Aligning with global sustainability standards benefits investors

If information is the lifeblood of capital markets, a standardized format for presenting information is the skeleton that supports them. It’s nearly impossible to imagine a world in which company financial statemements are not prepared in a standardized and consistent manner, providing investors with reliable and comparable information. Without global standards, and a consistent approach to their implementation at the country level by policymakers, it would be difficult for investors and other parties to assess the past, present, and future prospects of a company and make informed decisions.

Investor concern about the material financial risk of climate change on an issuer’s business prospects has prompted the need for additional and comparable information to be included in financial reporting. Reporting on climate risk has come a long way in recent years, and there’s been a flurry of activity over the past year or two, bringing the promise of a global baseline for sustainability reporting closer than ever.

We think these changes ultimately bode well for asset owners around the world. It’s hoped that new global standards, when made mandatory at the country level in a manner similar to financial reporting standards, will result in a common language for investors assessing the impact of climate-related risks and opportunities on a company’s prospects.

From the TCFD and SASB to IFRS S1 and S2: the forging of a single global sustainability standard

The International Financial Reporting Standards Foundation (IFRS) has been issuing financial reporting standards through its International Accounting Standards Board for over two decades. These standards are mandated by nearly 170 countries around the world. When the IFRS formed a second board, known as the International Sustainability Standards Board (ISSB), and issued its inaugural standards—known as IFRS S1 General Requirements for the Disclosure of Sustainability-related Financial Information and IFRS S2 Climate-related Disclosures (IFRS S1 and S2)—in June of 2023, it ushered in a new era of sustainability-related disclosures by issuers in capital markets worldwide.

The standards were swiftly endorsed by the International Organization of Securities Commissions, which issued a call for regulators globally to mandate them, thereby creating a global baseline for sustainability disclosures akin to financial reporting standards.

Later that year, the Financial Stability Board, which has long been concerned about the systemic nature of climate risk, requested that the ISSB take over stewardship of the reporting recommendations put forth in 2015 by its Task Force on Climate-Related Financial Disclosures (TCFD). The TCFD reporting recommendations already had significant uptake by issuers globally and largely underpinned the S2 climate reporting standard.

The other key ingredients in the IFRS S1 and S2 standards are the Sustainability Accounting Standards Board (SASB) Standards. The SASB framework was established in 2011 to build sector-specific reporting standards specifically focused on investor needs and were merged into the IFRS Foundation in 2022 as a key first step in the consolidation of voluntary standards. This sector approach was incorporated into the IFRS S1 and S2 because different industries face different climate-related risks and opportunities.

Pathways to mandatory disclosure around the world

The new IFRS sustainability standards represent an important step in the right direction, but they remain voluntary, so if they are to become the new global baseline, we’ll need to see action from regulators around the world to mandate IFRS S1 and S2 in their local jurisdictions, just as they’ve done for IFRS financial reporting standards over the last two decades.

The outlook so far is encouraging, yet the risk of inconsistent adoption remains. The European Sustainability Reporting Standards are interoperable with the ISSB Standards but go well beyond in terms of scope and content to include impact metrics.

Singapore has announced ISSB-aligned listing rules, and major economies, including the United Kingdom, Japan, South Korea, and Brazil, have announced their intention to mandate ISSB Standards in the near term or are under way with consultations.

The Canadian Sustainability Standards Board (CSSB) is under way with consultations on minor amendments needed for the local market and intends to release IFRS S1 and S2 later in 2024, paving the way for regulators to adopt them.

The U.S. Securities and Exchange Commission (SEC) announced new rules in early 2024 that are generally aligned with the S2 standards but aren’t as comprehensive, while the state of California passed the Climate Corporate Data Accountability Act in 2023, which requires companies with revenues greater than $1 billion to report extensively on their greenhouse gas emissions—a key element of the S2 standards that the SEC rule leaves out.

What information will these global sustainability standards yield?

The IFRS S1 and S2 standards are available for voluntary use today by any company globally. They’re designed to be applied together but have separate objectives. S1 provides the overall framework under which companies should report, with particular focus on governance, strategy, risk management, and metrics and targets. S2, on the other hand, has been developed to cover climate-specific disclosure, including physical and transition risks alongside related opportunities. When used together, the standards will create a universal baseline for corporate reporting, making it easier for investors, analysts, and other capital markets actors to use this information to assess the financial implications of climate change on companies, including, for example:

• Whether various elements of climate risk are reflected in corporate credit risk
• The effect of physical climate risk on a company’s sustainable free cash flow
• Whether capital expenditures on climate-related risk are aligned with the company’s low-carbon transition plan and general risk profile
• Whether the board of directors has sufficient oversight of climate risk
• Possible new revenue streams a company may be able to realize by offering a low-carbon solution

The evolution of a global standard is beneficial for investors with global exposure to issuers in many sectors and reflects the globally systemic nature of climate risk. Virtually no company can escape some form of climate risk, whether it arises from policy and market changes related to the low-carbon transition or from the increased physical risks of severe weather, sea-level rise, and fire.

Some investors are seeking to align their capital with climate or other sustainability-related goals or targets, and the introduction of standardized reporting will do much to facilitate such alignment. Reporting on these issues will shed light on whether a particular issuer is aligned with or contributing to an investor’s sustainability goals and if they’re adequately managing climate-related risks now and into the future.

We participate in the effort to foster adoption of sustainability reporting standards

As an asset manager with a global presence, Manulife Investment Management is a dedicated user of sustainability data for the thousands of issuers in which we invest. We welcome the IFRS S1 and S2 standards, which we believe have the potential to vastly improve investors’ ability to access high-quality, reliable, and comparable information for issuers.

Voluntary standards are only one half of the equation—we’d also like to see consistent uptake of these standards by companies around the world. This is why we’re participating in the CSSB in Canada, as well as supporting ISSB alignment in other key markets—particularly in Asia—and globally as a member of the ISSB’s Investor Advisory Group.

Capital, like systemic sustainability risks and related opportunities, is global and flows across borders; so, too, it must be high-quality and timely sustainability information, such as that proposed for global disclosure by the ISSB.