What is sustainability accounting and how can you incorporate it in your firm?
When we think of Finance and Accounting, the first thing that comes to mind is the numbers that represent the financial position of the company. While these figures give us a good understanding of the monetary value, there are assets like human and social capital that generate revenue as well. Although these assets don’t contribute to the immediate value of the company, they certainly play a huge role in the organisation’s intangible value over time. Accounting for these value-add activities is commonly referred to as sustainability accounting.
What is sustainability accounting?
The dictionary defines sustainability as ‘the ability to support a long-term balance.’ This perfectly describes organisations that try to balance their production with human capital while making a social and environmental impact. Although accounting deals with numbers, the impact made on the production of goods and services from a human, social and environmental standpoint is often not reflected in the figures. These activities enhance the value of the company over time and should be reflected in the numbers to help the shareholders make more informed decisions- this is called sustainability accounting.
A clear example of the need for sustainability accounting can be seen in the value of employees in the organisation. Say, for instance, a high-performing individual in the company were to fall ill and take time off or decides to leave the company altogether. From a financial accounting perspective, what would happen to the sales of the company without this extra resource or how will the value of human capital be affected? Alternatively, if good employees were hard to find, the loss of the employee could affect future earnings. However, when the shareholders look at the financials of the company, the loss or gain from a human, social and economic perspective are not taken into account.
Why does your company need sustainability accounting?
Sustainability accounting provides information on social and human-induced activities that have a financial impact on the company in the long-run. Here are a few reasons why companies may want to incorporate sustainability accounting in their firm:
- Raise awareness- Social, human and environmental assets are considered the three pillars of sustainability accounting and can have a major impact on decision-making. Sustainability accounting may help shareholders identify risks and opportunities for certain tangible (employees) or intangible (social) assets in the company to ensure the company retains its steady growth.
- Creates a bridge- Many companies are all about the numbers when it comes to assessing their success. However, it is equally important to consider the firm’s social and environmental impact as well. Hence, sustainability accounting acts as a bridge between the financials and non-financials of the company. It provides investors/shareholders with a better picture of the true performance of the company.
- Creates a benchmark- In today’s world, the increasing carbon footprint and the impending effects of climate change have made sustainability accounting more important than ever. Public authorities have even taken action to ensure that the environmental impact of businesses is regulated. Sustainability accounting provides a benchmark for companies to assess their sustainability performance in accordance with the norms, rules and codes set by the government.
- Consider the long-term plan- Without sustainability accounting in the mix, many organisations would not consider the human, social and environmental impact of their activities on their finances. But once you place a monetary value on these factors, it influences the long-term management strategy of the companies. They will take these sustainability factors into consideration when creating their business plans, policy and management strategy.
- Understand the impact- When shareholders look at values of sustainable accounting, they can identify if any of their activities have a negative impact on environmental, social and governance factors. By understanding the effects, the business can take the necessary steps to actively reduce or mitigate the negative effects.
How to incorporate sustainability accounting in your firm?
Sustainability accounting deals with human and natural capital and is equally important as the financial capital of the organisation. It provides a wider perspective of the firm’s activities so you understand the true cost of every choice and decision.
In India, there is no framework that currently exists for how sustainability activities should be reported on the balance sheet nor is there any rule that makes this practice mandatory. However, the government has introduced various legislations under which companies need to report on how its activities impact the environment- specifically when it comes to conserving energy.
The Institute of Chartered Accountants in India (ICAI) has established the Accounting Research Foundation (ARF) that is in the process of creating a sustainability framework for companies in India. Under this new legislation, it becomes mandatory for companies to report on their social, human and economic activities. There are also working towards creating standards for each factor.
In India, sustainability accounting and reporting are voluntary and some companies choose not to incorporate it in their annual financials. However, companies in the mining and oil sectors are required to report on sustainability in accordance with the Environmental Impact Assessment Act. As more companies In India become aware of the benefits of sustainability accounting, they are more open to reporting these values. Here are a few ways companies can encourage the incorporation of sustainability accounting in their companies:
- Creating awareness of the importance of sustainability accounting and its benefits to the long-term goals of the company.
- Educate your employees on this report and ensure that they understand the objectives of sustainability accounting in the short and long-term.
- The company should hire experts who can help them gather the information needed for the report in the most efficient way possible.
Sustainability accounting takes into consideration, the human, social and environmental impact of the company which is not always reflected in the financial reports. Although these effects may not seem so important in the short-term, they tend to have a visible impact on the firm in the long-term in a positive or negative way. This type of accounting is still in its beginning stages in India but as companies become more aware of the benefits of sustainable accounting, they choose to adopt it in their reporting practices as well. Being more sustainable and socially responsible is one of the biggest trends in 2019.