (CSRD)

The Corporate Sustainability Reporting Directive (CSRD) is a proposed directive that is currently being developed by the EU. The aim of the directive is to update and amend the non-financial reporting requirements set for companies under the Non-Financial Reporting Directive (Directive 2014/95/EU, the NFRD).

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The CSRD is set to widen the scope of companies required to report on their sustainability from 11,000 to over 50,000, as well as increase the amount of information companies will report, set an auditing requirement for assurance of information, link to other standards, and introduce a digital reporting format.

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Overall, the CSRD is set to roll out some big changes in the way that companies will report and what processes they are required to have in place. This article sets out an overview of the upcoming changes and the key points you should know about the developing standards before they come into force.

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Corporate Sustainability Reporting Directive aim explained

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The CSRD or Corporate Sustainability Reporting Directive aims to ensure that companies publicly disclose adequate information about the risks, opportunities and impacts of their activities on people and the environment.
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The NFRD and background for the EU corporate sustainability reporting directive proposal

The Non-financial Reporting Directive (NFRD) was adopted in 2014 and introduced reporting rules and established important principles for certain large companies to disclose sustainability information on an annual basis. The NFRD applies to large public-interest entities (e.g. listed companies) with an average number of employees in excess of 500, and to public-interest entities (e.g. listed companies) that are parent companies of a large group with an average number of employees exceeding 500. Approximately 11,700 companies are subject to the NFRD’s reporting requirements.

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The NFRD introduced an obligation for companies to report on both how sustainability issues affect their performance, and how their business impacts people and the environment – also known as ‘double materiality’.

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However, after several years of companies reporting under the NFRD, the EU has reviewed the outcome of the directive and has stated that there is ‘ample evidence’ that the information reported by companies is not sufficient. The Commission committed to reviewing the NFRD and its efficiency and proposing a revision of the NFRD as a part of the European Green Deal and 2020 Work Programme.

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Some of the main criticisms of the NFRD are that:

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• the primary users of sustainability information being disclosed, such as investors, require more information than companies are currently required to report_;
• there are too few companies required to report;
• information is not easily comparable between companies;
• there is a lack of a requirement for auditing of information;
• with a lack of a digital reporting standard, information is often difficult for users to find.

The information needs of users have increased in recent years and are predicted to continue to grow as awareness around the risk of sustainability issues for companies increases and new regulations are adopted.

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The framework can also make it difficult for companies that have to report. A lack of precision in reporting requirements under the NFRD, along with a large number of private standards and frameworks coming into existence, makes it hard for companies to distinguish what information they need to report and how they do it. Here you can find a summary of the current reporting requirements. CSRD reporting requirements would amend the existing reporting requirements of the NFRD.

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The objective of the CSRD proposal is to begin to address some of these issues facing sustainability reporting and create a more comprehensive disclosure that is based on harmonised European Sustainability Reporting Standards (ESRS) and covers more key ESG issues.

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With the CSRD, the EU aims to update the sustainability reporting framework in Europe to ensure that there is adequate publicly available information about the risks that sustainability issues present to companies, and the impact of companies on people and the environment. The proposal also aims to reduce unnecessary costs of sustainability reporting for companies, enable them to meet the growing demand for sustainability information in an efficient manner, and reduce the number of demands companies receive for sustainability information in addition to the information they publish in their annual reports. Reported information should be comparable, reliable, and easy for users to find. The CSRD aims to raise the status of sustainability information to make it more comparable to financial information and increase the stringency of reporting standards.

Timeline for the CSRD

The Commission has made a proposal on the text of the EU CSRD, and the European Parliament and Council have reached a provisional agreement on the directive with the final agreed text published at the end of June. For the Council, the provisional political agreement is now subject to approval by the Permanent Representatives Committee (Coreper), before going through the formal steps of the adoption procedure. The directive will enter into force 20 days after its publication in the Official Journal of the European Union.

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The EU has confirmed that the application of the CSRD would take place in three stages.  This is how the Corporate Sustainability Reporting Directive timeline looks like:

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• 1 January 2024 for companies already subject to the non-financial reporting directive (reporting in 2025 for the financial year 2024).

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• 1 January 2025 for large companies that are not presently subject to the non-financial reporting directive (reporting in 2026 for the financial year 2025).

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• 1 January 2026 for listed SMEs, small and non-complex credit institutions and captive insurance undertakings (reporting in 2027 for the financial year 2026).

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In parallel, the European Financial Reporting Advisory Group (EFRAG) is working on a first set of draft sustainability reporting standards (ESRS). These draft standards will be ready for consideration by the Commission once the Parliament and Council have agreed a legislative text. EFRAG published the first draft CSRD standards in mid-2022 and these are now open for consultation.

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The aim of this work is to develop ESRS coherent with other Union legislation. The ESRS will then form the basis for reporting under the CSRD and also link to other reporting obligations such as the SFDR and Taxonomy Regulation.

The draft ESRS can be found here.

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The final text of the CSRD has also set timelines for when the Commission should adopt further delegated acts on reporting standards.

By the 30th of June 2023, the Commission should adopt delegated acts specifying the information that undertakings will be required to report. 

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By the 30th of June 2024, the Commission should adopt delegated acts specifying:

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(i) complementary information that undertakings shall report;

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(ii) information that undertakings shall report that is specific to the sector in which they operate.

Coherence with other EU initiatives on sustainable finance: reducing fragmentation and double reporting

The CSRD was drafted with the intention of ensuring alignment with other EU initiatives on sustainable finance – in particular the Sustainable Finance Disclosure Regulation (SFDR) and the Taxonomy Regulation (Regulation 2020/852).

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The aim of creating a more comprehensive standard that is interlinked with other reporting requirements is to reduce complexity and the potential for duplicative reporting requirements for undertakings that may be required to report on under multiple regulations or directives.

It will also increase the availability of sustainability information. For example, the proposal will ensure that companies report the information that investors and other financial market participants that are subject to the SFDR need. The reporting standards include indicators that correspond to the indicators contained in the SFDR – this means that companies reporting on a portfolio or fund under the SFDR would have greater access to the required information from investee companies.

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The CSRD will also expand the scope of EU taxonomy reporting. The CSRD will increase the number of companies required to report on sustainability information, and these undertakings added to the scope of the reporting obligations will also have to report on the taxonomy. The EU has stated that due to this, the reporting standards to be developed under the CSRD would fully take into account these indicators and build on the 'substantial contribution' and ‘do-no-significant-harm' criteria of the Taxonomy.

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The aim of the ESRS is that the standards should be proportionate and not impose an unnecessary administrative burden on companies required to use them. Because of this, the standards will take into account existing standards and frameworks for sustainability reporting and accounting where appropriate. For example, the standards will be built considering the Global Reporting Initiative, the Sustainability Accounting Standards Board, the International Integrated Reporting Council, the International Accounting Standards Board, the Task Force on Climate-related Financial Disclosures, the Carbon Disclosure Standards Board, and CDP (formerly the Carbon Disclosure Project).

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While in the past, reporting standards and frameworks have been developed on an individual basis, or legislation on reporting has been adopted on a country basis, the ESRS aims to create a more harmonised and integrated reporting standard, that aims to ensure information disclosed is of equal quality, usefulness, and comparability, and important factors do not slip through the gaps.

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To avoid unnecessary regulatory fragmentation for undertakings operating globally, the European standards will also aim to contribute to the process of convergence of sustainability reporting standards at a global level by supporting the work of the International Sustainability Standards Board (ISSB).

Extending the scope of mandatory reporting

The review of the effectiveness of the NFRD by the Commission found that many stakeholders were in favour of extending reporting requirements to additional categories of companies.

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The CSRD will extend the scope of mandatory sustainability reporting to all large companies and all companies listed on regulated markets (except listed micro-enterprises). This means that all large companies would be required to do CSRD sustainability reporting, whether they are listed or not, and without the previous 500 employee threshold. This results in greater transparency and availability of sustainability information.

The CSRD extends the scope of reporting to listed SMEs with the exception of listed micro-enterprises. This is because it is seen as of particular importance for investors to have access to adequate information from listed companies. The CSRD would not put new reporting requirements on small companies, except for SMEs with securities listed on regulated markets. Additionally, SMEs will be allowed to report on modified standards that are simpler than the standards that will apply to large companies. The Commission will therefore develop separate, proportionate standards for SMEs.

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The Commission should adopt standards proportionate and relevant to the scale and complexity of the activities, and the capacities and characteristics of SMEs. These should be adopted by the 30th of June 2024.

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While not required to report, non-listed SMEs could also choose to use these standards on a voluntary basis. As many SMEs are facing growing requests for sustainability information (e.g. from banks lending money, or large companies that they supply), collecting and disclosing sustainability information could be set to become a common business practice for all companies. Using the European standards that are adapted to the needs of SMEs could make it easier for SMEs to report the necessary information to banks (who also has to report based on the metric for disclosure called Banking book Taxonomy Alignment Ratio (BTAR)), clients, and other stakeholders.

Auditing

The NFRD currently only requires a statutory auditor or audit firm to assess the inclusion of the non-financial statement in a management report or separate report where appropriate. Some member states have imposed an auditing requirement on the content of the reports, such as Italy, Spain and France, but generally, there is no audit required.

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The review of the NFRD identified this as a problem with the effectiveness of the directive. There was evidence that many undertakings did not disclose material information on all major sustainability topics. The review also identified problems with the limited reliability of sustainability information. The creation of common reporting standards also enables the easier audit of sustainability reporting.

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The CSRD will introduce the requirement for reporting to be certified by an accredited independent auditor or certifier. The independent auditor or certifier must ensure that the sustainability information complies with the certification standards that have been adopted by the EU. The reporting of non-European companies should also be certified, either by a European auditor or by one established in a third country.

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The audit requirement will be a requirement for limited assurance at the beginning of the application of the CSRD. The aim is to move towards reasonable assurance. The proposal would allow Member States to open up the market for sustainability assurance services to ‘independent assurance services providers'. This means that Member States could choose to allow firms other than the usual auditors of financial information to assure sustainability information. Member states will be obligated to set out requirements ensuring the quality of the assurance carried out by independent assurance services providers and ensure consistent outcomes in the assurance of sustainability reporting.

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Member states will set out requirements for training and examination, continuing education, quality assurance systems, and other requirements for auditors. Member states will be given the possibility to apply national assurance standards and procedures as long as the Commission has not adopted an assurance standard covering the same subject matter.

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The Commission will adopt assurance standards for limited assurance before the 1st of October 2026.

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Digitalisation

The CSRD would require companies to prepare their financial statements and management report in XHTML format in accordance with the European Single Electronic Format (ESEF) Regulation and to ‘tag’ reported sustainability information according to a digital categorisation system. This digital categorisation system should be developed together with the ESRS.

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The aim of this digitalisation is that sustainability information will be able to be easily incorporated in the European Single Access Point as envisaged in the Capital Markets Union Plan. This would also be in line with the Digital Finance Strategy, which aims to enhance access to data and use and re-use of data within the financial sector. 

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Structure, materiality, analysis

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Similarly to the SFDR, the CSRD also incorporates the concept of ‘double-materiality’ or the double-materiality perspective. This means that it will address both risks and opportunities for the companies as well as for people and the environment.

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Companies will be required to report not only on information to the extent ‘necessary for an understanding of the undertaking’s development, performance, and position’ but also on information necessary for an understanding of the impact of the company’s activities on environmental and social matters, respect for human rights, anti-corruption and bribery matters. In other words, undertakings will report both on how they are impacted and how they cause impact with regard to various ESG factors. Learn more about EU taxonomy in agriculture, solar power sustainability or sustainable plastic manufacturing.

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Risks to the undertaking and the impacts of the undertaking each represent a materiality perspective. Undertakings will be required to consider each materiality perspective in its own right and disclose information material from both perspectives as well as information only material from one of the perspectives. The ESRS will develop a coherent and comprehensive set of reporting standards covering all sustainability matters from a double-materiality perspective.

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 The CSRD will introduce cross-cutting standards, sector-agnostic standards, and sector-specific requirements under the ESRS. The draft ESRS sets out these different standards and guidance on how they should be used in reporting.

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Cross-cutting standards are intended to address disclosures on general, non-topical matters. These will include general ESG reporting provisions such as due diligence, strategy and business model, boundaries and value chain. For example, ESRS 1 includes general requirements on general characteristics, an overview of strategy and business model, key features of the value chain, etc.

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Sector-agnostic standards are standards for each of the environmental, social, and governance parts of ESG. For example, ESRS E1 (Climate Change) covers environmental disclosures such as, but not limited to, transition plan in line with the Paris Agreement, resilience of the strategy and business model to potential climate-related transition and physical risks, energy consumption and mix, and scope 1, 2, and 3 emissions. The draft ESRS sets out environmental standards, social standards, and governance standards for disclosures. The ESRS will also aim to incorporate the SFDR PAI indicators.

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Sector-specific standards will provide guidance to the undertaking based on the sector it is operating within. Sector-specific standards are especially important in the case of sectors associated with high sustainability risks and/or impacts on the environment, human rights, and governance. In the draft ESRS there are identified 14 sector groups and 40 sectors. These sector-specific standards should be finalised in 2023.

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To comply with the ESRS, an undertaking is required to disclose all material information on its sustainability-related impacts, risks and opportunities in accordance with applicable ESRS. Applicable ESRS mandate reporting under standardised sector-agnostic and sector-specific disclosures. These are complemented by entity-specific disclosures to be developed as prescribed under the principles in the ESRS 1 Standard.

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An undertaking will be required to assess its sustainability-related material impacts, risks and opportunities in consideration of the mandated CSRD disclosure requirements as well as in consideration of the undertaking’s specific facts and circumstances justifying entity-specific disclosures. The undertaking will be required to disclose material sustainability-related information comprising sector-agnostic, sector-specific and entity-specific information.

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Undertakings will need to cover environmental, social and governance matters. They will be required to report on the following areas:

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( a ) strategy and business model in relation to sustainability;

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( b ) governance and organisation in relation to sustainability;

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( c )materiality assessment of its sustainability-related impacts, risks and opportunities;

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( d ) implementation measures, covering policies, targets, actions and action plans, allocation of resources; and

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( e ) performance metrics.

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The first three reporting areas are covered by cross-cutting Standards since they address several or all topics. The last two reporting areas are covered by topical Standards.

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Conclusion

As the CSRD proposal and ESRS are moving closer to finalisation and adoption, we now have a good overview of what the CSRD will look like and what changes it is set to bring to companies’ sustainability reporting.

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Overall, it is clear that the CSRD will  introduce some big changes in which companies will need to report, the way that companies will report, what data they will need, and what processes they are required to have in place.

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The CSRD aims to address some of the well known pain points for companies who have already reported on sustainability. It will extend the scope of sustainability reporting and make a more comprehensive set of reporting standards based on globally recognised guidelines and principles including the UNGP and OECD’s guidelines. 

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Introducing a consolidated and harmonised reporting framework will help to address many issues surrounding conflicting standards, gaps in reporting, and lack of comparability of sustainability data. The focus on material analysis guiding reporting means that companies will be able to report on the most relevant issues facing them along with mandatory reporting requirements. 

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The CSRD will come into force for companies already reporting on the NFRD beginning in 2025, reporting on the 2024 data. Other large companies and listed SMEs will report later. However, given the more extensive scope of the reporting standards that will be set by the CSRD, it is a good idea for all companies to get ahead and begin preparing to work with these standards now.

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