The Legal Implications of the EU’s Corporate Sustainability Reporting Directive: Why Do You Need a Lawyer for an ESG Reporting Exercise?

Over the past decade, global ESG regulations increased by 155% according to analysis from the world’s largest ESG policy and regulation database, Reporting Exchange. Companies may be aware of climate change and they may even have even embarked on a project to achieve net zero emissions. However, if they have not already taken ESG issues into account in investment processes and decision-making, it is high time to pick up new habits. In light of the first Corporate Sustainability Reporting Directive (CSRD)-aligned mandatory reports being due in 2025, this may even be one of the last opportunities for companies to do so.

Since the CSRD came into force in November 2022, followed by the adoption of the Delegated Act on the first set of European Sustainability Reporting Standards (ESRS) in July 2023, nearly 50,000 EU companies have started to wrestle with the increasingly complex regulatory requirements, which are intended to combine and modernise several pre-existing frameworks.

Now, more than ever, EU ESG Regulations can be considered a true showcase for the ever-changing world of non-financial reporting. Under the CSRD, the observed shift from “disclosure of non-financial information” to “disclosure of sustainability information” appears to be an attempt to emphasise the importance of sustainability reporting, placing it on an equal footing with financial reporting.

First, the reporting obligation extends to Non-Financial Reporting Directive (NFRD)-defined large companies. Since CSRD-aligned reports are required to be published in 2025, thinking about a company in terms of sustainability is now becoming urgent; this way processes for sustainability-related data identification and collection may start as early as 2024.

Entities reporting in the second wave for FY25 must also remain vigilant. To take account of the effect of recent significant inflation, the Commission has adjusted and rounded up the financial thresholds for determining the size category of companies by 25%. The balance sheet total criterion was increased to EUR25 million, and the net turnover total to EUR50 million.

As this is the only way to prepare for the subsequent publishing of reports in 2026 and 2027, proactive rather than reactive steps are a must for every large company and listed SME that will be subject to the CSRD. Being upfront in their preparations will allow them to retain and attract customers, capital and employees in the short, medium and long term.

Although the efforts being made at EU level to meet the undertakings in their sustainable reporting obligations are not to be overlooked, they appear to be somewhat delayed. Nearly half a year after sector-agnostic ESRS adoption by the European Commission, it was not until 22 December 2023 that the first three final drafts of ESRS Implementation Guidance documents developed by the European Financial Reporting Advisory Group were issued. Submitted for consultation until 2 February 2024, they cover key topics such as materiality assessment, value chain (VC) analysis and ESRS data points.

To assess its ESG maturity, the undertaking should start by taking legal advice on the establishment of an ESG regulation roadmap in order to be reassured of the applicability of regulations, including verifying whether it is subject to the CSRD. A subsequent and inevitable step is to conduct a gap analysis, verifying how the requirements are currently addressed and analysing the risk of greenwashing. This is also where lawyers’ ability to horizon-scan the ESG opportunities and risks plays a vital role in adjustment of internal documentation, including policies and procedures, in order to ensure that these address specific ESRS disclosure obligations.

A useful step is a phase-in period for VC disclosures. In terms of transitional provisions, the CSRD emphasises that for the first three years of application of the measures adopted, if the necessary VC information is not available, it may be omitted. This is to be compensated for by an explanation of the efforts made to obtain the necessary information. The time gap this creates can be productively used by reporting entities to consider a two-level arrangement: of internal documentation on the one hand and supplier contracts on the other. The first level requires legal advice on the development of a due diligence policy with a map of criteria and the introduction of changes to outsourcing and vendor management procedures enabling the identification of the impact on/verification of the supplier. The second compels establishment of a new set of contractual clauses for the verification and remediation of the contract portfolio.

EU companies’ capacity to adapt to emerging ESG trends has become a driver of their competitiveness. Implementation of an ESG reporting system, tailor-made for identified impacts, risks and opportunities to the company, will quickly translate into access to financing, higher positioning among investors and rating agencies, maintenance of the supply chain, inclusion of ESG aspects in stock exchange prices and - ultimately - lower costs over the medium and long term.

One should bear in mind that sustainability reporting is not a one-off task. Organisations are required to gather and assess data from various external sources, document progress, make improvements and adhere to emerging regulations. As such, sustainability reporting requires nuanced understanding, real-time monitoring and performance tracking. A smooth transition from a time-consuming, complex operation into alignment with emerging framework and regulation cannot be made without the adoption of a properly designed system and automated tools and software. Commitment to sustainability objectives should be driven by long-term considerations.