Prototype standards issued by the International Sustainability Standards Board (ISSB)

Preparation of the prototype standards

The Trustees set up, (with the support and oversight from The International Organisation of Securities Commissions (IOSCO), and The International Public Sector Accounting Standards Board (IPSASB)), the Technical Readiness Working Group (TRWG), to give the new board a running start and help with the rapid development of ISSB standards.

The TRWG was designed to integrate and build on the work of current and relevant initiatives focused on meeting investors’ information needs, with the purpose of providing technical recommendations for consideration by the ISSB.

The members of the TRWG are:

• The International Accounting Standards Board (IASB)
• The Climate Disclosure Standards Board (CDSB)
• The Financial Stability Board’s (FSB) Task Force on Climate-related Financial Disclosures (TCFD)
• The Value Reporting Foundation (previously the SASB Foundation and the International Integrated Reporting Council (IIRC)); and
• The World Economic Forum (WEF) and its Measuring Stakeholder Capitalism Initiative.

The TRWG’s first deliverable was the prototype standards, details of which are included below.

The summary of work performed by the TRWG, as well as future work plans, can be found here.

This is the first time that ‘prototype standards’ have been released by the Trustees. The prototype standards have been issued to:

• give stakeholders an early indication of the extent of the sustainability reporting standards;
• give the ISSB a head start in the standard setting process; and
• enable respondents to understand the proposals before the exposure draft is issued.

The ISSB will consider recommendations and determine its next steps, including the issuance of exposure drafts for standards informed by the TRWG’s work, subject to the independent due process of the ISSB. The hope is that the exposure drafts will be issued in H1 2022, with final standards expected to be issued by the end of 2022. The issuing of prototype standards gives stakeholders both an early indication of the ISSB’s direction and time to consider the contents.

There are two prototype standards;

• The General requirements for disclosure of sustainability-related financial information prototype (‘General prototype’), and
• The Climate-related disclosures prototype (‘Climate prototype’)

The General prototype is based on the financial reporting standard IAS 1, ‘Presentation of Financial statements’, and provides a general structure for the disclosure of material sustainability non-financial information.

This general structure is based on the TCFD’s four core pillars, Governance, Strategy, Risk Management and Metrics and Targets. The TCFD recommended disclosures either have been, or are soon to be adopted by a number of jurisdictions.

It is expected that future ISSB standards will be structured in accordance with these four pillars, that is, in the same manner in which the General and Climate prototype standards are structured. The thematic Climate prototype is tailored to ‘climate-related risks and opportunities, whereas the general prototype is generic and designed to deal with broader 'sustainability’ issues. For example, note the differences in disclosure requirements related to the ‘Governance’ pillar. In the General prototype, the disclosure requirement is:

• ‘the identity of the body or individual within a body responsible for sustainability-related risks and opportunities’ (emphasis added) paragraph 25(a)

Under the Climate prototype, the disclosure requirement is:

• ‘the identity of the body or individual within a body responsible for climate-related risks and opportunities’ (emphasis added) paragraph 4(a)

The adoption of the four pillar approach for all future standards will benefit preparers as they will have a consistent disclosure structure.

The General requirements for disclosure of sustainability-related financial information prototype standard

As noted above, the General prototype was developed to reflect the financial reporting standard IAS 1, ‘Presentation of Financial Statements’. The General prototype sets out the overall requirements of disclosure of sustainability-related non-financial information.

Objective

The objective of the General prototype is to provide information about the significant sustainability-related risks and opportunities to which the reporting entity is exposed. The General prototype makes it clear that the information should help primary users of general purpose financial reporting decide whether to provide resources to the entity. It does this by giving users a clearer understanding of the entity’s future cash flows and the enterprise value assessment.

General purpose financial reporting (‘reporting’) is defined within the General prototype as, encompassing, but not restricted to, an entity's general purpose financial statements and sustainability-related financial disclosures.

Users are defined in the General prototype as being ‘existing and potential investors, lenders and other creditors’. The General prototype notes that users will potentially be making decisions about matters such as:

• buying, selling, or holding equity and debt instruments;
• providing or settling loans and other forms of credit; or
• exercising rights to vote on, or otherwise influence, management’s actions that affect the use of the entity’s economic resources.

The General prototype also makes it clear that the sustainability-related financial information should be prepared consistently from period-to-period and presented together with comparative disclosures regarding the previous period. If the inputs used to calculate a metric are refined in the current year, based on additional information being obtained that was not previously available, an entity should provide restated comparative figures unless it is impracticable to do so. The reason for those changes should also be disclosed.

The prototype also emphasises the need to consider consistency of financial data and assumptions with information reported in financial statements.

Scope

Although consistency with financial information is a consideration, the prototype itself is agnostic to what accounting framework is applied. For example, the General prototype could equally be used with IFRS standards or a local form of GAAP.

The General prototype provides a hierarchy for the application of standards. Therefore, if there is another IFRS Sustainability Disclosure Standard which is more specific and includes disclosure requirements for specific sustainability-related matters and associated cross-industry, industry-based and activity metrics and targets, then that specific standard should be followed. See the Climate prototype summary as an example of this.

A notable inclusion within the scope of this prototype is that ‘Sustainability matters that do not affect the reporting entity’s enterprise value are outside the scope of general purpose financial reporting.’ This is in line with this General prototype’s objective that reporting should be a complete depiction of sustainability risks and opportunities to help users assess enterprise value. Users would do this by predicting the value, timing, and certainty of the entity’s future cash flows over the short, medium, and long term.

Materiality

Sustainability-related information is defined as material within the General prototype if omitting, misstating, or obscuring that information could reasonably be expected to influence decisions that the primary users of general purpose financial reports make on the basis of those reports.

This is consistent with the definition of materiality within IFRS. Specifically, IAS 1 paragraph 7.

According to the General prototype, to determine whether an item is material, entities should consider the following factors:

• Material information provides insights into factors that could reasonably be expected to influence users’ assessment of the entity’s enterprise value, including the ability to generate cash flows over the short, medium, and long term.
• Disclosure is not needed for information that results from applying the requirements but is not material to the reporting entity.

The General prototype does not specify uniform quantitative thresholds or any predetermination of materiality, and therefore judgement will be needed. Furthermore, as materiality may change over time, these judgements may need to be reassessed.

The General prototype does acknowledge that there is an expectation that the users have reasonable knowledge, review the information diligently and may also need to seek an expert’s advice to understand complex sustainability related matters.

Reporting entity boundary

The General prototype proposes that a reporting entity's boundary is the same for its financial statements and sustainability-related financial disclosures. However, the issue of a reporting entity’s boundary can be complex. For example, in IFRS reporting, determining the boundary of the reporting entity is driven by the information needs of the primary users of the reporting entity’s financial statements [IFRS Conceptual Framework 3.14].

The matter is made more judgemental by the requirement for entities to also disclose material information about significant sustainability-related risks and opportunities arising from activities, interactions, and relationships with parties outside the reporting entity’s boundary that affect users’ assessment of enterprise value.

As an example, the General prototype standard considers an entity whose principal supplier uses a manufacturing process that requires substantial modification to comply with environmental regulations. The General prototype suggests that additional disclosure about the sustainability risks and opportunities related to this supplier could be deemed material to the users of its reporting. However, from an IFRS reporting perspective, the supplier would not be considered part of the reporting entity.

Connectivity

The General prototype presents examples of potential areas for inclusion of sustainability disclosure so that users can understand any connections, dependencies, and trade-offs with other information in an entity’s reporting. These examples include situations where there are metrics and targets that support one or more of the disclosure requirements of the pillars. An entity might link together areas where it has had to restructure the business due to sustainability-related risks such as a carbon emission tax, which in turn has led to opportunities for the business to reskill and redeploy its workforce.

Other key areas

Other key areas covered within this General prototype include, but are not limited to:

The Climate-related disclosures prototype standard

Introduction

As explained above, in addition to releasing the General prototype, the ISSB released a Climate prototype. This prototype takes the concepts set out in the General prototype and applies them to climate-related risks.

Objective

The objective of the disclosure requirements contained in the Climate prototype is to require an entity to disclose the climate-related risks and opportunities that it is facing. This should enable users of an entity's reporting to:

1. Determine the effects of climate-related risks and opportunities on the entity’s financial position, financial performance, and cash flows. In addition, the disclosures should assist users in their assessment of the entity’s enterprise value i.e., their estimation of the amount, timing, and certainty of the entity’s future cash flows, spanning the short, medium, and long term;
2. Understand how management’s use of resources, and corresponding processes support the entity’s response to managing its climate-related risks and opportunities, and its strategy thereof; and
3. Evaluate how the entity is able to adapt its planning, business model and operations to respond to climate-related risks and opportunities.

Scope

The scope of the Climate prototype is illustrated in the following diagram:

The risks and opportunities referred to in the diagram above can be defined as follows:

• Climate-related risks are the potential negative impacts of climate change on an entity. Physical risks are risks resulting from climate change that can be event-driven (acute) or from longer-term shifts (chronic) in climate patterns. These risks may carry financial implications for entities, such as direct damage to assets, and indirect impacts from supply chain disruption.
• Transition risks are risks that are associated with the transition to a lower-carbon economy. Moving to a lower-carbon economy may entail extensive policy, legal, technology and market changes to address mitigation and adaptation requirements relating to climate change. Depending on the nature, speed and focus of these changes, transition risks may pose varying levels of financial and reputational risk to entities.
• Climate-related opportunities are the potential positive impacts on an entity related to climate change.

As noted above, the general structure of the prototype standards is based on the four core TCFD pillars of: Governance, Strategy, Risk Management and Metrics and Targets. Each of these pillars covered in the Climate prototype is considered further below.

Governance

Stakeholders and other users of climate-related reporting information are interested in identifying and understanding:

• the role an organisation’s board and/or other governance bodies play in overseeing climate-related risks and opportunities, and
• management’s role in assessing and managing those risks and opportunities.

The Climate prototype states that an entity should disclose information that enables users of reporting to understand the governance processes, controls and procedures used to monitor and manage climate-related risks and opportunities.

To achieve this objective, the Climate prototype provides a list of detailed disclosure requirements that should be addressed. The overarching requirement is that there should be a description of the governance body or bodies (which can include a board, committee or equivalent body charged with governance) with oversight of climate-related risks and opportunities, and of management’s role with respect to climate-related risks and opportunities.

Strategy

To understand how climate-related matters may impact an entity’s business, strategy and financial planning over the short, medium, and long term, entities need to disclose information to inform investors and other stakeholders about the entity’s future performance. This will also assist stakeholders in their assessment of the enterprise value of the entity. 

The Climate prototype states that an entity would need to disclose information that enables users of reporting to understand:

• its strategy for addressing climate-related risks and opportunities;
• the significant climate-related risks and opportunities that are reasonably expected to affect the entity’s business model, strategy, and cash flows over the short, medium, or long term;
• its assessment of the impact of significant climate-related risks and opportunities on its business model, management’s strategy and decision making, including its transition plans**;
• the impact of significant climate-related risks and opportunities on its financial position, financial performance and cash flows at the reporting period end, and the anticipated effects over the short, medium, and long term; and
• an analysis of the resilience of the entity’s strategy to significant climate-related risks (physical and transition).

Within the Climate prototype, there is detailed guidance about how the above disclosure requirements can be addressed, including disclosure requirements relating to scenario analysis.

For example, entities should disclose an analysis of the resilience of the entity’s strategy to significant climate-related risks. The disclosure should include whether the entity has used scenario analysis and the sources and time horizons of the scenarios, including discussing why such scenarios are relevant.

**A transition plan is an aspect of an entity’s overall strategy that lays out a set of targets and actions supporting its transition toward a lower-carbon economy, including actions such as reducing its greenhouse gas emissions.

Risk management

In order for users of reporting to assess an entity’s overall risk profile, and its risk management activities and processes, the Climate prototype requires an explanation of how the entity identifies, assesses, manages, and mitigates climate-related risks. In addition, entities need to clarify whether those processes are incorporated into the entity’s existing risk management processes.

To address the disclosure need, the Climate prototype includes the following disclosure requirements:

• The risk management process, including the process by which climate-related risks are identified;
• The processes to assess the significance of climate-related risks;
• How each significant risk is being monitored, managed, and mitigated; and
• How risk identification, assessment and management processes are integrated into the overall risk management process.

In disclosing the above information, entities should also address the overall risk management objective.

Metrics and Targets

In addition to understanding what the climate-related risks and opportunities of an entity are, users of general purpose financial reporting also want to understand how an entity monitors and adapts its performance in relation to these identified risks and opportunities. Metrics and targets are key to address this area of focus. Disclosure of quantitative metrics and targets can be used to measure an entity’s performance against significant climate-related risks and opportunities.

The Climate prototype requires the following disclosure:

• cross-industry metrics, that is metrics that are industry agnostic (refer to the examples provided below);
• industry-based metrics, which differ based on the industry that the entity is reporting in;
• targets set by management to mitigate or adapt to climate-related risks or maximise climate-related opportunities; and
• other key performance indicators used by the board or management to measure progress towards the targets set by management to mitigate or adapt to climate-related risks or maximise climate-related opportunities.

The Climate prototype states that the cross-industry metrics that should be disclosed are:

• Greenhouse gas emissions
• Transition risks
• Physical risks
• Climate-related opportunities
• Capital deployment
• Internal carbon prices
• Remuneration

For users to understand and assess an entity’s targets and whether its strategic goals are being achieved, an entity should not only disclose what its climate-related targets are, but should also disclose:

• The objective of the targets;
• On what the targets are based;
• The timeframe over which the targets apply; and
• The metrics that are used to assess the progress made towards reaching targets and achieving strategic goals.

This is not an exhaustive list.

Industry disclosure requirements

To meet the requirements relating to industry-based metrics, an entity should use the tables set out in Appendix B - ‘Industry disclosure requirements’, of the Climate prototype, which contains a summary of the industry-based disclosure requirements. The summary is organised by sector and industry, and for each industry, the disclosure topic(s) related to climate risks or opportunities are identified.

The disclosure topics and associated metrics within Appendix B of the Climate prototype are listed by industry-based activities. The Climate prototype makes it clear that an entity should only disclose the metrics which are relevant to its activities and in line with its business model for specific climate-related risks or opportunities.

Needless to say, if the entity has activities which span across more than one industry, the entity may have to provide individual disclosures about the industries across which it spans.