As the world becomes increasingly conscious of the impacts of climate change, businesses are under growing pressure to disclose their sustainability efforts. In response to this demand, the International Sustainability Standards Board (ISSB) has introduced the IFRS Sustainability Disclosure Standard S2 (IFRS S2). This standard seeks to provide a clear and consistent framework for disclosing climate-related risks and opportunities, aligning these disclosures with financial reporting. In this guide, we highlight the key aspects of IFRS S2, shedding light on its requirements and implications for companies.
A Global Response to Climate-Related Disclosures:
IFRS S2 is a part of the ISSB’s commitment to creating a unified and robust global standard for sustainability disclosures. By enhancing transparency and aligning sustainability reporting with financial statements, IFRS S2 aims to provide investors with a deeper understanding of a company’s climate-related risks and opportunities. This, in turn, contributes to more informed investment decisions and resilient global capital markets.
Incorporating TCFD Recommendations:
At its core, IFRS S2 fully embraces the Task Force on Climate-related Financial Disclosures (TCFD) recommendations. By adopting IFRS S2, companies can fulfill TCFD requirements while also providing more extensive and detailed information. This harmonization simplifies the reporting landscape and streamlines the process for businesses.
Value Chain Insights:
Understanding the manifestation of climate risk throughout a company’s value chain is central to both IFRS S1 and S2. This holistic approach encourages companies to disclose how climate-related risks extend beyond their immediate activities, offering a broader perspective to investors.
Integrated Reporting Approach:
IFRS S2 advocates for an integrated reporting approach, marrying sustainability-related information with financial statements. This integration enables investors to discern the interplay between sustainability risks and opportunities and a company’s financial performance, fostering greater transparency.
Greenhouse Gas Emissions and Financial Impacts:
A pivotal facet of IFRS S2 is the disclosure of absolute Scope 1, Scope 2, and Scope 3 greenhouse gas emissions. Scope 1, Scope 2, and Scope 3 greenhouse gas emissions are classifications used to categorize different types of emissions associated with a company’s activities, as defined by IFRS S2. These classifications provide a comprehensive framework for companies to disclose their direct and indirect contributions to greenhouse gas emissions, allowing investors and stakeholders to better understand their climate-related risks and opportunities. This requirement aligns with the standard’s focus on elements that can influence future cash flows, cost of capital, and access to finance. The disclosure also provides insights into a company’s exposure to transition risks and opportunities. ‘The Greenhouse Gas Protocol: A Corporate Accounting and Reporting Standard (2004)‘ is the acceptable method / guide for measuring greenhouse gas emissions, but may not be required where any jurisdiction stipulates another measurement method.
Scope 1 Emissions:
Scope 1 emissions refer to direct greenhouse gas emissions that result from sources that are owned or controlled by a reporting company. These emissions are typically produced from activities carried out within the company’s operational boundaries. Examples of Scope 1 emissions include emissions from company-owned vehicles, equipment, and manufacturing processes.
Scope 2 Emissions:
Scope 2 emissions encompass indirect greenhouse gas emissions that result from the consumption of purchased energy, such as electricity, steam, or heat. These emissions occur as a result of the company’s activities but take place outside its operational boundaries. Scope 2 emissions allow companies to account for the environmental impact of the energy they use, even if the energy generation itself occurs elsewhere.
Scope 3 Emissions:
Scope 3 emissions cover a broader range of indirect greenhouse gas emissions that result from activities that are not directly owned or controlled by the reporting company but are associated with its value chain. These emissions are often more complex to measure and include emissions from sources such as suppliers, customers, transportation, and product use. Scope 3 emissions provide insights into a company’s extended environmental impact and highlight potential climate-related risks and opportunities throughout its value chain, allowing investors to comprehensively assess a company’s risk profile.
Climate Resilience and Scenario Analysis:
Companies are expected to assess their climate resilience and disclose how climate change might impact their strategy and business model. This involves employing climate-related scenario analysis to inform disclosures, aligning the approach with a company’s specific circumstances, exposure, and capabilities.
Industry-Based Metrics and Targets:
IFRS S2 accentuates industry-specific disclosure, necessitating companies to refer to industry-based metrics outlined in the Industry-based Guidance. This approach ensures comparability and aids investors in grasping climate-related risks and opportunities specific to various sectors.
Setting Climate-Related Targets:
Companies with climate-related targets must disclose their characteristics, formulation process, review mechanisms, and performance status. This disclosure also underscores the influence of international agreements, such as the Paris Agreement, on target establishment.
Adoption of Standard:
Although this standard is effective for annual reporting periods beginning on or after 1 January 2024, with earlier adoption permitted, countries are allowed to choose their own adoption dates. On 8 November, 2022, the Financial Reporting Council of Nigeria (FRCN) announced Nigeria’s adoption of IFRS sustainability disclosure standards. Listed companies and Public Interest Entities in Nigeria are required to adopt the IFRS Sustainability Disclosure Standards but no effective date has yet been announced for Nigeria.
Core Contents of IFRS S2 Required Disclosures:
The core contents of the required disclosures under the IFRS S2 (IFRS S2) include a comprehensive set of information related to climate-related risks, opportunities, strategies, targets, and resilience, among other sustainability aspects. These disclosures are expected to be made by all entities, regardless of the industry (in addition to industry specific metrics as outlined in the IFRS S2’s Industry based guidance), with certain concessions in the first year of adoption, to allow for gradual learning and capacity building by reporting entities. The key elements covered in the required disclosures are:
Climate-Related Risks and Opportunities:
- Companies are expected to provide material information about both physical risks (e.g., flooding, extreme weather events) and transition risks (e.g., regulatory changes, shifts in consumer preferences) associated with climate change.
- Disclosure should cover potential impacts on the company’s business model, operations, financial performance, and prospects.
Governance, Strategy, and Risk Management:
- Companies are required to disclose how they integrate climate-related risks and opportunities into their governance structures, decision-making processes, and risk management practices.
- This includes information on board oversight, executive responsibility, and the company’s approach to identifying, assessing, and mitigating climate-related risks.
Metrics and Targets:
- Disclosure should provide details about the company’s climate-related metrics, including greenhouse gas emissions (Scope 1, Scope 2, Scope 3) and other relevant sustainability performance indicators.
- Companies should share their climate-related targets, including greenhouse gas emissions targets and other goals related to reducing environmental impact.
Current and Anticipated Financial Effects
- Companies are required to disclose both quantitative and qualitative information on the effects of climate related risks and opportunities on the company’s current and anticipated financial performance, financial position and cash flows. The quantitative information can be a single amount or a range.
- A company can provide qualitative rather than quantitative information when, information is not separately identifiable, there is high level of measurement uncertainty, or, for anticipated effects, this is not commensurate with the company’s skills, expertise and resources.
Climate Resilience:
- Companies are required to assess their climate resilience and disclose information about how climate change uncertainties could affect their business strategy and model.
- Disclosure should cover the financial and operational capacity to adjust or adapt over the short, medium, and long term in response to climate-related challenges.
Scenario Analysis:
- Companies are expected to use climate-related scenario analysis to inform their disclosures about resilience.
- Disclosure should include relevant scenarios used, inputs, and assumptions for the analysis, as well as how these inform the company’s understanding of its climate resilience.
Cross-Industry Metrics:
- Companies should disclose industry-based metrics relevant to their business models and activities. These metrics are designed to provide sector-specific insights into sustainability performance.
- Disclosure topics and metrics are based on industry-based guidance provided in the IFRS S2 framework.
Climate-Related Targets:
- Companies with climate-related targets should disclose information about the characteristics, setting, review, and performance against these targets.
- Disclosure should also highlight how the latest international climate agreements, such as the Paris Agreement or any local agreements within respective jurisdictions, have informed the company’s targets.
Financed Emissions:
- For companies involved in asset management, commercial banking, or insurance, disclosure of absolute gross financed emissions is required, disaggregated by Scope 1, Scope 2, and Scope 3 greenhouse gas emissions.
- Information about the industries to which finance is provided should also be disclosed.
It is important to note that the IFRS S2 framework provides guidance on using both quantitative and qualitative information, ensuring that companies tailor their disclosures based on their circumstances. The goal of these disclosures is to enhance transparency, enable informed decision-making, and provide investors and stakeholders with a clear understanding of how companies are addressing sustainability risks and opportunities.
Conclusion:
IFRS S2 ushers in a new era of comprehensive and standardized sustainability reporting. By intertwining climate-related disclosures with financial statements, this standard empowers investors to make informed decisions and paves the way for a more resilient global financial landscape. For deeper insight and understanding of the IFRS S2, you may watch the IFRS’ Foundation’s webinar on the topic following this link – https://www.ifrs.org/supporting-implementation/supporting-materials-for-ifrs-sustainability-disclosure-standards/ifrs-s2/an-in-depth-explainer–ifrs-s2-climate-related-disclosures/.
To gain a deeper understanding into how the sustainability disclosures will specifically impact your business, we, at Vi-M Professional Solutions are available to assist you. Please contact us via our email address – clients@vi-m.com.