Finance & Markets
ACCOUNTING AND ESG
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Counting the cost Why accounting must look beyond the balance sheet by Hendrik Vollmer
s climate change and sustainability concerns climb the corporate agenda, accounting is being pulled
in their supply chains, the use of their products and services, and the sustainability of the markets on which they are selling them. The risk might be highest where the cost of social and environmental impacts are not immediately apparent and therefore are not yet priced in. 2 Resource dependencies This refers to issues such as water use, energy intensity, supply- chain ecologies, community goodwill, and reputation. These can become existential risks if not addressed. On this basis, the gathering of business intelligence needs to go well beyond the boundaries of any individual enterprise. This will need the help of external stakeholders. 3 Feedback loops This considers the interplay between environmental impact and business performance. ■ One example is how the degradation of natural capital may affect supply chains, production costs, or regulatory exposure. ■ This is where businesses might be at a particular loss if they fail to engage with the people on whom they depend – from suppliers and users to those who are affected by production. ■ Sustainability reporting is not a branding exercise. Done well, it sharpens strategic thinking about the creation of value and improves how decisions are made. Anything less risks wasting time, trust, and money.
footprint verification to supply chain audits – all designed to help businesses stay ahead of mounting pressure to report clearly, and convincingly, on sustainability. But the real challenge runs deeper. Before anything can be measured or assured, companies need to answer a more basic question. What, exactly, should they be accounting for? The answer largely comes down to how you define ‘materiality’. Two main schools of thought have emerged. The first, backed by the likes of the International Financial Reporting Standards, focuses on financial materiality – what matters to the company’s bottom line. This means companies focus their reporting on sustainability issues – like labour conditions, water use, or carbon emissions – only when they could have a financial impact on the business. This helps investors understand the risks and make more informed choices about where to invest. The second approach, called impact materiality, takes a broader perspective. It looks beyond how sustainability issues might affect the company and asks how the business itself is affecting people and the planet. For example, a tech firm that does not manufacture goods might report on its energy-intensive data centres and their significant contribution to emissions. In reality, plenty of companies are trying to cover both bases in their sustainability reporting. Nestlé is one example. As one of the biggest food and drinks firms globally, it is under pressure from investors to manage risks like deforestation, while also being watched closely by consumers for its broader impact. Its reports show how environmental, social, and governance (ESG) issues could affect profits, and how the business affects the planet and society.
It is not a simple task but it is a more honest reflection of the pressures that companies are facing. For sustainability accounting to be useful, it needs a framework – something clear, credible and consistent. Otherwise, reporting risks drifting into two extremes: glossy greenwashing, or overwhelming data with no clear purpose. Choosing a framework is not about ticking regulatory boxes. It is a strategic choice. Who is the report really for? Investors? Regulators? Customers? Civil society? The answer shapes what gets measured – and what gets left out. That means firms need to map the value chain, understanding where their responsibility starts and ends, and draw clear boundaries on what they control and what they influence. This gets particularly complicated with emissions. Greenhouse gases are split into three categories, or ‘scopes’: ■ Scope 1: direct emissions from owned or controlled sources ■ Scope 2: indirect emissions from purchased electricity ■ Scope 3: all other indirect emissions across the value chain. Scope 3 – the emissions tied to suppliers, customers and how products are used – is where companies can enter a veritable rabbit hole. The data is patchy, the boundaries are fickle, and the risk of greenwashing is highest. But this is also where the bulk of many firms’ environmental impact sits. And where scrutiny is only going to increase. There are three areas of sustainability information every company should get to grips with. 1 Financially-material ESG risks This is for those risks that pose long- term threats to the business model. To grasp these, companies need to understand the vulnerabilities
into new territory. Once a discipline focused squarely on financial results, it is now expected to explain how a business creates value – and where it is exposed to risk. In my discussions with executives, academics and policy thinkers, one thing keeps coming up: sustainability is no longer an afterthought. But the shift is not straightforward. What should be reported? Who needs the information? And how can companies make sure their disclosures are credible rather than just noise? Accounting has always been about giving decision-makers structure and confidence. That job has not changed, but the scope has. For over two decades, companies have been producing standalone sustainability or corporate social responsibility (CSR) reports. For many companies, they served a largely symbolic role – a way to show that sustainability was on the radar, even if it was not yet embedded in the business. But that’s no longer enough. Investors, regulators, employees, and the public are now asking tougher questions. What matters now is how sustainability is built into the business model. Accounting, in this context, becomes more than a tool for compliance or comparison. It becomes a test of credibility and the profession has taken note. The big four accounting firms – EY, PwC, KPMG and Deloitte – are expanding their sustainability practices, hiring climate scientists, human rights specialists, and data analysts to support a new wave of clients. Services now stretch from carbon
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Sustainable Development Goals
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