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The CSRD significantly increases the number of disclosures companies have to make about “material” sustainability matters (in addition to some base level disclosures). Specifically, companies that must report under CSRD have to undertake a ‘double materiality assessment’ to identify which sustainability matters are most material to the organization and its stakeholders.
The double materiality assessment not only determines the scope of the organization’s sustainability reporting. It also enables an efficient allocation of the resources needed to achieve CSRD compliance and provides indispensable insights for shaping company strategy. This page takes you through a seven-step process for the execution of a double materiality assessment. It shows you some of the challenges in undertaking a double materiality assessment and introduces some of its strategic implications.
Undertaking a 'double materiality' assessment is mandatory under the Corporate Sustainability Reporting Directive (CSRD). (CSRD) for reporting entities that must report under the CSRD. The operative word here is double. It refers to the fact that companies reporting on sustainability must consider the relevance of a sustainability matter from two perspectives.
On the one hand, organizations have an impact on people and the environment (the inside-out view). Think of damage to nature or violations of human rights. On the other hand, sustainability-related developments and events create (new) risks and opportunities for organizations (the outside-in view). Examples of this are reputation risk in case of incidents of corruption, the introduction of new carbon taxes or opportunities for development of new circular and sustainable products.
Under the double materiality concept, a sustainability matter can be material from an impact point of view and/or from a risk and opportunity perspective. Although the CSRD provides some guidelines for this, ultimately an organization will have to determine for itself if a subject is material or not, and it must substantiate the choices it makes.
An assessment of which topics are the most relevant (or: material) for an organization, and therefore must be included in its sustainability reporting, is an essential early step towards CSRD-compliance. The outcomes of such an assessment determine, in CSRD-specific terms, which reporting standards, disclosures and data points should be included in an organization's sustainability reporting, and which ones can justifiably be left out.
In a broader sense, the concept of double materiality ensures that sustainability reporting focuses on the topics that are most relevant for the organization and its stakeholders. Material topics also underpin the (sustainable) strategy. A report and strategy based on material topics create more transparency, contribute to better decision-making and ensure that time and resources are focused on those topics that matter most to both the organization, its stakeholders and society at large.
With this seven-step process organizations can follow the double materiality assessment. For each step we explain the approach and provide insights from a practical perspective.
Stakeholders are central to a double materiality assessment and the European Sustainability Reporting Standards (ESRS – standards connected to the CSRD) introduce new considerations with regards to the groups of stakeholders to involve. Who are the stakeholders that are impacted by the organization? And which stakeholders can affect the organization? Stakeholder mapping can be a useful tool to determine which groups to directly involve in the materiality assessment.
The objective of stakeholder engagement is to understand how people may be impacted by the organization and to get input and feedback on (material) sustainability matters. Through stakeholder engagement, organizations might identify (new) sustainability matters to be considered in their materiality assessment. Qualitative and quantitative stakeholder input can also inform the assessment (relative scoring) of impacts, risks and opportunities in subsequent steps.
Under CSRD the use of stakeholder input has changed. Whereas previously stakeholders were asked which topics they considered important, now they are asked to identify the organization’s most significant impact on people and the environment, and the most significant sustainability risks and opportunities for the organization. This is challenging, because not all stakeholders will be able to compare and assess a broad range of ESG topics from these two perspectives.
It helps therefore to do part of the assessment with internal and external experts on the various sustainability matters. That helps to gain insight into the impact of the organization, but also ensures stakeholder dialogue can focus on what the organization can do better. Stakeholder dialogue should not only be used to collect input for the materiality assessment, but there should also be time for discussion on the strategy, policies and action plans for these topics.
The ESRSs provide a list of sector-agnostic sustainability matters that organizations should consider in their materiality assessment.
Organizations will also be required to identify entity-specific sustainability matters that are not explicitly mentioned in the ESRS. An example is a company's tax policy, which can have a significant impact on society, and can also be a risk and opportunity considering regulations on tax transparency and measures against tax avoidance. In a later stage organizations will also have to consider sector-specific sustainability matters based on the sector-specific ESRS that are still in development.
Organizations need to consider their sectors of activities, geographical areas of operation, as well as steps in the value chain when identifying potentially relevant sustainability matters. Previous materiality assessments, internal documentation (e.g. impact and risk assessments), external documentation (e.g. sector reports, benchmarks and ESG ratings), and insights from stakeholder engagement can be used as sources of input.
By working with internal specialists (e.g. from sustainability and risk teams) and using internal resources (e.g. strategy documents) organizations can avoid being overwhelmed with a huge list of topics and can create an actionable short list of topics to be considered in the next steps of the assessment.
In the process of determining whether the sustainability matters as identified in the previous step are indeed material (and should therefore be disclosed in the sustainability statements), the next step is to define them - as required by the ESRS - in terms of the impacts the organization has and the risks and opportunities they present.
This can be a challenging exercise. Impacts related to any sustainability matter on people and the environment can be positive or negative, actual, or potential, and interconnected with the impacts from other topics. Impacts, risks, and opportunities can occur in the short, medium or long term and pertain to (future) events and activities across the value chain.
In our experience it is crucial to tap into all the relevant units of an organization in order to make these assessments as rich as possible and also to avoid double work. And since these assessments need to cover their entire value chain, organizations need to consult stakeholders and topic experts, for example when it comes to biodiversity-related impacts and human rights of workers in the supply chain.
Once sustainability matters have been described in terms of impacts, risks and opportunities (step 3), the next step is to quantify those impacts (step 4) and risks and opportunities (step 5). This requires answering questions such as How much damage does a certain activity cause? How many people are affected by it? What is the cost of undoing the negative impact of an activity?
The level of detail involved in this step is on the one hand needed to apply the parameters defined in the ESRS. It also facilitates future disclosures. A granular assessment helps to later determine which disclosure requirements and data points are material. Moreover, organizations need to disclose how they manage the impacts, risks and opportunities connected to each topic. Going into detail here will clarify potential strategic implications.
Input for these quantitative assessments can be obtained from (again) engaging with stakeholders and experts, both internally and externally, through interviews, surveys, and workshops. In addition to this bottom-up approach, a holistic, top-down review of the outcomes is advised to address a critical challenge organizations face when assessing impacts: How to compare impacts that are completely different in nature? Does it make sense for example that biodiversity scores higher on impact materiality than corruption?
The next step is to assess the effect of sustainability risks and opportunities on the enterprise value of a company, in other words to assess the financial effects that have not yet been incorporated into the financial statements. The CSRD asks organizations to look at financial effects from two perspectives: to what extent can you continue to use your current resources and to what extent can you maintain your existing relationships?
Again, this is a challenging exercise. It requires an understanding of what is happening in the value chain, as well as insight into sustainability developments that can affect business processes. Will polluting activities be taxed more heavily? Will customers ask for other (more sustainable) products and services? What are the financial consequences of reputational risks as a result of possible human rights violations?
The assessment of risks and opportunities requires input from a range of experts. Sustainability teams can help identify events that might trigger a risk or opportunity, e.g. new regulations, increased public scrutiny or changing stakeholder expectations regarding a certain topic. Risk experts can support and ensure alignment with the broader enterprise risk management approach. Financial experts can help to assess the magnitude of the financial effect, e.g. increase in R&D expenses, loss of revenue or increase in operational costs. We suggest bringing experts together in a workshop so they can challenge each other on the relative score of each topic and how that fits in the bigger picture.
Once all impacts, risks and opportunities have been assessed, an organization can create separate ranked lists (high to low materiality score) for negative impacts, positive impacts, risks and opportunities. By applying a threshold or cut-off point these lists can be split in material (top) and not material (bottom) impacts, risks and opportunities.
Here, the challenge is in setting the thresholds, since the ESRS provide limited guidance on this. An organization should include all significant impacts, risks and opportunities, but if too many are included the sustainability statements and strategy no longer focus on those topics that matter most. A dialogue with senior management and the experts involved is needed to develop a holistic view of the most material matters.
For the sustainability statements, but also for internal discussions, the outcomes of the assessment now need to be visualized. A materiality matrix is an option, but not a requirement under CSRD. The advantage is that a matrix provides an easy-to-read, consolidated overview. The downside is that some information is lost, given that assumptions are needed to consolidate and plot positive and negative impacts and risks and opportunities in a single dot in the matrix. Some organizations therefore decide to show the results in a table which includes more detail.
For each sustainability matter that has been identified as material, the CSRD requires that companies disclose exactly what measures they are putting in place to manage their environmental and societal impacts. As a result, companies have to disclose not only the metrics and targets they have set for each sustainability measure, but also the policies and action plans they will execute to achieve their goals. In short:
In addition, the CSRD requires companies to make disclosures about how they account for sustainability matters in their strategic planning processes. This includes coverage of how material impacts, risks, and opportunities arise from and require adaptation of the business model, market position and value chain (today and in the future).
In sum, these requirements lead to an increasing need to expressly consider sustainability impacts and to take a longer-term perspective when developing corporate strategy. The disclosure of action plans also requires companies to formulate credibly how they will ensure sustainability matters are addressed in the organization and which parts of the organization need to be involved.
Translate ESRS criteria (for example on how to assess scale, scope, likelihood and remediability) into tailored assessment guidance to ensure experts assess impacts, risks and opportunities in a consistent manner.
Go granular if you want to gain new strategic insights. Your assessment should also enable you to identify disclosure requirements and data points relevant to you.
Ensure that outcomes from the double materiality assessment are shared across the organization and embedded in strategic decision making
Director, Sustainability, PwC Netherlands
Tel: +31 (0)62 016 21 34
Director, PwC Netherlands
Tel: +31 (0)6 23802271