Carbon Reporting Lacks Strong Standards and Experienced Pros

Moving toward mandatory carbon reporting requirements is more than 25 years in the making. But without a robust carbon accounting ecosystem, there remains too much room for misinformation and fraud.

Such an ecosystem needs bold standards to measure progress, with clear reporting language and with independent professionals who can provide assurance of the information.

Today’s hodgepodge of carbon reporting rules sets a relatively low bar that amounts to bringing little real, usable information, making the reported information somewhat ineffective for capital markets. With very few qualified professionals steeped in delivering reports that can link climate risk to enterprise risk, this is likely to become an Achilles’ heel for meaningful carbon reporting.

Meanwhile, as companies increasingly issue voluntary carbon disclosures in their financial and/or sustainability reports, many say they are ill-prepared for an audit of those reports.

Broken Promises

United Nations Secretary-General António Guterres in 2022 accused governments and businesses of outright lying about their climate efforts.

Can companies be relied on to tell a believable and provable story on their climate risk initiatives? Can government be trusted to bring about meaningful climate efforts that also support long-term market growth? Can auditors help investors make sound judgments on where to put their money, despite having little training in connecting carbon accounting to financial performance?

All signs point to no.

ExxonMobil Corp. and Saudi Aramco offer examples of companies that have communicated there will be sufficient demand for their high-carbon products, even after 2030. But we’ve seen the potential risk of litigation increase around corporate climate strategy, or lack of. For instance, California has sued some of the oil giants—including ExxonMobil—on climate change reporting.

When pressed, most of today’s financial auditors can’t opine on how climate risk issues may impact corporate performance, even though these same professionals are held accountable for protecting the marketplace.

Nevertheless, companies and their auditors should have some kind of authenticated message for their audiences.

Credibility Gap

Many companies for years have underestimated their climate risk challenges. Boards aren’t always well-educated in carbon reporting, senior management across enterprises have different priorities, and carbon disclosures are often reactive instead of proactive.

Companies that provide unvarnished truths about climate risk will enhance their marketplace credibility as straight talkers. Corporate spin amounts to a form of fraud that carries risk.

Carbon accounting is also about establishing a clear view of how a good climate transition plan looks. Investors have increasing expectations on how climate transition contributes to performance and that the measurement of progress be assured by an independent organization.

An unprepared financial audit profession, where current carbon accounting experience and capabilities are less than underwhelming, could put the capital markets at risk. Regulators are therefore considering allowing nontraditional assurance providers to enter this space, such as the approach taken when conflict minerals issues came to the fore.

What to Do

Advocacy group ClientEarth, which includes lawyers in 50 countries focused on environmental issues, sent letters in 2021 to the Big Four accounting firms PwC, Deloitte, EY, and KPMG, warning that the firms don’t “fulfill audit standards and their core legal duties by not considering climate risk.”

The organization found 80% of auditors provided no clear indication of whether or how they had considered material climate-related matters in their reporting, noting that the firms therefore threaten the market’s integrity.

History shows that when reporting issues arise, auditors can become a scapegoat for reporting shortcomings, as marketplace expectations focus on the profession assuring corporate-reporting information.

As a result, the entire accounting profession may face a threat when they aren’t fully engaged. It may prove easier for a nontraditional assurance provider to bring true carbon assurance methodologies to the table and become a financial assurance provider, rather than the other way around.

The audit profession should drive university and post-graduate training programs, while building in-house coursework to prepare auditors to link not only climate risk, but also environmental, social, and governance practices with an organization’s future financial performance and viability.

Accounting and audit professionals should also enhance their advocacy of meaningful carbon accounting standards and help steer standard-setters to generate verifiable rules-based guidance.

Outlook

Our capital markets rely on robust and reliable information. European sustainability reporting rules may be the clearest to date for global adaptation, even if they may not go far enough by some estimates.

A lack of reliable carbon accounting information integrated with financial information has stakes that are too high to rely simply on traditional financial accounting solutions. For example, the Inflation Reduction Act has earmarked $369 billion for climate change and energy transformation that may reduce carbon emissions by roughly 40% by 2030. Measurement and assuring the information will remain key.

To stay relevant during climate change, the accounting industry should rework the current assurance model for financial reporting to one that provides clear implications of the effects of climate change and other ESG issues.

Otherwise, some industries may stand just one environmental disaster from failure. The ripple effect could swamp a national economy.

This article does not necessarily reflect the opinion of Bloomberg Industry Group, Inc., the publisher of Bloomberg Law and Bloomberg Tax, or its owners.

Author Information

Eric Israel is a chartered accountant and certified fraud examiner.

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