Summary: The UAE is a leader in the GCC for ESG reporting, which is in line with the country’s ambition to become a sustainable finance hub for the region. The next step could be to extend current mandatory ESG reporting for listed firms to private firms in the coming years. This would increase compliance costs for local businesses, but also bring many potential benefits.
Current status of ESG reporting in the UAE
Reporting on ESG factors has been mandatory for firms listed on either the Dubai or Abu Dhabi exchange since January 2021. Regulators have supported this ESG reporting by providing guidance for listed firms. Looking beyond publicly listed firms, ESG reporting by private firms in the UAE is voluntary and remains patchy.
Due to the country’s mandatory reporting requirements for listed firms, The UAE is a leader in ESG disclosure in the GCC. These guidelines borrow from mainstream international frameworks, including the Global Reporting Initiative (GRI), the Sustainability Accounting Standards Board (SASB) and the Task Force on Climate-Related Financial Disclosures (TCFD).
Momentum towards increased ESG reporting is nonetheless increasing in the GCC. In January 2023, a standardised set of voluntary ESG Disclosure Metrics was released by the GCC Exchanges Committee, which is presided over by the Saudi Exchange. The metrics included 29 requirements aligned with the UN Sustainable Stock Exchanges Initiative and the World Federation of Exchanges. Topics covered include GHG emissions, energy and water use, gender pay, employee turnover, gender diversity, data protection, and ethics.
Looking beyond the GCC, ESG reporting is currently mandatory for listed firms in 33 other countries. This includes major economies such as the EU, Japan and the UK, and emerging economies such as South Africa, Malaysia and the Philippines.
Expanding ESG reporting could be a next step for the UAE
Making ESG reporting mandatory for private firms could be the next step in the UAE’s development of sustainable business practices. Over recent months, influential organisations including the Dubai International Finance Centre (DIFC) and First Abu Dhabi Bank (FAB) have suggested that the private sector has a significant role to play in expanding sustainability disclosures in the country.
Moreover, a recent federal law to develop a comprehensive legal framework to regulate family companies in the UAE illustrates that the corporate governance of private firms is being scrutinised more closely. According to the UAE’s Ministry of Economy, around 90% of private companies in the UAE are family businesses. They employ around 70% of the sector’s workforce and account for 40% of GDP.
Mandatory reporting for private firms would likely be for the set of ESG factors covered by ‘financial materiality’, rather than the broader set of factors that incorporate ‘double materiality’. The financial materiality approach only considers ESG factors when they are deemed to impact the firm’s enterprise value. In other words, financial materiality only considers ESG factors that affect the business. This would align with the majority of ESG reporting standards in other countries. For instance, the International Financial Reporting Standards (IFRS) has stated that the organisation’s efforts to create a unified global ESG reporting framework (International Sustainability Standards Board, ISSB) will be based on financial materiality.
Financial materiality contrasts with ‘double materiality’, which in addition to financial materiality, also considers a firm’s impact on external sustainability metrics such as water quality, gender pay and biodiverse habitats. The EU is the only major regulator to adopt double materiality into its mandatory ESG reporting. This has been done through the EU’s Sustainable Finance Disclosure Regulation (SFDR) and Corporate Sustainability Reporting Directive (CSRD).
Implementation would likely be gradual
Any expansion of ESG reporting requirements to private firms in the UAE would likely be gradual, with the largest firms expected to comply first. Other major economies, including the EU and US are also phasing in new ESG reporting requirements to reduce business disruption. As mentioned above, the EU will gradually expand the number of firms covered by SFDR and CSDR regulations. Elsewhere, the US SEC has suggested phased implementation of its proposed Climate Disclosure Bill, with all publicly listed US firms required to publish Scope 1, 2 and 3 emissions data by 2025, but with large listed companies subject to the earliest reporting deadlines and smaller firms provided more time to comply.
A leading role for the UAE?
Should the UAE adopt mandatory ESG reporting for private firms, this would position it in the vanguard of countries doing so. This could increase the influence of UAE representatives at international consultations over ESG reporting norms, such as the ISSB and the Principles for Responsible Investing (PRI). Representation from emerging economies at these international consultations is currently limited. For instance, only around one in ten responses to the PRI’s 2021-2024 strategy consultation came from emerging economies. Combined with the UAE’s hosting of COP-28 in November 2023, enhanced local ESG reporting local standards could increase the UAE’s influence on global sustainability policy formation. This would build on the momentum illustrated by the UAE’s participation in multilateral initiatives such as the G20 Sustainable Finance Working Group (SFWG). The UAE participated in the first SFWG meeting within the G20 Finance Track for 2023 in early-February 2023.
Compliance costs for businesses would rise
Making ESG reporting mandatory would increase compliance costs for UAE businesses. The additional costs would be limited for firms already implementing reporting in line with mainstream frameworks such as GRI, SASB and TCFD. However, costs would be significantly higher for most other UAE firms, which do not currently collect and report on their ESG performance. According to Monaem Ben Lellahom, Group CEO and Founding Partner at Sustainable Square, companies would need to “invest time and resources into ESG reporting, including gathering and analyzing data, developing disclosure processes, and ensuring accuracy and reliability of their information.”
Compliance costs are already a hot topic in jurisdictions further down the road towards mandatory reporting, such as the EU. In November 2022, The European Fund and Asset Management Association (EFAMA) and the European Sustainable Investment Forum (Eurosif) both expressed serious concerns to the European Commission regarding the potential burden of compliance that the current SFDR regulatory proposals will place on their members.
But greater ESG disclosure would also bring benefits to businesses
The impact of greater ESG compliance costs on company profits can be offset by benefits resulting from improved ESG disclosure. According to Dr. Ashraf Gamal El Din, Chief Executive Officer of the Hawkamah Institute for Corporate Governance at the DIFC, increased ESG disclosure can have a “direct impact on the company’s reputation, access to finance, access to markets, profits and integrity”. A more sustainable brand image can also “help companies attract the best calibre (of workers) and gain the trust of its own employees and clients”.
With regard to financing, more robust ESG reporting requirements in the UAE could help reduce local firms’ financing costs in several ways:
• Bond ‘greeniums’ – Enhanced ESG disclosures would make it easier for firms to issue sustainability-labelled debt such as green, social and sukuk bonds. Surging demand for sustainability-labelled debt from international investors has created a debt ‘greenium’ in recent years, whereby borrowing costs on sustainable bonds have been materially lower than for conventional debt. The presence of this greenium has been verified by published research, including from the European Central Bank in September 2022.
• Greater portfolio investment inflows – Regulations in the pipeline in the EU, US and UK will make asset managers in these jurisdictions more likely to invest in companies with robust ESG disclosure. The EU’s SFDR, amendments to the US SEC’s ‘Fund Names Rule’, and the UK’s Sustainability Disclosure Requirements will all require asset managers to provide more data on the ESG profile of companies in their investment portfolios. This will increase the investment attractiveness of firms with comprehensive and internationally comparable ESG disclosures.
• Regional sustainable finance hub: Stronger ESG reporting requirements would support the UAE’s ambitions to become a regional hub for sustainable finance. The resulting increase in local capacity for sustainability-labelled finance would lower borrowing costs for UAE businesses. For example, a November 2022 study by the UAE’s Ministry of Climate Change and Environment (MoCCAE) estimated that the cumulative value of local green (including sukuk) bonds and loans had surpassed USD17bn. That same month, the Abu Dhabi Global Market (ADGM) and Financial Services Regulatory Authority (FSRA) published plans to significantly expand the number of sustainable finance products available on the Abu Dhabi Exchange.