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Private Businesses are Falling Behind in the Race to Meet EU ESG Reporting Standards. Here’s Why.

May 28, 2023

By Neil Smith

Abstract

Private companies need to turbo-charge their ESG reporting preparations and get ready for new EU regulations – or they face several critical threats in the shape of financial penalties and missed benefits. Kōan Strategic Director Neil Smith explores what those risks are and explains why they’ve come about.

We’re just a few months away from the arrival of the EU’s Corporate Sustainability Reporting Directive (CSRD) – a legal requirement for the disclosure of environmental, social, and governance information (ESG). However, for many of the continent’s private businesses, the finish line is nowhere near in sight.

That’s because many of them lack the processes and understanding even to enter the race to be CSRD-ready, let alone gather the thousand-plus data points they’ll need to supply to meet CSRD’s European Sustainability Reporting Standards (ESRS) – the framework that sets out precisely the information companies must share to meet CSRD requirements.

As with every race, CSRD will create winners and losers. The European Financial Reporting Advisory Group (EFRAG) designed ESRS to make it straightforward for businesses to understand the relevant ESG information to share and easier for investors to compare those companies’ ESG data and choose where to make their sustainable investments. Companies that fall behind not only risk letting their competitors pull away but face a raft of direct and indirect penalties.

1144 data points – and counting

The companies at risk of falling into that second group are private entities, who, if they pass certain size and wealth criteria, will be in scope for CSRD from January 2025 (a year after public interest companies get going).

Many of these companies are starting cold, having failed to yet warm up the reporting muscles needed for the introduction of the formalized, mandatory reporting requirements that have arguably been coming since the Global Reporting Initiative (GRI) was formed in 1997, followed by various stock markets obligations, not to mention the arrival of the Non-Financial Reporting Directive (NFRD) – a precursor to CSRD for large public interest organizations – in 2014.

In a review of private European companies, reporting specialists Kōan found several examples of billion-euro businesses that, at least publicly, appear to have no non-financial reporting foothold to speak of, that did not publish a non-financial report in 2021 and now must wrap their heads around concepts like double materiality, as well as locating and tracking 1,144 (and counting) data points.

It’s a monumental task that’s only really made easier once a company has embedded an understanding of ESG in their organizations – a lengthy process.

Penalties and labor market pain

Failure to get a grip on reporting poses several dangers for these companies. There’s the explicit threat of “effective, proportionate and dissuasive” penalties given by member states to companies that don’t adhere to CSRD. There’s the danger of missing out on the revolving credit facilities banks are increasingly linking to the ability to meet sustainability markers, not to mention the potential for their lack of transparency to put off potential private equity backers.

Then there’s the threat of losing business contracts. ESRS requires companies to report on the material impact of their value chain – including the impact of the entities they work with. If private companies that supply or partner with other businesses cannot present adequate ESG data, they put their partners’ operating licenses at risk – or, more likely, they risk those partners walking away because of that threat.

Financial jeopardy sits alongside the untapped benefits of ESG reporting this group is already currently missing out on. Reporting generates data that can power better business performance and cost saving and innovation in the form of low-carbon products and services – all while improving business reputation.

It’s also a brilliant tool in a fight for talent, in an age where employees need to feel they can buy into their employers’ worldview. Candidates say they are more likely to accept jobs from a socially conscious organization – meaning businesses that aren’t communicating the ESG work they’re doing will simply be overlooked by prospective candidates. When most companies worldwide have a skills gap, or will soon have one, it’s not a stretch to see some of these businesses stumbling into irrelevance as employers.

Playing catch up

As we look across the field, not all private companies are under-prepared to the same level, and some have taken positive steps taken in recent years. Companies like Dutch energy giants Vitol Holding BV, Spanish department store chain El Cortes Ingles and Italian chocolate maker Ferrero produced reports in 2021 that followed GRI standards and included a materiality assessment that defined their stakeholders or explained their assessment process – indicating a healthy understanding of ESG reporting.

What’s more, with the GRI actively collaborating with EFRAG to ensure interoperability between GRI and ESRS, the latter of which will include a double-materiality assessment as mandatory, these companies are likely to have access to useful information and to have planted the seed inside their company culture that ESG is a crucial business concern – making the jump to ESRS more manageable.

However, though these trends are encouraging and give these private companies a starting point, it’s still a significant leap for many to be ESRS-compliant. Scratch the surface, and companies will soon see new concepts to get their head around, a greater quantity of data to provide, and the need for third party assurance – all of which requires more time, effort, and resource.

EFRAG has provided a slight boost for straggling businesses by delaying additional sector-specific ESRS requirements to allow companies to get their head around the first set of standards. That’s small consolation for many, though. For those private companies yet to implement ESG reporting, the 18-month race to be ESRS-ready has become both a marathon and a sprint, and one they simply cannot afford to lose. Our advice to them is to start working with sustainability managers to develop a full picture of what’s required and what data they can provide right now – enlisting outside support if necessary – and funneling resources into those departments to plug those gaps. They’ll recoup any extra investment comfortably in the coming years – the time to turbo-charge ESG reporting has come.

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About the Author

neil Neil Smith is the Strategic Director and co-founder of Kōan, an Amsterdam agency specializing in helping companies across Europe swim through the data and sharpen their sustainability reporting to meet regulations – including the EU’s incoming Corporate Sustainability Reporting Directive (CSRD).