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Markus Demary / Adriana Neligan IW-Nachricht 22. April 2021

Finding the Right Balance in Sustainability Reporting

New sustainability reporting standards shall improve the comparability of corporate activities. Yet, it is crucial to consider the trade-off between the advantages of standardisation to avoid adverse selection versus the disadvantages of excessive bureaucratic burdens, in particular for small and medium-sized enterprises (SMEs).

The standardisation of reporting requirements can enhance transparency, quality and comparability for investors and other stakeholder groups including non-governmental organisations. Thus, extending the requirements to further companies generally makes sense. It does, however, incur costs and an administrative burden for companies. The goal of avoiding adverse selection might however justify them.  

Adverse selection is a serious problem that could arise when high-risk companies in search for capital try to access green bond investors by presenting them projects that seem to be green at first sight. Since investors are searching for green projects that they can finance, they have to separate between truly green projects and those that are framed to be green in order to get an easier access to finance. Under standardised reporting standards, both the credit risks as well as the greenness of the presented projects can be better assessed by investors and compared to similar projects of other companies limiting adverse selection. Yet, nevertheless, the requirements have to be proportionate and kept to a minimum as SMEs will not be able to write extensive reports. 

Yesterday, the European Commission presented both a proposal for a EU Taxonomy Climate Delegated Act and for a Corporate Sustainability Reporting Directive, which revises the existing Non-Financial Reporting Directive. Since 2017 large public-interest companies with more than 500 employees have already been obliged to disclose information on the way they operate and manage social and environmental challenges by publishing a non-financial statement on the following topics or to explain why they do not wish to report on them: environmental issues, social and employee-related aspects, human rights, anti-corruption and anti-bribery, and diversity issues in supervisory boards.  

With this Corporate Sustainability Reporting Directive not only mandatory EU sustainability reporting standards shall be introduced, but all companies listed on a regulated market in the EU (except for micro-enterprises) as well as large non-capital-market-oriented companies with more than 250 employees will be obliged to publish a sustainability report. ). For unlisted SMEs proportionate standards shall be developed to be used on a voluntary basis. According to the European Commission instead of currently 11,000 companies around 49,000 companies would be subject to this new regulation.

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