5. Sustainability disclosure quality

The use of multiple sustainability-related and ESG reporting standards and frameworks is not the only barrier to greater consistency and comparability of corporate sustainability disclosure. If disclosed ESG information is not assured by a third-party based on robust methodologies (as financial reports of listed companies must typically be), this could undermine confidence in the disclosed information and the possibility of comparing sustainability reports between companies. In 2019, only 29% of S&P 500 companies that reported on sustainability sought external assurance.1 Just 5% of those assurances were in relation to the entire sustainability report and, in 40% of those cases, they certified only information on GHG emissions (G&A Institute, 2020[1]).

A global analysis of 1 400 large listed companies in 22 major jurisdictions2 found that 91% of those companies reported some level of sustainability information, and that 51% of those that disclosed sustainability information in 2019 provided some level of assurance by a third party (or 44% with assurance for companies based outside of the EU). Eighty-three percent of these assurance engagements, however, resulted in only “limited” assurance reports.3 The remaining small minority offered a higher level of “moderate” or “reasonable” assurances (IFAC and AICPA, 2021[2]).

Eight-nine percent of large Brazilian public companies surveyed by the OECD currently report sustainability information, which is a level close to the practice in large companies in other major jurisdictions as seen above. Among these Brazilian large companies, two-thirds hired a third-party to offer external assurance of the entire sustainability report, which is above the average in other jurisdictions. However, the use of external assurance remains low in smaller listed companies in Brazil (Figure ‎5.1).

Financial standards already require disclosure on how climate change and other ESG issues may impact a company’s business in some circumstances. A US Financial Accounting Standards Board staff paper states that “an entity may consider the effects of certain material ESG matters, similar to how an entity considers other changes in its business and operating environment that have a material direct or indirect effect on the financial statements and notes thereto” (FASB, 2021, p. 3[3]). For instance, companies will have to consider whether reduced demand for products with high carbon footprints might impact the fair valuation of their assets, and banks may need to reassess expected credit losses for loans to companies in carbon-intensive sectors if a new environmental policy is expected to affect them.

What may be less evident is that companies might need to disclose in the notes to their financial statements more than relevant changes in their balance sheets whenever the information is material for investors, including assumptions with respect to the future. As clarified by an IASB board member, for example, “a company may need to explain its judgement that it was not necessary to factor climate change into the impairment assumptions, or how estimates of expected future cash flows, risk adjustments to discount rates or useful lives have, or have not, been affected by climate change” (Anderson, 2019, p. 9[4]). Echoing this reasoning, an International Auditing and Assurance Standards Board (“IAASB”) staff alert highlights that “[i]f information, such as climate change, can affect user decision-making, then this information should be deemed as ‘material’ and warrant disclosure in the financial statements, regardless of their numerical impact” (IAASB, 2020, p. 3[5]). In Brazil, while not citing explicitly sustainability matters, CVM staff recently noted that auditors should consider, in their assessment of materiality, the “potential of a matter becoming relevant in the future” (CVM Staff, 2022[6]).

As a general rule, financial reporting standards do not require a structured disclosure on strategy, risk management and non-financial information (e.g. GHG emissions) that may be relevant for investors to assess a company’s business perspectives and risks. Moreover, management often has limited ability to communicate perspectives for the future in the management commentary to the financial reports and in other regulatory filings. Those features of the current transparency regimes have their justifications, but it is important to consider their drawbacks and observe how they relate to the climate change corporate disclosure debate.

In some circumstances, limiting the ability of managers to communicate their perspectives for the future is a sensible policy. After all, senior executives have strong incentives to convince investors that their recent results were positive and that the future is even brighter: their remuneration and security in their positions depend on that. In relation to past results, there might be some controversy (e.g. if an increase in profits can be attributed to management’s efforts) but, overall, books of accounts provide a relatively sound basis for assessing previous results. Nevertheless, the future is even more uncertain. It is often a mere educated guess whether a new product or factory will prove to be profitable.

A backward-looking transparency regime, however, has its weaknesses with respect to reducing the informational asymmetry between management and investors. While the future is evidently uncertain for managers, they have probably invested resources designing strategies and analysing risks, and their conclusions might be valuable for investors. This is especially relevant for risks that do not frequently occur (so-called “tail risks”) because they will seldom materialise in financial statements but, when they do, they might have a significant impact on a company’s businesses. Those “tail risks” might be financial ones (e.g. a sudden major move in interest rates), risks related to a company’s core businesses (e.g. flooding in a major factory), and environmental and social risks.

A number of capital markets regulators have considered the importance of management communicating on material risks faced by public companies, but existing disclosure has been sometimes insufficient for two main reasons: (i) rules demanding disclosure of material risks (e.g. in annual forms and initial public offerings (IPO) prospectuses) do not typically specify which types of risks and how they should be presented to investors; (ii) enforcement of those disclosure rules may have incentivised an opaque disclosure.

Not being prescriptive on which risks to disclose and how to present them to investors has a clear benefit. Different economic sectors face different types of risks and, in some circumstances, even companies in the same economic sector might encounter distinct perils, which may require flexibility to properly assess risks and disclose them. Nevertheless, managers may have the incentive to downplay existing risks because a riskier company has a higher cost of capital and, therefore, smaller market value.

The remedy to the problem above has been to rely on enforcement – by public regulators and through the courts – to discourage directors and key executives from misrepresenting the material risks of the companies they serve. For example, if a company did not include in the prospectus of its IPO the risk of flooding where it has its major factory, shareholders might file a lawsuit demanding compensation if there is indeed a disruption in production due to a major flooding. Shareholders will have to prove that mentioned risk was material for the company at the moment of the initial public offerings (IPO), but what is material in a concrete case may be interpreted in different ways in the absence of a clear framework.

In order to avoid referred litigation risks, senior executives may conclude that it is in their interest to refer to many types of risks (regardless of whether material or not) but, at the same time, use boilerplate language that would not allow investors to effectively assess a company’s “tail risks” or competitors to identify a company’s strategic weakness. If demanded by regulators or the judiciary, managers would be able to point to a company’s public document where the materialised risk was referred to. However, because the material risks were not well detailed, investors would find it difficult to apply adequate discounts to a company’s value because of existing “tail risks”. Of course, a low quality disclosure of risks may actually mean that investors will apply a meaningful discount in their valuation of a company simply because they do not have access to sufficient information, which would be detrimental to the development of the capital market.

A number of regulators have rules to improve the clarity in listed companies’ filings, such as the US SEC in its note to rule §230.421 stating that “vague ‘boilerplate’ explanations that are imprecise and readily subject to different interpretations” should be avoided in prospectuses. In Brazil, management is allowed to disclose projections and estimates, but they should be (i) included in the company’s regulatory filings, (ii) clearly identified as hypothetical, (iii) reasonable and (iv) accompanied by relevant assumptions and the methodology used (art. 21 of CVM Rule 80 of 2022). Moreover, Brazil’s securities regulator establishes that all corporate disclosure should be “written in simple, clear, objective and concise language” (art. 16 of CVM Rule 80).

While regulators’ efforts are welcomed, there is not any instant and permanent solution to the problem. For instance, an analysis of 2 751 IPOs of operating companies between 1996 and 2015 in the United States found that there was an average 32% – with 41% at the 75th percentile – of text similarity in the “risk factors” section of a prospectus compared to all prospectuses of companies in the same industry in the preceding year (McClane, 2019, pp. 229, 277[7]).

To some extent, the current regulatory movement and investors’ demand for better disclosure of climate-related risks might be seen as a way to compensate for a transparency regime that has not been completely successful in informing the market on many future risks including climate-related ones. In that sense, forward-looking information requirements may be important considerations when (and if) a jurisdiction decides to enact a disclosure rule for climate-related information.


[4] Anderson, N. (2019), IFRS® Standards and climate-related disclosures, https://cdn.ifrs.org/content/dam/ifrs/news/2019/november/in-brief-climate-change-nick-anderson.pdf?la=en.

[6] CVM Staff (2022), Ofício-Circular nº 1/2022-CVM/SNC/GNA, https://conteudo.cvm.gov.br/legislacao/index.html?buscado=true&contCategoriasCheck=1&vimDaCategoria=/legislacao/oficios-circulares/snc/.

[3] FASB (2021), FASB Staff Educational Paper: Intersection of Environmental, Social and Governance M atters with Financial Accounting Standards, https://www.fasb.org/cs/BlobServer?blobkey=id&blobnocache=true&blobwhere=1175836268408&blobheader=application%2Fpdf&blobheadername2=Content-Length&blobheadername1=Content-Disposition&blobheadervalue2=333644&blobheadervalue1=filename%3DFASB_Staff_ESG_Educa.

[1] G&A Institute (2020), Trends on the sustainability reporting practices of S&P Index companies, https://www.ga-institute.com/research-reports/flash-reports/2020-sp-500-flash-report.html.

[5] IAASB (2020), The Consideration of Climate-Related Risks in an Audit of Financial Statement, https://www.ifac.org/system/files/publications/files/IAASB-Climate-Audit-Practice-Alert.pdf.

[9] IAASB (2013), ISAE 3 000 (Revised), Assurance Engagements Other than Audits or Reviews of Historical Financial Information,https://www.ifac.org/system/files/publications/files/ISAE%203000%20Revised%20-%20for%20IAASB.pdf.

[8] IAASB (2000), International Framework for Assurance Engagements, https://www.iaasb.org/projects/assurance-engagements-completed.

[2] IFAC and AICPA (2021), The State of Play in Sustainability Assurance, https://www.ifac.org/knowledge-gateway/contributing-global-economy/publications/state-play-sustainability-assurance.

[7] McClane, J. (2019), “Boilerplate and the Impact of Disclosure in Securities Dealmaking”, Vanderbilt Law Review, Vol. 72, pp. 191-295, https://scholarship.law.vanderbilt.edu/vlr/vol72/iss1/7.


← 1. International Auditing and Assurance Standards Board (IAASB) defines “assurance engagement” as “an engagement in which a practitioner expresses a conclusion designed to enhance the degree of confidence of the intended users other than the responsible party about the outcome of the evaluation or measurement of a subject matter against criteria” (2000, pp. 6, 13[8]). It includes both the audit of financial statements and engagements on a wide range of subject matters such as climate-related disclosure.

← 2. The 100 largest companies by market capitalisation in China, Germany, India, Japan, the United Kingdom and the United States, and the 50 largest in Argentina, Brazil, Canada, Mexico, France, Italy, Russia, Saudi Arabia, South Africa, Spain, Turkey, Australia, Hong Kong (China), Indonesia, Singapore and Korea.

← 3. The IAASB defines a “reasonable assurance engagement” as one in which “the practitioner reduces engagement risk to an acceptable low level in the circumstances of the engagement”, while a “limited assurance engagement” is defined as one “limited compared with that necessary in a reasonable assurance engagement but […] likely to enhance the intended users’ confidence about the subject matter information to a degree that is clearly more than inconsequential” (2013, p. 7[9]). “Reasonable” is the level expected from audits of financial reports.

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