Why meeting ESG regulations remains the biggest challenge in any risk management function

Evolving landscape has led to a radical change in approach – but what should companies consider?

Why meeting ESG regulations remains the biggest challenge in any risk management function

Risk Management News

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The EY Global Integrity Report 2024 highlights that ESG-related regulatory reporting and data integrity have emerged as significant risks for organisations. As climate-related goals transition from voluntary commitments to mandatory obligations, the conversation around net-zero emission targets and broader ESG issues has shifted notably over the past two years.

This shift has been from ambitious aspirations to a focus on regulatory compliance, as detailed by EY global ESG leader Katharina Weghmann (pictured above).

Traditionally, many organisations established lofty goals, issued audited Global Reporting Initiative (GRI) reports, and disclosed their climate impacts in line with the recommendations of the Task Force on Climate-related Financial Disclosures (TCFD).

However, in recent times, the discussion has pivoted to the significant challenges and risks associated with ESG, particularly those emerging from evolving regulations, a lack of harmonisation across sustainability reporting standards, and concerns around data integrity.

According to Weghmann, these challenges have led many organisations to reconsider their approach. Faced with the growing complexity of corporate disclosures and the need to publicly report on progress towards sustainability goals, some organisations are scaling back their targets to focus on what is achievable and measurable or aligning their objectives strictly with current regulatory obligations.

This trend towards minimal compliance is further influenced by the political landscape, with upcoming elections in more than 60 countries in 2024 potentially affecting the stringency and direction of ESG regulations.

Weghmann notes that while the intention behind stronger mandatory reporting requirements is to improve transparency and accountability, the unintended consequence may be that organisations shift their focus from ambitious but difficult-to-measure ESG goals to simply ticking the compliance boxes. This approach may prove counterproductive, especially as ESG regulations continue to evolve globally.

Heightening scrutiny to meet ESG regulations

EY’s report found that 37% of respondents identified keeping up with and complying with new and changing ESG regulations across various jurisdictions as one of the most significant challenges in meeting their ESG compliance obligations.

Weghmann points out that this challenge is compounded by the rapid proliferation of ESG-related legislation worldwide. Between 2011 and 2023, more than 1,255 ESG regulations were introduced globally, further complicating the landscape for organisations trying to meet their compliance requirements.

The report further outlines seven key areas where CFOs, chief sustainability officers (CSOs), and other senior executives face the most difficulty in addressing ESG challenges. One critical area is mapping and measuring the sustainability journey.

According to the report, 34% of respondents admitted that they have limited reliable data to measure progress against performance targets. Weghmann highlights that the ability to measure and report against ESG ambitions and targets is crucial and drives the need for better, auditable data at the group level, often across multiple markets, business units, and brands.

Another area of concern is the role of CSOs in key decision-making processes. The report notes that 29% of respondents are worried that, without the appropriate level of influence or authority, CSOs may not receive sufficient dedicated resources and budget for ESG initiatives.

Weghmann suggests that ensuring CSOs have a seat at the decision-making table is vital for integrating ESG into the organisation’s core strategy, value creation, and culture.

The report also warns against adding sustainability solutions merely to meet regulatory requirements rather than building them into the organisation’s strategy from the outset. This approach can create the perception, both internally and externally, that ESG is an afterthought rather than an integral part of the organisation’s long-term strategy.

Meeting the growing regulatory demand

Weghmann advises that organisations should focus on implementing the right processes, systems, and internal controls to strengthen transparency and reporting. As legislation and regulations evolve, organisations will need to push ESG data to the level of financial reporting and ensure it can withstand the scrutiny of an audit — a requirement under some of the new ESG regulations, including the Corporate Sustainability Reporting Directive (CSRD).

Building a robust risk management programme around ESG activities is another challenge identified in the report. While there is increased focus on what to report and how to report it, organisations often overlook the critical need to develop a risk management framework for their ESG activities.

Weghmann also points out that while organisations are familiar with managing financial reporting risks, they need to put similar effort into managing nonfinancial reporting risks. This is particularly important given the increase in regulations and disclosure requirements, which now involve multiple parts of the business and processes, necessitating a multidisciplinary approach.

The report also addresses the hidden perils of greenwashing and greenhushing. Employees who have not traditionally been involved in ESG reporting are now being inundated with new requests for information, acronyms, and standards.

Weghmann notes that this added pressure can lead to errors or omissions in reporting, which could expose organisations to accusations of greenwashing, underreporting, or even fraud.

As ESG efforts increasingly become mandatory, the stakes for organisations have never been higher. Weghmann concludes that while the challenges posed by the evolving ESG landscape are significant, they also present an opportunity for organisations to adopt a more mature approach to their sustainability efforts.

This means moving beyond mere compliance to embedding ESG integrity into the core of their corporate strategy, balancing ambition with ethical behaviour, and focusing on long-term value creation rather than short-term gains.

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