September 22, 2018

Integrated Reporting Will Gain Momentum as Banks, Private Equity Increase Their Focus on ESG Issues

In the first part of our conversation with Michael Krzus, co-author of One Report, Integrated Reporting for a Sustainable Strategy, we discussed the nature of integrated reporting, how it will change corporate reporting as it is commonly known and some of the benefits to both stakeholders and companies.

The second part of our discussion looks at how small and midsize entities will benefit from integrated reporting, the feedback received from clients, and what the future holds.


Going Concern: Do you see a point in time when companiessults for sustainability issues on a reoccurring basis similar to quarterly earnings reporting?

Michael Krzus: I know enough about this to be dangerous, so I’ll give you that caveat, but I am aware of the somewhat recent EPA rule making that is going to require companies to report emissions and things of that nature. There are some limitations, but there will be more frequent reporting for U.S. domiciled companies. I think some of it will depend on the technology available. I don’t know what it takes for a coal-fired electric plant to account for CO2 emissions. So I’m not really in a good position to tell you that in five years whether that will evolve into more regular reporting or not.

GC: What kind of companies will be able to utilize integrate reporting? Can any size company embrace it or will it start with the largest players and work its way down?

MK: As a practical matter, it will have to be large, public traded companies, particularly the global players. On the other hand, I think small and mid-cap companies, especially private ones, have as much or more skin in the game and a lot more upside than the big guys. And that’s because of the complexity of information and the complexity of accounting standards. If you’re Microsoft, you’ve got a lot of issues that can be addressed by your large accounting department but if you’re a $400 million manufacturer of widgets, you don’t have those kind of resources. But you do want to tell stakeholders your story clearly and succinctly. I think the idea of the integrated report gives them the opportunity to do that.

Additionally, in the last couple of years, I’ve developed a good working relationship with the Society of Investment Professionals in Germany and one of the things that group has done is build example reports of what an integrated report could look like for a small or mid-cap sized company. If you think about it from the German perspective, much of their market base is small and medium sized companies and analysts there are very interested in the benefits that an integrated reporting can provide. So, there’s a lot upside for companies that fall outside the Fortune 500.

GC: Do you see a point in time where banks start requesting more non-financial information (i.e. ESG information) in order to qualify for lending?

MK: The short answer is “Yes.” To me, sustainability really has to do with long term viability of an entity. I don’t think a company can be viable for the long term without understanding and managing their environmental, social and governance risks because those three risk types specifically translate to reputation.

To some degree a lender will have to start considering non-financial factors. The price of admission is opening your heart and soul, as a company, to the banker. A banker can ask all kinds of question whether its about CO2 emissions or manufacturing location in Thailand that may cause child labor problems because you’re running a sweat shop.

To parallel that, I recently attended a conference of institutional investors. I found it interesting that a group of people that wanted to know more about integrated reporting were private equity folks. These private equity people are in the same boat as the bankers. If they are going to make an investment, they will open up everything. It’s not just about getting the 10-K, it’s about understanding everything from financial projections and processes to social and environmental risks in China. So, the markets in general, not just bankers, but also private equity and traditional sources of capital have become more and more interested in a broad set of non-financial information.

GC: What has been the experience with clients?

MK: Clients have assisted us by presenting challenging questions to help us think more clearly about the situation. For example, some people have argued that we don’t need integrated reporting because the markets are efficient and already have all the information they need. I would argue that, even without the events of the last couple of years, markets aren’t efficient and don’t have all the information they need because we have so many firms employing armies of analysts, all of who are looking for that shred of information that will give their company an edge. There’s always something that the analysts don’t have.

Another argument is whether or not the integrated report somehow diminishes the corporate responsibility report. My response to that is that by not integrating the two types of reports, companies avoid an audit of non-financial information. In general, the companies that have an integrated report do have some assurance over the non-financial information; it’s not necessarily subject to the same standards as auditing standards but there is some kind of assurance. So I think some kind of audit over the information – and over time perhaps controls and processes – will elevate the quality of the reporting. So good questions from very sharp people like “Have you guys thought about this?” forces us to engage in some dialogue of our own so we do have a coherent responses.

GC: How does IFRS fit into integrated reporting?

MK: I’m one of those people who think that there should be one global set of accounting standards. To speculate just a little bit, I could envision a world that might have IFRS that govern the financial statements and perhaps an international non-financial reporting standard, because at some point we’re going to have to address that. I think the larger question of IFRS is to first, how do we develop a global standard of non-financial information? And secondly, can we develop some sort of benchmark for auditors? So, I remain optimistic that U.S. will eventually adopt IFRS and would hope in the next few years there would be some kind of move to adopt international standards for non-financial information.

GC: What’s next?

MK: There are a couple of major conferences coming up this year where integrated reporting will be a topic in several sessions. We use various conferences to spread the word and build some momentum behind the idea. The Harvard Business School and the Harvard University Center of the Environment are co-sponsoring an event on integrated reporting later this year. Two newspapers in Japan are hosting an event in November and the Prince of Wales Accounting for Sustainability has an annual event in December that hosts roundtables on various topics.

On the Accounting for Sustainability website, there are a number of press releases including a PDF on a governmental collaboration that calls for the establishing an international integrated reporting committee. I can tell you that the Accounting for Sustainability Group has the resources and, frankly, the brand name that could call for the IASB or some other group to undertake the idea of a global framework for reporting non-financial information. I could see us having this conversation a year from now and I’d be very disappointed if there was not some kind of formal announcement from an international integrated reporting committee.

So I’m cautiously optimistic about the future. The timing for this is right and integrated reporting is important when you believe in the concept of inter-generational responsibility. This is the only planet we’ve got and we should every intent to leave it in as good as condition as we found it.

But as a hard-headed capitalist I also think integrated reporting makes sense because you don’t want to invest in company that will go bust. A company simply cannot be viable for the long-term unless they are considering ESG issues.

In the first part of our conversation with Michael Krzus, co-author of One Report, Integrated Reporting for a Sustainable Strategy, we discussed the nature of integrated reporting, how it will change corporate reporting as it is commonly known and some of the benefits to both stakeholders and companies.

The second part of our discussion looks at how small and midsize entities will benefit from integrated reporting, the feedback received from clients, and what the future holds.


Going Concern: Do you see a point in time when companies start presenting results for sustainability issues on a reoccurring basis similar to quarterly earnings reporting?

Michael Krzus: I know enough about this to be dangerous, so I’ll give you that caveat, but I am aware of the somewhat recent EPA rule making that is going to require companies to report emissions and things of that nature. There are some limitations, but there will be more frequent reporting for U.S. domiciled companies. I think some of it will depend on the technology available. I don’t know what it takes for a coal-fired electric plant to account for CO2 emissions. So I’m not really in a good position to tell you that in five years whether that will evolve into more regular reporting or not.

GC: What kind of companies will be able to utilize integrate reporting? Can any size company embrace it or will it start with the largest players and work its way down?

MK: As a practical matter, it will have to be large, public traded companies, particularly the global players. On the other hand, I think small and mid-cap companies, especially private ones, have as much or more skin in the game and a lot more upside than the big guys. And that’s because of the complexity of information and the complexity of accounting standards. If you’re Microsoft, you’ve got a lot of issues that can be addressed by your large accounting department but if you’re a $400 million manufacturer of widgets, you don’t have those kind of resources. But you do want to tell stakeholders your story clearly and succinctly. I think the idea of the integrated report gives them the opportunity to do that.

Additionally, in the last couple of years, I’ve developed a good working relationship with the Society of Investment Professionals in Germany and one of the things that group has done is build example reports of what an integrated report could look like for a small or mid-cap sized company. If you think about it from the German perspective, much of their market base is small and medium sized companies and analysts there are very interested in the benefits that an integrated reporting can provide. So, there’s a lot upside for companies that fall outside the Fortune 500.

GC: Do you see a point in time where banks start requesting more non-financial information (i.e. ESG information) in order to qualify for lending?

MK: The short answer is “Yes.” To me, sustainability really has to do with long term viability of an entity. I don’t think a company can be viable for the long term without understanding and managing their environmental, social and governance risks because those three risk types specifically translate to reputation.

To some degree a lender will have to start considering non-financial factors. The price of admission is opening your heart and soul, as a company, to the banker. A banker can ask all kinds of question whether its about CO2 emissions or manufacturing location in Thailand that may cause child labor problems because you’re running a sweat shop.

To parallel that, I recently attended a conference of institutional investors. I found it interesting that a group of people that wanted to know more about integrated reporting were private equity folks. These private equity people are in the same boat as the bankers. If they are going to make an investment, they will open up everything. It’s not just about getting the 10-K, it’s about understanding everything from financial projections and processes to social and environmental risks in China. So, the markets in general, not just bankers, but also private equity and traditional sources of capital have become more and more interested in a broad set of non-financial information.

GC: What has been the experience with clients?

MK: Clients have assisted us by presenting challenging questions to help us think more clearly about the situation. For example, some people have argued that we don’t need integrated reporting because the markets are efficient and already have all the information they need. I would argue that, even without the events of the last couple of years, markets aren’t efficient and don’t have all the information they need because we have so many firms employing armies of analysts, all of who are looking for that shred of information that will give their company an edge. There’s always something that the analysts don’t have.

Another argument is whether or not the integrated report somehow diminishes the corporate responsibility report. My response to that is that by not integrating the two types of reports, companies avoid an audit of non-financial information. In general, the companies that have an integrated report do have some assurance over the non-financial information; it’s not necessarily subject to the same standards as auditing standards but there is some kind of assurance. So I think some kind of audit over the information – and over time perhaps controls and processes – will elevate the quality of the reporting. So good questions from very sharp people like “Have you guys thought about this?” forces us to engage in some dialogue of our own so we do have a coherent responses.

GC: How does IFRS fit into integrated reporting?

MK: I’m one of those people who think that there should be one global set of accounting standards. To speculate just a little bit, I could envision a world that might have IFRS that govern the financial statements and perhaps an international non-financial reporting standard, because at some point we’re going to have to address that. I think the larger question of IFRS is to first, how do we develop a global standard of non-financial information? And secondly, can we develop some sort of benchmark for auditors? So, I remain optimistic that U.S. will eventually adopt IFRS and would hope in the next few years there would be some kind of move to adopt international standards for non-financial information.

GC: What’s next?

MK: There are a couple of major conferences coming up this year where integrated reporting will be a topic in several sessions. We use various conferences to spread the word and build some momentum behind the idea. The Harvard Business School and the Harvard University Center of the Environment are co-sponsoring an event on integrated reporting later this year. Two newspapers in Japan are hosting an event in November and the Prince of Wales Accounting for Sustainability has an annual event in December that hosts roundtables on various topics.

On the Accounting for Sustainability website, there are a number of press releases including a PDF on a governmental collaboration that calls for the establishing an international integrated reporting committee. I can tell you that the Accounting for Sustainability Group has the resources and, frankly, the brand name that could call for the IASB or some other group to undertake the idea of a global framework for reporting non-financial information. I could see us having this conversation a year from now and I’d be very disappointed if there was not some kind of formal announcement from an international integrated reporting committee.

So I’m cautiously optimistic about the future. The timing for this is right and integrated reporting is important when you believe in the concept of inter-generational responsibility. This is the only planet we’ve got and we should every intent to leave it in as good as condition as we found it.

But as a hard-headed capitalist I also think integrated reporting makes sense because you don’t want to invest in company that will go bust. A company simply cannot be viable for the long-term unless they are considering ESG issues.

Related articles

Score One for U.S. GAAP

two thumbs up.jpegU.S. GAAP just got a little boost in its image versus its sexy rival, IFRS, courtesy of Audit Integrity, a research services firm.
Audit Integrity studied filings by European companies from 2001 to 2008, looking at filings both pre and post IFRS adoption. The objectives were, “to determine whether IFRS has been implemented consistently across Europe, whether it has resulted in a common method of reporting financial data, and how the depth and comparability of data under IFRS compares to U.S. GAAP.”
At first glance, one might think that with all the bashing of U.S. GAAP in recent years that this was IFRS chance to prove once and for all that it was the new cock of the walk.
Well, not so fast GAAP haters:

“Based on our analysis, we are not seeing a significant improvement in financial reporting when companies shift to IFRS,” said Jack Zwingli, CEO of Audit Integrity. “We found that IFRS is a common standard, but there are significant variances in IFRS reporting, in the completeness of information, the timeliness and the filing frequency.”

Sounds like IFRS ain’t all that does it? You want more?

The firm says overall there are indications that financial reporting is more consistent and more comparable under IFRS than before IFRS adoption in Europe, but it’s not clear that IFRS represents an improvement over U.S. GAAP. In fact, the firm’s report says GAAP filers may have an edge over IFRS filing in terms of the timeliness, depth and breadth of financial data provided to investors.

Ouch, IASB. You want the best part? The Europeans disclose less on executive compensation than we do here in America. You’re all familiar with how popular corporate executives are. To wit:

[Jack] Zwingli [Audit Integrity CEO] said he was also surprised that the analysis revealed IFRS generally provides less information about executive compensation. “It’s not good in the United States, but it’s better than it is in Europe,” he said. “There is more consistency in reporting and deeper coverage of data under GAAP than under IFRS.”

Seems like IFRS has got work to do…IASB, you can call us when you want to get serious.

Study Pokes Holes in IFRS Reporting Quality, Consistency
[Accounting & Auditing Update/Compliance Week]

The Convergence Debate, Already Geeky, About to Get Geekier

Academics in the U.S. aren’t too psyched about the benefits of IFRS, according to Compliance Week:

The United States already meets a high level of reporting quality relative to other countries as a result of various “institutional features,” said [Peter] Wysocki [Professor at MIT]. Those include things like an active investor and analyst community, a rigorous audit process, and oversight by the Securities and Exchange Commission, among others, he said.
“It’s a little difficult to argue a move to IFRS will result in significant improvement in reporting quality,” Wysocki said. “We’re already at a high level because we already have those institutional features in place.

The debate over convergence has reached Biggie/Tupac fever and now that U.S. GAAP has got American bookworms shouting about how IFRS isn’t all that, we expect that academics on the other side of the pond will get involved and the debate will get fiercely geekier.
Academics: Move to IFRS Won’t Boost Reporting Quality [Compliance Week]