These days, producing an annual report with beautiful images of nature and a non-committal ESG story is no longer enough. The market wants convincing evidence that companies have a sustainable economic model and are future-proof. This calls for a clear set of ESG KPIs, robust data, reliable reporting and valid insights to serve as a guide. The question now occupying many CFOs is: what KPIs will help our organisation achieve proper ESG reporting and insights? Part one in a three-part series on sustainable reporting.
Alexander Spek: 'Reporting on more than six hundred data points is really far too many'
Have the courage to make choices – that is the advice of Alexander Spek, accountant and expert in the field of ESG reporting. ‘We’ve had a hundred years to achieve maturity in the area of financial reporting. When it comes to non-financial reporting, however, we simply do not have that time. Demands are rapidly becoming more stringent and coming at us at an ever-faster pace. That’s why it’s now essential to consciously think about which data you want to report to the outside world and use that as a basis.’
The magic words, according to Willem-Jan Dubois, ESG Lead within the Consulting team, are focus, ownership, process, structure and governance. ‘Setting up proper ESG reporting requires organisation and discipline’, says Dubois. He highlights three steps for selecting the right KPIs. ‘Firstly, as an organisation, you must comply with legislation and know what has to be included in your annual report. Secondly, you should report on those KPIs that are important for stakeholders, such as banks, investors or interest groups. Thirdly, and perhaps most importantly, you will want to have a reliable insight into the right KPIs so that the organisation has the right management information to actually implement its defined (ESG) strategy. Many companies organise these three steps separately, but this is in fact the perfect opportunity to put all the elements in place together in a well-structured way. Then it will be right first time.’
Reporting on everything is both impossible and undesirable. ‘There are clients who ask for our help because they are currently reporting on more than six hundred data points. That really is far too many’, says Spek. ‘The ultimate goal is to create a dashboard that updates the board on the status of ESG KPIs monthly, as an integral part of managing the company. And that’s not possible with hundreds of data points. But how can it be done? Who ultimately selects the appropriate KPIs? And how do you obtain the data?’
‘Setting up good ESG reports requires organisation and discipline'.
There are roughly three categories of ESG KPIs. Mandatory KPIs, imposed by legislation for example, are the first category. Secondly, there are stakeholder KPIs, which are often also prescribed. Thirdly, a company identifies so-called strategic KPIs: data points that tie in with its corporate strategy and ESG ambitions and, if managed appropriately, create value for the company.
Many of the parameters on which you report are prescribed by laws and regulations. Depending on the sector in which your organisation operates, there is a set of mandatory indicators. Take GRI Standards, for example, sustainability reporting based on the Global Reporting Initiative. The GRI is part of the so-called CSRD, the Corporate Sustainability Reporting Directive, proposed by the European Commission, which will probably come into force in 2025 and will affect thousands of companies.
Like mandatory KPIs, stakeholder KPIs are also often prescribed. They are not required by laws and regulations, but are demanded by various stakeholders. Credit rating agencies, for example, issue a certain rating based on specific KPIs, while investors and other interest groups base their decisions on the reported information. This means that the company has little influence over the choice of these KPIs and their definition.
Which KPIs should you report on in order to achieve your strategic goals? You determine this on the basis of a materiality analysis and a value driver analysis. A materiality analysis involves looking outside-in. In dialogue with stakeholders, you find out which ESG KPIs they consider important and less important. You then plot these in a matrix, which also incorporates the impact.
In addition, you draw up a strategy map on the basis of a value driver analysis. You start this in a focused way by making your strategic objectives concrete (SMART) and then identifying the key activities (i.e. value drivers) for them that a) have the greatest potential impact and b) that you as an organisation have the greatest influence or control over.
You need both the materiality analysis and the strategy map to achieve proper prioritisation. Bring the outside world (stakeholders) together with the internal world (strategy) and select the right non-financial KPIs to guide you.
Setting up proper ESG reporting and selecting the right parameters is a joint task that usually involves three stakeholders: the CSO, the CFO and the CEO/COO.
Suppose an organisation in the clothing industry wants to work on reducing its water consumption. Who plays what role?
The Chief Sustainability Officer (CSO) determines the process and directs the implementation of the defined ESG strategy. It has been decided that the water consumption of the entire organisation should be halved. This will have a huge impact on the production process. The CSO makes sure it is clear what the targets are for the underlying drivers and who is responsible for them, and ensures the people responsible have the resources needed to deliver. The CSO’s role is to facilitate and guide rather than execute. The CSO also ensures there is a mechanism for intervening if things do not go well, keeps a close eye on external developments and applies best practices.
The CSO needs an insight into water consumption and obtains this insight through the use of the right reports. When it comes to ensuring proper reporting, attention usually turns to the Chief Financial Officer. The CFO, the head of the finance department, has an executive role and ensures the selected KPIs are reported on correctly. The finance department receives the KPIs and their correct definition from the business, although it does have a role in facilitating the correct set. A so-called reporting manual is drawn up for each KPI. This ensures that the various business units across the world are using the same definitions and methods so that reporting for each department, period and business unit is consistent and of high quality. Next, a clear data delivery process, the reporting process and, subsequently, the analysis and control process (performance management), for which the CFO is responsible, are important to make sure the ESG data achieves the same level of reliability as the non-financial information.
The Chief Operating Officer (COO) (and in some organisations the CEO) is responsible for operations and therefore ‘owns’ the target of halving water consumption. What information do you, as COO, need to be able to work towards the goal of halving water consumption and what is the definition of this to allow it to be measured? For certain KPIs, such as the reduction of CO2 emissions or the treatment of temporary staff, there are already established definitions, and standards such as the Greenhouse Gas Protocol or the EU Taxonomy are used. If a standardised definition is not yet available, the business provides this information to the finance department so that the reporting can be set up properly.
‘The magic words are focus, ownership, process, structure and governance’.
Figures and statistics can provide insight or be completely misleading. Since reporting is based on data, high-quality, reliable data is a prerequisite. Data must be robust and transparent. The reporting manual, which ensures that every department uses the same definitions and methods, has an essential role to play here. Nevertheless, it is easier said than done.
There are countless examples that demonstrate how complicated collecting high-quality data is in practice. Many organisations aim to achieve a balanced male-female ratio, for example. But what if employees do not wish to indicate their gender? Or if people do not feel that they are a ‘male’ or a ‘female’? As an organisation how do you deal with such a response? Difficulties also arise when global companies set new standards centrally with the aim of aligning all reporting. ‘At one of our clients, the head office decided to change the definition of a full-time working week. This meant that the office in one of the African countries within the organisation suddenly had six thousand new FTEs overnight’, explains Willem-Jan Dubois.
Alexander Spek quotes an example from the newspaper. A man working for a construction company through a secondment agency became disabled following an accident on a building site. The construction company remained unaware of the accident for months, partly because its administration was poorly organised. However, the company published a comprehensive sustainability report every year in which it boasted the safety situation on its various construction sites and the number of incidents. ‘Relatively simple examples show how complicated reporting and sustainability reports can be’, says Spek. ‘After all, what definition of a KPI is used? Are ‘hired’ workers included in the number of incidents or does the reporting only cover the company’s own employees?’
There are countless questions that can be asked in relation to a single data point. Dubois: ‘In the end, it’s all about the availability and reliability of the data and the controls that are put in place. If the procedure is not right, you are not extracting the right data and your reporting is therefore invalid’, Dubois concludes. ‘Absolutely everything has to be in order.’
Willem-Jan Dubois: 'It’s about the availability and reliability of data.'
Together, we set the right direction by thinking about strategy and compliance with legislation. This means that we first define the ESG principles, formulate a strategy and set challenging ambitions. Once we have determined the starting point, we focus on achieving transparency. We do this by making the ESG reporting, systems and data architecture robust. An important step in this phase is selecting the right KPIs.
It is clear that non-financial reporting needs to be every bit as solid and robust as financial reporting. This is a process that requires attention, focus and investment, in terms of both time and money. This investment is no longer optional for companies that want to survive. Access to capital, investment and new markets evaporates if companies fail to share information or share information that is unreliable. Are you reporting fully and reliably on the information that is important to all stakeholders? If so, you have the edge over the competition. You can read about the importance of transparency in the first part of the series on ESG reporting and insights.
In the third part of the series on ESG reporting and insights we will take you on a journey towards a stable future and discuss the structure of the data architecture, how companies obtain reliable information and the essential step in making the world more sustainable: actually achieving the targets set.