Will Integrated Reporting improve sustainability? Part III – Integrated Thinking

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dreamstime_s_33567037Dr Dale Tweedie and Prof. Nonna Martinov-Bennie.

This is the third of five blogs on whether and how Integrated Reporting might contribute to sustainability.

In this blog, we consider the International Integrated Reporting’s Council’s (IIRC) objective of promoting ‘integrated thinking’.

In a sense, integrated thinking is more fundamental to Integrated Reporting than the final report itself, because the IIRC has defined Integrated Reporting as ‘a process founded on integrated thinking’.

In other word, the primary function of the Integrated Report is to communicate the changes in outlook and organisational practice that Integrated Reporting processes should have generated.

What is integrated thinking?

The IIRC defines integrated thinking as ‘the active consideration by an organisation of the relationships between its various operating units’.

As we explore in a recent article, integrated thinking has two main parts:

  1. Understanding and dialogue that stretches across an organisation’s operating units. For example, reporting and assurance on carbon emissions in mining operations might facilitate integrated thinking by requiring the accounting team to collaborate with scientific experts to measure and document carbon output.
  2. A more holistic understanding of how the organisation interacts with internal and external stakeholders. In particular, the IIRC claims that integrated thinking involves a ‘fuller consideration of stakeholders’ legitimate needs and interests’.

This suggests that integrated thinking should change both how managers see their organisation and how their organisation functions. Indeed, these two types of changes are inextricably linked: Integrated reporting should help managers better understand their organisations precisely because it stimulates more open dialogue across its constituent parts (or ‘silos’) and external stakeholders.

What are the implications for sustainability?

Early research has questioned whether integrated reporting is so far creating the type of changes the IIRC envisages. For instance, Stubbs and Higgin’s (2014) study of early adopters found incremental changes to sustainability reporting practices, rather than the more extensive and transformative organisational changes that integrated thinking seems to imply. A recent IIRC report also finds incremental changes in many organisations, but emphasizes the potential for integrated thinking to emerge over time. One of the IIRC’s participants suggests that – in practical terms – integrated thinking typically develops through producing multiple integrated reports.  

Nonetheless, it is possible to identify both positive and negative aspects of the IIRC’s approach to integrated thinking for sustainability.

POSTIVE: The IIRC’s emphasis on Integrated thinking is entirely consistent with its focus on improving how organisations communicate. Since a key part of integrated thinking is understanding other stakeholders’ views and interests, integrated thinking might improve organisations’ awareness – and the awareness of managers in particular – of sustainability issues.

NEGATIVE: Integrated thinking is a relatively weak accountability mechanism, because whether integrated thinking is occurring, and how well, cannot be directly disclosed, measured or audited (despite the IIRC’s growing focus on assurance). For example, integrated thinking may prompt management to better understand the ‘legitimate needs and interests’ of their organisations’ workers. However, it is difficult to measure or enforce this understanding, especially compared to the Global Reporting Initiatives requirement for organisations to report against International Labour Organisation benchmarks.

Moreover, and as previously discussed, the IIRC is yet to clarify what concrete processes organisations should use to engage their stakeholders. Hence, more could be done to explain what management can do to gain the broader understanding of stakeholders’ views and interests that integrated thinking entails.

In our next blog, we will consider in more detail to what extent Integrated Reporting might improve sustainability by capturing stakeholders’ ‘legitimate interests and needs’ better than alternative reporting frameworks.

As always, any comments or thoughts most welcome. If you wish to be e-mailed future blogs, please subscribe to this blog.

Four ideas for improving Integrated Reporting

The International Integrated Reporting Council (IIRC) recently completed the consultation period for its draft version of the International Integrated Reporting (<IR>) framework, with <IR> ‘Version 1’ to be released in December. IGAP researchers Dr Dale Tweedie and Prof. Nonna Martinov-Bennie raised four ideas for the IIRC to consider in its revisions.

????????????????????????????????????????????????????????????????????????????????????????1. Clarifying the relationship between <IR> and other reporting systems

The IIRC’s ‘value-creation’ approach to non-financial reporting is very different from the ‘impact-assessment’ approach used by the Global Reporting Initiative (GRI). Users of <IR> would benefit from greater guidance on how <IR> and GRI4 can be complementary in a practical reporting context; for example, by clarifying differences in the materiality determination processes of <IR> and GRI4 and which – if any – takes precedence.

2. Acknowledge and address stakeholder conflicts

The IIRC’s view that the interests of providers of financial capital – the primary audience of <IR> – and other stakeholders will align over the long term overlooks potential conflicts between these groups, and so how conflicts should be reported. An example in Australia is coal seam gas (CSG) exploration, which promises significant financial benefits to mining and energy organisations, but which other stakeholders have claimed is a long-term risk (e.g. to primary production and water supply). Given this perceived conflict, what should be reported by organisations engaged in CSG exploration? Further clarity on the ‘legitimate needs, interest and expectations’ of other stakeholders that an <IR> should acknowledge would help address these kinds of issues.

3. Increase comparability through a stronger ‘core’

As our earlier blog discussed, while a principles-based framework is a useful method of avoiding boiler-plate disclosures, <IR>s need sufficient commonalities to be comparable over time and between organisations. Providing a stronger ‘core’ of reporting requirements and methods, best practice guidance (e.g. on carbon reporting) and definitions of key terms could encourage comparability without sacrificing the principles-based approach.

4. Governance as accountability

The draft <IR> framework asks each organisation to explain how its ‘governance structure support[s] its ability to create value in the short, medium and long term’. While good governance is part of value creation, the key features of governance are accountability, transparency and ethics, which are fundamental to ensuring that the value that organisations create is managed and distributed in appropriate ways. Following the King Reports in South Africa, <IR> could play a greater role in emphasising and communicating the importance of these aspects of governance. 

Carbon Accounting: New Reporting and Assurance Challenges

The growing international impetus to address climate change means that it is increasingly important for organisations to understand and manage their environmental impacts. In a 2012 article, Nonna Martinov-Bennie reviewed the introduction of carbon management legislation in Australia, and explains the key reporting and assurance issues.

http://www.dreamstime.com/stock-images-co2-emissions-image17305254Carbon Legislation in Australia

The main climate change legislation in Australia is the Clean Energy Act 2011. The Clean Energy Act has four major initiatives: a carbon pricing mechanism, support for innovation in renewable energy, energy efficiency and enhancement in land management. Arguably, the policy with the most significant reporting implications – and also the most controversial – is the carbon pricing mechanism or ‘carbon tax’. The carbon pricing policy establishes an initial fixed price of $23 per tonne of CO2. This price will increase at 2.5% plus inflation until 2015, and then transition to a price determined by a carbon market. While the carbon price is new, it builds on an on-going legislative and reporting framework in Australia that began with the National Greenhouse and Energy Reporting Act in 2007.

Carbon pricing: key issues

As Martinov-Bennie explains, carbon reporting and pricing challenges business to improve their reporting and management in several key areas:

  • Reporting rigour: Because organisations’ survival has not historically depended on its control of environmental impacts, non-financial reporting has not attained the same rigour as financial reporting. By putting a cost on environmental performance, carbon pricing provides incentives for firms to bring environmental reporting standards and controls up to the same high standards.
  • Timely data: Emissions data is typically reported annually. However, the creation of a carbon price questions whether annual reporting is adequate. More frequent   reporting better reflects organisations’ costs and liabilities and can support more effective management of outputs. At least one large mining company is already moving to monthly reporting for operations of over 50-kt CO2.
  • Robust reporting systems: The current legislative framework requires secure data storage and audit trails of changes for five years. Most firms are reporting based on spreadsheets, but it is unlikely that this will be adequate over the long term.
  • Effective reporting teams: Producing effective carbon data requires organisations to create interdisciplinary teams that have the range of skills that effective carbon reporting requires.

Measuring carbon: organisational strategies

Martinov-Bennie also highlights new governance and measurement challenges involved in measuring carbon output:

  • Periodic or Continuous Carbon Reporting: Periodic reporting is the cheapest and most popular method of measuring carbon liability; however, it is also the least accurate. Organisations need to consider whether a more expensive continuous measurement system might better manage the risk of highly variable emissions.
  • Measuring the Right Activity: Accurately measuring carbon emissions requires a thorough and holistic understanding of production, especially when using contractors. For example, a landfill company that outsources emissions to a third party through gas flaring needs to report those emissions.

The future of carbon pricing in Australia?

Despite calls for certainty by the business community, the federal opposition in Australia has promised to repeal carbon pricing legislation if elected in September. However, while many commentators are predicting a change of government and policy, the long-term future of carbon pricing is uncertain. As a small, trade dependent nation, there are limits on Australia’s capacity to remain isolated if other nations move towards carbon reporting and assurance, as recent suggestions that China is considering a carbon pricing mechanism have highlighted.

Also, the long-term value for organisations in rigorous reporting and management of climate change data is not solely a consequence of the Clean Energy Act. Independent international initiatives to report environmental impacts, such as by the Global Reporting Initiative and the International Integrated Reporting Council, suggest growing pressure from stakeholders to report environmental outcomes. The growth in investment funds with sustainability criteria will also benefit firms who can report on their environmental management practices, and suggests a growing need for assurance of these reports.

Finally, as Martinov-Bennie’s article highlights, developing effective reporting of carbon outputs is one part of understanding and evaluating an organisation’s production process. From this perspective, carbon reporting and assurance is not solely an exercise in compliance, but also an opportunity to develop a more rigorous assessment of an organisation’s non-financial impacts and management strategies.

Integrated Reporting: Lessons from the Global Reporting Initiative?

???????????????????????????????????????????????????????????????????????????????On April 16, 2013 the International Integrated Reported Council (IIRC) will release a draft of ‘Version 1’ of its Integrated Reporting framework for public comment. This release marks a new stage in efforts to measure organisations’ performance on non-financial grounds, such as their use or ‘stewardship’ of social and environmental resources. While there have been many previous methods of social and environmental reporting, the distinctive idea of Integrated Reporting is to use simultaneous presentation of financial and non-financial information to show how organisations’ management of different types of resources – financial, human, and environmental – are interconnected, so that success or failure in one area (e.g. use of natural resources) has consequences for the whole. Integrated reporting has attracted significant support in a comparatively short period of time, including from major international organisations like Microsoft, Coca-Cola and Volvo in the IIRC’s pilot program and business network, and recognition from the peak international professional body in accounting: the International Federation of Accountants.

Will IR be successful over the long term? A useful starting point is the experience of the Global Reporting Initiative (GRI), which co-founded the IIRC in 2010. From small beginnings in 1997, the GRI has grown to become arguably the most well-known and widely used means of reporting social and environmental information. However, there has been considerable debate over the impact that the GRI is having on corporate reporting. On one hand, many studies have highlighted the extensive use of sustainability reporting by the world’s largest firms, with the GRI the most popular reporting mechanism. On the other hand, critics like David Levy, Halina Brown and Martin de Jong have argued that the adoption of GRI by businesses overall has been comparatively low. More importantly, they claim, the social and environmental measures developed by the GRI are not being widely used by investors and social institutions for their intended purposes.

It remains to be seen whether the fourth iteration of GRI due out in May – ‘G4’ – will address some or all of its critics’ concerns. However, regardless of your view on the GRI, the GRI debate raises important questions about how IR will deliver enough value to stakeholders to encourage use of integrated reports over the long term. One feature of the IIRC’s approach is to stress that IR can add value to companies by promoting dialogue across the organisation. The feedback on the IIRC’s pilot program suggests that at least those large international companies that are trialling IR view this approach positively. Yet while the abstract value of sustainability reporting (e.g. to organisational reputation) has been long discussed, it has proved more difficult to quantify these benefits, especially for the smaller to medium sized organisations which face relatively higher costs.

As the GRI debate also highlights, the usefulness of IR to investors will depend not only on the internal benefits of IR for any one organisation, but also on investors’ ability to compare organisations’ performance on social and environmental indicators. It remains to be seen whether the voluntary framework proposed by the IIRC is capable of meeting this objective, especially where organisations adopting IR have discretion over the indicators they choose to report.

Finally, while the IIRC has been making a strong case for the business benefits of IR, the IIRC’s focus on investors has at least temporarily sidelined the question of whether IR provides the type of transparency that broader groups of stakeholders require. As also raised in GRI debates, increasing organisations’ accountability for their use of social and environmental resources requires some mechanism of limiting their motivation or capacity to ignore or ‘greenwash’ information that presents their activities in an unfavourable light. If part of the public case for supporting IR is that it will increase public accountability in this sense, then one question future IIRC releases need to clarify is how the IR framework will perform this additional reporting function.

Dr Dale Tweedie, IGAP Research Fellow.

What is your view of the IIRC’s approach? Is integrated reporting likely to be useful to you or your organisation?