Lythouse Logo
Register Now for Launch of our ESG platform, explore the ESG trends for 2024.

Home » Blog » ESG Reporting » Understanding the Non-Financial Reporting Directive (NFRD): Key Insights

Understanding the Non-Financial Reporting Directive (NFRD): Key Insights

NFRD

The NFRD (Non-Financial Reporting Directive) and its successor, the Corporate Sustainability Reporting Directive (CSRD), are transformative EU legislations designed to enhance the transparency of non-financial activities in large corporations. These directives require detailed reporting on environmental, social, governance, and sustainability issues, promoting enhanced corporate accountability and stakeholder engagement. While the NFRD initiated the framework focusing on large public-interest entities, the CSRD significantly expands this scope, introduces mandatory auditing, and demands more detailed, digitally accessible reports. This evolution reflects the EU’s commitment to integrating sustainable practices in corporate governance and investor decision-making processes.

Overview of NFRD and Its Importance

The Non-Financial Reporting Directive (NFRD), instigated by the European Union, mandates certain large companies to provide information on their environmental, social, and governance (ESG) practices. This directive is crucial as it aims to enhance transparency in the non-financial activities of organizations, providing stakeholders, including investors, customers, and regulators, an in-depth view of the company’s performance beyond just financial metrics.

Importance of NFRD:

  • Transparency: Encourages companies to be more transparent about their impact on social and environmental matters.
  • Accountability: Increases accountability by obliging companies to disclose information on how they manage social and environmental challenges.
  • Risk Management: Helps companies identify, assess, and manage risks associated with non-financial aspects, thus better safeguarding their longevity and sustainability.
  • Investor Confidence: Improves investor confidence by providing detailed insights into the company’s sustainability practices, which is increasingly becoming a criterion for investment decisions.
  • Regulatory Compliance: Assists companies in adhering to evolving regulations concerning corporate responsibility and sustainability.

The NFRD applies to:

  1. Large public-interest entities with more than 500 employees.
  2. Companies listed on EU stock exchanges, including banks and insurance companies.
  3. Other entities that are designated by national authorities as public-interest entities.

Overall, the NFRD sets the foundation for a more sustainable economic environment within the EU by ensuring that large enterprises conduct their business responsibly. The implementation of such directives not only promotes a sustainable economic model but also fosters a shift towards a more ethically oriented business landscape in Europe.

Key Requirements and Scope of NFRD

The Non-Financial Reporting Directive (NFRD) sets out specific requirements that large companies must meet to ensure adequate disclosure of non-financial information. Its scope is designed to ensure that environmental, social, and employee matters, respect for human rights, and anti-corruption and bribery matters are all transparently reported.

Key Requirements of NFRD:

  • Non-Financial Statement: Companies must prepare a non-financial statement that includes information necessary to understand their development, performance, position, and impact of their activity, relating to environmental and social matters.
  • Policies: Disclosure of details regarding the policies implemented concerning environmental protection, social responsibility and treatment of employees, respect for human rights, anti-corruption and bribery issues.
  • Outcomes: Firms need to report on the outcomes of these policies, including any risks related to these areas and how they are managed.
  • Due Diligence Processes: Companies should also report on the due diligence processes they have implemented, particularly concerning human rights and anti-corruption practices.
  • Key Performance Indicators: The directive requires companies to provide non-financial key performance indicators relevant to their particular business.

Scope of the Directive:

  1. Large Entities: Targets large companies with more than 500 employees. This includes all listed companies as well as other public-interest entities such as banks and insurance companies.
  2. Public-Interest Entities: Applies to entities considered of public interest and thus, could significantly influence the economic environment due to the nature of their business, size, or number of employees.
  3. EU Member Countries: Each EU member state must incorporate NFRD into their national law, which might involve specific adjustments or additions tailored to their own regulatory environment.

The NFRD is significant because it not only increases transparency and accountability but also helps in aligning European businesses with global sustainability goals. By depicting a clear picture of these non-financial aspects, companies can attract sustainability-focused investors and enhance their market value in an increasingly eco-conscious global market.

Impact of NFRD on EU Corporate Governance

The introduction of the Non-Financial Reporting Directive (NFRD) has had a profound impact on the corporate governance landscape within European Union (EU) member states. By compelling large companies to meticulously report on a range of non-financial aspects, the NFRD has essentially redefined the transparency and accountability parameters for these entities.

Major impacts on EU corporate governance include:

  • Enhanced Transparency: Companies are now required to be more transparent about how their operations impact various environmental and social issues. This includes detailed reporting on sustainability practices, policies on social welfare, and efforts toward mitigating corruption.
  • Strengthened Stakeholder Engagement: The directive fosters deeper engagement with stakeholders. Investors, customers, and the general public now have better access to information that affects investment and purchasing decisions, enhancing stakeholder trust and company valuations.
  • Better Risk Management: The need to disclose information about environmental, social, and governance risks has led companies to improve their risk management strategies. Identifying and addressing these risks early can mitigate their impact, protecting the companies’ assets and reputation.
  • Accountability in Management: NFRD has spurred firms to revise their management processes to ensure compliance with reporting obligations. This often leads to better management accountability as actions must now be justified through reports emitted under strict guidelines.

Impact on various dimensions of governance:

  1. Corporate Strategy: Embedding sustainability into the corporate strategy has become more common as firms seek to align their business models with NFRD requirements, influencing long-term business sustainability and profitability.
  2. Regulatory Compliance: Compliance with the NFRD has required companies to adapt to new legal frameworks, necessitating updates to internal policies and training programs to meet the required standards.
  3. Innovative Practices: To effectively report on non-financial measures, many companies have innovated new reporting tools and methodologies. This innovation often extends beyond reporting to incorporate better practices in handling social and environmental issues.

This directive not only strengthens existing governance frameworks but also encourages a continuous improvement process within organizations, making them more resilient and tuned to the modern demands of sustainability and ethical operations.

Comparing NFRD and CSRD: What’s Different?

The Non-Financial Reporting Directive (NFRD) and the Corporate Sustainability Reporting Directive (CSRD) are both critical components in the European Union’s framework to enhance corporate transparency regarding sustainability issues. Though both aim to improve the disclosure of non-financial information, there are significant differences in their scope, detail of information required, and the breadth of companies affected.

Main differences between NFRD and CSRD:

  • Scope of Application: NFRD applies to large public-interest entities with over 500 employees, which is roughly 11,700 companies. In contrast, CSRD expands this scope to all large companies and all listed companies on EU regulated markets (except listed micro-enterprises), impacting nearly 49,000 companies.
  • Reporting Detail and Framework: CSRD requires more detailed reporting and adheres to mandatory EU sustainability reporting standards, which are currently under development, whereas NFRD allowed companies to use different frameworks that could vary widely in terms of detail and comprehensiveness.
  • Assurance Requirement: CSRD introduces a general EU requirement for the assurance (audit) of reported sustainability information, aiming for increased reliability and comparability. NFRD did not mandate such an assurance, leaving the verification of information largely optional.
  • Digital Accessibility: CSRD mandates that the reporting must be in a digital format and tagged accordingly, to be integrated into the European single access point (ESAP). This provision is not included in NFRD.

Highlights of the differences in their implementation:

  1. Timeline and Transition: CSRD will be phased in stages, beginning with companies already subject to the NFRD for reports published in 2025, and extending to other large companies for reports published in 2026, and listed SMEs, among others, by 2027. NFRD was implemented without such phased timelines when originally introduced.
  2. Detail of Information: While NFRD focused on a broad overview, CSRD demands detailed disclosure on sustainability-related aspects such as strategy, targets, the role of the administrative, management, and supervisory bodies, and principal adverse impacts linked with the company and its value chain.
  3. Integration with Other EU Laws: CSRD is closely linked with other EU sustainability initiatives such as the EU Taxonomy Regulation and Sustainable Finance Disclosure Regulation, making it a part of a broader legislative package aimed at promoting sustainable investment.

The move from NFRD to CSRD represents a significant step towards more consistent, comparable, and reliable sustainability reporting across the EU, reflecting a growing recognition of the importance of environmental, social, and governance issues in corporate governance and investment decision-making.

Conclusion

The transition from the Non-Financial Reporting Directive (NFRD) to the Corporate Sustainability Reporting Directive (CSRD) marks a significant evolution in EU regulatory standards, affecting nearly 49,000 companies across member states. This shift not only broadens the scope of reporting but also emphasizes the quality and comparability of information, catering to a more informed stakeholder base and fostering a transparent, sustainable business environment. Companies are encouraged to adopt comprehensive sustainability frameworks, making them better prepared for future business trends and aligning corporate practices with global sustainability goals. Therefore, understanding and implementing these directives is essential for corporate resilience and long-term success.

________________________________________________________________________________________________________________________________________________________

For everyday updates, subscribe here.

GDPR