The International Sustainability Standards Board As An Ideological Rorschach Test

One of its attributes that Makes America Great Again and Again is that people are free to express a wide range of views. For example, on the left there are people grounded in reality who believe that Joe Biden was lawfully elected as President of the United States of America, that he still will be next month, that there was an insurrection in the nation’s capital on January 6, and that COVID-19 vaccines prevent illness and save lives. On the right there are those living in Republican Trump Fantasyland (the RTF is the new GOP) who believe the election was stolen, that Donald Trump will miraculously become President next month, that a friendly group of tourists visited the capital on January 6, and that the vaccine carries a tracking microchip or even turns people into “potted plants.”

There is a similarly wide range of political views about a more prosaic topic: the role and governance of the International Sustainability Standards Board (ISSB) that will be established by the IFRS Foundation (the Foundation). In addition to raising interesting and important questions about somewhat arcane issues like materiality and metrics, the ISSB is turning out to be a Rorschach test across the ideological specturm. At one extreme is SEC Commissioner and RTF member SEC Commissioner Hester Peirce (R). (In her heart she knows she’s right.) At the other extreme is accounting Professor Carol Adams who takes umbrage at the very name of the ISSB. I will elaborate on both of their views, but first a bit of background for the reader who is not familiar with the organizational and political issues facing the ISSB.

The first step in establishing the ISSB was a Consultation Paper which received an overwhelmingly enthusiastic response, including from the investment community. My Oxford colleague Professor Richard Barker and I provided a comment letter strongly supporting the ISSB. The basic idea behind the ISSB is to set standards for reporting on a company’s performance on material sustainability issues . Seems pretty obvious and sensible to me. Imagine a world in which there were no standards for financial accounting and reporting—which was the case in the U.S. before the formation of the Securities and Exchange Commission in 1934. At that time companies had great flexibility to determine things like revenue recognition and didn’t have to report it if they didn’t want to, even if they were listed. The Wild West, right? The same is now the case for sustainability reporting. Because of the strong relationship between financial performance and sustainability performance, investors need relevant, reliable, and comparable information for both. I have written about the importance of having a global baseline of sustainability reporting standards.  We now have an exciting opportunity to make this happen.

Yet it is one fraught with difficulties as is becoming clear in some of the letters submitted in response to The Foundation’s consultation regarding the governance of the ISSB. Barker and I have provided a short comment letter for this as well. In it we also address the July 1, 2021 comment letter submitted by ma fella ‘Merican and Trump appointee SEC Commissioner Hester Peirce (R). Peirce’s well-written letter barely conceals an ideology in which personal opinion trumps facts. Bottom line is that the Commissioner would rather the ISSB not come into existence at all.

Peirce’s letter is based on her belief that sustainability is disconnected from enterprise value creation and capital market efficiency, and ignores the growing mountain of empirical evidence in this regard. The fact is that material sustainability issues contribute to both. But, hey, facts are malleable things in the new RTF, right? I will illustrate how her language reveals her ideological perspective with quotes from her letter where italics are mine, followed by the response Barker and I made in our comment letter, and then Some Expert Commentary (SEC) from me that I will be will helpful to the Commissioner (although I’m sure it won’t change this woman’s mind):

Peirce: “Accounting and sustainability standards are fundamentally different from one another. Equating the two, as the Foundation’s current effort does, risks misleading investors.”

Our reply: Peirce should review the many letters submitted by investors who strongly support the formation of the ISSB. They know that high-quality, investor-relevant information on a company’s sustainability performance is essential for them to make investment decisions for the long-term economic benefits of their beneficiaries. We find it rather insulting for Peirce to suggest that these sophisticated investors risk being misled.

SEC: Investors have a fiduciary duty to produce returns for their beneficiaries. Do you really think they will compromise this for political objectives you don’t like?

Peirce: “These concerns appear relevant to sustainability standards, which are designed for the particular objective of influencing capital flows.”

Our reply: Use of the term “influencing” suggests that there is somehow a political objective to these standards. A more accurate statement is that the ISSB’s objective is one of “informing capital flows”, consistent with financial statements and with the mission of the IFRS Foundation. This concerns efficient capital allocation on capital markets, entirely consistent with the mission of the SEC.

SEC: I always watch in wonder as the far right calls sustainability a money-losing ideology when it is their ideology that ignores the economic consequences of issues like climate change.

Peirce: “Although sustainability standards at times may touch on economics, they are not fundamentally about economic decision-making.”

Our reply: This is profoundly incorrect. Economics is the study of efficient resource allocation. Sustainability is concerned with whether individuals can enjoy the same or better economic wellbeing in the future than in the present. Capital markets “price” that future economic wellbeing. To illustrate, if the corporate sector does not transition successfully to net zero, in line with Paris targets, then the adverse consequences will be economic. This is why investors are calling for far more effective climate-related financial disclosure. We note that investors alone are not responsible for future economic wellbeing. Public policy plays an essential role.

SEC: Of course, effective policy is problematic with politicians who don’t believe in climate change and are preoccupied with other topics, like suppressing voting rights.

Peirce: “Sustainability standard setting is inherently more subjective, less precise, less focused, more open-ended activity than financial accounting standard-setting.”

Our reply: We invite comparison between the objectivity and precision with which carbon emissions can be measured, and the subjectivity and imprecision of Level 3 Fair Value, with respect to which companies are required to speculate what market prices would be if those markets existed. The fact of the matter is that financial reporting and sustainability reporting both comprise a spectrum of issues on which the standard-setter is required to exercise judgement, and where lines are drawn between items that are (relatively objectively) standardisable and those that are not. Financial accounting standard-setters are (rightly) more cautious with “inherently more subjective, less precise, less focused, more open-ended” issues such as accounting for brands, intellectual property other intangible assets, and human capital, and so too the ISSB would be more cautious on comparably challenging issues. The presumption that “financial” corresponds to objective and “sustainable” to subjective is simply not correct.

SEC: Standards are a social construct for which there is no definitive scientifically correct answer. IFRS and U.S. GAAP are social constructs and many of the same arguments against standards were made in their early days of formation.

While Commissioner Peirce couldn’t be more fundamentally wrong in her right-wing views, I do give her credit for a sense of humor. An example is this rather ribald tweet she sent out. I rather blush at including it here and will let the reader draw her or his conclusion about her intent in tweeting it out.

At the other political extreme from Peirce is Professor Carol Adams who does not appear to have much of a sense of humor, at least on this topic. Her own ideological views were initially expressed in a piece in Responsible Investor she co-authored with Professor Charles Cho. The article by Australian Adams and Canadian Cho nicely demonstrates that free speech goes beyond America’s borders. For this I am glad! Their underlying ire is a Green Paper Barker and I wrote with the prosaic title of “Should FASB and IASB be responsible for setting standards for nonfinancial information.”

In their piece Adams and Cho accuse us of “self-interest and political posturing” and as unconcerned about sustainable development. My goodness, merci me! In my wildest dreams I never thought a couple of staid accounting professors could be subject to such an ad hominem attack. Those who know us and our work know full well our commitment to sustainable development. Please take a chill pill, my dear colleagues. We are not your enemy.

Adams repeats many of her arguments in the comment letter (the fifth one posted) she submitted to the consultation in which she waxes on with a number of objections. Her grumpy mood is also reflected in her May 14, 2021  comment letter to the consultation on governance—the second one submitted!

While she doesn’t go as far as Peirce in suggesting the ISSB shouldn’t even come into existence, she vociferously objects to the name: “The name International Sustainability Standards Board is misleading and will add to confusion. It is misleading because the Trustees have stressed that their standards are concerned with enterprise value and not the impact of an organisation on sustainable development.” Somewhat ironically, while Peirce fears that the ISSB will be providing information that will mislead investors, Adams is concerned that the information will only be for investors and not for other stakeholders. Does she really think universal owners don’t care about system-level issues regarding sustainable development like climate change and income inequality? Oh, and by the way, the ISSB fully recognizes that their work can be usefully supplemented by standards set by others, such as the ones regarding “double materiality” in the EU Taxonomy’s Corporate Sustainability Reporting Directive.

Mistakenly assuming that the ISSB can be all things to all people when it comes to reporting on sustainability issues, Adams suggests that the name “International Enterprise Value Board” would be more appropriate since there is already the GRI’s “Global Sustainability Standards Board.” Ummm. Does the GRI have some kind of trademark or copyright on the term “sustainability” I don’t know about?

There is nothing about the existence of the GSSB, whose mission is a laudable one, that precludes the name of ISSB. Or that says the GSSB doesn’t have a useful role to play. Investors and other stakeholders are sophisticated enough to appreciate the differences in sustainable enterprise value creation and sustainable development and to understand the relationship between the two. The former contributes to the latter and the latter is essential for the former. Yet they are clearly not the same thing and time frames and units of analysis are different. Finally, the capital markets alone can’t solve the problem of sustainable development. Let me repeat for Adams what Barker and I said to Peirce: “Public policy plays an important role.”

Comparing these two letters makes two things clear. The first is that people read their own meaning into the term “sustainability,” and both argue that it isn’t sufficiently well-defined. Hence the ISSB’s unintended role as a Rorschach test. For those on the right, “sustainability” connotes trading off financial returns to produce some kind of public good. For those on the left, “sustainability” is solving economic and social problems at scale, regardless of the impact on financial returns. In fact, the reality is more nuanced as is captured in the concept of “dynamic materiality.” What matters to investors changes over time. As environmental and social issues become material to investors, the ISSB will deal with them. The recently announced collaboration between EFRAG and GRI will play a very useful role in this regard.

The second is the ISSB cannot possibly be responsive to criticisms from the extreme right and extreme left. Peirce suggests that the IFRS Foundation should pull the plug on the ISSB. Adams wants it to at least change the name because she prefers the more sweeping definition of sustainability. Color me Goldilocks on the ISSB. Not too hard, not too hot, not too right. Not too soft, not too cold, not too left. The ISSB got it just right when it comes to setting standards for sustainability reporting.

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