6 Materiality Throughout Global Jurisdictions

Question 1

What is used in laws and regulations throughout the world to distinguish what must be disclosed to investors from what need not be disclosed, and for determining whether a company may be exposed to fines or lawsuits for making misleading statements?

Answer 1

Materiality

Question 2

What does the term “double materiality” refer to?

Answer 2

Two types of materiality used in sustainability disclosure frameworks and standards: 1) materiality in the context of enterprise value creation, and 2) materiality in the context of significant impacts on the economy, environment and people

Question 3

For clarity, what does the term “traditional materiality” refer to?

Answer 3

materiality in the context of disclosures to investors and other users of financial statements

Question 4

The traditional context for determining materiality is entirely ______ in nature.

Answer 4

Financial

Question 5

In the U.S., where are financially material disclosures often made?

Answer 5

In the MD&A section of a company’s SEC filing.

Question 6

Name four examples of traditionally material information

Answer 6

-number of products sold
-number of factories planned to build
-company’s pretax income
-risks and uncertainties in the business plans
-integrity / ethics of a company’s management

Question 7

Around the globe, for the purposes of disclosure associated with financial statements, __________ markets use the traditional definition of “materiality”

Answer 7

All or nearly all

Question 8

How does the Australian Government, Australian Accounting Standards Board define materiality?

Answer 8

Uses the IFRS definition
“information is material if omitting, misstating, or obscuring it could reasonably be expected to influence decisions…an entity specific aspect of relevance based upon the nature or magnitude, or both, of the items to which the items relate within the financial report”

Question 9

How does the Securities and Exchange Commission of Brazil (CVM) Manual of Conduct and Policies on Disclosure define materiality?

Answer 9

CVM defines a “material Act or event” as a decision by the controlling shareholders, or any other political, administrative, technical, business, economic or financial act that may have a significant effect on the perception of the value of the company, the quotes of the Securities, the decision of investors to purchase, sell or hold Securities or the decision of investors to exercise any rights attaching to ownership of Securities

Question 10

How does the Ontario Securities Commission define materiality? And what is a key difference of the Government of Canada, Canadian Directive on Accounting Standards regarding materiality?

Answer 10

OSC defines materiality as “a change in the business, operations or capital of the issuer that would reasonably be expected to have a significant effect on the market price or value of any of the securities of the issuer”
The Canadian Directive elaborates on the concept of materiality, stating there are two types of users of financial information “those internal to the organization and users external to the organization”

Question 11

How does the European Union Directive 2013/34/EU of the European Parliament and of the Council define materiality?

Answer 11

“the status of information where its omission or misstatement could reasonably be expected to influence decisions that users make on the basis of the financial statement of the undertaking”

Question 12

How does the Financial Markets Authority of France General Regulation define materiality?

Answer 12

It adopts the definition set forth by the European Commission

“any omission or inaccuracy…that could manifestly distort an investor’s assessment of the organization, business, risks, financial condition or results of the issuer”

Question 13

How does the Securities Exchance Board of India (SEBI) Listing Obligations and Disclosure Requirements define materiality?

Answer 13

establishes the following criteria when determining material information:
a) the omission of an event or information, which is likely to result in discontinuity or alteration of event or information already available publicly, or
b) the omission of an event or information is likely to result in significant market reaction if the said omission came to light at a later date

Question 14

How does the Financial Services Agency (FSA) Financial Instruments and Exchange Act in Japan define materiality?

Answer 14

Uses the definition of material in the definition of materiality, twice…
“material information about operators, business, or assets of the listed company, etc. that would have a material impact on investors’ investment decisions”

Question 15

What is unique about the Philippines Securities and Exchange Commission, Revised Securities Regulation Code (SRC) Rule 68?

Answer 15

Rule 68 delineates the quantitative tests applied by the commission when assessing material omissions, including a 5 or 10 percent threshold (depending on company size and type) applied to total amounts of related account or transaction information

Question 16

How does the U.S. Securities and Exchange Commission, Staff Accounting Bulletin No. 99 define materiality?

Answer 16

“Materiality concerns the significance of an item to users of a registrant’s financial statements. A matter is “material” if there is a substantial likelihood that a reasonable person would consider it important”

Question 17

What is unique about the U.S. SEC and FASB explanations on materiality?

Answer 17

Both emphasize measuring qualitatively and quantitatively, and that there cannot be a formula as the sole basis.
The U.S. SEC further states that companies should not use financial thresholds or rules of thumb as the sole basis for making materiality determinations. For example, the bulletin rejects the rule of thumb that a misstatement or omission affecting less than 5 percent of pretax income is immaterial in all cases.

FASB posits that materiality is specific to each reporting entity and cannot be captured by a formula

Question 18

How does the International Accounting Standards Board (IASB) define materiality in the IFRS Standards?

Answer 18

“information is material if omitting, misstating or obscuring it could reasonably be expected to influence decisions that the primary users of general purpose financial statements make on the basis of those financial statements, which provide financial information about a specific reporting entity”

Question 19

In its most elemental form, materiality can be thought of as two questions…what are they?

Answer 19

1) Who is the intended users of the information?
2) What are the user’s objectives?

Question 20

Describe the importance of “the user of information” for materiality

Answer 20

The materiality of information depends on who uses it. Across jurisdictions, definitions identify the users such as “users of financial statements” and “a reasonable person”. For traditional materiality, the user is the investor or a provider of capital

Question 21

Why does “the user’s objectives” matter to materiality?

Answer 21

It is not just who, it is equally important to identify what the user intends to achieve with the information

Question 22

Which jurisdictions use the term “reasonable” or a concept of reasonable expectation, evoking the hypothetical reasonable investor as the standard for determining what to disclose?

Answer 22

Canada, the EU, India, the U.S.

Question 23

In the 1970s, the Natural Resources Defense Council petitioned the U.S. SEC to expand civil rights and environmental disclosure. What happened?

Answer 23

It went to a federal court where the U.S. SEC had to conduct an analysis on how prevalent was investor interest in environmental and civil rights disclosures, finding less than 1 percent of the total value of stocks were invested using ethical investing principles, and on average, only 2-3 percent of support happened from stockholders on shareholder proposals for environment or social issues.

Question 24

What does the reasoning from the 1970s NRDC case suggest?

Answer 24

That information is material when a sufficiently large percentage of investors and/or assets under management consider it to be relevant or decision useful. Therefore, when the reasonable investor views that information as decision-useful, its disclosure is justified.

Question 25

Which jurisdictions rely on terminology related to omissions to help illustrate that materiality can, in part, be identified based on whether the omission of information would affect the decisions of report users?

Answer 25

EU, Australia, India, Philippines, U.S.

Question 26

Do FASB and IASB define the location of information for traditional materiality?

Answer 26

Yes, it applies to the preparation and disclosure of annual and periodic financial statements

Question 27

What are the four characteristics to help identify similarities and differences among traditional types of materiality?

Answer 27

1) who uses reported information and for what purpose the information is used
2) the scope of information disclosed
3) how the definition is determined based on omissions and/or misstatements
4) the location of disclosed information

Question 28

How does the GRI Sustainability Reporting Guidelines define materiality?

Answer 28

Topics and indicators that:
-reflect the organization’s significant economic, environmental, and social impacts; or
-would substantively influence the assessments and decisions of stakeholders

Question 29

What was so significant about GRI’s definition?

Answer 29

Users were redefined as “stakeholders” which is widely understood to include a broad set of users, from civil society, communities, employees, customers, governments, and suppliers

Question 30

How did the European Commission formally integrate and update the definition of “materiality” into its guidance in 2019?

Answer 30

It integrated a definition that considers the company’s external impacts on the world, or “environmental and social materiality” which solidified this definition of materiality as complementary to traditional, financial materiality

Question 31

Which standard uses double materiality: TCFD or NFRD?

Answer 31

NFRD

Question 32

How does the Climate Disclosure Standards Board (CDSB) define materiality?

Answer 32

“Environmental information is material if: the environmental impacts or results it describes are, due to their size and nature, expected to have a significant positive or negative impact on the organization’s financial condition and operational results and its ability to execute its strategy; omitting, misstating or obscuring it could reasonably be expected to influence the decisions that users of mainstream reports make on the basis of that mainstream report, which provides information about a specific reporting organization.”

Question 33

How does the Global Reporting Initiative (GRI) define materiality?

Answer 33

“An organization is required to identify material topics by considering the two dimensions of the principle:
(1) the significance of the organization’s economic, environmental, and social impacts—that is, their significance for the economy,
environment or society, as per the definition of ‘impact’—and
(2) their substantive influence on the assessments and decisions of stakeholders.
A topic can be material if it ranks highly for only one dimension of the Materiality principle.”

Question 34

How does the International Integrated Reporting Council (IIRC) define materiality?

Answer 34

“In Integrated Reporting, a matter is material if it could substantively affect the organization’s ability to create value in the short, medium and long term.”

Question 35

How does the Sustainability Accounting Standards Board (SASB) define materiality?

Answer 35

“For the purpose of SASB’s standard-setting process, information is financially material if omitting, misstating, or obscuring it could reasonably be expected to influence investment or lending decisions that users make on the basis of their assessments of short-, medium-, and long-term financial performance and enterprise value.”

Question 36

How does the TCFD define materiality?

Answer 36

Trick question! The TCFD encourages the disclosure of financially material climate information by deferring to the prevailing definition used in the reporting company’s country of domicile.

Question 37

Which of the sustainability disclosure standards include materiality for enterprise value creation and materiality for sustainable development?

Answer 37

GRI and CDP

Question 38

Which sustainability disclosure standards are focused on materiality for enterprise value creation?

Answer 38

SASB, CDSB, IIRC

Question 39

Which sustainability disclosure standards refer to reasonableness, such as the concept of the reasonable investor in their materiality definitions?

Answer 39

SASB, CDSB - which signal that information yielded may be subject to the rule of law if a company elects to disclose sustainability information through traditional processes that may be subject to legal liability

TCFD might, given that it defers and references the local definition for each company

GRI and IIRC do not use the term reasonable

Question 40

Which of the sustainability disclosure standards include a wider scope of information? Which are only for environment / climate?

Answer 40

GRI, IIRC and SASB have wider ESG inclusive topics, where IIRC applies their six “capitals” and SASB is focused only on what is material to enterprise value

CDSB and TCFD includes only climate-related information that impacts financial performance

Question 41

Which are the only two sustainability disclosure standards to use language of omissions, misstatements and obscurement?

Answer 41

CDSB and SASB

Question 42

What is the only sustainability standard to identify a disclosure location directly?

Answer 42

CDSB which calls for climate-related information to be disclosed in “mainstream filings”

The IIRC and TCFD focus on annual reports or mainstream channels but do not specify.

Question 43

What does “dynamic materiality” refer to?

Answer 43

Information that is material today may not be material tomorrow and vice versa. Not all sustainability information is equally useful to all users, and it is not always easy to determine what category sustainability information falls under. The market’s understanding of sustainability information is not static, and the materiality of information can shift over time.

Question 44

What does “dynamic materiality” do visually related to the graphic with the inner box as “Financial Materiality in Current Reports”, the middle of “sustainability topics material to value creation” and the outer box as “material for sustainable development on economy, environment and people”?

Answer 44

Dynamic materiality means that various topics shift between the boxes. e.g. sustainability topics can move between these either gradually or very quickly

Question 45

How did a Harvard Business School working paper describe several pathways where emerging issues can be identified for which information becomes material?

Answer 45

-scenario analysis
-forward looking assessments
-alternative, industry specific data sets
-new ways of measuring impacts

Question 46

Who ultimately makes the decision for what information warrants disclosure?

Answer 46

The company itself

Question 47

What are examples of why materiality can be a fluid concept?

Answer 47

Two companies in the same industry with similar situations may decide a topic is material to their business while the other does not.
E.g. one company may have an investor focused on human capital issues and decide they are always material while another pension fund might view it as selectively material.

Question 48

Why do companies not use the term “material” for environment and social materiality?

Answer 48

Companies are not liable for making immaterial statements, and may disclose as much immaterial information as they would like. So even if users of the information or investors would say it is “material”, companies may avoid using the term

Question 49

How does SASB apply materiality in the framework?

Answer 49

Materiality is used by SASB as a decision-making framework to determine what should or should not be included in the Standards. In that way, materiality does not refer to information, but rather refers to sustainability issues (which are called “disclosure topics” in the SASB Standards) that are likely to have material implications for users and their objectives

Question 50

[CHECK FOR UNDERSTANDING] How do jurisdictions throughout the world traditionally define materiality?

Answer 50

The concept of materiality has traditionally been defined by securities regulators and accounting standards bodies strictly in the context of financial disclosure. It focuses on determining the financial significance of a single piece of information, providing a framework for reporting companies to determine what information it must disclose. While definitions around the world are substantively the same, jurisdictional nuances exist regarding the use of thresholds as a means to determine materiality, the legal conceptualization of “the reasonable investor,” treatment of misrepresentations,
misstatements, and omissions, and other factors.

Question 51

[CHECK FOR UNDERSTANDING] How do traditional characteristics of materiality apply to materiality in the context of sustainability disclosure?

Answer 51

In the context of sustainability, materiality is often broadly defined as information that is relevant to the decisions of multiple stakeholders concerned with a company’s
impact on surrounding society. However companies increasingly apply the more traditional concept of materiality to sustainability information to communicate to investor audiences through established disclosure channels. In these cases, material sustainability information is treated in the same way as material financial information, where the scope of information is limited to that which is necessary to understand a company’s performance and prospects.

Question 52

[CHECK FOR UNDERSTANDING] What is “dynamic materiality” and how does it apply to sustainability information?

Answer 52

Dynamic materiality refers to the concept that the materiality of sustainability issues can (and often does) change over time as new risks and opportunities emerge and our understanding of issues evolves. The concept of dynamic materiality illustrates the interplay between environmental and social issues and financial materiality. Take, for example, the issue of regional water scarcity. As water resources are depleted in a certain region, the topic increasingly becomes a crucial business issue for companies operating in the region that rely on water as a critical input.