What Do ISSB Climate Disclosure Rules Mean for Your Carbon Credits?

Towards the end of June, the International Sustainability Standards Board (ISSB) unveiled the first two global frameworks for corporate sustainability reporting. Per the new rules, companies under the vast ISSB remit will be required to describe their governance, strategy, risk-management, and metrics and targets involving any sustainability-related — and particularly climate-related — risks and opportunities. Why does it matter, and what does it mean for your company?

The Big Picture

It may not be a household name, but ISSB parent the International Financial Reporting Standards Foundation (IFRS) is an extraordinarily powerful player in the world economy. One of the two dominant accounting regulators, it governs the standards for financial reporting and regulatory filing to which every company in its international jurisdiction must comply. Its actions have ramifications far beyond the sleepy confines of bean counting. In a nutshell, it is a major contributor to the terms of capitalism. Though sprawling, those terms have — for 50 years — been bound by one constraint: finance. The Accounting Standards are financial standards; the IFRS, a financial regulator. Or, rather, it was In 2020, responding to private market demand, the IFRS proposed a new Sustainability Standards Board to operate in parallel with its traditional International Accounting Standards Board (IASB). Announced at COP 26, the ISSB immediately absorbed the so-called “alphabet soup” of organizations that had, to date, guided companies on how best to communicate sustainability information to shareholders. In one fell swoop, the IFRS took control of environmental, social, and governance (ESG) corporate reporting.

    Why it Matters?

    Companies manage what they measure. On Monday, the ISSB decided what that is.  Broadly, the S1 General Requirements for Disclosure of Sustainability-related Financial Information requires companies to disclose sustainability-related risks and opportunities “that could reasonably be expected to affect the entity’s cash flows, its access to finance or cost of capital over the short, medium or long term.” The S2 Climate-related Disclosures includes a reporting framework for climate-related opportunities and physical and transition risks, specifically.  The latter has implications for how carbon offsetting is communicated to shareholders. On top of delineating between emissions targets gross (i.e. the total reduction) and net (i.e. the reduction minus any carbon credit purchases), companies will be required to describe how and where they plan to use carbon credits. Furthermore, the rules require that companies disclose:
    • which third-party scheme(s) will verify or certify the carbon credits;
    • the type of carbon credit, including whether the underlying offset will be nature-based or based on technological carbon removals, and whether the underlying offset is achieved through carbon reduction or removal; and
    • any other factors necessary for users of general purpose financial reports to understand the credibility and integrity of the carbon credits the entity plans to use (for example, assumptions regarding the permanence of the carbon offset).
    In other words, carbon credits — and their associated risks — are about to be yanked out of the shadows and submitted to the stark spotlight and heavy scrutiny of capital markets. Documented in regulatory filings and financial reports, carbon-credit risk assessments by companies will inform corporate risk assessments by investors. Do the traditional risk protections employed by the voluntary carbon markets, such as buffer pools, stand a chance of convincing either customer?

    If their answer is “no,” any carbon-credit buyer with half a mind to their cash flow, access to finance, or cost of capital should realistically act now to wrap their climate targets in more rigorous risk-mitigation mechanisms. The global baseline introduced by the ISSB will guide financial rules the world over, with market regulators — most notably the U.S. Securities and Exchange Commission — expected to rally around its framework. With the standard set for climate disclosures, the bar is raised for carbon credit insurance.

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