FSN: Companies not doing enough to report environmental KPIs

Companies not doing enough to report environmental KPIs

8th January 2007
A study commissioned by the Environment Agency published late last year, reviewing the annual report and accounts of the first 100 companies to report the financial year ending March 31 2006, onwards, when the EU Accounts Modernisation Directive came into affect, found that 4 out of 5 of them fail to disclose environmental performance indicators in accordance with Government guidelines. Although there has been an increase in the level of quantified disclosures, there are still too few to make meaningful comparisons between the environmental performance of companies.

Under the EU Directive, large private and all public companies are required to include an enhanced business review (EBR) of how relevant environmental and social issues that are material to the company have affected business performance.

The Accounts Modernisation Directive allows companies the freedom to decide whether or not environmental issues are material to their business performance, (and thus to include analysis of these impacts in their financial reports). However, the 2006 Companies Act tightens the environmental reporting requirements of quoted companies. In the case of a quoted company the Business Review must, “to the extent necessary for an understanding of the development, performance or position of the company's business, include information about environmental matters” and include an analysis using Key Performance indicators. But the early signs are that many companies will find it extremely challenging to quantify their environmental impacts.

Eighty four percent of FTSE All-Share companies currently reporting have not yet disclosed in their annual report and accounts their environmental performance, in accordance with the Department for the Environment, Food and Rural Affairs guidelines. This is despite the fact that according to the new company reporting laws all FTSE All-Share companies producing annual report and accounts must disclose environmental key performance indicators where relevant.

The research, carried out by Trucost, is a follow up report to the environmental disclosures of FTSE All-Share companies study published by the Environment Agency in 2004 and reveals that although there has been a small increase, with 96 percent of the companies referring to some aspect of the environment in 2006 compared to 89 percent in 2004, the reporting is of low quality and little use to investors.

Although there has been an increase in the level of quantified disclosures, there are still too few to make meaningful comparisons between the environmental performance of companies. Eighty-three per cent of the companies reported on just one topic out of water, waste, and energy use and climate change. Twenty-six per cent reported on all three topics.

Environment Agency Chief Executive, Barbara Young, said, “Much of the reporting is still at a basic level, with 16% of companies making disclosures in accordance with government guidance and providing a quantitative figure. Although this figure represents an increase in the level of quantified disclosures there are still too few quantified disclosures to make meaningful comparisons between the environmental performance of companies.”

However, comparisons could be difficult to achieve in practice, given that no two companies will have the same operational, product and market variables, all of which have some influence on levels of environmental impacts. This means comparisons are likely to be highly difficult, inaccurate or meaningless. Recording trends in performance data over time that relate to business activity could be of more value to financial stakeholders in the long term.

Waste is the most widely reported environmental issue with 67 percent of companies mentioning it. Climate change and energy use were mentioned by 61 percent of companies and water by 38 percent of companies. Fifteen companies disclosed CO 2 emissions in absolute levels and 37 give some figures for energy. Five companies reported on all environmental issues in quantitative terms, these were Emap PLC, Johnson Matthey PLC, Invensys PLC, Scottish Power PLC and Scottish and Southern Energy PLC. Only six companies linked environmental issues to financial performance or shareholder value.

“The growth in number of companies reporting on their environmental performance is encouraging however the results of this report show that there is still a lack of quantifiable data with which stakeholders can work,” said Barbara Young.

“As the cost of environmental impacts becomes more apparent, it is important that companies respond and produce disclosures which are useful to stakeholders in their assessment of how this cost is being managed. New business review regulations provide an opportunity for companies to report how they are responding to increasing environmental costs,” she added

Quantifying environmental related costs and benefits is useful as a one off exercise. By identifying their size and key process drivers, it generates a realisation of their financial importance. However, the real value of financial measures is when they are continuous. This makes it easier to show how environmental actions can contribute to the bottom line. Examples of financial measures include cost of environmental related capital expenditure, direct environmental related operating costs, total costs of compliance, costs of energy and raw materials, avoided costs and benefits of pollution prevention measures.

BT is an example of one company mentioned in the Environment Agency study which has used quantified environmental key performance indicators. It shows how non-financial KPIs can be used to disclose business focused and investor relevant environmental information on those impacts judged to be material to business performance.

BT's operating and financial review within its 2006 Annual Report includes a section of narrative reporting on corporate social responsibility, (CSR) issues. BT has developed 3 environmental KPIs which are published in both its voluntary OFR and the annual CSR report. These detail absolute output levels of waste and CO2 emissions for each year from 2003 to 2006. CO2 emissions are also shown as a percentage amount below their1996 baseline level and are aggregated to tonnes per £1m revenue. By showing the trend reduction over time BT demonstrate their achievement in managing these impacts. While BT does not include target reduction for CO2 emissions for 2007, this is contained in the 2006 CSR report.

BT report the same trend data for total waste generated annually and total waste recycled which meets government reporting guidelines. The company also reports recycled waste as a percentage of total waste generated. BT also details the £3.2 million income received from recycling which is offset against the £8 million cost of waste management. At 40%, this is a considerable reduction in total waste costs. Waste can often be far more costly than companies realise, especially when other non direct waste categories are added in, such as defects, residues, write-offs or shrinkage. Few companies account for the direct and opportunity costs of the management time spent dealing with these problems, or recognise that reducing waste can often provide an increase in capacity.

BT's annual report also includes details of the market opportunities of long term sustainability trends for the company, such as the growth of teleconferencing. The company discloses that commercial bids for contracts to the value of £1.3 billion, “required us to demonstrate expertise in managing these, (environmental and social) issues”.

Another company that has attempted quantified environmental reporting is the Burberry Group plc. It includes narrative details of their CSR objectives, performance and future intentions in the enhanced business review section of their 2005/6 Annual Report. The company also report on a number of CSR indicators in the Annual Report. These include absolute figures for UK energy use, and UK energy use, kilowatt hours per £1000 sales. Burberry also detail general packaging and transit packaging use in amount, (tonnes) and normalise this data to Kg / £1000 sales. This is useful as measures of environmental impacts are not of great value in their own right, as they are influenced as much by business activity measures and economic factors as by environmental performance. Feasible measures of business activity against which environmental data can be normalised include production, turnover, profitability or value added.

The Environment Agency acknowledges that there is still confusion surrounding the legislation but in the face of increased environmental reporting and government guidance, companies will find it increasingly difficult to avoid the issue. For example, the Association of British Insurers (ABI) recently called for greater disclosure of environmental issues that could have an impact on future corporate performance within annual reports.

More generally, with environmental issues, especially global warming and climate change being reported on national press and television daily there is a broad expectation that financial stakeholders and shareholders will increasingly seek standardised methods for measuring and reporting environmental information - using quantifiable KPIs that are linked to financial information, business strategy and key business objectives.

Financial stakeholders will increasingly require information on the environmental and social consequences of the economic activities of companies in which they invest. They will expect details of environmental issues judged to be material to the company's performance and will want to know about the company's intentions in the management of its significant environmental impacts, as well as how these will be measured, evaluated and reported. So environmental KPIs should be set in context and related to financial KPIs and assumptions underlying performance data should be reported, as well as the methodology used to calculate measurements.

In the past, The Accounts Modernisation Directive has allowed companies to opt out of environmental disclosure in financial reports where the company deems the issues to be immaterial. However, increasingly stringent legislation governing environmental externalities, as well as increased costs and reduced availability of environmental resources such as energy and water may very soon change this assessment of materiality. Many companies need to develop robust frameworks for collecting data about the quantity and monetary value of resource inputs, product and pollutant outputs and environmental expenditures for key business processes. The use of standardised, accurate and meaningful KPIs is fundamental to this process and with environmental reporting requirements now enshrined in UK company law it seems that few companies have room to wriggle out of their responsibility to report.

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