Accounting for ESG - What does ESG mean for the Office of the CFO?

Whether it is compulsory or not, the public, investor, regulatory and political mood is driving demand for more accountability and action. It means that finance functions of all sizes in every geography will become engulfed by reporting demands. It is just a matter of time, and if that is the case, what are the implications for the CFO?

 

Compliance burden or opportunity?

On one level, CFOs could view ESG as just another compliance burden – a ‘box’ to be ticked, alongside many other regulatory and compliance obligations. But savvy CFOs know that finance is uniquely placed to accelerate sustainability benefits and savings.  It is something that is uppermost in the minds of institutional investors and various ESG indices can have a profound effect on market capitalisation, access to capital, and business reputation. It is a situation that CFOs ignore at their peril.  They not only need to be in the ‘game’ but need to be able to positively differentiate their businesses on ESG criteria. 

Equilibrating ESG and accounting

Although ESG compliance is primarily around non-financial information (for example, supply chain emissions), understanding how ESG activities impact the bottom line is critical to creating ESG reports that attract investors, impress financial institutions, and appease regulators. But translating environmental outcomes and natural phenomena into accounting language is far from straightforward. It will require a complete shift in mindset as well as reporting systems, processes and decision-making. 

Changing the basis of decision-making

Part of the shift in mindset will be a profound change in the basis of decision-making. Historically CFOs have made decisions on the basis of maximising monetary returns and those decisions have been grounded in historic financial transactions that are well understood and can be audited.  In the new era of ESG, CFOs will be thrust into an environment of unfamiliar environmental and other data, which is more forward looking, unaudited and frequently estimated.

In this new world, the CFO will be supporting the C-suite on decisions not necessarily designed to just make money, but also to have social or environmental impact or a mixture of these. The fractured legacy systems of the past will be unable to support this more complex basis of decision-making. 

The need for a platform approach

In an era of ESG reporting, CFOs will need to demonstrate an explicit link between, say, sustainability outcomes deeply embedded in operational data and their financial implications. Historically this hasn’t been easy. Reporting and disclosure management systems (or worse still disconnected spreadsheets) have often been divorced from the underlying accounting and many organisations have struggled to merge granular operational and financial data in one environment.   

The breadth of ESG directives will add to the challenges. From diversity policy and recruitment, through to sustainability and social initiatives, ESG will be characterised by a cross-functional, multidisciplinary effort involving a large number of different stakeholders. Coalescing these different perspectives and providing unified reporting will require a platform approach or a hub, in which all interested parties can collaborate in a unified and consistent reporting environment.

Starting now

ESG deadlines dictate that an early start is required, but of course these initiatives are not just about compliance but also about competitive advantage and differentiation.  However, it will take time to bring about the cultural change and to align appropriate systems and processes. 

One of the lessons of the Covid era, is that organisations that transformed key financial processes before Covid took hold, were much more resilient and outperformed their contemporaries in the face of extreme change. The parallels with ESG are striking. Those organisations that embrace ESG in good time will be better prepared to weather the wave of regulation and take advantage of the competitive benefits that ESG provides.

ESG represents one of the most profound and far-reaching changes in regulation facing the CFO in recent times, although its impact will be felt far beyond the realms of pure compliance. It will require accounting innovation, a new approach to decision-making and changes in enabling platform technology.  However, it offers opportunities for competitive advantage for those organisations that grasp it.

This content is originated by CCH® Tagetik, a Corporate Performance Management software from Wolters Kluwer. Through MHR’s partnership with CCH Tagetik, customers can leverage an end-to-end Finance Transformation Platform including but not limited to budgeting, planning and forecasting, building an agile close and consolidation process, or taking advantage of ESG & Sustainability Performance Management.