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Corporate Sustainability

Why Are ESG Reports So Complicated? A Guide for Corporate Strategy

Read Time: 4 Minutes

The umbrella term sustainability covers a broad territory, from business ethics to data privacy and security to carbon emissions. How can companies know if they’re capturing and disclosing the right information?

Without shared metrics, it can be difficult to compare corporate sustainability efforts apples to apples. Companies must contend with fractured global regulation, a crowd of stakeholders, and industry-specific topics. As the landscape shifts underfoot, many firms are left unsure if they’re capturing and disclosing the right information.

This clear reference guide explains what goes into a sustainability report and maps out an emerging field of corporate strategy.

The Crowd of ESG Stakeholders

Sustainable investing emerged on the scene in the 1970s, and with new approaches came a flurry of new, sometimes conflicting, terminology. Sustainable investing covers a spectrum of approaches, from avoiding poor financial or non-financial options to pursuing positive returns and sustainable outcomes.

ESG investing, a subset of the broader term, is one approach that considers environmental, social, and corporate governance factors in addition to other financial criteria. ESG risks can materially affect a company’s performance.

Because the field is so nascent, the metrics used to measure ESG factors are still in development. Debate remains over the relevancy of down-funnel data points, like indirect carbon emissions from a company’s products.

Today, companies and investing firms also face a host of stakeholders with varying degrees of influence on ESG reporting.

Reporting standards and frameworks lay out, with a spectrum of specificity, what information should go in sustainability reports. Regulations vary dramatically by region. While the European Union has written sustainable-investing guidelines with the EU Taxonomy and Sustainable Finance Disclosure Regulations, legal restrictions have lagged in the United States.

Nongovernmental organizations, nonprofits, and sustainability coalitions have created their own guidelines to fill the vacuum on what data companies should disclose. This means that disclosures can change between industries, depending on what framework or standard you elect to follow.

Some focus exclusively on climate information, while others cover environmental, social, operational governance, and economic data. Some organizations offer de facto standards, while others offer more high-level guidance.

ESG ratings agencies might be one of the most visible stakeholders in the investing field because of the services they provide. Using public data but their own methodologies, ESG rating firms score or rank companies. If a company joins a sustainability agreement, sustainability partnerships and initiatives can also shape its approach to reporting.

Simpler Ratings Systems for Broader Investment Universes

Morningstar’s Guide for Corporate Sustainability deciphers key terms used in corporate sustainability. It outlines six of the key standards and frameworks that shape the current regulatory landscape.

Here are a few of the major takeaways.

Single materiality refers to the financial relevance of key measures and events and their relevance to the long-term success of a company or organization. Material issues influence the financial health of a company and its stock. How well a company manages material issues can become a risk or an opportunity for investors.

Double materiality introduces the consideration of disclosure topics that matter to stakeholders. Double materiality is based on the idea that a company’s operations also touch its workers, community, and the greater natural environment. It considers issues that are important to investors but won’t affect the bottom line in the short term.

The definition of materiality has split asset managers into two camps. In the United States, the Securities and Exchange Commission has not yet introduced double materiality regulations, but the European Union has already put some of these factors into play. Morningstar’s white paper outlines how we think about material issues in our business model.

Reporting frameworks help companies structure and prepare topical areas for disclosure. Frameworks establish principles for what companies should consider for inclusion but aren’t explicit about the exact data or information that reports should include.

Reporting standards get more prescriptive on the specific data and information that firms should disclose, without determining the necessary presentation. Standards drill down into industry and subindustry details to allow for comparison between companies in the same field.

While overall, asset managers agree on the need for consistent international standards, they often disagree on the specifics. Draft standards from the International Sustainability Standards Board sparked dissent from major fund managers.

Sustainability ratings assess how well companies or a fund’s underlying holdings manage material issues. Ratings compare sustainability performance against industry peers. It does not disadvantage entire industries or traditional “sin” stocks.

To create its ratings, Morningstar Sustainalytics identifies the most relevant ESG issues by industry. Analysts assess a company’s stated policies and programs, disclosure transparency, and sustainability performance with more than 70 indicators.

ESG Reporting in Morningstar Direct

Client communications take more than just a one-size-fits-all approach. We’ve built our ESG reporting solutions on Morningstar’s foundational sustainable-investing framework, which outlines the paths investors can take to act on their sustainability objectives.

You can tailor reports to the nuanced motivations that make investing so personal. Explore pre-built templates, regulatory reporting guides, and more. Talk to a reporting specialist.