Companies are taking a variety of approaches to conducting materiality assessments for their annual reporting in terms of biodiversity and other #ESG topics – but how to be sure your approach is on the right track?
As we compare and contrast assessment approaches in the course of our research, we have noticed that some reports come across as somewhat lacking in focus and substance, while stakeholder engagement appears to vary from cursory at best, brief surveys targeted at a small cohort, to in-depth discussions over a large cross-section of interested groups and individuals. Some reports seem weighted toward the concerns of shareholders rather than matters that impact society at large, while some obfuscate negative environmental and social impacts via their report’s presentation style, veering dangerously close to greenwashing.
Fortunately, a number of methods and frameworks have emerged to facilitate Environmental, Social and Governance reporting and, in terms of standardisation, the Global Reporting Initiative (GRI) framework provides a solid, comprehensive approach for businesses reporting on their ESG performance.
The European Union’s Corporate Sustainability Reporting Directive (CSRD) requires the use of double materiality in sustainability disclosures, which acknowledges that materiality – what matters most to a business – can no longer be viewed from a purely financial perspective. Traditionally, a material issue is one that could significantly influence the financial decisions of investors. However, this approach has expanded in recent years, as stakeholders, including regulators and consumers, have increasingly called for businesses to consider their broader societal and environmental impacts.
A double materiality assessment takes into account two perspectives:
- Financial Materiality: How ESG issues could impact a company’s financial performance. For example, stricter environmental regulations could lead to increased compliance costs, or climate-related risks could lead to asset devaluation.
- Impact Materiality: The external impacts that a company’s operations, products, or services have on society and the environment. For instance, a company’s carbon emissions, deforestation, or supply chain labour practices might negatively affect local communities or contribute to global environmental challenges.
Both aspects are interconnected and the double materiality approach offers a holistic understanding of a company’s risks and opportunities, enabling a businesses to better anticipate future trends, such as shifts in consumer preferences toward sustainable products or the financial implications of climate change, and nature degradation, as a result of business impacts.
In particular, GRI 3: Material Topics provides guidance on how businesses can identify, assess, and prioritise material topics for reporting. The approach is quite stakeholder-focused and involves the following steps:
Step 1: Understand the organisation’s context
GRI 3 encourages businesses to think broadly about potential topics, not just those that have an immediate or obvious financial impact, but those that reflect significant external societal or environmental concerns. Consider:
- Business activities
- Business relationships
- Sustainability context
- Stakeholders
Thorough and ongoing stakeholder engagement is key to identifying material topics, alongside a review of the latest industry standards, regulatory developments and examining reports by other organisations. Contact as many of your stakeholders as you can and examine their concerns – employees, customers, local communities, NGOs and regulatory bodies.
For this exercise to be effective, you must engage at-risk or vulnerable groups and consider impacts that result in collective harm (e.g. GHG emissions), which require consultation with experts in this field. Identify the full range of ESG topics that could be relevant to the business – these go beyond climate change and biodiversity to labour and human rights, community relations and governance.
Step 2: Identify actual and potential impacts
Financial materiality: Evaluate how the issues raised by stakeholders might impact the company’s financial performance. Risks related to climate change, such as increased operational costs due to carbon pricing, or physical damage to assets from extreme weather events, could have material financial consequences for a business.
Impact materiality: how do your company’s operations and activities affect society and the environment? For example, a company’s operations may generate waste or pollution, harming local ecosystems and communities. These impacts may not affect the company’s bottom line in the short–term but are still relevant to stakeholders and fall under the company’s overall environmental and social responsibility.
Where data is not immediately available or clear, conduct a scoping exercise to identify areas where negative impacts are likely to happen, considering impacts commonly associated with your sector. Identify also any positive impacts – those that contribute to nature restoration, conservation, protection or regeneration.
Step 3: Assess the significance of the impacts
The significance of the impact will be specific to each organisation and influenced by the sectors in which it operates. Consultation with experts is essential here. An actual negative impact’s significance is determined by its severity. Significance of a potential impact is determined by both the severity and likelihood of the impact, a.k.a. risk.
Severity is determined by:
- Scale – how grave the impact is, including from a compliance perspective
- Scope – how widespread the impact is
- Irremediable character – how difficult it is to fix.
For positive impacts, also look at scale and scope. How beneficial is the impact? How widespread is it or could it be?
Step 4: Prioritise Material Topics
After assessing both the financial and impact materiality, businesses must prioritise the topics that are most significant. This involves balancing the interests of shareholders (who may be primarily concerned with financial materiality) and stakeholders (who may be more concerned with societal and environmental impacts).
Step 5: Review and Disclose
The results of the double materiality assessment should be reviewed by the senior management before disclosure. Material topics should be shared in the company’s annual report. Under GRI standards, the company must explain how it conducted its materiality assessment and provide clear information on the financial and societal impacts of its operations as well as explaining why some standard topics are not considered material.
In each reporting period, review material topics from previous assessments and account for changes in the impacts, and changes due to organisational activities or business relationships. Document the approach taken for each assessment, including the methods of stakeholder engagement, evaluation, visualisation and reporting methods (and actions taken as a result). These elements should all be monitored, reviewed and updated regularly, as material issues can evolve over time. New regulations, shifting stakeholder expectations or emerging ESG risks will entail updating your materiality assessment considerations and methods in future.
This idea is known as Dynamic Materiality: “As companies more rapidly change their business models, what is material to such companies will be changing in stride. Just as the new material topics will emerge for companies as the company evolves, some sustainability issues that were previously material financially to companies will no longer be”. (Kuh et al, 2020).
By conducting a double materiality assessment now, on a voluntary basis, companies who do not yet fall under regulations can be ready for when regulation expands to encompass businesses of every scale and sector, and help secure a place in the supply and value chains of larger organisations who are currently mandated to report.
Transparent disclosure, as well as taking concrete action on biodiversity impacts and other ESG material topics, will enhance your business reputation with consumers and peers, while mitigating risks, boosting long-term resilience and contributing to a more sustainable future.
The Business For Biodiversity Ireland platform offers guidance to all Irish businesses to build internal capacity to understand your material topics – sign up today.
Illustration: Figure 1(a), EFRAG IG1 Implementation Guidance on Double Materiality, May 2024. The European Sustainability Reporting Standards has published a materiality assessment document, P10 deals with double materiality, with a section on FAQs via the EFRAG site.
Visit the Global Reporting Initiative site for more information: https://www.globalreporting.org/how-to-use-the-gri-standards/gri-standards-english-language/
