ISSB publishes its climate disclosure standard - Ancoram’s deep dive into IFRS S2
The International Sustainability Standards Board (ISSB, part of the IFRS Foundation) published its inaugural IFRS sustainability standards. We’ve analysed the climate disclosures standard, IFRS S2, and provided critical questions companies should consider.
The ISSB has published its inaugural IFRS sustainability disclosure standards, comprising:
IFRS S1 General Requirements for Disclosure of Sustainability-related Financial Information, which provides the principles governing specific sustainability-related disclosures established in IFRS S2 and future IFRS sustainability disclosure standards (please see our other post on IFRS S1); and
IFRS S2 Climate-related Disclosures, which requires specific disclosures concerning greenhouse gas emissions and other climate-related data.
These standards are the first of many to be issued by the ISSB - they are currently consulting on what their next priorities should be. In this article we do a deep dive into the requirements of IFRS S2 on climate-related risks and opportunities.
When is IFRS S2 effective?
The effective date for disclosure is for reporting periods starting on or after 1 January 2024. Companies can adopt S2 at an earlier date, but must also adopt IFRS S1 at the same date.
What is the scope of IFRS S2?
S2 applies to climate-related risks (both physical and transition risks, described below) and climate-related opportunities available to the company. Climate-related risks and opportunities (you’ll see this expression used throughout the standard) that could not be reasonably expected to affect a business’ prospects are outside S2’s scope.
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Risks resulting from climate change that affect the physical environment. S2 differentiates between ‘acute’ physical risks (which are event-driven) and ‘chronic’ physical risks (which result from longer-term climatic shifts).
Examples of acute physical risks include:
storms
drought
heatwaves
Examples of chronic physical risks include:
changes in precipitation and temperature
rising sea levels
reduced water availability
biodiversity loss
changes in soil productivity
S2 emphasises that these risks could carry financial risk for a business, such as costs from direct damage to assets or the indirect effects of supply chain disruption. These issues can also affect financial performance, including revenues and operational costs.
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Transition risks arise from efforts to migrate to a lower-carbon economy. These risks include:
policy risks
legal risks
technological risks
market risks
reputational risks
These risks could have financial implications for a business, such as increased carrying costs or asset impairment / obsolescence. Shifting customer demands and technological developments could also affect financial performance.
What content does IFRS S2 require?
S2’s disclosure content is structured around the TCFD recommendations’ four pillars of governance, strategy, risk management and metrics and targets. To understand the objective and structure of these sections, we recommend reading our post on S1, which goes into greater detail. S2 incorporates all the TCFD recommendations, and then adds some more of its own, so companies adopting S2 can be assured that they are also compliant with TCFD:
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Governance relates to the processes, controls and procedures used by the business to monitor and manage its climate-related risks and opportunities.
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Strategy relates to the way the company manages climate-related risks and opportunities.
In addition to the requirements of S1, S2 requires businesses to disclose:
which climate-related risks and opportunities would reasonably be expected to affect the business’ prospects
whether those risks are physical or transition risks
the current and anticipated effects of climate-related risks and opportunities on the company’s value chain and business model
the resilience of the company’s strategy and business model to climate-related changes
the effect of climate-related risks and opportunities on the company’s balance sheet, financial performance and cash flows (both actual and anticipated)
where there is significant risk of a material adjustment to balance sheet carrying values in the next annual reporting period, provide a description
describe how these might change over the short, medium and long term
In terms of climate resilience, businesses are expected to provide climate-related scenario analysis, describe any areas of significant uncertainty, together with the company’s capacity to revise or adapt its strategy and business model to climate change over the short, medium and long term. This entails consideration of the business’ ability to redeploy, repurpose, upgrade or decommission existing assets, and the impact on existing and planned investment in climate-related mitigation programmes.
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Risk management refers to the business’ processes to identify, assess, prioritise and monitor its climate-related risks and opportunities, including the extent to which those processes are integrated into business-as-usual risk management processes.
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Metrics and targets help explain the business’ progress and performance in relation to its climate-related risks and opportunities, including any targets set by itself or its regulators.
Specific metrics required by S2 include:
scope 1, 2 and 3 greenhouse gas emissions (GHGs - please see explanation below) as metric tonnes of CO2 , measured in accordance with the GHG Protocol
disclose scope 1 and 2 emissions for the consolidated group comprising the parent and its subsidiaries versus those for associates, joint ventures and unconsolidated subsidiaries
disclose location-based scope 2 GHG emissions, and provide details of any contractual instruments (such as forward contracts) to give an understanding of those emissions
disclose scope 3 GHG emissions under the GHG Protocol Corporate Value Chain (Scope 3) Accounting and Reporting Standard (2021) - we explore this in greater detail in the GHG emissions section below
Additional metrics required by S2 centre on the following:
disaggregation of the amount and percentage of assets or business activities vulnerable to climate-related physical versus transition risks
the amount and percentage of assets or business activities aligned with climate-related opportunities
the amount of capital expenditure, financing or investment deployed towards climate-related risks and opportunities
where internal carbon prices are used for decision-making purposes, an explanation and the price per metric tonne of GHG emissions
For climate-related targets, S2 requires companies to disclose:
which GHGs are covered
whether scope 1, 2 or 3 GHG emissions are covered
whether the target is for gross GHG emissions (eg before carbon offsets and credits) or for net emissions
whether the target was derived using a sectoral decarbonisation approach (see GHG emissions section below)
the company’s planned use of carbon credits to offset GHG emissions, including the extent of these schemes and which third party schemes will verify or certify the carbon credits and the type of offset (nature-based or technological removal)
How do I measure greenhouse gas emissions, and what are the different scopes?
GHG emissions are measured under the GHG Protocol and expressed in absolute terms in metric tonnes emitted. The protocol distinguishes between three scopes:
Scope 1 emissions are those generated by the company’s own activities, such as driving a company car or van, or running the factory boiler, for example. These emissions are best identified through a detailed analysis of the company’s operations and production processes.
Scope 2 emissions are indirect emissions made on the company’s behalf by third parties - such as through the purchase of electricity and energy to power its operations.
Scope 3 emissions are emissions generated throughout the company’s value chain - both up the chain (from purchasing goods and services from its supply chain) and down the chain (from marketing, distributing and selling its goods and services to customers and how those customers might generate emissions through using its goods and services). This is exceptionally difficult to calculate, and depends on those customers, suppliers and other stakeholders providing their GHG emissions data to the company.
The sheer scale of scope 3 scares me. How should I approach this?
S2 makes reference to the GHG Protocol’s Corporate Value Chain (Scope 3) Accounting and Reporting Standard. We’ve summarised the key requirements below, but in a nutshell, you should start by looking to see where the impact is - many, if not most, scope 3 emissions are generated through extracting and processing the raw materials.
We recommend the following process to comply with the Corporate Value Chain (scope 3) standard and S2:
Look at your complete value chain’s activities - both up and downstream. Focus initially on the energy-intensive activities, such as extraction, processing and transport of raw materials, any manufacturing or refining processes, and how your customers use, transport, or distribute your products or services.
Define your organisational boundary. There are three options here - equity share (taking an economic interest approach by considering the proportion of equity you hold in a business or emissions-generating activity), financial control (account for 100% of emissions generated by operations that are ‘controlled’ by the company and excluding all scope 3 emissions by operations you do not control), or operational control (account for 100% of emissions generated by operations where you have operational control and excluding emissions by operations you do not have operational control over).
Review each stage of the upstream and downstream value chain. The scope 3 standard provides the following examples of upstream and downstream activities to consider:
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purchased goods and services
capital goods
fuel and energy related activities
transportation and distribution
waste generated in operations
business travel
employee commuting
leased assets
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transportation and distribution
processing of sold products
use of sold products
end-of-life treatment of sold products
leased assets
franchises
investments
Define your time boundary. Are your products used within a year of sale, such as fresh food and produce, or do they have a longer life, such as heavy machinery? Which scope 3 emissions would you consider from prior years as opposed to the current reporting year, or future reporting years? Of the upstream activities, purchased goods and services, capital goods, fuel- and energy-related activities, transportation and distribution would be regarded as generating scope 3 emissions in prior reporting years and the current reporting year. On the other hand, waste generated in operations, downstream transportation and distribution, processing and use of sold products, end-of-life treatment of sold products and investments generate scope 3 emissions both in the current reporting year and future reporting years. The scope 3 standard provides detailed criteria for each type of scope 3 emission, and there is little room for manoeuvre.
Determine the overall reporting boundary, i.e. how far up and down the value chain you will collect and report scope 3 emissions data. Consider the size, influence, risk, stakeholder expectations, outsourcing and any sector-specific guidance.
Identify your data sources, how you will verify the data, and how you will ensure that you are not double-counting any scope 3 data.
Determine how you will embed data collection, verification and reporting into your business-as-usual activities.
Identify any potential gaps in the data and how you will address these. Consider the degree of uncertainty in the data - perhaps due to
Apply sector-specific expectations - the SASB standards cover 77 industries and are a great place to start.
Where can I get help with my GHG reporting?
Ancoram is fluent in all the internationally-recognised standards, including TCFD, S2 and the GHG Protocol. We’ve tangible experience of obtaining the data at scale and designing data collection, monitoring and reporting processes to provide you with insightful and compliant reporting. Click here to book a free consultation with our director, Tim Dee.