In June 2023, the ISSB issued its first two sustainability disclosure standards, its first steps in responding to demand for a comprehensive global baseline of sustainability disclosures by global capital markets. The two standards include:
- IFRS S1: General Requirements for Disclosure of Sustainability-related Financial Information; and
- IFRS S2: Climate-related Disclosures
We will be covering these new sustainability disclosures in our annual IFRS Update courses, including those industry-specific update courses such as Investment Management, Insurance, Banking and Real Estate, later this year.
Both IFRS S1 and IFRS S2 are effective for annual reporting periods beginning on or after January 1, 2024. To ease the transition to the new standards, the ISSB provides for adoption of only the “climate-related risks and opportunities” in the first year of adoption, delaying other sustainability risks and opportunities disclosures for the second year. They also only require one year of disclosures in the first year, before comparatives become required after the first year of reporting the sustainability-related disclosures.
The applicability of S1 and S2 (and all future sustainability disclosure standards) depends on each country’s endorsement or regulatory requirements. Additionally, these sustainability disclosure standards are not tied in any way to the application of IFRS accounting standards. As a result, if an entity applies IFRS for financial reporting purposes, it is not required to also apply the new sustainability standards, or vice versa.
If these ISSB standards are completely separate from IFRS financial reporting standards, do we as preparers and auditors of IFRS financial statements need to concern ourselves with these new disclosure standards and ESG matters?
The answer is yes! Obviously, if tasked with either preparing or auditing the sustainability disclosures as part of a voluntary or required compliance due to regulatory or jurisdictional requirements, these new standards are important. But, aside from the direct impact, recent regulatory enforcement actions have illustrated that there still may be a link between sustainability disclosures, presented “outside the financial statements” and our IFRS financial statement reporting requirements.
Consider an entity that is subject to government-imposed carbon emission reductions in the coming years. To comply with the ISSB (or similar) climate-related disclosures, the entity provides various qualitative and quantitative disclosures about the risks faced by the entity related to this government-imposed program. But as an ESMA enforcer recently noted in its report: 27th Extract from the EECS’s Database of Enforcement (29 March 2023) (Issue EECS/0123-07), these facts and circumstances should also flow through into the IFRS financial statement footnotes.
Specifically, the enforcer demanded more information on how climate change and CO2 reduction commitments were factored into the impairment tests carried out for the reporting entity’s goodwill and intangible assets with indefinite useful lives. In particular, the enforcer considered that the disclosures provided by the issuer pertaining to the assumptions used in the impairment tests were not sufficient to enable an understanding of whether and how the CO2 reduction commitments and climate change were taken into account in the determination of the value in use of the cash generating units. Finally, the enforcer also required the issuer to include a sensitivity analysis of recoverable amounts to a reasonable variation of the assumptions used which were related to climate change. The specific IFRS disclosure requirements relate to those required in IAS 36.134 and IAS 1.125/127/129.
So, as we can see from this example, while the sustainability disclosure requirements may function separately from the financial reporting requirements from IFRS standards, enforcers and auditors should consider the information provided from those sustainability disclosures and consider the impacts they have on the financial statements and related disclosures. Said another way, there should be “consistency and coherence between the risks disclosed in the non-financial section related to climate change and the information included in the financial statements.
Now that these first two sustainability disclosures are out, it will be interesting to see how they interact and impact the preparation and audit of financial statements prepared under IFRS!
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