DOUBLE MATERIALITY & D&O INSURANCE

Companies have been reporting their results for centuries. Double entry bookkeeping is a 400-year-old gift to the world from Italy. But even before then, “auditors” listened to an “account” of the business progress.

Many approaches became standard, enshrined in Generally Accepted Accounting Principles (GAAP) for US companies, with the Financial Accounting Standards Board (FASB) holding the pen on changes.

The same happened elsewhere. The International Accounting Standards Board (IASB) looks after similar International Financial Reporting Standards (IFRS). And in Europe EFRAG does the same.

Auditors now check that the accounts follow these rules; and report that the results are “about right”, put another way, they are not “MATERIALLY” wrong. But there remains ample scope for policy choice and judgement. Not all audit partners sleep well.

New on the block is company reporting of Sustainability and ESG. There is no agreed standard on what is being measured, nor how to present the outcomes on a consistent basis.?But the need is huge. Particularly for CO2e reporting. So, things are moving fast.

Some 25 years ago, following the Exxon Mobile disaster, the Global Reporting Institute (GRI) was set up in Boston. The aim was to have agreed company sustainability reporting in various aspects. GRI is Amsterdam based now and remains a leading authority on sustainability reporting.

TCFD reporting on climate risk and opportunity emerged in 2015 (under the FSB umbrella). Mandatory for many major companies, the Climate Change impact on the global economy, and companies, is of keen interest to investors.

Investors also welcomed the new International Sustainability Standards Board (ISSB), which aims to hot-house new sustainability standards, with “connectivity” to financial reporting. The ISSB shares the same mother ship as the IASB; the IFRS Foundation.

Helpfully, other leading lights of the sustainability reporting co-joined the ISSB initiative, either by feed-in or merger. A much welcome simplification.

The EU has also tasked EFRAG to produce sustainability standards. To meet the Corporate Sustainability Reporting Directive (CSRD), EU companies must use these rules from 2024.

?Sounds clear? Maybe, yet tensions remain.

The DISCLOSURE standard objectives are called weak by some. Instead, PERFORMANCE standards are needed, with disclosure on compliance or shortfalls.

Another, mis-match is ESG corporate aims, by contrast with global sustainability and climate aims.

The ISSB and others want consistency and clear disclosure standards. Users of accounts will judge good from bad performance. Just like financial reporting.

GRI and others, like the Science Based Targets Initiative (“SBTi”), say disclosure is not enough. Absolute performance, against external, expert, performance yardsticks is needed. Like the IPPC climate goals, and the UN SDGs for example. In fact, full ‘floor and ceiling” sustainability aims must merge with company goals.

But for now, many think the first need is agreed, comparable (over time and between companies), measurement definitions and tools. Targets, and judgements, will follow.

Corporate sustainability reporting must be clear in scope and detail. Actual results must not be confused with aims and action plans. The “Dynamic Materiality” concept is valid; but must wait a short while.

As with finance, sustainability disclosure must be “about right” with no MATERIAL mis-statement.

This DOUBLE MATERIALITY concept is fast becoming the norm - the base for investment quality information, among other things.

While “Double Materiality” , at first, meant “two things are important”. All auditors, investors and insurers recognise fully, that company investment grade information must be “about right” as a minimum; for both profit and sustainability.

Profit reporting has a 400-year head start. We can now expect some sustainability fireworks in court. The era of shades of grey Greenwashing should be drawing to a close.

Meanwhile, the D&O insurance position might sensibly be revisited. Sustainability information will be relied upon by investors and others. The scope for Climate and other litigation seems clear.

Allianz says this on D&O:

"D&O insurance raises many important questions for companies to consider: How much coverage is enough? What and who is covered – and what is not? Should small-to-medium sized enterprises (SMEs) buy D&O? What does a typical D&O insurance program look like? How can risk management protect officers from the many perils they face in today’s business environment?"

Excerpt: Expert Risk Article: June 2022

https://www.agcs.allianz.com/news-and-insights/expert-risk-articles/d-o-insurance-explained.html

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