Reporting on Anticipated Financial Effects (AFE) is currently inconsistent across companies. Many companies do not yet report AFE, and only some provide quantitative information. For many, the distinction between AFE, Current Financial Effects, and other business effects seems unclear. Companies also frequently omit information that would help users understand and interpret AFE disclosures. We encourage all relevant standard setters to work together to improve the quality of AFE reporting.
by Rico Chaskel and Georg Lanfermann
A brief introduction to Anticipated Financial Effects
Both the European Sustainability Reporting Standards (ESRS) and the IFRS Sustainability Disclosure Standards (IFRS SDS) require companies to disclose Anticipated Financial Effects (AFE). In simple terms, AFE are anticipated future effects of sustainability-related risks and opportunities on a company's financial position, financial performance, or cash flows.
AFE disclosures are among the most debated disclosure requirements in both the ESRS and IFRS SDS. Preparers of sustainability reports have highlighted conceptual and practical challenges, particularly with respect to providing quantitative information. Among other things, they point to unclear requirements, high levels of uncertainty of the information provided, and the disclosure of commercially sensitive information. Users of sustainability information, on the other hand, emphasize that AFE disclosures can be highly valuable for understanding and interpreting companies' sustainability-related risks and opportunities.
Standard setters prescribing AFE reporting have acknowledged preparers’ concerns and incorporated certain reporting reliefs into the standards. For example, commercially sensitive information does not have to be disclosed. In addition, a lack of identifiability, high measurement uncertainty, and insufficient skills, capabilities, or resources on the companies’ side may justify omitting quantitative AFE disclosures.
Nevertheless, preparers' concerns have not fully subsided, especially as AFE quantification remains a requirement. To shed more light on these issues, we at the DRSC conducted a study on current AFE reporting practices.
The DRSC study
Our study addresses a simple question to guide the analysis: How do companies currently report on Anticipated Financial Effects?
To answer this question, we first discuss the regulatory landscape and identify gaps and unclarities in the reporting requirements. We then manually analyze 100 sustainability reports from five jurisdictions with mandatory AFE disclosure requirements: France and Spain (reporting under the ESRS), Türkiye (reporting under the IFRS SDS), and Switzerland and the United Kingdom (reporting under the TCFD recommendations).
Half of the 100 companies in our sample provide some form of AFE disclosure: 26 companies report both quantitative and qualitative information, 21 provide qualitative information only, and three state that they have not identified material AFE.
Reporting uptake is highest in the non-EU jurisdictions. In Switzerland, the United Kingdom, and Türkiye, around 75% of companies in the sample provide some form of AFE disclosure. In France and Spain, the share is around 25%, with most other companies relying on transitional provisions that allow them to postpone AFE reporting.
We find that AFE reporting is most developed for environmental risks. All companies providing AFE disclosures report on sustainability-related risks, while 80% of the companies reporting on AFE also disclose sustainability-related opportunities. Every company reports on environmental risks, but only 4% also provide disclosures on social and governance risks.
Reporting challenges
While we observe considerable effort in companies' reporting on AFE, we also identify significant room for improvement.
A major challenge concerns the very core of the AFE definition: distinguishing AFE from other effects. We observe two main issues:
Confusion with current financial effects: The companies reporting on AFE typically do not clearly distinguish current from future financial effects and, despite definitions to the contrary, classify effects already recognized in the primary financial statements as AFE.
Confusion with other business effects: Some companies, again despite definitions to the contrary, do not relate their disclosures to the company's financial position, financial performance, or cash flows; that is, to items reflected in the balance sheet, income statement, or cash flow statement.
We also identify several information gaps that make AFE disclosures more difficult to understand:
Probabilities, individual financial effects, and expected values: Two-thirds of the companies reporting AFE do not attach probabilities to their estimates. For example, in many cases, it is unclear whether companies disclose expected values over all future scenarios or individual financial effects from a single scenario.
Risk mitigation: One-third of the companies with AFE disclosures do not indicate whether the underlying risk exposure is assessed on a gross basis (without risk mitigation) or a net basis (after risk mitigation measures).
Discounted, undiscounted, and relative values: One-fifth of the companies providing quantitative AFE disclosures do not clearly state whether the reported metrics are discounted to the reporting date, undiscounted, or expressed relative to another metric.
Climate-related scenarios: For half of the companies in our sample with AFE disclosures, it is unclear which climate scenarios underpin the reported climate-related risks and opportunities.
Importantly, neither the ESRS nor the IFRS SDS require companies to disclose this information. However, especially since neither ESRS nor IFRS SDS are clear on the methods to be applied, it is – from a user's perspective – substantially more difficult to understand, compare, and use AFE disclosures.
As explained above, the objective of our study is to provide a descriptive analysis of current AFE reporting practices. Our findings show that reporting is still far from perfect – and likely neither are the standards. While our study does not allow us to draw definitive conclusions about the reasons for these shortcomings, we believe that AFE reporting remains highly challenging. Otherwise, we would have expected more encouraging results.
What's next?
The DRSC study points to a need for improvement in companies' AFE reporting. However, in our view, companies cannot achieve this alone. Unclear reporting requirements and expectations leave too much room for interpretation and lead to inconsistent application of the standards. The DRSC therefore encourages all relevant standard setters to engage with preparers and users of sustainability information to jointly pave the way for more meaningful AFE reporting.
Georg Lanfermann
WP/StB Georg Lanfermann is the President of the Deutsches Rechnungslegungs Standards Committee (DRSC), where he leads its work on sustainability reporting. He is also Vice-President of EFRAG’s Administrative Board. Previously, he was a KPMG partner focusing on EU regulation in corporate reporting, audit, governance and sustainable finance.
Rico Chaskel
Dr. Rico Chaskel is a Research Manager at the Deutsches Rechnungslegungs Standards Committee (DRSC). His work focuses on financial and sustainability reporting. He currently specializes in Anticipated Financial Effects reporting.