By Paul Davies, Michael Green and Ei Nge Htut

On 26 June 2017, the European Commission (the EC) published non-binding guidelines on the methodology for reporting non-financial information by certain large companies and groups (the Guidelines) as required by Article 2 of the Directive 2014/95/EU amending the Accounting Directive on the disclosure of non-financial and diversity information (the Directive). The EC intends the Guidelines to help companies disclose high quality, relevant, useful, consistent, and more comparable non-financial information in a way that will encourage growth and provide transparency to key stakeholders.

The Directive was published in the Official Journal on 15 November 2014, entered into force on 5 December 2014, and Member States were required to adopt the necessary measures transposing the Directive into national law by 6 December 2016. Article 2 of the Directive requires the EC to publish the Guidelines, including non-financial key performance indicators (KPI) (both general and sectoral). The EC consulted on the format of the Guidelines in January 2016.

Driving these Guidelines is the principle that appropriate non-financial disclosure is a vital way of ensuring sustainable finance. This builds on the EC’s goal to develop a comprehensive EU strategy on sustainable finance as part of the Capital Markets Union, and forms part of the ongoing work of the High Level Group on Sustainable Finance as established by the EC. Both the Directive and Guidelines reflect the current best practices and most recent developments at international level, including key elements from the UN Sustainable Development Goals, the Paris Climate Agreement, and the industry-led Task Force on climate-related financial disclosures set up by the Financial Stability Board.

The Guidelines cover the following key principles:

  • Disclosure of material information: the level of information disclosed should factor in the following elements:
    (i) a company’s business model
    (ii) strategy and principle risk
    (iii) main sectoral issues
    (iv) interests and expectations of relevant stakeholder
    (v) the actual and potential impact of the company’s activities
    (vi) public policy/regulatory considerations

Companies should review these materiality assessments regularly.

  • Fair, balanced, and understandable: companies should assess and present the non-financial statement in an unbiased way, clearly differentiating facts from views and interpretations. Companies can ensure such information is fairer and more accurate by:
    (i) relevant corporate governance arrangements
    (ii) robust and reliable evidence
    (iii) internal control and reporting systems — such reporting is beter understood if plain language and consistent terminology is used, material information provided with the relevant context, and companies describe how non-financial issues relate to long-term strategy, principal risks, and policies
  • Comprehensive but concise: the minimum level of information a company should disclose is material information on: environmental, social, and employee matters; human rights; and anti-corruption and bribery matters. The Guidelines advise that the non-financial statement should be concise, avoiding any generic or boilerplate non-material information.
  • Strategic and forward looking: the statement should provide an insight into a company’s business model and explain the short, medium, and long-term implications of the information reported.
  • Stakeholder orientated: companies should consider the information needs of all the relevant stakeholders, but not focus on individual or atypical stakeholders, or those with unreasonable information demands.
  • Consistent and coherent: the non-financial statement is expected to be consistent with other elements of the management report.

Article 1 of the Directive sets out the content of the non-financial statement. The Guidelines build on this with the following:

  • Business model: companies could consider using KPIs to explain their business model and main trends, flagging any material changes. They should also consider including relevant disclosures relating to:
    (i) the business environment, organisation, and structure
    (ii) operating markets and main trends
    (iii) factors that may affect the future development of the company
  • Policies and due diligence: companies should disclose material information providing a fair view of policies and due diligence processes that the companies have implemented, and explain the management and board’s responsibilities and decisions. Companies should flag and explain any changes to such policies and processes.
  • Outcome: companies should provide a useful, fair, and balanced view of the outcome of policies. This analysis would include relevant non-financial KPIs that the company considers most useful in monitoring progress and supporting comparability across companies and sectors.
  • Principal risks and their management and mitigation: highlighting any material changes to risks, and the management/mitigation of such risks
  • KPIs: companies should disclose KPIs that are necessary to understand its development, performance, position, and impact of the company’s activity — the KPIs should be utilised consistently between reporting periods. Article 1 of the Directive states that these are non-financial KPIs relevant to the particular business.
  • Thematic aspects: companies should also consider a non-exhaustive list of thematic aspects when disclosing non-financial information:
    (i) the business environment, organisation, and structure
    (ii) respect for human rights
    (iii) anti-corruption and bribery matters
    (iv) information on supply chain matters that have significant implications
    (v) when relevant, responsible supply chains for minerals from conflict affected and high risk areas

A company should generally rely on a broadly recognised, national, EU-based, or an international reporting framework, and should disclose which framework the company has used. For example, companies can choose international, European, or national guidelines relevant to their own business environment, such as the UN Guiding Principles on Business and Human Rights. Despite the board diversity policy not forming part of the non-financial statement, the Guidelines also provide guidance on the preparation of board diversity disclosure in a company’s corporate governance statement, including explaining the diversity criteria applied.

The EC designed the Guidelines to be practical, business-orientated, and impact driven. The EC envisaged also that companies will use the Guidelines to better integrate environmental and social information in their business cycle and that companies will adapt their reporting to the individual circumstances of their business. As companies start applying the requirements of the Directive in 2018 (on 2017 information), the European Commission will closely monitor this process, as required by Article 3 of the Directive.