IFRS S1 and S2: Understanding the new landscape of sustainability standards compliance for companies

Whenever new laws and regulations arise, law firms, legal departments and consultancies are called upon to help companies and their executives understand the requirements, disseminate knowledge and adapt processes and systems.

With IFRS S1 and S2 (from the International Financial Reporting Standards), CVM Instruction 193 (from the Brazilian Securities and Exchange Commission) and new regulatory sustainability demands from Europe, a new wave of reporting oversight is emerging, similar to what happened with SOX. This doesn’t mean there will be a lack of demand for the legal expertise of law firms, but partnering with companies that specialize in accounting standards, internal controls, business risk management ‒including ESG (environmental, social and governance) and climate risks ‒ will be essential. We are talking, after all, about accurate reporting of numbers and data with financial impact for shareholders, the financial market and other business partners, which involves accounting standards.

That said, the International Standards for Sustainability Related Disclosures, known as IFRS S1 and S2, represent a milestone in sustainability reporting. Developed by the International Sustainability Standards Board (ISSB), these standards aim to provide a global framework for disclosing sustainability related financial information, making it more comparable and reliable.

The priorities when preparing sustainability reports are changing, therefore, with a renewed emphasis on the accuracy, traceability and completeness of the information presented. The content and its materiality gain importance. Just like with financial statements, senior management and the controller will be responsible for the information provided, and the report must be certified by an independent auditor. One key development is that greenwashing should now be considered fraud.

The International Standards for Sustainability Related Disclosures represent a milestone in sustainability reporting

While IFRS S1 is the standard that sets the general requirements for disclosing sustainability related financial information, IFRS S2 regulates the requirement for companies to disclose the climate risks and opportunities that could affect their business in the short, medium and long term. An advantage of these standards is they allow investors and financial market players to make more informed decisions aligned with their goals,  appetite for risk and return expectations.

In Brazil, the requirement will apply to publicly traded companies starting in 2027, for the year 2026. Since the interim is a period of transition and adjustment, many companies are already voluntarily adopting the new practices in 2024, with the aim of publishing their reports as early as next year. By starting this process early, companies will be able to understand the dynamics, test hypotheses and models, interact with authorities and make the necessary adjustments and improvements to their processes and systems in a smooth and strategic fashion. There is no model to be copied ‒ it will be created here in Brazil.

CVM Resolution 193, issued on October 20th 2023, marks a significant milestone in the evolution of financial information transparency worldwide, as it makes Brazil the first country to adopt the S1 and S2 standards created by the ISSB (IFRS). This prompted  the International Organization of Securities Commissions ((IOSCO) to publicly express its support for the adoption of these standards, encouraging its representatives around the world to follow suit and implement regulations in their jurisdictions that will require capital markets to adopt such standards.

Regarding voluntary adoption in 2024, the resolution includes the caveat that, once adopted, the preparation and disclosure of information must be continuous. For publicly traded companies, this will become mandatory from January 1st, 2027, for the 2026 reporting year. Sustainability-related financial reports must be reasonably assured by an independent auditor, registered with the CVM and in accordance with the standards issued by the Federal Accounting Council (CFC). Reporting frequency must, at a minimum, match that of financial statements.

Even privately held companies and those headquartered abroad need to take note. IFRS is a global standard, and it is only a matter of time before other countries, especially those with more developed economies, adopt it. Moreover, due to scope 3[SM1] , many suppliers and partners of large publicly traded companies will be required to provide data and report accordingly. There will also be pressure from the financial market, which is likely to put in a  higher risk category companies with a lower degree of transparency compared to their peers.

To ensure proper preparation, it is essential that company leadership, especially the finance and controlling departments, are knowledgeable about the new standards. It will also be important to involve those in charge of sustainability, ESG, legal, IT, risk management, compliance, internal controls and internal audit, as the approach will be multifunctional.

Another key initial step is mapping the ESG and climate-related risks and opportunities within organizations. Adequate internal controls will need to be designed and implemented to ensure data accuracy and reliability, along with management KPIs (Key Performance Indicators). At this stage, platforms akin to the ERPs (Enterprise Resource Planning systems) widely in use today will be an important ally.. The adoption of IFRS standards is a reality that is here to stay.