Casting the net wider with integrated reporting

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As the concept of integrated reporting gradually gains traction around the world, Tim Cooper looks at the issues companies are encountering and the implications for those involved in producing integrated reports.

There is an ongoing debate in the financial reporting world on how to provide useful information beyond financial statements, which follow long-developed principles and standards, and how, or even whether, to provide assurance on this additional information.

It is against this background that the world’s biggest companies are increasingly adopting integrated reports, following several major developments in the area. Most recently, the International Integrated Reporting Council (IIRC) has announced plans to produce a syllabus on integrated reporting (IR) by the end of 2015. IIRC CEO Paul Druckman says this will help trainers build courses for reporters.

This follows the IIRC’s introduction of an IR framework in December 2013. While the corporate community has welcomed the framework and syllabus, the increased take-up of IR is from a narrow base and, to date, only a small percentage of companies – mainly very large ones – have produced an integrated report. There is still much work to do to promote wider adoption.

“Integrated thinking requires a long-term change of organizational mindset, which is a big challenge.”

Massimo Romano, Generali Group
  • A flexible framework

    The IIRC (which was created in 2010 to help coordinate and promote consistency among all relevant parties) defines an integrated report as “a concise communication about how an organization’s strategy, governance, performance and prospects, in the context of its external environment, lead to the creation of value in the short, medium and long term.”

    Juan Costa Climent, EY’s Global Leader for Climate Change and Sustainability Services, says increasing adoption of IR “is the outcome of a process that has to do with integrated thinking and with the fact that non-financial performance is becoming increasingly important. This is because how a company performs from an environmental or social perspective has an impact in terms of future financial performance.” This, in turn, leads to the need to integrate thinking about these factors, both internally and in external reporting.

    Druckman reports that the momentum behind the framework has been greater than anticipated. “Around 130 Japanese businesses are currently practising IR,” he says. “In Europe, many corporates are moving forward with their first integrated report. South Africa has also endorsed the framework.”

    He says reaction has been positive because the framework is flexible, not prescriptive. For example, it shows how to report around six categories of capital. But if an organization does not want to work with those six and would prefer to use a different framework, it can, provided it explains why and references the IIRC framework as its starting point.

    However, there have been challenges to the framework in the areas of directors’ liability, the assurance and credibility of information, and reporting fatigue.

    Druckman explains that the framework guides directors to provide transparent, forward-looking information, but some fear litigation if that information proves to be incorrect. These fears are understandable but unfounded, he says.

    “An integrated report could be perceived as a positive story and perhaps not representative of the complete strategy – so we need it to be credible,” he adds. “Also, some think, ‘Here’s another report we have to produce.’ They miss the point that it isn’t another report – it is the report. We are trying to evolve the whole system.”

    However, he agrees that there is tension between the immediate requirements of stakeholders for more, and more detailed, information and the ability of companies to measure and report on different capitals consistently and effectively.

    “The ever-growing data and transparency requirements from regulators and other stakeholders will not go away,” he says. “Companies will just have to cope with it. I hope IR can ensure that information is made transparent and put in context.”

  • Working together

    Brazilian bank Itaú Unibanco took part in the IIRC Pilot Programme and produced its first integrated report in February 2014. Caio Ibrahim David, the bank’s Senior Vice President and CFO, says: “Sustainability is key to our strategy and governance, and IR was a natural consequence. The report was produced by many areas of the bank working together: finance, sustainability and management.”

    The group has seen a number of benefits already. “Stakeholder feedback has been positive, particularly in gaining long-term commitment from clients,” says David. “We have used it internally and externally to share our future strategy.”

    He acknowledges that one challenge in creating an integrated report is to connect performance with medium- and long-term strategy. However, Itaú Unibanco’s governance structure helps achieve this. “We have a forum in which senior members from all areas contribute to long-term strategy,” he says. “It made that connection possible.”

    The Generali Group, an international insurance group based in Italy, produced its first integrated report in 2013. Massimo Romano, Head of its Group Integrated Reporting and CFO Hub, says: “After the board asked us to better understand the new trends in financial and corporate reporting, I realized that just a few people read the annual report. That was a turning point for me to improve and evolve the professional and personal life of people in the organization. Instead of working until midnight reconciling documents, people are working together and sharing practices to deliver a better product, and then they can go home to their families.” He adds that the reaction to the new format, from analysts for example, was positive.

    “Integrated thinking is powerful,” he continues. “It was fantastic, for example, working with our communications and investor relations team to combine the report – breaking silos to benefit both sides. However, that is not the final step in the journey, because integrated thinking requires a long-term change of organizational mindset, which is a big challenge. You need a measurable plan, and to deliver concrete results in the short term as well.”

    So how does the audience for these reports view them? Steve Waygood, Chief Responsible Investment Officer at Aviva Investors, strongly supports the IR Framework. But he says that, of the 4,000 companies Aviva invests in, only a few dozen have a report that meets its standards.

    Waygood lists the main obstacles to greater take-up of IR as complexity, lack of expertise, market short-termism and resistance to change. “We have seen some improvement in disclosures – but as long as we rely on a voluntary approach, growth will be slow,” he adds. “We need company law to change, or we need stock exchanges to coordinate and change their listing rules to encourage IR. Demand needs to come from investors as well. Otherwise, you have a voluntary standard and a plethora of different approaches by different exchanges.”

    Waygood is positive about other developments that encourage sustainable reporting, such as the Global Reporting Initiative and the Global Compact. Companies should start their sustainability reporting journey by referring to those, he says, adding that IR is the most advanced, state-of-the-art approach and, at this early stage, still an aspiration for most companies.

  • A new approach for auditors

    The consensus is that IR has wide implications for the role of corporate reporters. According to Druckman, one challenge is demonstrating connectivity between all the capitals. Another is that finance professionals are used to handling data, but IR is not data-centric. That is a challenge for auditors too. The evolution to IR could also “take the auditor back to looking holistically at the organization, rather than specifically at compliance areas,” he says.

    Some companies highlight that auditors do not yet have their own framework for working with IR. “Maybe, but IR represents how the business creates value – auditors have the skills to analyze that,” says Druckman. “We may need auditors with specialized skills in strategy and value creation, but not a new profession.”

    Costa Climent of EY says another challenge for reporters is identifying what is relevant to value creation. “Sustainability reports include so much information, some of which is not relevant,” he says. He adds that, in order to make IR effective, companies need to focus their strategy on how tangible and intangible assets create financial and non-financial value, both inside and outside the organization. They also need to focus on value creation for society.

    “When you create value for society, part of that becomes relevant to your future finances. It changes the concept of value. To report it requires a huge mindset change,” he says. “First movers are developing this new understanding about value creation. But most of those involved in the new corporate reporting agenda are not ready, nor do they fully grasp the challenges. We have to work together to define this agenda and develop new skills and methodologies.

    “The IIRC’s new syllabus is a good initiative,” he concludes. “But we have to continue working on innovation, because some of these challenges are new and we don’t have the answers yet.”

  • Case study: EnBW

    EnBW’s project to create an integrated report took more than three years. The Germany-based energy company set up the project in 2011, and in 2012-13 published a report combining finance and sustainability information.

    Christoph Dolderer, Head of Group Accounting at EnBW, says: “We did not call that an integrated report, because that involves more than just optimized external reporting – you also have to do your homework within the company.”

    However, that report did present, for the first time, the company’s strategic goals to 2020. Dolderer says stakeholders welcomed this. “Previously, corporate reports were more compliance-oriented. But with IR, the company can be more transparent and forward-looking. It can put the information it wants into the report, rather than just that required by local laws.”

    EnBW will publish its first true integrated report this year. Dolderer says the project required a fundamental change in culture and governance. “In the past, our performance management system primarily considered financial objectives. We have transformed that into a more holistic system covering non-financial issues.”

    Lothar Rieth, Group Expert Sustainability at EnBW, agrees that transforming previous practice and process was a huge challenge. “In 2011, we decided to get rid of the sustainability report,” he says. “That was not easy. But it was crucial, because we tested the importance and relevance of our non-financial information and decided that all material information should become part of the financial report.”

  • Case study: Westpac

    Australia-based banking group Westpac published its first integrated report in 2009. CFO Peter King says this early adoption recognized both the role that financial services companies play in the community and society, and the way Westpac thinks about long-term value creation.

    “The value of the company comes from doing the right thing for a wide group of stakeholders,” he says. To facilitate this, sustainability and financial reporting were increasingly integrated to the point where the annual review and the sustainability report became one document.

    While the formal annual report is over 300 pages long, the combined annual review and sustainability report is much more concise at just 28 pages. “A smaller document that all our stakeholders can read is a better way to communicate,” says King.

    He adds that IR creates benefits both internally and externally. It has improved Westpac’s standing among stakeholders, who can see that it manages for the long term. It also improves perception among potential new recruits. “But the biggest developments have been in linking strategy with the day-to-day running of the company,” he says.

    Siobhan Toohill, Westpac’s Head of Sustainability and Community, says this internal integration takes time to embed: “We achieved this by building sustainability objectives into departments; creating a sustainability council comprising managers from around the business; and giving them accountability for aspects of that strategy.”

    Westpac’s earlier concise report could be described as a combined report, which has become increasingly integrated in linking financial and non-financial information and value. King says: “That will always be a criticism of IR, because modeling lots of intangibles into short–term financial outcomes is difficult. Many aspects in the intangible balance sheet are medium- to long-term issues. But there is research showing the correlations over time.”

    Despite being at the forefront of IR, Westpac did not join the IIRC framework pilot. King says: “We adopted the elements that make sense for us, but some are not for us. For example, we steer clear of forward-looking statements.” He adds that IR does not necessarily require reporting staff to upgrade skills, but rather requires a spirit of collaboration, as the reporting team comprises staff from finance, investor relations, sustainability and communications.

April 2015

 

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