What Should the Legal Department Know about ESG?

A conversation between several lawyers at Tanabe & Partners (T&P) on the topic —

Goi:

In this discussion, I would like to look at ESG international voluntary disclosure standards that legal departments should be aware of. Since hundreds of standards are gradually converging, why don’t we focus on two standards, GRI and ISSB. First, should legal departments keep up with ESG disclosure standards? Some people seem to think that the corporate department, committee or task force charged with sustainability should know about such standards, and that the legal department should leave things up to them. What do you think about this?

Hashimoto:

ESG has become an integral part of corporate strategy and risk management. The legal department is expected to fulfill its role in both promoting strategy and improving risk management, so it cannot afford to be ignorant of the basics of ESG disclosure standards. International disclosure standards are gradually being woven into regulatory disclosure. For starters, Japanese companies are required to include a statement of “sustainability-related views and initiatives” in their Yuho.

When you are asked to review a contract from a legal perspective, what do you rely on? You can only review the contract, if you know the Civil Code, the Companies Act, etc. Legal is asked to review because Legal is able to foresee what will happen if the contract is breached, what will happen if the law is violated, etc. It is difficult to conduct an effective review of ESG disclosure without knowing the system and the concept of ESG disclosure standards.

Tanabe:

I have been facilitating an ESG study group at T&P for the past six months. Ten people from seven listed companies in different industries met to learn about ESG disclosure standards, talk openly about their concerns, and give each other advice. Many of the participants were from sustainability departments. Many practical difficulties and questions were raised. One of them was about disclosure items in Yuho and what would happen if they were omitted.

Disclosing sustainability information is not easy. It is necessary to harmonize definitions of legal terms, which differ slightly from country to country, to harmonize the granularity of the items to be disclosed, and to aggregate data from all global locations. Many companies have not yet established IT systems for it and still aggregate data manually using Excel. Since there are currently only a few mandatory disclosure items, it may be possible to do this manually. However, as the amount of information to be disclosed increases in the future, implementation may become difficult. What will happen if what should be included in the Yuho is not included? A penalty may be imposed. In some cases, investors may claim damages for misrepresentation. The legal department should be there and giving advice about such things. I am concerned that many legal departments do not seem to be involved in sustainability projects in their own companies.

Goi:

If Legal were to study systematically, which disclosure standards do you think are better to use, ISSB or GRI? Since ISSB is based on SASB, the question may be: SASB or GRI? We know that there is a fundamental difference between single materiality and double materiality. What are the other factors that determine which one to choose?

Tanabe:

I recommend SASB because I studied SASB first. SASB was merged into VRF and VRF was merged into ISSB. If you look at Part B of S2, you will see that SASB standards are the basis for ISSB. Other sustainability topic standards will be developed in the future. Until these are completed, ISSB encourages companies to continue to disclose using SASB. The Financial Service Agency of Japan has adopted the idea of building blocks, building regulation on ISSB standards. ISSB standards are not mandatory but voluntary, but they are tantamount to a cornerstone of mandatory regulation. You will not waste your precious time if you use it to learn about SASB standards.

In addition, SASB has an extensive archive for learning. Among the documents in the archive, I recommend reading the Industry Research Briefs that are produced for each industry. This is helpful in linking ESG activities to business strategy. It helps organize the idea that addressing certain sustainability activities can increase sales, reduce costs, impact assets or liabilities, and ultimately lower the cost of capital. The path to shareholder value becomes clear. There is also an examination that certifies the knowledge acquired after the study: the Fundamentals of Sustainability Accounting (FSA) Credential. PwC Japan has announced that it will increase the number of credential holders to 200 in three years. Currently, many people are reluctant to take the exam because it is conducted in English. But even if you don’t take the exam, it’s worth studying.

Hashimoto:

I would recommend GRI, which is very popular among Japanese companies and is used by many. ESG is very broad, and it is difficult to discuss because people have different ideas or terminology. On the other hand, with GRI, you can discuss with internal clients. You will get satisfaction, after your study, because it is useful. However, it is important to note that GRI has changed a lot lately from what it used to be.

There are two ways to use it: compliance and reference. In the past, compliance was further divided into core and comprehensive, but now they are combined into one. Also, their “industry agnostic” style is about to be changed to “industry specific”. So far, three industry-specific standards have been issued, but it is said that there will eventually be about 40. Standards are systematically composed of general standards, topic standards, and industry standards, which makes them easier to study. There are accredited training institutes, and some training is available in Japanese. But if you want to take the final exam, you still have to take it in English.

Goi:

Should we study both GRI and ISSB? Or is one or the other sufficient?

Hashimoto:

If you only know single materiality, you cannot communicate with people who believe in double materiality. There is no point in having a sterile discussion about which is right or better. It is necessary to understand that the objectives are different. It is important to recognize both GRI and ISSB. However, if one tries to study them seriously, it will take a lot of time. We think it is better to focus on one or the other in the beginning. It is important to learn the basic concept and to understand it as a whole; what the standard is trying to achieve, what it requires companies to do. You will get more with this approach than with piecemeal study. It is as same as corporate disclosure cannot be done with an attitude of saying only what you like and hiding what you dislike.

Tanabe:

I have heard people said, “I would like to wait until GRI and ISSB converge into one,” or “ after the convergence, I will start studying,” or “why are they not yet converged?” However, single materiality and double materiality have fundamentally different objectives. No matter how long you wait, they will not converge into one. There is an idea of “nested materiality” or “dynamic materiality,” in which in the long run they are aiming at the same thing. This is understandable to some extent, but it will take a long time before it is realized. Also, any standard is always under construction or revision. If you wait until they are finished, you will start too late. Learning from ever-changing things will be the new style of the legal department. Let’s start studying now.

If you would like to listen three young lawyers are discussing these in Japanese, please visit:
https://www.tanabe-partners.com 

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