Integrated Reporting and Business Competitiveness

Soraya Dean of the Australian Centre for Corporate Social Responsibility interviews Jonathon Hanks, Managing Director of Incite Sustainability in Cape Town, South Africa ahead of his forthcoming Australian trip.   

1.       What do you think are the key reforms in the recently released <IR> guidelines that will improve business reporting?

The IIRC’s recently released International <IR> Framework seeks to promote a fundamental shift in corporate reporting practice, and it has significant potential implications for both annual financial and sustainability reporting.

When looking at the reforms in the <IR> Framework, it’s useful to recognise that underpinning the shift to the integrated reporting is the recognition that current corporate reporting is generally not delivering.

For the most part, annual financial reports are not providing investors and other stakeholders with sufficient insight to enable them to make an informed assessment of the total economic value of the organisation, particularly given the increasing importance of intangible assets and the growing business impact of the changing societal context.

Similarly, many current sustainability reports are seen to suffer weaknesses: they often appear disconnected from the organisation’s financial reports, they typically provide a backward-looking review of performance, and they rarely make a sufficiently compelling link between societal challenges and the organisation’s core strategy.

I believe that the reforms proposed in the principles-based <IR> Framework, if properly applied, can play a pivotal role in addressing these concerns, and – more importantly – could prompt a much needed shift in how companies and investors understand and approach corporate value creation.

There are several important reforms in the Framework that I think are worth highlighting:

• Its explicit focus on the issue of organisational value-creation;
• The strong emphasis in seeking to move away from short-termism, by seeking to assess and communicate how organisations create value over the short, medium and long term;
• The very strong focus on the six capital stocks as a means of highlighting (both to investors and to reporting companies) the importance of the ‘resources and relationships’ that impact on value;
• The priority given to only disclosing the ‘material’ issues, and the expectation that companies disclose at least a summary of the process used in identifying these issues;
• The emphasis on seeking to promote integrated thinking within the organisation by highlighting the connectivity and interdependencies between the various factors that impact value creation; and
• The move towards requiring the organisation’s governing body to be more actively engaged in the reporting process.

I agree with Professor Mervyn King (Chair of the IIRC, and a leading proponent of <IR> both in South Africa and internationally) when he argues that integrated reporting has the potential to prompt companies to re-examine their business models and to explore new and potentially innovative opportunities in their products, services, processes and markets.

I believe, however, that for this exciting potential to be realized, it will be essential that the reporting process is not simply a compliance-driven exercise administered in comparative isolation by the company secretary or investor relations department – which I fear may be too often the case. Instead, the process must involve the active engagement of the organisation’s governing structure in a frank and critical review of their current approach to creating value, and a willingness for them (and their investors) to move on from the current focus on optimising short-term financial performance alone, seemingly ignoring some of the broader societal issues that impact on longer-term financial success.

A more informed appreciation of the strategic impact of societal issues on business competitiveness has obvious potential benefits for sustainability reporting, ideally resulting in more focused and strategic reports that avoid the ‘tick-box’ approach that arguably characterises many current reports.

A significant potential challenge, though, with the shift to integrated reporting is the danger that some reporting organisations – misunderstanding the underlying intent of <IR> – may choose to do away with their separate, more detailed, sustainability reports and simply provide a summary of their sustainability performance in what, in effect, is a ‘combined report’ aimed at all of their stakeholders.

Unfortunately this tendency has already become evident amongst a few South African reporting companies, and has been compounded by the (mistaken) suggestion of certain sustainability and reporting practitioners that there is an “either/or” choice to be made between IIRC- and GRI-based reports. Ensuring that we address these misunderstandings is critical in ensuring that <IR> delivers on its potential and that it does not undermine sustainability reporting.

2.       How do you think the Framework will be received by businesses?

I would like to hope that the <IR> Framework will be warmly welcomed by business – both by company executives, as well as by those within the companies who have responsibility for producing the annual corporate reports.

I would like to believe that both of these groups will appreciate the significant benefits of this shift, not only in terms of improving their own reporting practice, but also in terms of the broader benefits it provides in addressing the current myopia within the business and financial sector regarding the focus on short-termism and (arguably) the lack of appreciation of the systemic nature of current societal challenges.

But to be honest I am not sure that these benefits will be sufficiently appreciated by many in business – at least not initially. I suspect that many of them will simply see the move to <IR> as a nuisance compliance issue that needs to be tolerated (if not overtly resisted) rather than embraced.

In a recent interaction with a company’s executive team, it was fascinating to see the initial deep cynicism regarding <IR>, followed by a significant shift in attitude when they recognised its intent and its potential in ensuring a more strategic and more valuable reporting process.

What I believe has become very clear is that there is a need to ensure more effective communication of what <IR> is – and what it is not.

3.       Given two years of experience with mandatory integrated reporting in South Africa, what do you think the major challenges will be?

There are various challenges that the last few years of integrated reporting in South Africa have exposed, some of which I have hinted at already:

• Ensuring sufficient understanding of the intent of <IR>: As argued earlier, there still remains considerable misunderstanding amongst many directors and commentators regarding the nature and intent of integrated reporting. Involvement of executives early in the process is essential to ensure their appreciation that integrated reporting is not about combining the annual report and the sustainability report into one document; nor is it about trying to address all the interests of a broad range of stakeholder groups in one report.
• Being willing to let the traditional approach go, and focus on the material issues: A key goal of the <IR> Framework is to produce concise, strategic, forward-looking reports, each of which are characteristics often lacking in traditional annual reports.

Making this shift, and ensuring that companies only report on the material issues – those issues that substantively affect the organisation’s ability to create value now and into the future – is still proving a challenge, with few of South Africa’s first round of integrated reports demonstrating a sufficient boldness to be brief and strategic.

While most South African companies are certainly moving towards more concise reports – and for example are leaving the details of the annual financial statements for separate (often online) reports – there is considerable opportunity for improvement here. Similarly, while there are some very valuable exceptions, we would like to see further progress in terms of producing more analytical, forward-looking reports.

• Managing the internal politics and ensuring effective integration: Another challenge is ensuring that there is effective co-ordination and integration between the different functions involved in the traditionally separate activities of annual financial and sustainability reporting.

Our recent experience with various companies across a range of sectors suggests that for many companies there has been some initial tension between the investor relations and/or finance functions on the one hand, and the sustainability and/or corporate affairs functions on the other.

Establishing the new reporting systems and ensuring clearly assigned responsibilities for integrated reporting will require unambiguous support from company leadership informed by their understanding of the importance of cross-functional co-ordination. Leaving it in the hands of the investor relations department on its own, runs the risk that the traditional understanding of value creation and the historic approach to annual financial reporting, will continue to predominate, undermining the shift in approach and understanding that integrated reporting seeks to inspire.

• Ensuring effective engagement of the governing structure and using the process to interrogate strategy: As I have suggested earlier, if <IR> is going to deliver on its potential then it is essential that it involves the active engagement of the organisation’s governing structure in a process that prompts them to reflect critically on how their organisation creates value over the short, medium and long-term.

An important continuing challenge is that of ensuring this level of engagement. In our experience, we have found it hugely valuable to involve the organisation’s executive team in a frank dialogue that reflects on the organisation’s value creation process and business model, that critically considers how much value the organisation delivers (across all capital stocks), that identifies the external factors (the risks, opportunities and stakeholder perspectives) that affect its ability to deliver value, and that informs the organisation’s process of allocating assets to enhance value creation.

In asking these questions we have found that the <IR> process can be very effective in interrogating and informing the organisation’s business and sustainability strategies.

While there are some important remaining challenges I think we have seen some very valuable progress amongst South African companies over the past two years – and there are some significant lessons to be learned and shared from this experience.

About Jonathon Hanks:

Jonathon Hanks recently chaired an international multi-stakeholder negotiating process involving experts from more than 90 countries and six stakeholder groups that developed a global standard on social responsibility (ISO 26000).

Hanks is a member of the Working Group of the South African Integrated Reporting Committee (IRC), and contributed to drafting the IRC’s Discussion Paper on integrated reporting launched in February 2011. He is also a member of a working group of the International Integrated Reporting Council (IIRC).

He is a regular contributor to executive and practitioner courses run by the University of Cambridge’s Programme for Sustainability Leadership.

Hanks returns to Australia in February-March 2014 under the auspices of the Australian Centre for Corporate Social Responsibility to run short courses in Melbourne and Sydney on <IR> and business strategy.