The preparation of financial statements has become a routine process. This is not the case for non-financial matters. Companies that are lagging behind in ESG must be prepared to answer sometimes embarrassing questions. This will be particularly the case in Europe with the gradual implementation of the directives on Corporate Social Responsibility and Taxonomy.
In many companies, ESG topics are, at the request of the Board of Directors, taken into consideration by the Audit Committee. Why?
- Because investors find more consistency and robustness in an annual report when non-financial information is linked to financial information. It remains for the Audit Committee to extend its competences from “financial” to “non-financial”.
- Because non-financial information will be audited by the Statutory Auditors, the Audit Committee’s natural partners. The audit firms are developing the techniques required to be able to audit non-financial information with the same level of assurance.
- Because the Audit Committee has demonstrated, over time, that it works well. It operates within a rigorous methodological framework and invites to its table the experts it deems useful (risk, audit, finance, ethics, environment, safety, etc.).
Should the committee add ESG expertise? Appointing directors with ESG expertise can increase the committee’s effectiveness in setting and assessing policy. In addition, it demonstrates a high level of commitment in the eyes of both internal and external audiences.
The Audit Committee and the Board of Directors will work with management on investment priorities. They will also discuss with the Compensation Committee how management objectives can be reinforced by appropriate incentives.
To what extent should executive compensation be aligned with ESG performance? Linking executive compensation to ESG metrics can be an effective way for the company to communicate its commitment to raising ESG standards and achieving real improvements in ESG performance. This is not new; we know that what gets measured gets managed.
We expect many Boards and Audit Committees to redouble their efforts with their management teams to meet investors’ expectations for more information on ESG areas, progress over the past period, and near-term ambitions.
It’s time to organize non-financial workshops for financial directors.