Adopt or stick?

Should UK-listed companies adopt IFRS S2 climate-related disclosures or stick with TCFD recommendations?

The promotion of climate-related disclosures by the Task Force on Climate-related Financial Disclosures (TCFD) has been embraced by numerous UK-listed companies. These recommendations became mandatory on 6 April 2022 for over 1,300 of the largest UK-registered companies and financial institutions. However, a new set of climate-related disclosure standards – IFRS S2 – introduced by the International Sustainability Standards Board (ISSB), has emerged, surpassing the TCFD recommendations with more comprehensive requirements for disclosing climate-related risks and opportunities.

It is worth noting that IFRS S2 is complementary to IFRS S1. The ISSB has stated that the two standards are "interdependent" and that "IFRS S2 cannot be applied in isolation from IFRS S1." This means that companies that adopt IFRS S2 must also adopt IFRS S1.

This requirement is designed to enable investors to access comprehensive information about sustainability-related risks and opportunities faced by companies, thereby aiding their understanding of how climate change and other sustainability factors may impact financial performance in the future.

Several factors warrant consideration while making this decision. 

1. IFRS S2 is currently not mandatory, but it is likely to become obligatory in the future, prompting companies to prepare for compliance.
2. IFRS S1 and S2 standards are built upon the TCFD framework. Therefore, for companies that already report TCFD to a high standard, adopting these new standards means they can further build and develop upon the existing work they already implement and communicate.
3. IFRS S2 requirements surpass TCFD recommendations, including the disclosure of financed emissions – emissions resulting from customers' and suppliers' activities – not mandated by TCFD.
4. IFRS S2 is more intricate and prescriptive, which makes compliance more challenging, but ensures consistency and comparability across companies.
5. IFRS S2 must be reported along with adopting IFRS S1, the general sustainability-related financial information standard.

Ultimately, the decision to adopt IFRS S2 or adhere to the TCFD recommendations is complex and depends on each company's circumstances. 

Here are some of the benefits of adopting IFRS S2:

• Enhanced transparency and comparability of climate-related disclosures

• Improved understanding of climate-related risks and opportunities

• Strengthened ability to manage climate-related risks

• Increased investor confidence

• Getting ahead on preparation and disclosing information in the result of IFRS S1 and S2 becoming a mandatory requirement

However, there are also potential drawbacks to adopting IFRS S2:

• Higher compliance costs

• Increased complexity of disclosures

• Potential reputational damage if disclosures are inaccurate or incomplete

Based on the information presented, it appears that the benefits of adopting IFRS S2 outweigh the drawbacks. Nevertheless, companies should carefully assess their unique situations before making a decision.

Both IFRS S1 and S2 standards are effective for annual reporting periods beginning on, or after, 1 January 2024, with earlier application permitted as long as both standards are applied. If you are a UK-listed company, it is advisable to consult your advisers to discuss whether adopting IFRS S2 or continuing with the TCFD recommendations is more suitable for your organisation.

View the IFRS S2 and TCFD Comparison chart

One of the drivers of the establishment of the ISSB was the need to address the ‘alphabet soup’ of sustainability reporting initiatives by building on and incorporating leading investor-focused sustainability disclosure initiatives into the ISSB Standards.

With the finalisation of IFRS S1 General Requirements for Disclosure of Sustainability-related Financial Information and IFRS S2 efforts to reduce fragmentation have been advanced.

But that does not mean these standards and frameworks have immediately disappeared.

Here is a summary of where we stand:

• The TCFD's work has been completed, and companies applying IFRS S1 and S2 will meet TCFD recommendations, as they are incorporated into ISSB Standards.

• The ISSB now oversees the SASB Standards, which help companies apply IFRS S1 and S2. You will need to apply one of the SASB industry frameworks to ensure you meet appropriate materiality tests.

• The CDSB was consolidated into the IFRS Foundation in 2022, and useful content from their guidance can be used for water and biodiversity-related disclosures.

• The Integrated Reporting Framework is jointly held by the ISSB and IASB, and IFRS S1 builds on its concept of resources and relationships to describe how sustainability can affect a company's prospects.

On 25 July 2023, The International Organization of Securities Commissions (IOSCO) endorsed the ISSB Standards after conducting a comprehensive review. IOSCO, comprising 130 member jurisdictions regulating over 95% of the world's securities markets, now urges these authorities to incorporate the ISSB Standards into their regulatory frameworks, ensuring consistency and comparability of sustainability-related disclosures globally. This endorsement reinforces that the ISSB Standards are well-suited for capital market use, enabling the pricing of sustainability-related risks and opportunities, as well as facilitating improved data collection and analysis. The endorsement's impact is expected to resonate strongly in growth and emerging markets, which constitute 75% of IOSCO's membership.

This announcement coincides with several jurisdictions considering mandatory requirements for the usage of ISSB's first two Standards, IFRS S1 and IFRS S2. The endorsement parallels IOSCO's endorsement of IFRS Accounting Standards over two decades ago, which contributed to their widespread adoption and recognition as the universal accounting language, trusted by investors and companies across more than 140 jurisdictions. Alongside the endorsement, the IFRS Foundation has released a high-level roadmap, providing transparency on its strategy to support the adoption of ISSB Standards by jurisdictions. This document serves as a precursor to an Adoption Guide for regulators, scheduled to be finalised later in 2023.