Due diligence in line with the CSRD: Certification of corporate sustainability?

CSRD: Through reporting obligation to value driver 

Apart from companies already obligated to prepare reports under the NRFD, the reporting obligation will be progressively extended – driven by the CSRD – by 2027 to cover all companies other than micro companies. This means that only companies have been exempt that do not exceed at least two of three size-related criteria (balance sheet total of 450,000 euros, net sales revenue of 900,000 euros within twelve months before the balance sheet date, or at least 10 employees on an annual average). 

Already now it is visible that the CSRD – even prior to its coming into force – is more and more noticeable in due diligence examinations and should be taken into consideration. Thanks to the CSRD, the topic of ESG is becoming more and more a value driver and decisive factor in valuations, in particular within the framework of corporate sales and acquisitions. Sustainability aspects will become a particularly important factor in due diligence.

Intertwining of CSRD, HGB and ESRS

As part of the implementation of the NFRD in HGB, non- financial reporting obligations of large companies have been regulated in Sec. 289 et seq. HGB. Failure to comply with the reporting obligation, for example, an incorrect presentation of the non-financial declaration in the management report or in the separate non-financial report is sanctioned with fines that can be imposed on the supervisory board or the representative body of a corporation according to Sec. 331 (1) no 1 HGB. 

Following the extension of the reporting obligation by the CSRD, it will apply to a larger group of addressees. At the same time, the CSRD will standardise the reporting obligation and harmonise reporting. Last but not least, the entry into force of the CSRD will also introduce new language use: the directive no longer uses the term “non-financial reporting” but speaks about the so-called “sustainability reporting”, instead. The reason for this is that in particular sustainability issues may have a significant financial impact on companies and, thus, using the term of “non-financial reporting” in this context would be a mistake. In addition, the information on sustainability will become a fixed item in the company’s management report in order to, once more, strengthen the connection between financial and non-financial information. 

In the overall context, also the European Sustainability Reporting Standards (ESRS) should be taken into consideration. The European reporting standards have been developed to ensure as uniform and comparable corporate reporting as possible in the single market. The CSRD makes reference to the reporting standards to be issued by the EU Commission that, amongst others, determine the content of the reporting obligation and specify its structure. According to the draft, they comprise a total of 12 standards. Two of them are of general nature and must be observed by all companies; the remaining ten are issue-specific and refer to the areas of Environment, Social, and Governance. Practically, the issue-specific ESRS will have to be addressed in sustainability reporting if they prove to be material for a given company, a fact which can be determined by way of a so-called materiality analysis. 

The draft of the ESRS developed by the European Financial Reporting Advisory Group (EFRAG) has been recently published, i.e. on 9 June 2023.  Upon completion of public consultations of the respective drafts they were accepted and finally published by the European Commission on 31 July 2023. If neither the European Parliament nor the Council makes any objec-tions to the draft, the ESRS will probably become effective on 1 January 2024 – that is, concurrently with the CSRD.   

Certification as a means for documenting compliance with the ESRS

The fact that a company complies with the ESRS as part of the sustainability report and towards stakeholders may often be evidenced by obtaining certifications according to certain ISO standards and also serves as a valuable seal of quality. 
The possible scope of application of ISO certification can be illustrated based on the example of the ESRS-S-standard in the area of Social. These intersectoral standards deal, amongst others, with disclosure obligations in the area of customer and stakeholder satisfaction, and with ensuring sustainability & GRC for business partners.

A company could, for example, be certified according to the DIN EN ISO 9001 standard; this standard serves as evidence for the implementation of a quality management system (QMS). A QMS is a collection of documentation of any kind which, as a whole, constitutes an internal set of rules according to which the company produces goods or services and delivers them to customers. The company might want to introduce such a QMS to ensure the above-mentioned customer satisfaction, for example.

In such case, certification takes place in two steps: First, the certification body verifies whether the selected documentation meets the requirements according to ISO 9001 within the framework of their own QMS. Then, in a second step, it is controlled as part of the main audit whether the current company activities, processes and documents are compliant with ISO 9001. If these requirements are met and the QMS has been successfully implemented, the appropriate certificate is issued.
The overlaps of topics between ISO certifications and the ESRS could therefore, all in all, represent an already proven and transparent solution and simplify the audit under the ESRS.

ESG certificates as a catalogue in due diligence

If the company has already been appropriately certified for the respective areas under the ESRS, it can use these certifications also for company valuation purposes, e.g. in M&A transactions. After all, the area of ESG is becoming more and more a value-driving factor for companies and, also due to this, is now referred to in (nearly) every due diligence.
If appropriate certificates can be provided during a due diligence process, this would probably reduce bureaucratic workload, generate cost savings for the DD and help avoid often existing uncertainties. Thus, certification of ESG aspects could be an investment creating a real value added for the company.

Outlook

ISO certification of a company’s internal striving for sustainability offers the company the opportunity to position itself already prior to the entry into force of the European reporting standards and to be ready for compliance when legally required. A company which is able to point out in the sustainability report that it complies with certain standards and to document this through appropriate certifications will gain a competitive edge over market participants not being accordingly prepared. This is all the more the case with potential due diligence where workload can be significantly reduced and simplified by presenting a catalogue of ESG certificates.