- Materiality assessments are a crucial step in the process.
- Two outputs emerge from an assessment: material topics and a sustainability strategy.
- Challenges to developing an effective assessment include incorporating and prioritizing stakeholder opinions to determine what is material.
A materiality assessment is a key step toward developing meaningful ESG targets and acting on them. It’s the process of deciding what issues an organization wants to prioritize and report on – the material social and environmental topics that matter most.[1]
The current iteration of the Global Reporting Initiative’s standards defines material issues as those that reflect the organization’s economic, environmental and social impacts or influence the assessments and decisions of stakeholders. They are outward facing. GRI is one of the leading organizations offering guidance on ESG reporting. (See Reporting)
SASB, a more financially focused reporting framework, defines materiality as those issues “that are reasonably likely to impact the financial condition or operating performance of a company and therefore are most important to investors.” This definition is inward facing.
Whether inward or outward facing, the way to understand what issues a company’s stakeholders think are material is the same.
There is an inbuilt financial and time cost to conducting materiality assessments on a yearly basis. Large corporates have more resources than smaller businesses, and so it’s important to set a realistic repeat rate commensurate with the size of the organization. There is no consensus on the frequency of re-assessing, since factors affecting a company’s sustainability evolve depending on the industry, size of the company, region and economic climate.
This raises the question – Can effective ESG reporting be done without a materiality assessment?
“The short answer is no. Some form of materiality assessment or issue prioritization can help ensure a company’s ESG reporting is meaningful and effective. Otherwise there is a risk that ESG reporting is more about window dressing or ticking boxes, and less about communicating how the company is managing sustainability issues strategically,” Thomas Singer, principal researcher at The Conference Board, a U.S.-based business research non-profit, told Lubes’n’Greases.
Dual Purpose
A materiality assessment has two outputs. The first is helping to formulate a list of relevant ESG topics, the scope of these topics and the choice of framework (see Reporting). The second to inform a sustainability strategy.
Corporate Citizen, a U.K.-based sustainable business consultancy, defines a sustainability strategy as “a prioritised set of actions. It provides an agreed framework to focus investment and drive performance, as well as engage internal and external stakeholders.”[2]
The assessment process can be divided into a number of steps, and this can be between four and eight, depending on the source since there is no consensus. For the sake of brevity, here they are condensed into four:
An effective materiality assessment engages internal and external stakeholders to gauge the importance they place on certain ESG issues. This data can be collated into reporting documentation which can be used by external stakeholders, and an internal sustainability strategy.
ESG ratings agency Ecovadis points out that stakeholders play a crucial role in identifying risks and opportunities for organizations, and therefore adding depth to a materiality assessment[3].
Different groups of stakeholders will have a range of priorities. And large corporates have larger numbers of stakeholders than smaller companies.
Internal stakeholders include the management team, sustainability officers and employees, while external stakeholders can be investors, suppliers, end-users, communities, regulators and NGOs. Where their expectations intersect creates a set of material targets.
“For a materiality assessment to be successful, it must be based on a clear understanding of what information the company is looking for,” explains sustainability consultant Mia Overall in an article published by Greenbiz[4].
“This enables you to ask the right questions, choose the right stakeholders, apply the appropriate methodology and visually present the information effectively to help inform decisions,” she wrote.[5]
Source: Lubes’n’Greases
Deciding what is material and to whom needn’t be an exercise in subjectivity, but can easily become one. Every stakeholder has their own opinions about what materiality entails and incorporating, weighting and prioritizing these opinions is central to the process.
The team on shop floor maybe more concerned with career development, while management may focus on reducing outlay on energy. They both may agree on carbon reduction measures. Each has its merits and each has an impact on operations. Career development creates a deep skill pool and morale; cutting energy use means more profit and reducing carbon helps mitigate climate change. But does each one of them carry the same weight in guiding strategy?
This highlights a potential conflict in expectations among stakeholders that all opinions must be treated equally. The answer is they are not. At face value, this can be seen as exclusionary but on the other hand, it limits the volume rather than the merit of the opinions.
Other sources of determining materiality can include what is prevalent codes of ethics and other HR documentation, year-end reports and CSR documentation, as well as what peers think is material.
For an assessment to be effective from the outset, it should have clearly defined objectives. When conducted for the first time the core objective will identifying what the material environmental, social and governance risks and opportunities actually are: reducing resource consumption, supply chain security, human resources development and preparation for acquisition.
They may also include using it as an opportunity to hone an existing sustainability or business strategy, engage with stakeholders in a formal way or even as a way of anticipating disruptors, for which sustainability could be one to the lubricants industry if a producer relies on a feedstock that is likely to be heavily legislated against.
Then come other consideration about the intended audience for the assessment. In the case of public corporates, this may be the investor community and for smaller private enterprises for a customer trying to improve its own sustainability performance.
A materiality assessment is in essence a survey that canvasses the opinions of as many stakeholders as is practical. Opinion seems to be divided among those who think that the best method is to use a traditional multiple-choice survey and those who think that the nature of the stakeholder group determines the format.
“To get the best results, materiality assessments should be formal, structured engagements with stakeholders — not informal Q&A’s or workshops … to make it easy for stakeholders to complete and easy for you to analyze results,” Overall writes.
The survey could be structured like the example below, with a checkbox response of very important to not important at all.
Rate how important you think each of the following are to company’s sustainability.
Once opinion has been gathered it can be prioritized to determine what are the most strategically important, or material, to the company and what can be reasonably undertaken given the company’s size and resources. A small company may find it difficult to access funds to install solar panels, as was done by XXX company and may choose instead to focus on topics that focus on energy efficiency instead.
Judging a topic’s strategic importance includes taking into account who it affects, what impacts it has on the company and how it contributes to strategy.
There are a variety of ways to numerically prioritize stakeholder views, but a simple one is ranking them from one to five and then adding the scores for each to get a rank.
In the example table below, key topics are ranked by how often they occur (frequency, from rarely to daily), the scale of risk (severity, the degree of stakeholder risk from little to severe), legislative (legal, any compliance issues, from low-cost, no ramifications to high-cost ramifications) and expense (cost, how financially draining is the topic, from none to significant).
Company-specific ranking criteria can be added on, and some may be more important than others. If this is the case, a simple formula can weight topics higher than others. For example, if there are five criteria – A to E – and it is decided that A is two times more important than B, C and D, and that E is half as important as B, C and D, then the formula would be: B + C + D + (E x 0.5) + (A x 2)
Source: Campus Carbon Management Initiative
The list of topics may grow each year if materiality assessments are repeated. But a wider net cast over operations and finer granularity of the assessment can lead to overload and confusion of what the priorities are for stakeholders. A solution to this, KPMG says, would be to raise the threshold of what is a priority.
At this point, it’s useful to be aware of overlap to reduce using resources to gather similar data. This can happen if the scope hasn’t been firmly defined at the start.
The next section will discuss how to present the feedback gathered in the assessment and how to translate it into a sustainability strategy.
