Sustainability Reporting and Value Chain Inclusion: The European Commission Answers FAQs

published on 16 December 2024 | reading time approx. 4 minutes

On the 12 November 2024, the European Commission’s Communication C/2024/6792 was published in the Official Gazette of the European Union. It provides interpretations of certain provisions of the CSRD (Corporate Sustainability Reporting Directive) and the ESRS (European Sustainability Reporting Standards), as well as rules for sustainability reporting in the financial services sector (SFDR).

The Communication clarifies the application of the CSRD, ESRS reporting standards, and the rules for sustainability reporting in the financial sector (SFDR). Its goal is to facilitate compliance and ensure the provision of useful and comparable information.

Subject of the European Commission’s Communication

Following an introduction that includes a glossary of the relevant legislation and an analysis of the CSRD's objectives and content, the Communication delves into issues such as the scope of application, the phased implementation timeline, and obligations for third-country companies and auditors. It then provides clarifications in the form of 'frequently asked questions' (FAQs), aimed at "facilitating compliance with regulatory obligations by stakeholders, reducing costs, and ensuring that sustainability information is accessible and comparable."

The Commission notes, however, that only the Court of Justice of the European Union can issue binding interpretations of EU law. The explanations provided in the Communication “do not limit the position that the European Commission may adopt before national or EU courts.”

One of the most complex aspects of the new reporting obligations under the CSRD involves the inclusion of value chain data, both upstream and downstream. The ESRS standards, however, do not provide detailed guidance on the required level of accuracy. In this context, the section of the FAQs dedicated to this topic is particularly valuable.

The Concept of “Reasonable Effort”

One of the most intricate issues concerns the reporting of data related to the value chain, which includes both upstream and downstream supply chains. The ESRS do not provide definitive guidelines on the level of accuracy required. The Communication addresses this issue in FAQ 29, clarifying the concept of "reasonable effort" expected from companies in gathering the necessary information for sustainability reporting.

This concept depends on factors such as:

The size and resources of the company, relative to the complexity of the value chain;
Technical readiness, recognizing that less experienced companies may need more time to adapt;
Availability of tools, including digital solutions, for accessing and sharing information;
The size and resources of value chain entities, which can affect the difficulty of data collection;
The technical readiness of the value chain itself
The level of influence and purchasing power over value chain entities;
Proximity in the supply chain, with data from direct suppliers or customers being easier to obtain.

Companies may rely on estimates based on industry averages when direct information is disproportionately difficult to obtain, justifying such choices. Estimates can also be used to verify the consistency of data provided by value chain partners.

Efforts Required from SMEs

Another important topic for companies, particularly SMEs (small and medium-sized enterprises) not obligated to sustainability reporting but potentially asked for information by other companies, is addressed in FAQ 30. It answers the question: "What sustainability information requests should an SME expect to receive following the implementation of the CSRD and ESRS?"

FAQ 30 focuses on SMEs, which are not required to report but may receive data requests from other businesses. During the three-year transitional period, SMEs can limit their responses to available or publicly accessible information.

Generally:

Smaller SMEs with no reporting experience will be less involved;
Larger SMEs or those with experience in environmental certification systems (e.g., EMAS) may face more frequent requests;
First-tier suppliers or customers of CSRD-subject companies are more likely to be significantly involved.

The Commission also notes that the EFRAG is developing two sustainability reporting principles for SMEs: one mandatory for listed SMEs (LSME ESRS) and one voluntary for unlisted SMEs (VSME). The LSME ESRS will set the maximum level of sustainability information that SMEs may be asked to provide. The VSME should serve as a benchmark for all market operators, ensuring that the efforts required of SMEs remain reasonable.

Although the FAQs are not binding and only practical application and rulings from the Court of Justice of the European Union can offer definitive solutions to the many uncertainties currently faced by companies adapting to the new regulations, the Commission’s pragmatic approach is commendable. In this context, businesses themselves will play a critical role in resolving these uncertainties. By examining the FAQs, consulting the implementation guidelines for the ESRS published by EFRAG (the multi-stakeholder advisory body tasked with advising the Commission on ESRS), and actively participating in public consultations by raising questions and reporting implementation issues, companies can contribute to shaping a clearer regulatory framework.