CSRD - the path to honesty? Greenwashing, ESG scandals and the role of the new Sustainability Reporting Directive

The terms "green", "sustainable" and "environmentally friendly" are becoming increasingly common in business. These terms are likely already familiar to us all. In the current climate, where sustainability and environmental protection are prominent issues, we are seeing an increase in the use of these terms. In order to appeal to environmentally conscious consumers, companies are actively promoting their ecological initiatives, practices, products and financial products. However, not all green-themed products and services are genuinely eco-friendly. Welcome to the world of greenwashing.

What is meant by the term ‘greenwashing’?

As with many terms used in the context of sustainability, the term 'greenwashing' is not clearly defined. The term 'greenwashing' is not recognised in the German language. A more appropriate translation would be 'whitewashing' or 'greenwashing', as defined in a new EU regulation. In essence, greenwashing can be defined as the creation of a 'green image' through communication, marketing and individual measures without the systematic anchoring of these measures in the operational business.

Greenwashing can occur in two distinct ways. Firstly, misleading marketing strategies may be employed. For instance, packaging may feature images that symbolise environmental awareness, which could be perceived by consumers as an indication of a company's commitment to sustainability. In addition, instances of greenwashing may also arise from inaccurate reporting. For instance, companies may provide investors in financial products with misleading or incomplete information, which hinders their ability to make informed financing decisions based on accurate data. The anticipated ESG impact fails to materialise, and consumers are misled.

Companies that engage in greenwashing expose themselves to a range of potential risks and consequences. In addition to the potential for legal consequences, such as fines and lawsuits, there is also the risk of reputational damage and share price losses.

Example DWS Group

In September 2023, the US Securities and Exchange Commission (SEC) placed DWS - the asset management subsidiary of Deutsche Bank - under scrutiny. The allegation: DWS had exaggerated the green and sustainability-related aspects of its financial products. DWS is one of the largest asset managers in Europe.

The SEC found that ‘materially misleading disclosures were made regarding controls over the inclusion of ESG factors in research and investment recommendations for ESG-integrated products’. It also found that there was a lack of implementation of policies designed to ensure the transparency of public statements about these products. This means that DWS did not comply with the ESG investment processes it advertised. As inadequate money laundering controls were also found, DWS was ultimately fined a total of 25 million US dollars.

Example Volkswagen

As a company with around 120,000 employees in Germany, Volkswagen is affected by the German Supply Chain Act (LkSG). The aim of this law is to improve working conditions for its own employees and employees in the supply chain, particularly in countries where human rights are violated and employees are not paid fairly. In high-risk countries (e.g. China), appropriate checks must be carried out and, if necessary, remedial measures taken.

The SAIC Volkswagen joint venture employs around 200 people in Ürümqi in the province of Xinjiang. The region is known for Uyghur forced labour. To counter these allegations, Volkswagen published an audit report at the end of 2023 to prove that no human rights violations were taking place at the plant in Ürümqi. However, research by ZDF, Der Spiegel and the Financial Times suggests that the report does not adequately reflect reality. The 71-page audit report has considerable shortcomings: Unqualified auditors, employee interviews under government supervision and other standards not met raise serious questions about the transparency and integrity of the entire audit process.

Volkswagen had engaged the services of Markus Löning, former Human Rights Commissioner of the German government, to conduct a review of labour relations. However, the identity of the Chinese law firm that conducted the on-site audit has not been disclosed. Furthermore, the final audit report was not made available for review, which raises additional concerns about the impartiality of the process. Volkswagen strongly refutes the allegations of attempted deception.

Is the CSRD the way to more honesty?

It is essential to recognise that the two cases are fundamentally different in nature.

The DWS case concerns the misrepresentation of a financial product through the use of deceptive labelling. In the European Union, such deceptive practices would no longer be possible due to the current EU Taxonomy and the SFDR (Sustainable Finance Disclosure Regulation). The EU taxonomy was introduced as part of the EU action plan for sustainable finance. The system classifies economic activities as environmentally sustainable in accordance with the European Commission's guidelines. Together with the SFDR, this ensures that only sustainable funds can be marketed as such in the EU.
The Corporate Sustainability Reporting Directive (CSRD), on the other hand, is not a regulation governing the marketing of financial products. Its purpose is to enhance sustainability reporting by companies within the EU. It requires companies to report on sustainability-related activities and the associated opportunities and risks in a more comprehensive and standardised manner in accordance with the ESRS (European Sustainability Reporting Standards). It is therefore evident that the CSRD would not have prevented the DWS scandal. However, it would have prompted the German parent company to pay closer attention to the legal risks associated with the American subsidiary in relation to ESG.

In the case of Volkswagen, however, it is necessary to determine which party can be held accountable for any human rights violations that may have occurred in Ürümqi. The LkSG report does not contain any information provided by VW on this matter. The rationale behind this decision is as follows: VW does not hold a controlling interest in the SAIC Volkswagen joint venture, nor does SAIC Volkswagen supply products to other Group members. Consequently, the personnel in question are neither employed by VW nor part of the supply chain, and thus not subject to the LkSG.

Can the CSRD remedy this and ensure that such discrepancies no longer occur in future? Volkswagen will be subject to the reporting obligation of the CSRD Directive for the first time with the annual financial statements for 2024, which, as is well known, defines disclosure obligations on environmental, social and governance (ESG) topics. For area S, the ESRS disclosure standards provide for four categories: own workforce (ESRS S1), employees in the value chain (ESRS S2), affected communities (ESRS S3) and consumers & end users (ESRS S4). The guiding principle of the ESRS is double materiality. What is material must be disclosed in a standardised manner; what is not material should not be described in the sustainability report. As SAIC-Volkswagen Automotive Company Ltd. is recognised as a material investment in the Group report, it seems quite likely that the sustainability report must address the Ürümqi case in accordance with ESRS. It remains to be seen whether this will clarify the human rights situation or even result in a strategic withdrawal from the region. We are eagerly awaiting the first report.

Conclusion: It is not possible for the CSRD to eliminate the risk of greenwashing and ESG scandals entirely. However, the CSRD will significantly increase disclosure obligations and enhance the comparability of company sustainability performance. The greater the number of reports that companies are required to submit, the greater the likelihood that there will be increased public pressure on companies in general to act in a sustainable manner and to report accurately. In the longer term, this could result in companies being unable to present themselves as more sustainable than they are.

BECEPTUM has extensive experience in dealing with complex requirements and regulatory specifications. BECEPTUM provides bespoke solutions to assist companies in meeting the requirements of the CSRD and navigating the evolving landscape of reporting obligations.

You can access our CSRD white paper and CSRD readiness check via our Insights section. These tools can be used to gain further insight into the directive and ascertain which reporting obligations will apply to you and your company in the future.