Sustainability reporting: is the public sector different to the private sector?

Understanding the differing needs of the public and private sector could be key in tackling climate change

Our report Evolving Climate Accountability: A Global Review of Public Sector Environmental Reporting explored the current state of sustainability reporting in the public sector. We found that there were a multitude of frameworks that can be used for sustainability reporting, but none dealt explicitly with the public sector, nor were there any clear definitions used for developing a public sector entity's sustainability report.

The research noted that there are differences between private and public sectors in terms of purpose, motivation and responsibilities and that these could impact on how public sector entities implement sustainability reporting. Chief among these is the emphasis on the delivery of public goods and services, as opposed to the private sector's pursuit of profit. The use of assets as a means of delivering public goods and services, as well as the accountability for performance, also operate differently for the public sector.

These differences have been recognised for some time within financial reporting: standards for the public sector, currently being developed by the International Public Sector Accounting Standards Board (IPSASB), are based on its public sector framework. In its preface to The Conceptual Framework for General Purpose Financial Reporting for Public Sector Entities, the IPSASB notes that there are six characteristics of the public sector that should be considered as part of establishing IPSAS:

1. The volume and significance of non-exchange transactions
2. The importance of the approved Budget
3. The nature of public sector programs and the longevity of the public sector
4. The nature and purpose of assets and liabilities in the public sector
5. The regulatory role of public sector entities
6. Relationship to statistical reporting

While acknowledging that these characteristics may affect financial reporting standards, the IPSASB also recognises that there needs to be a compelling reason for any departure from private sector standards. This ensures that accounting standards treat similar transactions in a consistent manner. In many cases, this results in an alignment between the standards issued by IPSASB for the public sector, and the financial reporting standards issued for the private sector by the International Accounting Standards Board (IASB).

Drawing analogies with accounting standards illustrates the challenge that sustainability reporting now presents – how to report meaningful information to readers of reports that is cognisant of issues unique to the sector, while still providing information comparable within the sector and others.

Developments in sustainability reporting standards

Since the release of our sustainability report in July 2021, the IFRS trustees announced they would establish an International Sustainability Standards Board (ISSB). This provides a significant impetus to aligning and harmonising the multitude of reporting frameworks that currently exist. In its media release, the IFRS trustees noted that:

"The intention is for the ISSB to deliver a comprehensive global baseline of sustainability-related disclosure standards that provide investors and other capital market participants with information about companies' sustainability-related risks and opportunities to help them make informed decisions."

Whilst this addresses one of the main challenges for investors and capital market participants in providing a consistent approach to reporting sustainability information, the question remains as to the how this approach can be applied public sector organisations.

The Global Reporting Initiative (GRI) noted that the establishment of the ISSB is a positive move, addressing what the GRI considers the first pillar of comprehensive corporate reporting – financial reporting. They also noted, however, that a second pillar in comprehensive corporate reporting – namely sustainability reporting, which addresses an organisation's external impacts on society and the environment – is also necessary.

In its final report on proposals for relevant and dynamic EU sustainability reporting standard setting, the European Financial Reporting Advisory Group (EFRAG) noted the need for fostering sector specific sustainability reporting:

"Sector-agnostic sustainability reporting requirements (i.e. reporting requirements that apply to all companies regardless of the sector in which they operate) are pivotal to allow comparability across sectors. However, sector-agnostic disclosures are not sufficient to address the specific information needs related to the many challenges a reporting entity is confronted with."

The necessity of sustainability standards that can adapt to the circumstances of different sectors has been acknowledged. The GRI has established a prioritised list of sectors for which sector-based standards or issues can be addressed; at the time of writing, the public sector is not included in this list.

With that in mind: what characteristics of the public sector would give rise to reporting on a different basis to other sectors?

An emphasis on the delivery of public goods and services

Public sector organisations have a responsibility to properly manage their activities in a way that supports the achievement of public policy objectives. This means that the resources and facilities that they use, and the manner in which they use them should be open and transparent and reported on a consistent basis.

The proposed approach by the ISSB centres on the extent to which sustainability risks could affect enterprise value, as evidenced through its effect on the timing and certainty of future cash flows. In many public sector organisations, enterprise value is a concept of limited relevance as they are often funded through compulsory taxes, fees and charges and often hold assets for their service delivery objectives, rather than to generate cash flows.

The ability of public sector organisations to generate cash flows through its assets is secondary to the ability of those same assets to provide public goods and services. This means that unless some consideration is given to the purpose for which assets and liabilities are held by public sector entities, using standards developed for capital markets and investors may not provide an appropriate picture of sustainability performance. Oftentimes the impact of holding assets and liabilities is based on how they are used rather than their ability to generate cash inflows.

Does this mean that the focus for public sector entities needs to be on how assets and resources are used to deliver services (which will often relate to impact on society and the environment) rather than their capacity to contribute to a concept of enterprise value?

Public sector assets and liabilities: why are they held and how are they used?

Financial reporting standards already acknowledge that many public sector assets are held for their service potential rather than for generating cash inflows. This means the balance sheet can be characterised as an accountability document that details what is owned and what is owed by the entity. As it comprises only financial values, however, it can be difficult to ascertain whether the entity has properly managed those assets and liabilities, and what the impact they've had on the achievement of public policy objectives.

Public sector entities are often seen as stewards of resources that are allocated to them to deliver their mission or objectives. To demonstrate proper stewardship, the focus shifts from financial returns to the efficient and effective use of those resources. But does this focus mean that the measures used to assess a public sector entity's performance need to be grounded in non-financial terms? How is this reconciled to sustainability standards that are focussed on enterprise value?

Public sector assets can often be a significant source of emissions and have a large impact on the environment. Understanding the extent to which public services rely on such assets for their delivery will provide a different picture to the financial value of the asset being used. The extent of asset usage (and the subsequent emissions and environmental) is more likely to affect the quality of the public service being provided than the organisation's enterprise value.

There are a range of guidance materials available that deal with matters that fall outside traditional financial reporting standards, including include IPSASB's Recommended Practice Guides (such as Long-Term Fiscal Sustainability Reporting, Reporting Service Performance Information and Financial Statements Discussion and Analysis), that provide guidance to entities if they choose to report this type of information. This type of guidance may be useful to public sector sustainability reporting as it can provide relevant guidance for the reporting of items that fall beyond traditional financial reporting boundaries.

An emphasis on accountability rather than decision-making

Accountability is a fundamental tenet of public administration. It's essential to have good processes in place to enable those charged with governance to be held accountable for their actions and performance. For such processes to work effectively, there needs to be clarity on the objectives and content of any reports that are used for accountability purposes.

Whilst the research notes that entities that prepared sustainability reports had a mix of reasons for doing so, the majority did so for accountability purposes. A key element of this is the public accountability processes that public sector entities often face (such as Parliamentary Committees, Parliamentary questions, Public Right to Information, etc).

The annual report produced by public sector organisations is often viewed as a key element of the accountability of the entity, since it provides a record of activities and achievements and the financial performance and financial position of the entity for that year. However, it is typically the budget that receives greater public attention, as it outlines the plans and interventions that will be undertaken in the forthcoming year. Does this difference in emphasis mean that accountability for public sector entities is different, with a focus more on plans and intentions rather than ex post reporting of outcomes?

In the financial reporting domain, audited financial statements play a pivotal role in the accountability framework. Ensuring that the accountability framework can also address sustainability reporting (including any assurances that are undertaken on sustainability reports) will play an important part in the future. However, whilst the objective of accrual-based financial reporting has long been settled, the objective of sustainability reporting for public sector entities is not so clear – is it to hold management to account, or is it to provide input into a whole-of-government or whole of public sector view? Is it used for decision-making or is it mainly focused on accountability? Or should it be both?

Our conclusion

With the public sector representing a significant proportion of most economies, the absence or poor applicability of reporting frameworks creates a risk that significant contributions to climate change could be missed or not reported. It can also lead to poor accountability outcomes as management and governing authorities of public sector entities may not be held accountable for the impact their entity is having on sustainability matters. Furthermore, the capacity to assess a public sector entity's performance with other entities becomes more difficult if a consistent framework is not applied.

To ensure that there is the broadest possible application of sustainability reporting, irrespective of the sector of the economy that is reporting, CIPFA thinks that it is important that any differences between the public and private sectors are identified at the outset and any sector specific considerations addressed. This can only be done if there is clarity on what characteristics warrant sector specific adaptations.