It has been almost three years since the International Reporting Council (IIRC) paved the way for integrated corporate reporting with a framework concept. But to date, the response from companies has remained rather muted. We took a closer look at the reasons for this.
Indeed, the time seemed to have come to break down the existing thinking in “reporting silos” – annual report, environmental report, sustainability report – and to take a fresh look at the connections between financial capital and the other forms of capital, when the IIRC adopted the key points for a framework concept in 2014 after no less than seven years. Nothing less than the financial and economic crisis had recently driven the realization that standard business metrics were no longer sufficient and that financial and non-financial reporting were only sufficiently meaningful when combined.
Companies remain reluctant
In fact, even in the third year after publication of the legally non-binding guidelines, the response from German companies has remained modest. Only a few companies, such as Bayer, SAP, EnBW and Munich Airport, have decided to restructure their reporting in line with the recommendations. So are companies refusing to take an integrated view? There is no question of that. This is demonstrated by a veritable flood of annual reports that have been substantially expanded with non-financial performance data in the management report since 2014.
The background to this is the new provisions of accounting standard GAS 20, which took effect the year before last. The requirements not only provide for a qualitative strengthening of forecast and opportunity reporting, but also upgrade “non-financials,” above all sustainability aspects. However, they are also quite simple to fulfill. The declared aim of the new regulations is to renew confidence in the (group) management report.
More questions than answers
Trust requires transparency. This has long since ceased to apply only to the traditional stakeholders in sustainability reporting. Investors have also learned that traditional financial indicators do not in themselves provide an adequate assessment of a company’s future viability. After the events of the last few years, the desire for better information and more transparency can no longer be dismissed. It is therefore only logical that the existing reporting tools must be further developed in terms of their effectiveness and also become more closely aligned. However, uncertainties are currently dominating the picture. The behavior of many companies at the moment at least reveals more questions than answers:
“Why should we report more than what is required?” – Companies are behaving in a predominantly compliance-oriented manner
Many companies are behaving in a wait-and-see manner and are largely oriented toward what is required by law. They follow the requirements of GAS 20 and thus see themselves on a development path toward integrated reporting. The planned requirements of the EU CSR Reporting Directive could lead to a redundant reporting effort here if other non-financial reports were to be created in addition to the group management report. Concerns about information overkill are audibly accompanying the development of reporting standards and do not appear to be unfounded.
After all, in recent years there has been a worldwide trend toward anchoring sustainability reporting in law. Denmark and the Netherlands, for example, were the first countries to introduce such mandatory reporting. In France, the largest listed companies have been required to publish figures and information on environmental protection and employee interests in their annual reports since 2003. South Africa is currently going the furthest: There, the King III Code obliges listed companies to comply with integrated reporting.
“What are the benefits of Integrated Reporting?” – A change with questionable benefits.
On closer inspection, much of what is currently being presented as an “integrated report” turns out to be more like “combined reporting” in which the annual report and sustainability report are more or less shoved into one another. Although the IIRC has named principles in its draft, it has refrained from making concrete specifications regarding content. The conceptual starting point of the IIRC, however, is “Integrated Thinking”: In this, the relationships of the various operating units and functional areas as well as the types of value-creating capital that are decisive for the company are to be focused on across the board in order to be able to manage long-term value development. However, many companies are obviously still struggling with this. Either the associated and required management approaches cannot yet be presented at all, or there are fears of disclosing so much information.
“What is material?” – The “materiality” minefield
A central element of sustainability reporting according to GRI is the so-called materiality analysis. By identifying material fields of action, it not only forms the central point of reference for all content-related topics and data of sustainability reports. Rather, it has an essential hinge function in between two things.
- between the backward view of sustainability performance on the one hand
- and the assessment of how to master the challenges ahead on the other
Hardly anything in the past has triggered such heated discussions in the release of sustainability reports as the materiality matrix. What is important, what is less important? Why is anti-corruption at the bottom left? It is not unusual for a materiality matrix to be published only with extensive footnote apparatus.
However, when it is included in the management report or presented in the integrated report, the materiality analysis must also be presented to a wider group of stakeholders. What appears “material” to sustainability stakeholders may be of little relevance to analysts and regulators in the capital market, or even have far-reaching consequences. While for shareholders “materiality” is often associated with liability issues, the commitment in the GRI system often remains rather vague. Conflicts are inevitable here. The problem of different definitions of materiality also arises in the current draft of the EU CSR Directive.
“Can (or do) we represent this?” – On the difficult handling of “connectivity”.
The linking of information in an integrated report required by the IICR under the guiding principle of “connectivity” probably represents the most important innovation in the reporting model. The holistic view of key value drivers is intended to provide new insights for improved management of sustainable value creation. A popular example to illustrate the “connectivity” idea and the linking of financial and non-financial metrics is the relationship between employee satisfaction and productivity and their impact on EBIT. However, many other cause-effect relationships in companies are still uncharted territory in terms of data and correspondingly complex to prepare by controlling.
Nevertheless, “connectivity” could prove to be the most exciting dimension of the Integrated Report. In terms of communication, as companies are required here to identify and interpret key cause-effect relationships on the way to sustainable corporate practice and to justify their own decision-making behavior. It is therefore not surprising that “connectivity” is still rather low in the reports available to date.
“Is it wise to abandon the sustainability report?” – Does the Sustainability Report get lost in the Integrated Report?
To clarify: an Integrated Report is not a sustainability report. Even if reporting guidelines such as GRI, IIRC, and the rules that apply to annual reports are visibly converging – in the direction of the capital market – a glance at existing reports is enough to recognize the differences. Sustainability reports arose – via predecessor formats such as environmental and social reports – out of an ethical demand from specific stakeholders. Unlike financial reports, the focus of expectations here was never on economic efficiency and profitability. Customers wanted to know how environmental protection or human rights were behind a product. Suppliers can see what they are up against at an early stage. Employees want to identify with a “good” company. And anyone thinking of applying for a job with a company is always more likely to look at the sustainability report to locate the company culturally and ethically.
In sustainability reports, very different fields of action of companies come together to form a whole. Brought together from a wide variety of perspectives, they tell the story of the company’s future viability. Those who look at integrated reports often have the impression that they are holding a highly “cold” information product in their hands. Diction and style are sometimes very strongly influenced by the legally protected formulaic style of the annual report. Approaches to storytelling hardly determine the overall picture, but appear like the accompanying greenery on the desert road.
“Highlights” again largely stand on their own, without “lowlights” being given the chance to balance their credibility. At present, it is difficult to see any communicative progress in Integrated Reports. Companies are therefore well advised to carefully weigh up to what extent a transition to Integrated Reports will help them or to what extent they will even jeopardize important relationships of trust with this step.
Take a deeper dive into the topic of reporting on our topic page on the blog.