Update! The Non-Financial Reporting Directive: What You Need To Know
Does your company have offices within the European Union (EU) with over 500 members of staff*? If yes, pay close attention to this blog – because it can help your business navigate a changed regulatory environment.
*Or 250 members if based in Sweden, Bulgaria, Hungary, Finland and the Netherlands.
Early this year, the Non-Financial Reporting Directive (NFR Directive) came into effect in all EU member states. All 28 countries have since adapted the Directive into national law, and it’s now up to companies comply.
The EU Non-Financial Reporting Directive is enshrined in the Treaty on the Functioning of the EU which allows Member States to exceed the requirement set by the EU in matters of environmental protection.
We’ll tell you more about this later (in the section ‘Enforcement – Do Directives Present Business Risk’), but for now let’s look at what you need to know. Here’s a snapshot.
- Spain recently adapted the Directive into law. It is the last EU member state to do so.
- The number of regulatory initiatives requiring non-financial disclosure is growing exponentially; there are now over 20x the number of initiatives today than just 4 years ago.
- Simultaneously, the cost of non-financial risk is rising. Between 2008-2012, the top ten global banks lost close to $200 billion through litigations compensation claims and operational mishaps.
- Countries have adapted the NFR Directive to varying degrees – businesses must understand what’s required by each relevant country in order to effectively mitigate risk. 93% of institutional investors believe that companies are unprepared.
- Required disclosure broadly falls into the following categories:
- Environmental matters
- Social and employee aspects
- Respect for human rights
- Anti-corruption and bribery issues
- Diversity on board of directors
- Artificial Intelligence can track regulatory trends, alerting you to changes in important draft or existing regulation
Now, let us drill into the key detail for each of these points.
The Regulatory Space for Non-Financial Disclosure is Blowing Up
It’s not an exaggeration to say the regulatory space is blowing up on non-financial disclosure. The NFR Directive is just one of the 4,000+ initiatives globally that require or recommend disclosure on non-financial issues - and this number is rising at exponential speed.
Datamaran shows that there are now 20x the number non-financial reporting requirements today than just 4 years ago.
The NFR Directive is a leading example of how the landscape has changed - and continues to change. It’s not only the Unilever’s of the world that need to report on non-financial issues anymore.
Companies of much smaller size are impacted by the NFR Directive. Companies who fail to take note of the change are leaving themselves exposed.
Additionally, if part of your supply chain is based in the EU but the entities operating within do not comply with the EU Directive, this could have knock on effects for your business.
Companies must not only provide more granular information on non-financial risks and opportunities within their own operations, they must also consider these across their value chain.
A draft French law is a landmark example of how regulators are demanding more information from companies. For the first time, a National Government is requiring that large companies assess and address adverse impacts across the supply chain.
This law - the duty of care of parent companies - is set to come into force January 1st, 2018. This expected French law gives us a sense of what is to follow in the next decade. We’re starting to see a domino effect, with the Swiss Parliament also calling for parent company liability in cases of breaches of Human Rights.
The Rising Cost of Non-Financial Risk
So, what happens if companies do not comply with these new laws?
As can be seen in the infographic below, the top 10 banks globally lost $200bn through litigation compensation claims and organizational mishaps related to non-financial issues between 2008 and 2012.
The infographic above also shows that there is a disparity between the percentage of companies that believe themselves to be prepared for the EU Directive, and the percentage of investors who believe companies are prepared.
This highlights a gap between the level of detail companies provide and investor expectation. Watch our webinar ‘Reporting on the SDGs: What do Investors Need to Know?’ for more insight on this.
So, how can your company get ahead of these rising risks and opportunities?
Continue reading for more detailed information on the NFR Directive. You can also book a time to speak with one of our experts – and learn about how Datamaran can help you prepare.
How Have Countries Adapted the NFR Directive into Law?
As is the rule in EU Law, Directives must be transposed into national law by each member state, giving them a certain amount of liberties in the ways to implement the requirements set by the Union - as long as the outcome of the Directive is upheld. Countries are mandated with interpreting and deciding the best method of implementation.
Significantly, some countries (Sweden, Bulgaria, Hungary, Finland and The Netherlands) have chosen to lower the minimum employee threshold to an average of 250 employees.
Through this, these countries demonstrate their engagement with the issue, and may set a trend for more countries to adopt similar measures in the future.
We’re expecting to see major shifts in the ways in which companies report, and more details on the relationship between company financial statements, and the non-financial issues impacting business and society.
Companies are given the freedom to disclose this information in the way they find useful or in a separate report. In preparing their statements, companies may use national, European or international guidelines such as the UN Global Compact.
An important point here is that while most countries encourage the use of voluntary frameworks, companies are required to disclose which framework was used, if any.
A number of voluntary frameworks exist, which can be followed to report on the issues.
Notably, the GRI standards can be used for each topic and are the most commonly used framework.
They have released the following to help companies implement the Directive: Linking the GRI Standards and the European Directive on non-financial and diversity disclosure (14 Feb 2017)
So, What is the Non-Financial Reporting Directive?
The directive requires public disclosure documents such as annual reports, sustainability reports and integrated reports to include the below topics. You need to ensure you’re disclosing the impacts of your business activities on issues that fall into the following categories:
- Environmental matters
- Social and employee aspects
- Respect for human rights
- Anti-corruption and bribery issues
- Diversity on board of directors
The disclosure must include a description of the company’s business model, a description of the policies adopted regarding the listed issues, the outcome of said policies, the risks related to those matters linked to the company’s operations, and non-financial key performance indicators relevant to the particular business (as referenced within the NFR Directive).
Spain was the final EU country to adapt the initiative into national law, so companies across Europe have a full view of how it will affect them.
The Directive applies a “comply or explain” system, meaning if no policy is in place in one of the above matters, your company must explain the reasons behind this. The “comply or explain” principle ensures that if a company does not apply a policy regarding these issues, it will be disclosed publicly, encouraging companies to address this gap, in order to avoid negative publicity.
What is Required?
The Directive requires companies to report on business impact, development, performance and position relating to a set list of non-financial issues.
A number of countries have added requirements regarding the publication of information regarding the diversity of the Board of Directors, distribution of employees in terms of age and gender, and executive remuneration. This includes Austria, Belgium, Bulgaria, Cyprus, Finland, Germany, Ireland, Italy, Portugal, and Spain.
France adopted the directive with the most stringency. France went further than the other countries by adding more topic specificity. There are direct mentions of granular environmental topics, such as Pollution prevention and Circular economy. Similarly, on social issues, France went into more detail on issues such as employee retention and workforce diversity.
Twelve countries in total have simply directly inserted the text of the Directive into their national legislation, however. These include no additional details from the EU directive.
These include environmental issues (i.e greenhouse gases, energy use); social and employee aspects (such as employee development, employee compensation and benefits); respect for human rights (such as human rights, children rights, labor rights); anti-corruption and bribery (such as bribery, corruption); and Diversity on the board of directors (such as workplace diversity and inclusion, Board composition, board diversity and independent board directors).
If you would like guidance on the key non-financial issues impacting your business, get in touch with one of our experts.
What Story Does The Data Tell?
As of May 2017, there are 867 companies based in the EU within the Datamaran business intelligence platform. Our analysis shows that less than half of these companies are actively releasing sustainability reports or integrated reports.
While this doesn’t mean the issues are not being reported within the financial reports, it does signify the extent to which European companies may have to improve on their reporting requirements regarding the wealth of non-financial issues that will need to be disclosed on.
The analysis Datamaran provides is based on the largest companies by market capitalization across the EU. The picture for smaller businesses could be starker still, with a greater majority of companies needing to make the transition.
Are You Disclosing on Non-Financial Reporting Directive Topics?
The graph shows the top 10 most common non-financial issues being reported in EU corporate disclosure (Annual Reports, Sustainability reports and SEC-filings) amongst the corporate reports of the 867 EU companies (as of May 2017) listed in Datamaran. As you can see, there are still a significant proportion of companies not disclosing on these topics.
Using expert insights from our team of legal, risk and non-financial issues experts, we explore what companies are doing now, what they need to know, and how they can prepare themselves for the regulatory requirements impacting their corporate reporting.
From our analysis, we see that companies in the majority of EU member states are prioritizing at least one environmental and employee related issue in their Annual Reports.
There is a wide variety in how companies disclose on other non-financial issues in the scope of the directive.
Our analysis highlighted the most common non-financial topics being disclosed within their corporate disclosure (across both financial and non-financial reports). These were:
- Employee compensation & benefits
- Business ethics
- Anti-corruption & bribery
- Greenhouse gases
- Shareholder activism
- Board composition
- Employee development
- Occupational health & safety
- Energy use
- Workforce diversity & inclusion
Are You Leading or Lagging?
Our analysis, presented in the infographic below, shows the most emphasized topics being discussed across annual reports, sustainability reports and SEC Filings by country, relevant to the NFR Directive topics.
If your company is not disclosing on these topics within your corporate filings, you may be falling behind the curve.
Gaps in Non-Financial Reporting By Country
In our analysis, we considered all companies based within the EU in the Datamaran database, and extracted some of the biggest gaps between EU countries and the percentage reporting (or not reporting) on topics relevant to the NFR Directive.
The results suggests that companies based in France are the most prepared for the NFR Directive based on French companies’ disclosure on related topics. This is a good sign since the French adaptation of the law is the most developed.
This level of preparedness could be explained by the number of mandatory disclosure regulations which exist in France relating to this topic.
In Datamaran’s regulatory database, there are 19 mandatory disclosure requirements in France relating to non-financial disclosure.
The most relevant of which is perhaps the Grenelle Act II (Law No. 2010-788 on the national commitment for the environment – Grenelle Act II) which has been in place since 2010.
Non-Financial Reporting Directive Category: Labor Rights Issues
On the issue of fair remuneration, French companies are leading on the issue, with only 30% of companies in France not covering the topic. In contrast 75% of Danish companies are not disclosing on this issue.
Under the topic of labor rights, we discovered 50% of Irish companies in our database were not reporting on labor rights issues, in comparison to only 5% not reporting on the topic in France.
On the issue of forced labor, 75% of companies in the Netherlands were not reporting on the issue in comparison to only 25% of French companies.
Non-Financial Reporting Directive Category: Environmental Issues
On the issue of climate change, we found 40% of Swiss companies not reporting vs only 5% in France.
On the issue of energy reduction and efficiencies, we found the most prepared countries to be France and Austria, with Ireland lagging behind in terms of corporate disclosure on the topic.
On the issue of water pollution, UK companies are lagging with 70% of UK companies not reporting on the issue, in comparison to Finnish companies with only 20% not covering the issue in corporate disclosure.
Companies may feel ill-equipped as they prepare to disclose the required information for the first time.
Regulatory guidance tools, and examples of industry best practice from peers in their sector will be a useful guide to leverage when deciding what to disclose and whether it meets the minimum requirements of the directive. That’s where Datamaran can help.
Enforcement – Do Directives Present Business Risk?
Once approved, EU Directives must be transposed into national law. This means the country in which your business is based will take decision on the details in terms of enforcement.
Once the transposition measure is adopted, it is enforced through the national administrative mechanisms applicable to national law.
Therefore, prosecution and penalties for non-compliance can present a serious business risk – both in terms of a regulatory risk, but also a reputational risk.
The violation of the requirements of a Directive is therefore considered as a violation of the transposition measure itself. National tribunals and courts will have jurisdiction over the non-financial statements, and will judge according to the texts of relevant national laws, and not the Directive.
How Can Business Intelligence Help?
If you are an organization impacted by this Directive and want advice on how to better disclose on traditionally non-financial disclosure topics, get in touch with one of our experts.
Our business intelligence platform can help you to identify and emulate best practice from the world’s leading 7000 companies.
The Datamaran platform also offers alerts to expected changes across the global regulatory landscape with global coverage of over 4000 regulations which are relevant to your business.
Finally, Datamaran monitors trends across news channels and social media to track, on a continuous basis, the evolution of non-financial topics, including those related to the NFR Directive.
Relevant Blog Reading
To read more on the importance of non-financial reporting, you might also enjoy our blog “Why integrating non-financial issues are essential to future business strategy”.