EFRAG publishes a study on initial ESRS implementation practices

On 25 July 2024, EFRAG issued a study entitled State of play as of Q2 2024 – Implementation of ESRS: Initial Observed Practices from Selected Companies, developed with the assistance of the Boston Consulting Group (BCG). The study considers a sample of undertakings that are subject to the Corporate Sustainability Reporting Directive (CSRD).

The study aims to identify the preliminary practices and issues observed in the implementation of the European Sustainability Reporting Standards (ESRS) in relation to the initial transition work (state of progress at Q2 2024). As the analysis is taking place during the first compliance period for these entities, EFRAG observes that the comments included in this study are in no way indicative of best practices, but represent a compilation of existing practices identified to date for this sample.

The study therefore focuses on the four topics that EFRAG considered critical for this first year of implementation, namely: the double materiality assessment, datapoints to be reported, the value chain and the organisational approach to Environment, Social and Governance (ESG) reporting.

The study sample consists of 28 large undertakings based in the EU, participating on a voluntary basis and drawn from a pool of the largest companies in each sector of interest. Focusing solely on large undertakings makes it possible to study issuers with a relatively higher level of maturity and greater resources at their disposal to address the challenge of ESRS implementation. These 28 undertakings represent eight industries evenly split between financial institutions (banking, insurance, asset management) and non-financial institutions (healthcare technology, chemicals, road transport, textiles, and services). EFRAG points out that this sample does not represent all market participants and that, consequently, the practices cited in the study are not intended to be seen as generalised practices or industry trends.

Interviews and surveys were conducted with those responsible for ESG reporting and other key contributors (e.g. from the finance/risk, communications and operations teams) on the four focus areas mentioned above. The diversity of these points of view has enabled EFRAG to understand the overall context in which these preliminary practices are evolving and to identify the main challenges arising from them.

The double materiality assessment

The ESRS principles governing the double materiality assessment entail major methodological changes for undertakings. The EFRAG study suggests that most undertakings in the sample recognise that the double materiality assessment requires objective evidence, based on internal and external data, as well as the opinion of internal experts and stakeholders external to the company.

Against this background, 70% of sample undertakings have already started to deploy an objective evidence-based approach to double materiality assessment, based on evidence derived from measurable data or, where no data is available, on the judgement of internal experts and of stakeholders. Undertakings use a combination of internal data, data supplied by third parties (e.g. data providers, benchmarks, etc.) and data derived from scientific research. This is seen as a strategic exercise for reporting purposes and for setting sustainability priorities. However, the study found that companies are encountering difficulties in terms of data availability, due to the lack of appropriate sectoral methodologies, and in setting appropriate thresholds, particularly for impact materiality assessment. To assess financial materiality, around 80% of the undertakings surveyed rely on the thresholds and methodologies used as part of their risk management approach.

More than 65% of participants say that they involve internal experts and external stakeholders during the double materiality assessment, using two or more communication channels (most commonly interviews, surveys and workshops). While around 70% of companies use surveys in combination with interviews and workshops, only around 5% of companies use surveys exclusively. This is because this data collection method is seen as inconclusive and often targets stakeholders with insufficient expertise. It is used inter alia to collect data from hard-to-reach stakeholders.

70% of sample undertakings run interviews to ascertain in-depth views. Workshops are also increasingly preferred, with 45% of undertakings leveraging this engagement channel.

The study also reveals that the stages at which these interactions occur during the double materiality assessment differ from one undertaking to another.

EFRAG also notes that the implementation of an ESRS-compliant double materiality assessment requires undertakings to have access to relevant data and to have (or have access to) expertise on ESG issues. This last condition is crucial if undertakings are to be able to analyse the information gathered and reach a conclusion about its relevance or materiality.

Identification of datapoints

Once they have identified their material impacts, risks and opportunities (IROs) using a double materiality assessment, undertakings must carry out gap analyses of the differences between the information already reported and/or available and the information required by ESRS standards. To support them, EFRAG has issued an Implementation Guidance List of ESRS datapoints (IG 3), covering ESRS Set 1. Around 95% of participants use IG 3 in their gap analysis.

Given the difficulties encountered by most of the sample undertakings in obtaining, extracting and collecting the required data, these undertakings will use the levers offered by the ESRS, in particular the transitional provisions, which will be applied by around 75% of the participants. This is indeed possible, provided, as EFRAG emphasises, that the undertaking communicates properly about the use of these provisions. Similarly, around 40% of undertakings leverage the information materiality principle to focus their efforts on disclosures in relation to their material IROs.

However, EFRAG notes that only a minority of undertakings understand how to conduct an information materiality assessment at the datapoint level. The main risks associated with the disclosure of all datapoints lie in the effort required for reporting and the potential obscuration of material information.

The study also shows that around 10% of undertakings choose to report both mandatory and voluntary data points (DPs) for material topics while another ~10% opt for disclosure of voluntary DPs which they were already reporting in the past.

Value chain analysis

The ESRS require undertakings to carry out an in-depth analysis of their value chain, both upstream and downstream, in order to identify and account for the material IROs that result. The extent and granularity of this analysis may lead to complexity for undertakings, particularly those with several business activities.

At present, value chain analysis remains one of the most challenging and least mature areas for the undertakings surveyed, which are calling for more sector guidance. More than 90% of the undertakings mention that work on their value chain is still in progress. This work focuses primarily on identifying the appropriate level of granularity and segmentation of the value chain that will enable them to account for the resulting material IROs. Currently, around 45% of the sample have already adopted a more granular mapping of their value chain (i.e., more granular than upstream, downstream and own operations only). Finding the right level of value chain aggregation is a challenge for undertakings.

The study also revealed that financial and nonfinancial undertakings do not face the same difficulties when analysing their value chain. While financial institutions are limited in their access to data from the downstream part of their value chain, non-financial undertakings generally have a better overview of their value chain (and in particular the upstream component). However, these companies point to the difficulty of gathering data and deploying policies, actions and targets beyond direct business relationships.

The difficulties encountered by undertakings in retrieving information beyond direct relationships will be counterbalanced by the fact that several undertakings state their intention to make use of the value chain transitional provisions (ESRS allow a three-year period for gathering this information, subject to conditions). EFRAG expects the quality of reporting to improve over time, with the challenge now being to focus on sensitive areas of the value chain in relation to material IROs.

Organisation of governance

Implementing ESRS requires undertakings to adapt their governance systems to incorporate the ‘cross-functional’ dimension required to address ESG issues. They must also put in place robust information systems and quality controls enabling them to produce data that meets the quality requirements of the ESRS and to prepare for their audit. The study shows that the entities surveyed are implementing these changes following different timetables.

In around 65% of organisational structures observed, responsibility for non-financial reporting is assumed by a single function (most often the CSO or CFO) while around 35% employ a joint leadership model. 30% of sample undertakings expect changes in the organisational model in the near or medium term. The study reveals that the CSRD implementation process generally requires the regular involvement of at least five departments (in addition to the board / board-level committees overseeing the end-to-end reporting process), including departments such as Human Resources, Internal Control and Risk Management, as well as Sustainability and Finance. Departments such as Procurement, Communications and Strategy are also commonly engaged, reflecting the interdisciplinary nature of effective ESG reporting.

One of the challenges identified by EFRAG remains the training of the people responsible for this new reporting and the implementation of effective communication systems both to involve all these functions and to facilitate decisionmaking. The report also reveals that the majority of participants in this study are currently in the process of strengthening their ESG data controls (approximately 90% of undertakings have already adopted or are adopting internal control techniques akin to those used in financial reporting) and are planning to integrate this data into their operational and decision-making processes (around 85% of companies state that their ambition is to take ESG reporting and the results of their double materiality assessment into account). Finally, around 85% of undertakings acknowledge the need for IT transformation.

In the future, EFRAG expects to publish an annual analysis of ESRS implementation practices (a ‘State of play’), which will cover a larger number of undertakings and will focus on audited sustainability statements.