CSRD Compliance: What Impact Materiality Assessments Can Learn from Human Rights Impact Assessments

By Paula Williams

The Omnibus Simplification Package, which proposes revisions to the Corporate Sustainability Reporting Directive (CSRD), is working its way through the EUs legislative process. At the same time, the European Financial Reporting and Accounting Group (EFRAG) has also been tasked with revising their European Sustainability Reporting Standards (ESRS).

While we await the outcomes of these processes, many companies are making good use of the additional time afforded to focus their efforts on ensuring they are as prepared as possible. One aspect of the CSRD we are confident will remain central to the legislation is the requirement to conduct a double materiality assessment (DMA). Investing time now in ensuring the robustness of the DMA is a wise approach.

Organizations are required to complete DMAs to evaluate the most material sustainability topics for their reporting. Simply put, a robust DMA requires entities to examine the topics, sub-topics and sub-sub-topics comprising the European sustainability reporting standards (ESRS) from two perspectives:

• an ‘outside in’ perspective; how could/does this topic impact the business, termed ‘financial materiality’
• an ‘inside out’ aspect; how could/does this topic impact people and the environment, termed ‘impact materiality’

While the financial and impact materiality must combine for a complete Double Materiality Assessment, in practice, they diverge significantly in terms of how they are assessed, understood, and addressed. So, what are those crucial differences, and how should companies adapt their approaches to address them?

Assessing financial materiality, the ‘outside in’ component, is likely to be most familiar to businesses. The practice of examining various externalities with potential to impact the business and then expressing that risk in terms of likelihood to impact company finances, is relatively routine within a corporate setting. With this framing, an environmental or social issue is determined to be material only if it poses a direct financial risk to the business, such as in the form of regulatory fines, reputational damage, or supply chain disruption.

On the other hand, impact materiality assessments–the ‘inside out’ perspective– have historically been conducted less frequently by businesses. These assessments require companies to evaluate their role in adverse human rights impacts, environmental harm, and broader sustainability concerns. This requires examination of their entire value chain, upstream beyond direct suppliers and downstream to the distribution, sales, and use of their product or services, as well as other indirect impacts related to their business activities. To do this effectively requires prioritising real-world harms over financial consequences and a fundamentally different approach to that applied for assessing financial materiality.

Conducting an impact materiality assessment in the full spirit of the directive requires input from a broad range of stakeholders, beyond investors, customers, and employees. Businesses must engage with stakeholders that may include communities, supply chain workers, civil society organisations (CSOs), non-governmental organizations (NGOs), academia, and governments. In this respect, a CSRD impact materiality assessment has more in common with a human rights impact assessment (HRIA).

The similarities go even further. EFRAG defines a sustainability matter as ‘material’ from an impact perspective if it is ‘caused, contributed to or directly linked to’ the undertaking’s own operations, products, or services through its business relationships. This definition reflects the language and intent of the causality framework outlined in United Nations Guiding Principles for Business and Human Rights (UNGPs), the basis of a UNGP aligned impact assessment. Further, the CSRD requires the severity of an impact be determined by employing the ‘scale, scope and irremediability’ methodology, which again comes from the UNGPs and the traditional approach to conducting a human rights impact assessment. These similarities are not accidental or coincidental, but rather they are by design.

Given this, business and human rights practitioners familiar with the UNGPs, human rights impact assessments, and human rights due diligence possess tried and tested experience with the methods required for robust impact materiality assessments. Experienced practitioners can manage the sensitivities and complexities that may be encountered when meaningfully engaging with stakeholders such as communities, supply chain workers and NGOs, and communicating these to corporate decision makers. Such practitioners are also comfortable utilising the scale, scope and irremediability framework to align on a severity scoring that accurately reflects complex real-world scenarios to enable clear, responsible prioritisation.

The CSRD is complex and novel, and many companies are uncertain where internal responsibility for compliance should lie. Often responsibility is placed within legal or finance functions. This is understandable, after all compliance is a legal requirement and there is undoubtedly a significant financially driven component to the CSRD. While legal and finance functions have a significant role to play for a company working towards compliance, a solely legal- or finance-led approach can undermine the robustness of an impact materiality assessment. This risk arises from the potential for a very narrow interpretation of what is material from an impact perspective with an over-reliance on financial proxies and insufficient focus on substantive impact and harm reduction. In a worst-case scenario, the assessment may be reduced to a ‘box ticking’ exercise, undermining the directive’s core purpose, which is to identify real sustainability risks and opportunities.
To conduct a robust impact materiality assessment, companies should consider:

1. Significant cross functional collaboration, with legal and finance functions working closely with sustainability and human rights functions to ensure the assessment reflects real-world impacts.
2. Leveraging internal and external human rights expertise, engaging with practitioners who have experience with impact assessments and human rights due diligence to bridge gaps in knowledge and facilitate meaningful stakeholder engagement with communities, supply chain workers, NGOs, etc.
3. Embedding continuous learning, recognising that impact materiality is not a static process but one which must adapt and evolve as new risks and stakeholder concerns evolve.

This approach will ensure a strategy that is in the full spirit of the CSRD, is aligned to existing international frameworks such as the UNGPs and OECD Guidelines for Multinational Enterprises on Responsible Business Conduct (OECD MNE Guidelines), and prepares the company for compliance with the Corporate Sustainability Due Diligence Directive (CSDDD).

For businesses navigating the CSRD, integrating the skills and experience of practitioners familiar with human rights impact assessments into impact materiality assessments is not just helpful, it’s essential.

If you have any questions or would like to learn more about Article One’s approach to impact materiality assessments, please contact hello@articleoneadvisors.com.