Sustainable finance is quickly becoming one of the biggest issues facing the financial world, and corporate disclosure on climate-related risks is the crucial first step in achieving a sustainable financial system (Illustration by Raymond Biesinger)
The world of finance works best when investors are happy. So, is Barbara Zvan, chief risk and strategy officer at the Ontario Teachers’ Pension Plan, feeling joyful? “Far from it,” she snaps. The reason for her displeasure: a troubling lack of relevant, reliable corporate disclosure about the risks of climate change and other environmental and social issues—information that’s becoming crucial to making appropriate decisions about sustainable long-term investments.
“Investors are generally unhappy with the amount of climate change information that is available,” Zvan explains. “At Teachers’, we hold assets for a very long time. And as a result we have been big proponents of greater disclosure on this issue for many years. You need disclosure to be a good investor, and you need that information to be comparable and repeatable over time.”
Zvan’s opinion—and mood—is significant. On top of her role at Teachers’, one of the largest institutional investors in the country, she’s also a member of the federal government’s Expert Panel on Sustainable Finance, which in June released its final report on what Canada needs to do to keep pace with the rapidly changing standards of global investment.
The financial community would be wise to watch how investors and thought leaders like Zvan are feeling. In their telling, sustainable finance is quickly becoming one of the biggest issues facing the financial world, and corporate disclosure on climate-related risks is the crucial first step in achieving a sustainable financial system. For CPAs, who will play a pivotal role in putting sustainable finance principles into practice, it’s a time of great opportunity—and change.
Rosemary McGuire, director of research, guidance and support at CPA Canada (Photograph by Stephanie Lake)
What do we mean by sustainable finance? The Expert Panel on Sustainable Finance—composed of Zvan, banker Andy Chisholm and Kim Thomassin of Quebec’s Caisse de dépôt et placement, and chaired by Tiff Macklem, dean of the Rotman School of Management and former senior deputy governor of the Bank of Canada—admits there’s no universally accepted definition for sustainable finance. The panel summarizes the concept as “capital flows (as reflected in lending and investment), risk management (such as insurance and risk assessment), and financial processes (including disclosure, valuation and oversight) that assimilate environmental and social factors as a means of promoting sustainable economic growth and the long-term stability of the financial system.”
If that’s too much of a mouthful, Zvan offers a pithier take: “We’re trying to get mainstream finance to help us with the transition to a low-carbon economy.” Her goal is to harness the power of conventional finance and accounting practices to protect economic growth and make the world a better place to live in the long term.
“This is about companies demonstrating their concern for their own future,” says Rosemary McGuire, director of research, guidance and support at CPA Canada. “It may not be an easy path, but it is an inevitable one.”
It helps to imagine sustainable finance as having three linked components, each intended to bring about a gradual transition to a low-carbon, sustainable economy:
Report: Start by collecting and disclosing relevant, comparable non-financial information on how climate change and other environmental and social risks—including greenhouse gas emissions, hazardous waste storage, labour conditions and more—can affect a firm’s long-term profitability.
Internalize: As reporting on these matters becomes commonplace, investors and firms will need to take this information into account when making risk-management decisions.
Act: Once these long-run risks are fully incorporated, major changes to capital flows will occur. Investors will prefer opportunities that demonstrate sustainable, long-term growth, and firms will respond by allocating capital toward projects and sectors that mitigate or avoid climate change and other related risks.
“We argue climate change is a systemic risk that you can’t diversify away from,” says Zvan. “It is going to involve disruptive change. And having the right information and disclosure is an absolute imperative.” Beyond avoiding investments in firms or sectors that are unsustainable, she notes that better non-financial data can also allow investors to identify new opportunities and technologies in sustainable growth areas, such as renewable energy, energy storage or smart meters.
“This is about companies demonstrating their concern for their own future”
Some firms, like the North American arm of the Brazilian cement giant Votorantim Cimentos, are already on board with these emerging sustainable finance principles. “We know climate change and environmental impacts are not going away,” says John McCarthy, the firm’s CFO in North America. “These are global issues.”
McCarthy says adopting a sustainable finance outlook is a way to guarantee his company’s future existence. “We recognize that we have a significant environmental impact,” he says. “So we are very focused on doing things to reduce that, such as using alternative fuels or new technology and investments. The integrated report is a summation of all the things we’re doing to make our business more sustainable.” In fact, McCarthy’s parent company has been recognized several times by the World Business Council for Sustainable Development for its high-quality integrated reports, which combine financial information with environmental and social metrics. “We want to be a sustainable, profitable, long-term company. We don’t view compliance or having to pay a carbon tax as a cost, but as an opportunity to change how we’re doing things to further enhance our profitability and drive sustainable growth.”
Despite the presence of early adopters, access to necessary non-financial information is still spotty across corporate Canada. According to a report last year from the Canadian Securities Administrators (CSA), many Canadian firms don’t disclose specific climate-related information due to the lack of official disclosure requirements, or because of the common view that climate change risks are not material to the company’s future. Such indifference is not shared by investors. “Substantially all [investors] . . . were dissatisfied with the current state of climate change-related disclosure, and believe that improvements are needed,” the CSA survey states.
Similarly, CPA Canada’s 2019 report “Progressive Investors and Corporate Disclosure” found that “climate-related financial disclosures [were] on the radar of all investors interviewed.” Those surveyed for the report rejected the notion that investors don’t use company-provided climate-related disclosures. “Investors view climate-related risks as pervading all sectors and geographies. As a result, the default view is that climate-related issues are material unless otherwise demonstrated.” It’s a substantial gap in expectations, according to CPA Canada’s McGuire. “Determining what is material to an investor’s decision-making is one of the largest influencers in this debate,” she says.
Barbara Zvan of Ontario Teachers’ Pension Plan (Photograph by Kevin Van Paassen/CP Images)
The CSA plans further consultations to bridge the materiality gap. Zvan, for one, hopes the financial community will lead by example, rather than wait to be regulated. “With five large banks, eight large pension plans and a handful of major insurance companies, these players can be role models,” says Zvan. “As a group, we can say where we want to go as a country as regulators do the hard work of changing standards.”
The waters of sustainable finance are murky. Luckily, organizations around the world have offered several ways to navigate them. The San Francisco-based Sustainability Accounting Standards Board (SASB), for example, has developed a “materiality map” that covers myriad possible environmental, social and governance (ESG) issues. “We are trying to make sustainability reporting more efficient by condensing it down to the material items. It is like accounting standards,” but for non-financial issues, says Bob Hirth, co-vice-chair of SASB.
ESG factors won’t be identical for every industry. A consumer goods firm might be reporting on factors such as water usage and energy management, technology firms on their hazardous waste policy, transportation firms on their air quality impacts and so on. The end result is that all firms will be more aware of how they use resources and how they impact their broader community. Better data means better business decisions. “This is not some tree-hugging eco-thing,” says Hirth. “Putting focus on how you use resources is a way to improve your profitability, valuation and cost of capital.”
Beyond disclosure and materiality, other aspects of sustainable finance are also showing rapid progress. The most obvious of these “green shoots” is the tremendous growth in green bonds, which are by definition allocated to projects that meet strict sustainability criteria. Last year, roughly $246 billion worth of green bonds were issued worldwide, up from about $5.4 billion in 2012, according to Bloomberg New Energy Finance.
This is ample proof of the rising demand for sustainable investment opportunities, says Lindsay Patrick, managing director and head of sustainable finance at RBC Capital Markets. RBC recently issued its first $750-million green bond. “Green bonds are an important and specific example of sustainable finance,” says Patrick. “Investors want clear reporting on the assets so they know exactly what they are buying.”
Patrick predicts green bonds will be among the first of many innovative new debt and equity products to quench investors’ thirst for sustainable investments. She sees a future in which even companies in extractive industries, such as oil and gas, will benefit from sustainable finance practices by issuing bonds that reward reductions in greenhouse gases or other environmental benefits. “Long-term capital will continue to flow to companies that can articulate a sustainable future,” she says. “And at the end of the day, this will start affecting a company’s cost of capital.”
“A lot of Canadians are keen to make a difference. The conversation is changing.”
As the sustainable finance landscape evolves, the accountancy profession will have to transform with it. “Accountants have a huge role to play,” says Zvan. “It is in everyone’s best interest to make disclosure as accurate as possible. Accountants are necessary for the production of key financial statements, providing assurance for disclosures provided by companies and determining the fair market valuation of assets.” SASB’s Hirth agrees, pointing to new tasks such as the verification of non-financial disclosures. “Many large companies are getting a form of assurance or attestation for their environmental, social and governance disclosures that they are reporting from third-party data or consultancy firms,” he says. “This is another big opportunity for accounting firms.” (RBC’s green bonds framework, for example, says its bonds may be subject to assurance reports by its external auditor.)
Votorantim Cimentos CFO McCarthy has already seen first-hand how accountancy has changed at his own firm as it has embraced sustainable finance principles. “The finance function of the future will go beyond debits and credits,” he says. “It’s now important that my team is focussed not just on new investments in terms of returns, but also on the social and environmental impact of those numbers. How do we ensure that we are achieving our sustainability goals while generating superior returns for the business? This requires building a team that can go beyond reporting.”
Zvan believes such reporting improvements can’t come fast enough. “Canada doesn’t have a great brand right now,” she says. “The world sees us as fighting over pipelines and carbon taxes. We need to turn this on its head.” She remains optimistic that progress on sustainable finance is coming. “There is a lot of passion and positive momentum, and a lot of people in Canada are keen to make a difference. The conversation is changing.”
The ultimate goal, says Zvan, is for environmental and social factors to become deeply and seamlessly embedded—rather than set aside—within the day-to-day world of financial decision-making. “Hopefully at some point we’ll be able to drop the word ‘sustainable’ altogether. Really, we’re just talking about finance.
What does sustainable finance look like in practice?
– An agriculture business commits to enhanced climate-related financial disclosures
– A transportation firm bolsters its reporting air quality
– A bank takes environmental issues into account when making lending decisions
– An insurance company considers offering preferred rates for flood resiliency measures
– An oil and gas firm issues equity or debt to invest in measures to reduce methane emissions
– A rental car company issues a green bond to finance a new fleet of hybrid vehicles