Bridging the gap between financial and sustainability information is a stated objective of the main corporate sustainability reporting regulations, such as the Corporate Sustainability Reporting Directive (CSRD) or the SEC climate disclosure rules, and standards such as the European Sustainability Reporting Standards (ESRS) and the IFRS Sustainability Disclosure Standards (SDS).

They all require, or strongly recommend, producing disclosures:

• for the same reporting period,
• at the same time and in the same document, and
• explaining the connection between sustainability and financial performance.

Of course, these are essential characteristics for disclosures to be aligned. However, they are insufficient for the connection of disclosures to occur naturally. Here are four ways that finance professionals can start to make those connections.

1. Connect information about performance

The regulations and standards mentioned above call for connecting the narrative on governance, strategy, and management, which helps to reflect the embeddedness of sustainability into the business model of the company and the mindset of its management. Connecting the narrative on sustainability and financial performance helps to illustrate the very material nature of the sustainability-related matters the company is dealing with.

These regulations and standards are all based on the premise of material information— a concept leveraged from financial disclosure requirements that define information as important to a company’s stakeholders when it could affect their decision-making. They all refer to information about non-financial sustainability-related issues that can reasonably be expected to affect a company’s cash flows, balance sheet, access to capital, or its cost of capital over the short, medium, or long term. Both the IFRS SDS and the ESRS have specific requirements about connecting sustainability and financial performance information, because it is needed by users of corporate disclosures, and is often lacking today.

Few companies currently align their sustainability and financial reports, let alone connect their sustainability and financial information. This is primarily because only a handful of companies are explicitly linking their sustainability performance to their financial performance. Perhaps a result of the historic exclusion of sustainability-related issues from core functions such as strategy, risk management, and performance measurement? Meaningful integration of sustainability to business model and strategy remains elusive, for now. This is a gap that needs to be bridged, but also an opportunity that prompts exploration. It all starts with connecting sustainability and financial mindsets.

One can see how this makes sense when referring to the material environmental, social, and governance (ESG) and sustainability-related issues affecting the business — the ‘outside-in’ concept also known as the financial lens of materiality. Take, for example, the fact that a concrete manufacturer’s principal product depends on water and water scarcity is becoming a growing concern, including within areas previously immune from water shortages. The sustainability practitioner will tend to focus on ensuring water access and then managing this resource responsibly. The financial accounting practitioner will tend to think in terms of ‘going concern’, including how the company might consider R&D investments to develop new concrete products that require less water, or developing a new concrete product formulation; or how a tax on water consumption might affect the company’s costs and, therefore, profitability.

Perhaps less intuitively, there are real – albeit prospective or difficult to quantify — financial repercussions to sustainability issues that the company affects through its business activities — the ‘inside-out’ concept also known as the impact perspective of materiality. For example, how might the concrete manufacturer consider the social impact its activities are having in areas where water is scarce and critically needed to sustain human life? If it moves its plant away from water scarce regions, how will this affect the local economy in terms of employment, economic contribution, and human wellbeing, and how would this affect its brand, reputation, and customer demand?

All this to say, both inside-out and outside-in material issues have actual and prospective financial consequences; the only question is over the time horizon and magnitude. These objects of connectedness are important to contextualise and disclose.

2. Use the same words and concepts

There can be several sources of misunderstanding between sustainability and finance teams: different topics, measurement units, sources of data… and different interpretations of commonly used terms (ie: business language).

For instance, the IFRS SDS, much like the TCFD Recommendations, use the term ‘sustainability-related financial disclosures’, which refers to mainly non-financial information about sustainability-related items that can reasonably be expected to affect a company’s operating and financial performance, and its access to and cost of capital. Confusing? Indeed, it can be!

Similarly, definitions can differ. For example, the term ‘measurement’ has a specific definition within the accounting and finance community that can easily be understood differently by other stakeholder groups. A case in point, a sustainability professional usually understands measuring human resources to mean counting them (ie, number of employees), whereas to the accounting professional it generally means valuing them (ie, labour costs).

It is important to recognise these different perspectives and definitions when trying to connect sustainability and financial information. A common language between all practitioners is key to developing cross-functional understanding and collaboration (see our glossary).

For clarity, throughout this paper we refer to ‘sustainability information’ or ‘sustainability performance information’ as non-financial information about sustainability matters; we refer to ‘financial information on sustainability matters’ as  financial information about sustainability matters that fails to satisfy an existing financial reporting measurement or disclosure requirement; and we refer to ‘financial performance information’ as financial performance information that satisfies the existing financial reporting measurement or disclosure requirement, the latter of which must be included in the financial statements (or the notes thereto) as shown in the figure below.

3. Embrace a financial accounting mindset

When we consider technical accounting and its associated processes and tasks, some skills are ‘table stakes’. Finance leaders are typically proficient in risk assessments, estimating contingent provisions, asset impairment judgements, planning and forecasting, and capital allocation management.

For example, when considering a project for new product development and sales, they will naturally assess capital investment needs to develop and build the product (like R&D resources, capital investments in manufacturing facilities and equipment, marketing programs, operating needs, and so forth) and build a projected income statement, cash flow statement, and balance sheet for the current fiscal year.

This will be accompanied by a longer-term strategic forecast of the projected revenues, costs, and profits over one to three years, enabling managers to assess the return on investment for a given project.

So, what changes when we apply this financial management approach to a sustainability-related project? Simple: mindset.

Let’s assume the product development project is for an automotive parts manufacturer. Starting with the design phase, a connected sustainability and finance mindset could lead to designing the part using plastic to make it lighter and sourcing the plastic from recycled polymer fibres that come from ocean and beach clean-up campaigns, which may or may not be more expensive than metal or virgin fibres.

Tangible financial consequences might include, new capital investments, manufacturing cost changes, inventory valuation changes, and over the longer-term higher profits.

Tangible sustainability consequences could include reduced plastic waste, as well as reduced pollution (of customers) from the greater fuel efficiency and increased tire longevity of lighter vehicles; more fuel efficient and longer lasting vehicles could also (all else being equal) improve their owners’ disposable income.

Eventually, the combination of more efficient, less environmentally harmful vehicles made with recycled materials could benefit the manufacturer’s brand, which in turn tends to drive higher sales.

Sustainability and finance practitioners need to be able to think through, and quantify, not only the costs of sourcing materials sustainably, but the spectrum of possible outcomes from sourcing decisions and their effects on projected revenues, costs, and capital investments.

It is important to remember these types of activities are essential for internal planning and performance purposes, whereas only those elements that meet financial reporting requirements will be included within the financial statements, or its accompanying notes.

This will lead to different types of performance information:

4. Leverage existing reporting standards

Existing financial reporting standards provide sufficient guidance for companies to consider the financial implications of sustainability matters. The problem is that most decision-makers aren’t naturally thinking in this way. If sustainability reporting practitioners may be challenged with seeing the financial repercussions of their programs, financial reporting practitioners are likely challenged with extending their understanding of reporting to encompass considerations that characterise a sustainability mindset. This can be seen in the whole-value-chain approach, looking beyond a three-to-five-year strategic cycle, seeing how sustainability issues affect the company’s wider operating and financial performance cycles and conversely how the company affects its environment and society through its activities.

For instance, the consequences of sustainability-related issues that are likely to give rise to a future liability would be captured by the accounting and reporting requirements of IAS 37 and would also need to be considered under IAS 1 (sources of estimation uncertainty and significant judgements), as well as the various asset and impairment standards (for example, inventory, capital assets, financial instruments, insurance, etc).

The difference between ‘measuring and reporting’ and merely ‘disclosing a contingency’ is correlated with the likelihood of settlement and measurement of that settlement.

For example, a winery has one location consisting of 500 acres of vineyards, and agricultural and capital assets currently valued at $100m. It has scientific data projecting water reserves in different locations combined with projected harvests versus required yields.

Management projects that water scarcity will negatively affect its yield starting in five years, peaking in 10 years. As a result, the sustainability and finance managers determine that they will have to relocate no later than 10 years from now, which means that the company’s existing agricultural and capital assets will ultimately be abandoned.

The agricultural and capital assets (valued today at $100m) will need to assessed for possible impairment, and its amortisation may need to be accelerated such that its residual value will be zero by year 10.

Assuming no immediate impairment is required, the company will subsequently recognise a $10m annual expense (for simplicity) in the income statement and an additional amortisation provision in the balance sheet.

The company would further update its capital asset note to advise users of the planned asset abandonment and its financial effect over its revised future useful life.

Additionally, information about the new planned site should be disclosed; this will be done in the management discussion and analysis section of the general-purpose financial statements until land is acquired, construction starts, or an existing winery (asset) is purchased in accordance with generally accepted accounting principles and financial reporting standards.