What Is ESG Materiality And Why Is It Important For Reporting?

by Source Intelligence

on July 12, 2021

Businesses of all sizes are under increasing pressure to show contribution to the global efforts of protecting both the environment and people. As governments join in the fight against climate change and strengthen human rights due diligence requirements, organizations are expected to not only take measures toward more transparency and accountability but also to record those measures through ESG reporting.

 

ESG reporting is becoming more widely adopted not just to protect a brand’s reputation but to satisfy stakeholders: investors, shareholders, institutions, and customers.

 

However, ESG isn’t straightforward due to a lack of standardization and there are many factors that contribute to successful reporting. One of these factors is understanding ESG materiality and how it plays a part in the impact your ESG initiative has.

 

In this article, we outline the concepts of materiality based on various ESG frameworks and offer advice on where to start and how to simplify the supply chain data collection and reporting process.

 

 

ESG Materiality And Its Meaning In ESG Frameworks

 

 

The concept of materiality originated in accounting, where materiality is defined as “the financial information that is likely to influence a knowledgeable person’s judgment [and] should be captured in the preparation of the financial statements of the company.” 

 

The principle has since expanded across all industries and is no longer viewed under the sole prism of corporate financial viability. Materiality is now defined as what is relevant to your business, what is directly and indirectly affecting goals and decision making, and which areas weigh the most in business growth and sustainability.

 

Determining Materiality For Your Business

 

 

Sample ESG Materiality Map

 

The supply chain plays a vital role in the process of determining what is material to your business. The more complex your supply chain, the more exposed you are to external risks. It’s important to increase transparency and know:

  • Are suppliers’ practices threatening the flow of materials?
  • Is there any risk that could disrupt logistics?
  • Are financials strong?
  • Is pollution a common practice?
  • Is there a history of corruption and/or human rights abuses in the area?
  • Are local regulations weak or lacking?

 

 

Through a risk-based approach, you can mitigate risks, capitalize on positive influence, and reveal opportunities that would have otherwise missed your radar.

 

 

ESG Materiality In The UN SDGs Framework

 

 

The Sustainable Development Goals (SDGs) in the UN framework aim to solve problems in 17 critical areas by 2030, each with a set of specific factors. It is by far the most comprehensive and hereby ambitious ESG framework to date. Does it mean that if you wish to report by that framework, you commit to addressing all 169 sub-goals? It does not. It’s important to note that not all 17 goals will be material to your business either.

 

Per UN SDG guidelines, you should map the areas that could have a high impact and define KPIs (or business indicators) that best characterize the relationship between your activities and their direct or indirect impact on sustainable development.

 

Materiality is determined by your company’s goals. In the SDGs framework specifically, materiality goals would be determined by which of the SDG goals you can contribute to. Once you determine the SDGs you can contribute to, find opportunities to prevent any negative impacts towards these goals and rank them based on the impact your business and supply chain has on them. 

 

 

Morgan Stanley Capital International (MSCI) Materiality

 

 

The MSCI indexes are well known for their focus on industry-specific benchmarking that attributes weights to ESG factors. Their methodology heavily specializes in issues that are relevant to long-term resilience and sustainability.

 

The MSCI model is supported by a materiality map. This map compares:

  1.  Key issues based on the contribution of your industry to external factors, and
  2.  Other industries and the timeframe pertaining to how these external factors materialize.  

 

This weight-based approach serves as an average industry indicator that gives you a good starting point in determining ESG materiality. From there, it takes you to the next sector-specific level, then down to company-specific data. In this framework methodology, details such as corporate procedures, production processes, or regions where you operate are taken into consideration at the final stage of prioritizing ESG factors.

 

 

The Sustainability Accounting Standards Board (SASB) Materiality Standards

 

 

The focus of SASB is to help you identify ESG issues relevant to financial performance. It parses 77 industries and rates issues that have an impact on the operating performance of a company per industry, narrowed down to sectors. SASB’s ESG materiality map is the product of intensive data collection from investors, companies, and market actors willing to share information that helps organizations create long-term value for sustainability.

 

SASB was mostly seen as a financial ESG tool but recently merged with the International Integrated Reporting Council (IIRC) to create a simplified and complete ESG framework. SASB is a great complement to CSR initiatives in general and ESG reporting in particular, due to its granular approach.

 

 

ESG Materiality Within The GRI Framework

 

 

The Global Reporting Initiative (GRI) is the veteran of ESG reporting and is still one of the most used and respected frameworks. Since its inception in 1997, GRI has not shied from adapting to global trends, nor has it hesitated to amend its definitions and guidelines to provide better support and clarity.

 

Per GRI recommendations, materiality is defined by an organization’s economic, environmental, and social impact as well as its collective impact on stakeholders’ decisions. To determine materiality, the GRI framework considers:

  • Which factors are most important? 
  • Which internal and external factors are driving the decisions? 
  • Which behavior in society or the cultural environment might also drive sustainability?
  • What international standards and agreements may influence compliance?

 

 

ESG Materiality: Making Heads And Tails Of Reporting

 

 

By now, you likely understand that you cannot act on every front, as commendable as the intention is. The reality is you need to find a balance between what makes sound sense for the sustainability of your business with minimal negative impact on the world.

 

The good news is, there is no need to make it more complex than it is. It all boils down to having a process in place:

  • Your first order of business is to map ESG factors across your primary business activities throughout the value chain.
  • Second would be to identify any ESG issues you aren’t already tracking via your CSR initiative or supply chain compliance programs.
  • Third is to take stock of the ESG factors that are most material to your business.
  • Finally, you can create reports on the good, the bad, and the ugly and outline how you will address the latter two.

 

Ultimately, without accurate supply chain data, your ESG efforts are greatly stunted: you can’t quantify, you can’t measure, and you can’t determine the actual impacts of your efforts.

 

Source Intelligence’s supply chain ESG reporting solution automates the data collection process and makes it easy for you to create meaningful and accurate reports for any framework.

 

Whether you’ve been reporting for years and need to ease the burden of manual work or are just starting your ESG reporting journey, our team of experts guide you through the process and set up a reporting process that works for you. Request a demo of our ESG solution today to see how we can take the complexities of ESG reporting and make it simple. 

 

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