Introduction

The work from organizations such as, the Global Reporting Initiative (GRI),11 the European Commission (EC), the United Nations (UN) but also pension funds, rating agencies, companies and others, indicate that there is a growing global concern to overcome the obstacles for pursuing sustainable development. In 2011, when I first started writing this book, sustainability reporting was under developed and organizations such as the ones just mentioned were working to raise awareness of the importance of corporate ESG transparency and ESG integration in investment decisions. The International Integrated Reporting Framework would only be published in 2013. The prospect of developing regulation and enforcement seemed further away. In my opinion, sustainability reporting was still part of a “black box”. Between 2011 and 2018, we have seen an increase of sustainability reporting regulation and assurance, voluntary reporting guidelines, sustainability rating agencies, sustainability indices and a more developed integrated reporting framework. This increase was more accentuated in the period between 2011 and 2015, making it an interesting period to look at in this research. These topics and diferent perspectives are further explained and developed in the chapters below. Some of the organizations mentioned above, such as the GRI, are advocates of the benefits of a truthful, accurate and comparable disclosure of non-financial information, and have developed various instruments aiming to assist companies in the process of ESG material information disclosure. These reporting instruments have been mostly voluntarily adopted and put into practice by their signatories. The EC Non- Financial Reporting (NFR) Directive is a landmark development of sustainability reporting and it contributed to level the playing field among the largest corporations. The directive has triggered national changes towards a mandatory approach to sustainability reporting.12 As of the fiscal year of 2017 large public-interest entities, as listed companies, banks and insurance undertakings, are required to report on environmental, social and employee aspects, human rights, anti-corruption, bribery issues and diversity, in their annual reports. Reporting organizations are suggested to choose amongst the available voluntary frameworks, such as the UN Global Compact and the Organisation for Economic Cooperation and Development (OECD) Guidelines for Multinational Enterprises.13 Outside the European Union there are important developments towards non-financial disclosure, for example, in Brazil, South Africa and in the United States (US). The EU sustainability reporting regulatory developments may influence the developments outside the EU (see, section 3.2 of chapter 4). While voluntary instruments are adopted by numerous signatories, there is no monitoring of the signatories’ activities to measure the extent of their commitment and no legal accountability for breaching these commitments. The lack of regulation may trigger an incentive problem; with no incentives to act socially responsibly companies may more easily choose to mainly focus on increasing shareholder value. Lack of regulation does not seem to contribute to corporate accountability for lack of transparency about their ESG risk management. If accountants would not be legally required to use the International Financial Reporting Standards (IFRS) or the United States Generally Accepted Accounting Principles (US-GAAP), as their audit services are commissioned by the audited companies, accountants could be inclined to write what would benefit companies the most. Sustainability reporting is mostly voluntary and not standardized as financial reporting, which is based on uniform standards such as the above mentioned IFRS and the US-GAAP.

Compared to credit rating, sustainability rating is considered relatively new. When companies have good ratings from rating agencies they may become an attractive investment. This can be helpful for marketing purposes. Lack of regulation does not seem to facilitate corporate and ratings’ transparency and does not seem to improve trust both in the information disclosed and in the ratings. Sustainability reporting regulation could contribute to increase transparency, trust and comparability of the information disclosed.

The purpose of this research is to contribute to development of sustainability reporting within the capital markets. The main objective is to research whether sustainability reporting regulation and policies can contribute to the development and implementation of sustainability reporting of corporations operating in the capital markets. To answer this question, the underlying gaps are filled in first with the answers to six sub-questions, as listed below.

Research question: can sustainability reporting regulation and policies contribute to the development and implementation of sustainability reporting of corporations operating in the capital markets?

The research is structured as following:

The first chapter of the thesis focuses on the first sub-question. It starts with a description of the EU initiatives on corporate social responsibility and later sustainability reporting recent developments. After this description, I explain why I chose four jurisdictions as the focus of this research. This chapter provides a snapshot of the current voluntary instruments used to report on ESG, the difference between sustainability mandatory and voluntary instruments and the assurance standards used by organizations to verify the information reported. The information provided in the first chapter lays down the basic topics developed in the following chapters.

The second chapter focuses on the second sub-question of the research by looking at the history of the development and implementation of the financial accounting rules as a result of international financial regulations such as, the IFRS and the US- GAAP. The way this development took place can be an example of a successful process of how countries create national legislation. Based on the results obtained by the research made and by studying and analysing the adoption and successful development of financial standards legislation, recommendations can be made for the future path of sustainability reporting.

Chapter three focuses on the third sub-question of the research, focusing on the national state of the art of sustainability reporting in Brazil, Sweden, The Netherlands and the United States. The information provided is based on local research conducted in these 4 countries. More than 100 interviews were held and the information is used based on the Chatham House Rule.14

The fourth chapter focuses on the fourth sub-question of the research. It looks at the debate between mandatory and voluntary approach to sustainability reporting by looking at mandatory (hard-law) and voluntary (soft law) instruments currently in practice; and to the question of whether the sustainability report should be integrated into the annual report, or not. At this stage, using the information provided by chapter 1 and chapter 3, this chapter analyses what we can learn from the EU developments and particularly, from the national developments of sustainability reporting in Brazil, Sweden, The Netherlands and the United States. It looks at the main drivers in the 4 countries, increasing litigation developments in this field, particularly in the US, the current shortcomings of sustainability reporting and finally, the Governments’ motivation to engage with and mandate sustainability reporting. Other questions raised in this chapter are the following: would the co- existence of the two approaches be the most beneficial option? What can we learn from the practical experience of Brazil, Sweden, The Netherlands and the United States? How do these developments contribute to the global uptake of sustainability reporting?

The fifth chapter focuses on the fifth sub-question. It provides an introduction to the general dynamics of sustainability ratings, introduces a few lessons from the credit rating agencies and looks more thoroughly to the role of sustainability indices and sustainability rating agencies.151617 Among the topics introduced are, the UN Sustainable Stock Exchanges (SSE) Initiative, the CERES Investor Listing Standards Proposal, the WFE Sustainability Guidance and Recommendations, the ratings process and the perspective of the raters, companies and investors about sustainability ratings. It lays a roadmap for the future of sustainability ratings, considering policy and regulation and promising future developments as green bonds, the yield companies and the potential influence of China’s ambitious environmental agenda. It follows with a look into frontrunner sustainability indices based in Brazil and the US respectively, and two renowned sustainability rating agencies, the CDP and MSCI. The chapter ends with the main challenges driving the sustainability ratings agenda.

Chapter six focuses on the sixth sub-question. It outlines what pension funds are doing as responsible investors in the EU and in particular in Brazil, Sweden, The Netherlands and the United States. In each of these countries it looks at the regulatory framework, the prudent person rule, fiduciary duty, looks deeper into the larger and most engaged pension fund in each of the countries and singles out a few other relevant organizations active in responsible investment in each of the countries. It then analyses the links between the four pension systems of Brazil, Sweden, The Netherlands and the United States, the drivers of responsible investment and of responsible investment reporting, the obstacles to responsible investment and to responsible investment reporting and ends with the challenges ahead for responsible investment by pension funds.

This thesis provides an overview of the state of the art of sustainability reporting in four different jurisdictions and in the EU, and answers the main research question, of whether sustainability reporting regulation and policies can contribute to the development and implementation of sustainability reporting of corporations operating in the capital markets. Based on the information collected through desk research, literature review and on the outcome of more than 100 semi-structured interviews in four countries, this thesis focused on six main chapters to draw lessons and recommendations for the development of sustainability reporting. These were, the first chapter outline the state of the art of sustainability reporting; the second chapter about the lessons learnt from the development of financial accounting standards, such as the IFRS; the third chapter, about the evidence collected from the practical experiences of practitioners in the four sample countries; the fourth chapter about the debate between mandatory and voluntary approach to sustainability reporting and about the question of whether the sustainability report should be integrated into the annual report, or not; the fifth chapter about the role of sustainability ratings and the sixth chapter about the potential role of pension funds as major investors and as shareholders driving the sustainability and responsible investment reporting agenda. The analyses of these six chapters led to answer the research questions and make recommendations for the future in a clear course of action, proposing questions for further study.

The methodology chosen is composed by two interdependent levels of research. The first level included desk research, literature review based on relevant and comprehensive background information on sustainability reporting and about the development of the international financial accounting standards. I used literature, reports and articles as supportive information. This first level of the research provided an overview of the state of the art and of the shortcomings of the current system of sustainability reporting. From here I had a solid basis to work towards answering the main research question.

Looking at the information gathered through the desk research conducted on the first level of the research but also bearing the research questions in mind, the first level of the research looks at how four countries approach sustainability reporting. To determine the effects of voluntary and mandatory sustainability reporting I compared four jurisdictions, two European jurisdictions, Sweden and the Netherlands, with Brazil and the United States. Sweden and the Netherlands were chosen given their forefront initiatives in sustainability reporting. Brazil is an emerging market that despite many social and political challenges has a very active role in the development of sustainability reporting and responsible investment. The US because as it is the largest economy in the world it is interesting to explore the high potential of influencing the development of sustainability reporting. Aiming to establish if any of these jurisdictions is most successful in implementing sustainability reporting, I looked at the state of the art of sustainability and integrated reporting but also at the influence and role of sustainability ratings and pension funds. Using the comparison as a policy tool helps to shed light into the sustainability and integrated reporting dynamics and illustrating with national examples. The most relevant factors were extracted from public available information, as their websites, and through the interviews conducted on the second level of the research.

This information was used as a tool to investigate whether sustainability reporting regulation and policies can contribute to the development and implementation of sustainability reporting of corporations operating in the capital markets, if sustainability reporting instruments should be mandatory or voluntary and who should be responsible for taking the initiative for drafting and adopting these instruments. Looking at the development of the financial reporting regulation, such as the IFRS, I could draw a number of lessons that we can learn to contribute to the development of mandatory sustainability reporting instruments. Looking at how financial reporting regulation was developed in a fast changing environment in the 19th and 20th centuries may help understanding and provide guidance in addressing the challenge of developing sustainability reporting in a fast changing environment today. Finally, I explain if it is possible to create an internationally recognized and uniform system of rules to ensure transparency and accountability in sustainability reporting to give countries a basis for national legislation, and how this could be possible.

On the second level of the research, to acquire in-depth information of the knowledge, goals and motivations of the stakeholders I conducted qualitative research through more than 100 semi-structured interviews, conducted in the period between 2011 and 2016. As we will see further in the book, this is a particularly interesting period to look at, since it is the period where the growth of sustainability reporting was most sharp. Given the methodology chosen and results from the interviews this book focuses particularly on the developments of sustainability reporting in the period between 2011 and 2015. Through the interviews I assessed the information gathered through the desk research conducted on the first level of the research. The interviews were conducted in four countries, Brazil, Sweden, the Netherlands and the US. In Sao Paulo, Brazil, I had a visiting scholar position at the Getulio Vargas Foundation for 5 months; in Stockholm, Sweden, I had a visiting scholar position at the Stockholm School of Economics for 2 months; in Amsterdam, the Netherlands, is where I am based at the faculty of Law, VU University Amsterdam; and finally, in New York City, in the US, I had a visiting scholar position at the Ira M. Millstein Centre for Global Markets and Corporate Ownership, at Columbia Law School for 2 months.18 The interviews took between one and two hours, they were mostly conducted in person but also via telephone and skype. The interviewees were chosen for their particular professional positioning, such as sustainability reporting experts but also management, working among others, in companies, sustainability indices, rating agencies, pension funds, government and banks. Some of the interviewees were the architects of sustainability standards, sustainability publications and key in raising awareness and promoting sustainability reporting in their organization, country, society at large and to capital markets. The information obtained through the interviews is confidential, however, the names of the interviewees, organization they work for, country and date is provided in Annex IV of this book. The discussions with the interviewees enabled me to understand the development of sustainability reporting, the current and future challenges and the reasons why it is so important. They were instrumental to my understanding of the complicated web of different interests at play, and how in the end, all are naturally connected. Part of the information shared during these interviews is not written in books or articles, part were personal opinions formed by long experience, at times shared in smaller and exclusive networking circles. At this stage, knowing the state of the art, what is generally known about the subject, what legal measures are there and which ones are and are not working, what the stakeholders think and how they act, it was then possible to fill in the gaps of information between the two levels of research. Filling in these gaps led to answering the main research question. This research is expected to contribute to the understanding of how sustainability reporting can develop within the capital markets.

Contribution to scholarship: In times of economic uncertainty in Europe and globally, vulnerability of fast growing economies and with the public demanding better regulation of the financial sector, this research aims to provide a new insight on how to develop sustainability reporting to maintain a free market economy in line with public values. Sustainability reporting has become key in increasing transparency in capital markets. Being on the crossroads of financial accounting and law, the results of this research may contribute to research areas as law, finance, responsible investment, and environment. The results of the research can be used by law and policy making bodies (e.g. EU, UN, and National Governments) to consolidate sustainability reporting within free market economies.

The main findings of this research are the following: