Sustainability fraud is on the radar of few investors and asset managers, but it is potentially much more harmful. The introduction of the EU green taxonomy will only serve as a further incentive for companies to misrepresent their sustainability performance.
«Green fraud», also known as sustainability fraud, is a deliberate misrepresentation of sustainability data, usually taking the form of incorrect reporting in order to obtain higher ratings/rankings resulting in a better reputation, and thus a higher share price.
Incorrect or incomplete sustainability performance information can also be deliberately given to gain easier access to capital. So far, sustainability fraud has not been widely researched, but the available data show that manipulation of sustainability information already occurs.
Wim Bartels (photo), partner at KPMG and expert in the field of sustainability reporting, spoke to Investment Officer about the issue, in anticipation of the publication of the report «The rising challenge of sustainability fraud».
Bartels has been involved in sustainability reporting at international listed companies for over fifteen years. This involves checking the data on which these companies base their reporting and whether the results match reality. In addition, Bartels has extensive experience in the division that deals with identifying and combating fraud.
Green taxonomy
Sustainability fraud could take off with the introduction of European taxonomy, Bartels warns. ‘Of course we are very pleased with the taxonomy in the sense that it can channel capital towards sustainable investments,’ he says. ‘For a company, however, it is a set of criteria that you have to meet, because if you don’t it could have negative financial consequences. The taxonomy becoming compulsory is incentivising companies to make sure to comply with these criteria at all costs, because if they don’t it will be more difficult or even impossible for them to attract investors.’
And although the taxonomy criteria are very detailed, there are two important issues with sustainability data, says Bartels. ‘Unlike financial information, sustainability information is stand-alone information. By this I mean that it is not possible for the accountant to check whether it is correct because it is not based on a transaction.’
In addition, sustainability information also tends to be based on estimates, he adds. ‘The way in which estimates are made can also vary considerably. Because there is no uniformity, there is freedom of choice in the data and definitions you use. This can encourage fraud.›
Bartels emphasises that investors should realise information could be misrepresented. He sees a task for analysts to identify these. ‹Analysts have a broad overview of what is happening at companies year after year and can therefore also see whether improbable or exceptional changes are taking place,› he says. This does not mean that analysts must immediately have knowledge of all sorts of sustainability criteria and measures, but rather that they must check sustainability information for inconsistencies.