The European Union’s Corporate Sustainability Reporting Directive (CSRD) represents a significant evolution with respect to sustainability reporting. The CSRD is an ambitious undertaking that aims to enhance transparency and accountability in corporate sustainability practices across the EU.
The CSRD came into effect on January 5, 2023, and companies that fall under the regulation will have to start applying the standards in their 2024 fiscal years—with initial reports complying with the European Sustainability Reporting Standards (ESRS) anticipated to be required in 2025.
The concept of double materiality assessments is at the heart of the CSRD and ESRS. Let’s explore what double materiality actually means and what it implies for organizations.
WHAT IS DOUBLE MATERIALITY?
Under the CSRD, businesses are required to assess the importance of all ESRS topics through a materiality assessment (MA). If a topic is deemed ‘material,’ it means it has a significant impact on stakeholders’ decisions and perceptions, requiring additional disclosure.
Double materiality represents a dual perspective on materiality:
- Financial materiality
This refers to the traditional view of materiality, where the focus is on assessing the impact of environmental, social, and governance (ESG) issues on the financial performance and position of a company. It considers how sustainability issues can affect a company’s profitability, revenue, expenses, assets, liabilities, and overall financial condition. The idea is to determine whether the information about these issues is important enough to influence the decisions of investors and other financial stakeholders.
- Environmental and social materiality
This aspect of double materiality goes beyond the financial impact to consider how a company’s operations and practices impact the environment and society at large. It addresses the external effects of a company’s activities, such as its carbon footprint, labour practices, community engagement, and overall contribution to or mitigation of environmental and social challenges. This perspective is crucial for stakeholders who are interested in understanding a company’s broader societal and environmental impact—not just the financial implications.
UNDERSTANDING DOUBLE MATERIALITY UNDER THE CSRD
Understanding double materiality in the context of the CSRD is crucial for organizations aiming to meet its requirements. Double materiality means looking at a sustainability issue in terms of its direct impact and its potential risks or opportunities.
On December 22, 2023, EFRAG released a draft version of guidance for conducting materiality assessments. The draft, known as EFRAG Implementation Guidance 1 (EFRAG IG 1), outlines the ESRS perspective on materiality and provides a detailed explanation of how to conduct the materiality assessment.
It also offers insight into how entities can integrate other frameworks and standards into their assessment process. EFRAG IG 1 features a section of frequently asked questions (FAQs) that covers a wide range of information, such as examples of impact and financial materiality, the steps involved in the materiality assessment, tips on stakeholder involvement, and the nuances of aggregating or disaggregating data for reporting purposes.
HOW CAN A COMPANY CONDUCT A MATERIALITY ASSESSMENT?
Many guides are available to help companies plan their CSRD materiality assessment initiatives, including the CSRD’s ESRS. All revolve around the following steps:
1.Identify relevant sustainability topics
Start by compiling a list of potential sustainability issues that could affect your company or that your company might impact. This list should cover a wide range of environmental, social, and governance (ESG) topics.
2. Engage stakeholders
Conduct stakeholder engagement to gather insights on which sustainability topics are important to them. This should include internal stakeholders (like employees and management) and external stakeholders (like investors, customers, suppliers, and local communities).
3. Assess financial materiality
Analyze how each sustainability topic could impact your company’s financial performance. This includes considering risks and opportunities related to market trends, regulatory changes, reputation, and operational efficiencies. Make sure to include financial data, market analysis, and risk assessment tools to evaluate the potential financial impact of each topic.
4. Assess environmental and social materiality
Evaluate the impact your company has on the environment and society. This involves measuring your company’s footprint in areas like carbon emissions, waste management, labour practices, and community engagement. Tools like life cycle assessments, social impact assessments, and environmental audits can be helpful in this stage.
5. Prioritize material topics
Next, prioritize the topics by their level of relevance to the company and its stakeholders. You can create a materiality matrix to visualize which issues are most material from both a financial and environmental/social perspective.
6. Re-assess and Review:
Re-assess and review your findings with stakeholder feedback, ensuring that the materiality assessment aligns with both internal and external perspectives. Regularly update your materiality assessment to reflect any changes in the business environment, stakeholder expectations, or company operations.
7. Integrate into reporting and strategy
Use the outcomes of your materiality assessment to inform your sustainability reporting, ensuring that the most material topics are entirely covered. Integrate these insights into your company’s broader business strategy, sustainability strategy, and decision-making processes.
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