Unlocking ESG compliance in Europe: BDO’s tailored approach

By Carlo Luison (Partner, BDO in Italy), Anna Pignagnoli (Manager, BDO in Italy) and Raivis Jānis Jaunkalns (Head of Audit and Assurance, BDO in Latvia)

In a pivotal moment for corporate responsibility and environmental consciousness, the European Commission geared up to introduce a game changing ESG regulatory framework that’s poised to reshape the corporate and financial sectors. With these structural changes on the horizon, companies are about to face a revolutionary mandate, and they must not only embrace sustainability but also disclose their environmental and social commitments through obligatory sustainability reporting. In this article, we explore the significance of this new regulation and describe how companies can swiftly adapt to this sustainability revolution.

Sustainability reporting is set to undergo a transformative shift, with profound implications for organisations and their stakeholders, including investors. At the heart of this transformation is the transition from the Non-Financial Reporting Directive (NFRD)[1] to a new, comprehensive framework. The NFRD has been a cornerstone of sustainability reporting regulations within the European Union (EU), imposing the obligation on around 11,700 companies to develop non-financial statements. However, the impending regulatory landscape presents a seismic expansion in its scope. Projections indicate that an extensive cohort of approximately 50,000 companies will soon come within the purview of this directive. Under this new regulatory framework, companies are mandated to provide essential information that empowers stakeholders to assess the direct and indirect impacts of their business models on sustainable development and ecological transition, thereby enhancing transparency and corporate responsibility.

The Corporate Sustainability Reporting Directive (CSRD)[2] was approved by the Council of the European Union in late 2022. The complexity of the CSRD’s rules may pose challenges, especially for companies new to ESG reporting. Under this Directive, companies are now mandated to broaden the scope of reporting and disclose information and indicators according to the European Sustainability Reporting Standards (ESRS). These standards hold immense importance, as they introduce detailed disclosure requirements and outline the specifics of around 1200 KPIs that companies must disclose. Moreover, the CSRD mandates companies to publish information on sustainability-related policies and to conduct a double materiality assessment, involving significant efforts to adapt internal processes in determining their impacts, risks and opportunities. The application of the CSRD is scheduled in phases, starting with the first publications in 2025, on FY24 for companies already in scope of the NFRD. This then expands in 2026 on FY25, with the inclusion of large companies, and in 2027 on FY26 with small to medium enterprises (SMEs). This creates a pressing need for companies to adapt, given the complexity and comprehensiveness of the CSRD’s requirements.

A closely related initiative is the European Taxonomy Regulation[3], an important framework that provides a comprehensive system for classifying environmentally sustainable economic activities. Taxonomy contributes to the broader sustainability agenda that has the aim of redirecting investments towards activities that have a positive environmental impact, reinforcing the need for companies to align with these criteria and further heightening the complexity of compliance.

To meet CSRD requirements, organisations will be asked to report sustainability information compliant with the ESRS standards, and to publish it within their management report. The main objective of the CSRD is to elevate sustainability information to the same level of importance as financial information. To this end, sustainability information will need to undergo limited assurance procedures by qualified and independent auditing firms.

Given the scope of the new reporting requirements, companies should promptly move forward on defining the path that will enable them to fulfill the commitments within the deadlines set out in the Directive. In this context, BDO has tailored its approach to assist companies in their compliance journey. The Italian market's distinctive peculiarities, for example, have prompted BDO to adopt a flexible strategy to support in the achievement of compliance with the CSRD, considering the company's size, objectives, and specific needs. For instance, large corporations, having already embraced non-financial reporting guidelines, possess a heightened awareness of sustainability and its implications. On the other hand, SMEs starting out with a less solid foundation will face distinct challenges.

BDO's approach is attuned to these variations in needs, recognising that the path to compliance encompasses a series of steps, each with unique challenges and opportunities:

• Step 1: Performing a CSRD Gap Analysis, a comprehensive evaluation of a company’s current activities and existing sustainability reporting practices in comparison to the new CSRD and ESRS obligations. This analysis identifies specific sustainability challenges and opportunities and revolves around three crucial areas: strategy, reporting, and processes. Its primary purpose is to provide a clear understanding of a company's standing concerning regulatory requirements.

• Step 2: After understanding the gaps to compliance, the second step consists in providing a structured plan for companies to follow, through a CSRD Roadmap. In this phase, BDO plays a role in crafting a detailed action plan to outline the needs, responsibilities, and timelines required to ensure compliance and to reach the company’s objectives in terms of positioning.

• Step 3: The final step of this journey is the development of a sustainability reporting process. This involves the systematic collection of both qualitative and quantitative data, essential for the construction of comprehensive sustainability disclosures that are robust and supported by well-structured processes. BDO assists companies in structuring this reporting process, ensuring it aligns with the regulatory requirements and providing recommendations to ensure that information can undergo assurance. This process may already be well-established for larger companies, offering them a certain advantage compared to SMEs. SMEs may need additional support to meet CSRD standards, such as help with the development of an ESG strategy, plans to manage climate-related risks and assistance with training.

 

Challenges and opportunities

Given the differing approaches, BDO in Italy has identified several challenges and opportunities associated with the development of a CSRD roadmap. One critical aspect is the formulation of objectives taking a forward-looking approach. This requires the establishment of sustainability targets spanning short, medium, and long-term horizons, supported by specific Key Performance Indicators (KPIs) for monitoring and reporting progress.

Another pivotal consideration involves the calculation of KPIs in compliance with the EU Taxonomy Regulation. Complying with CSRD requires companies to understand their revenues and expenses (Capex and Opex) associated with Taxonomy-aligned activities. However, it's important to note that the Taxonomy Regulation introduces data-related challenges, as its criteria are intricate and extensive, and the screening process to understand if the activities are aligned with these criteria is far from straightforward. Furthermore, with the introduction of limited assurance requirements, companies need to establish a reporting process that is not only robust and structured but also amenable to audit.

Attention to detail is paramount, especially in the context of the challenges associated with Taxonomy information and the high number of data points required for disclosure. Ensuring the accuracy of the calculation processes requires solid, well-structured procedures, bolstered by the supervision of the internal audit function.

Lastly, the CSRD highlights the necessity to introduce ESG due diligence processes that encompass the entire value chain. This brings about the need to understand the ESG risks and opportunities that arise from the company’s operations, implying the necessity to structure internal processes that can identify such issues and define mitigation actions.

BDO stands as a guide through these intricacies, offering a tailored approach that considers an organisation's unique characteristics. Whether large corporations or SMEs, BDO's expertise helps bridge compliance gaps, supporting organisations in optimising existing operations, enhancing sustainability reports, and engaging in industry sustainability initiatives.

The CSRD introduces a new era of corporate responsibility and environmental consciousness, propelling companies towards mandatory sustainability reporting. BDO's customised approach equips organisations to navigate this transformation efficiently and effectively, aligning with regulatory requirements.