Jorge Lorenzo and Sito Pons have more in common than their passion for motorcycles: a victory against the tax authorities marred by unquestionable reputational damage, the product of highly mediatic legal proceedings that have dragged on for years until being resolved with acquittals.

After being declared innocent of alleged tax fraud, Jorge Lorenzo even issued a public letter to the media where he denounced the media persecution of the Tax Agency, which according to the pilot, sought his “discredit in front of public opinion”, making him “appear in the media as a fraudster”.

Likewise, the former pilot tells how he had to advance the money they demanded “to avoid seizures and humiliating situations (such as appearing in the defaulters’ lists)”. A “real mockery” that, according to Lorenzo, had a huge impact on his personal life and professional performance.

Both Lorenzo’s case and that of Pons illustrate the huge reputational risks involved in a media judicial process in such notorious people, especially if it is for tax matters, where the technical complexity and the political component condition the story that is generated around the issue.

The reputational risk is increased in these cases because our legal system provides that, “The acts of the Public Administrations subject to Administrative Law shall be presumed valid and shall produce effects from the date on which they are issued” (art. 39.1 of Law 39/2015 of LPAC). In other words, a presumption of validity is granted to all acts of the Tax Agency, regardless of how the case is resolved.

The presumption of validity not only has a legal dimension, but also usually extends to public opinion, whose first reaction is to grant greater credibility to the arguments of the Tax Agency.

Therefore, in these cases it is particularly necessary to have a communication strategy that accompanies the legal strategy, defending the presumption of innocence of the affected party not only in court, but also before public opinion.

In this sense, cases such as that of the former pilots allow us to extract very valuable lessons on reputation management in legal proceedings for tax matters:

1. Coordination with legal strategy. LLYC’s Legal Issues Director, Alba García, an expert in litigation communications, explains that “it is necessary to align the communications strategy with the legal strategy to support the objectives of the affected party both in and out of court. Sometimes, even if an acquittal is issued at the end of the process, the shadow of doubt and the label of ‘fraudster’ prevails.”.

That is to say, even a legal victory is not enough to safeguard reputation.

“Conveying the position of the affected company or individual in an appropriate manner, at the appropriate times and channels, will be critical to balance the coverage around the case and protect the defendant’s reputation with each new milestone throughout the entire legal process,” adds Alba Garcia.

In addition, the technicalities and legal complexity of the regulations in these types of cases often make it difficult for the public to understand what is being judged. Likewise, the general lack of knowledge about the actions of the tax authorities gives the public the feeling that a mere inspection (such as the one that initiated the proceedings against Jorge Lorenzo), opening of a file or inclusion in the list of tax defaulters (in the case of Sito Pons) automatically means that there is fraud.

Sito Pons) means, automatically, that there is fraud.

Therefore, the work of the communication team is to translate these technicalities about the legal regulations and the procedure into a simple language, close and accessible to the public.

2. Preparation and reaction. This type of legal proceedings for tax fraud, and especially in the case of people with a high media interest profile, makes it inevitable that the media echo the accusations by the Tax Agency. In fact, the media pressure in these cases is particularly strong and, often, only the arguments of the accusation transcend. For this reason, the “no comments” strategy is usually not a good option. Otherwise, the “fraudster’s” story will prevail without any reply.

The case of Jorge Lorenzo is a good example. Although it is true that after his innocence was ruled the former pilot has given his version of events in an open letter to the media, Lorenzo kept silent for years. This vacuum caused that during all that time damaging information to his reputation continued to be published, some of which were not even related to the cause of his litigation.

The damage generated during several years of litigation is hardly compensated by a few news items that reflect the position of the affected party only at the end of the process. It is important to have a clear argument with which to respond to each relevant milestone from the beginning of the conflict in order not to be left behind in the narrative.

3. Recovery. Regardless of the outcome of the legal process, once the conflict is resolved, it will be imperative to work on the recovery of trust.

Even in the best of cases, when an acquittal is issued, it is possible that doubt or suspicion will remain in the collective imagination. In other words, winning a tax litigation is not enough; it is important to continue working on the communication level to recover from the reputational damage generated.

The public letter to the media by Jorge Lorenzo is a good example of a communication action aimed at recovering the reputational damage, whose communicative effectiveness is reinforced in this case by the legitimacy provided by a favorable court ruling.

On the contrary, Sito Pons limited himself, as is frequent in many of these cases, to giving his version only at the time of the trial. However, there are other milestones of important media relevance before and after the trial in which, often, the arguments of the prosecution prevail and negatively bias public opinion.

Therefore, once the legal process is over, it is essential to have a medium- and long-term communication plan to regain the trust of all our stakeholders.

On the other hand, it is important to work on the digital footprint. Even after the process is completed, search engine results will continue to return results with harmful news every time we enter our name or that of our company. Fortunately, there are several right-to-be-forgotten actions, in cases that end with favorable judgments, that allow us to remove, de-index or modify this type of information. But even in cases where these actions do not apply, it is also possible to move the negative content with the help of professionals in this field.

(Article written in collaboration with Ana del Pino, Young Talent of the Legal Issues area).

If you are interested in learning about the new risk factors that threaten the reputation of multinationals with regard to their tax activity, we invite you to download: “Taxation and reputation: multinationals in the spotlight.”

“Taxation and reputation: multinationals in the spotlight.

During the last few years, different countries and regions have started to formulate new public measures with the aim of enhancing sustainability, increasing the well-being of citizens and curbing climate change..

One of the most popular measures in this regard has been to employ taxation to reward sustainable behavior, such as with green energy subsidies, and to discourage more polluting practices, for example through carbon taxes.

The latter is the case of the so-called new “Amazon tax”, a new tax that will come into force in Barcelona in 2023 and that taxes the delivery of goods purchased online and delivered at home for “use of public space”. Despite its name, this tax will not only affect shipping giant Amazon, but all large e-commerce postal companies such as DHL, UPS, Seur, MRW or Correos Express, whose gross revenue exceeds one million euros obtained from deliveries to their final destinations.

The objective? As the project states, to encourage proximity commerce and prevent the city from being saturated with delivery vehicles that cause pollution and congestion.

This new tax has been presented as a “David versus Goliath” style measure to support small commerce against the multimillion-dollar multinationals that “did not contribute to the general interest”, according to the Barcelona authorities, who have studied the measure in detail to avoid any legal action by these companies.

A decision that, of course, has generated much controversy and opposition. In Spain, the Spanish Logistics and Transport Business Organization (UNO) warns of possible comparative grievances between regions in Spain. In other countries, such as the United Kingdom, the measure has been directly rejected because of the risk of creating unfair distortions between different commercial models, as well as for fear that it will generate the opposite effect to that intended in terms of decongestion and reduction of pollution in cities if what is achieved is that more and more consumers move physically to make their purchases.

Whatever the case, the reality is that the tax burden is increasing for large multinationals, which are not only taxed under the weight of wealth redistribution, but now also pay more taxes as part of the fight for sustainability.

Regardless of the potential benefits or detriments of this measure, multinationals are increasingly exposed to the presumption of guilt in the fiscal and now also in the environmental dimension. Often, large logistics companies such as Amazon are inherently assumed to be contrary to the general interest and are criticized for being considered to pay little tax or for being highly polluting and contrary to sustainable consumption, regardless of whether they comply with current tax and environmental regulations in the cities where they operate.

Therefore, beyond any legal action they may take against public institutions, it is advisable for companies to make an effort at the communication level to explain how their fiscal model contributes to promoting sustainability and helping local communities. Therefore:

  1. As could not be otherwise, large multinationals must comply rigorously with their tax and environmental obligations, updating and informing themselves about the particularities and legislative trends of each jurisdiction in which they operate.
  2. Similarly, all these companies must really engage in sustainable practices, adapted to their business models and to each place where they operate, contributing positively in each community.
  3. But it is not only worth doing it but also looking like it. In addition to promoting sustainable practices, large multinationals must know how to convey to each of their stakeholders (municipalities and public bodies, consumers, transporters, employees…) how their tax system makes sense in the framework of the specific activity of each of these companies and how their tax and environmental contribution helps to achieve sustainable development objectives.

Whether they abide by these new taxes or, failing that, take legal action against public bodies for imposing them, multinationals will continue to have, and increasingly so as sustainability concerns grow, this image of large unscrupulous companies damaging the general welfare..

Therefore, it is increasingly important that large companies not only comply with their tax obligations and become truly involved in practices that favor sustainability, but also that they are able to explain how their contributions contribute to increasing the social well-being of the communities in which they operate, since respect for sustainability is already expected as a transversal element in all company activities and constitutes a determining factor in their social license to operate.

If you are interested in learning about the new risk factors that threaten the reputation of multinationals with regard to their tax activity, we invite you to download: “Taxation and reputation: multinationals in the spotlight.”

“Taxation and reputation: multinationals in the spotlight.

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Germany was the first country to have social protests of such characteristics, making it virtually impossible today to build, for example, wind farms

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October 16, 2021, more than 15,000 people and 182 associations (according to the organizers) shouting in unison in Madrid’s Puerta del Sol a simple, easy to memorize and repetitive phrase: Renewable yes, but not like this!

That was the slogan chosen by the association Alianza Energía y Territorio (ALIENTE) for one of the most massive protests to date against the installation of wind and solar farms in some provinces of Spain. Since then, demonstrations have been held in different towns and cities of Aragón, Castilla y León, Castilla La Mancha and Andalusia, among others.

The objectives of these mobilizations, which always take place under the aforementioned slogan, thus bringing together a multitude of individuals and groups, are clear: to achieve a distributed renewables model that includes citizen participation and is based on savings, energy efficiency, self-consumption and energy communities, as forms of democratization of energy. In other words, they denounce an “invasion” of their territories through large solar and wind energy projects, “many of which threaten to change the physiognomy of their landscape and their way of life”.

Spain is not the only country with movements against the installation of renewable energies. Germany was the first country to have such social protests, making it practically impossible to build wind farms, for example. German legislation for the installation of this type of infrastructure depends in most cases on local or regional governments, which have now tightened their policies largely due to the social pressure exerted by environmental groups or simply by neighborhood associations in the municipalities and regions in question.

In fact, meeting all the legal requirements for the installation of a wind farm in Germany does not mean that the company in question will be able to install it. Why? Because surely the next step will be a long court battle with the neighbors of the affected localities who, well organized and with clear messages in defense, for example, of birds or landscape conversation, will try to prevent its construction in any way.

The success of these movements

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While it is true that any human activity, ideological current, form of social relationship or belief can generate around it activist movements for or against, we are facing a clear example of new forms of activism or social mobilization.

Firstly, because they focus their objectives on issues of a cultural and symbolic nature related to problems of identity, such as the protection of the ecosystem of the territories where they live. In other words, collective social action has shifted from material struggles, such as protests for better wages, to activism linked to the defense of human rights, ecology or respect for the environment, among others.

Secondly, the movement against the installation of wind and solar farms in some provinces of Spain has understood from the outset that defining a shared purpose that brings together the interests and aspirations of various groups will enable them to get as many voices and stakeholders as possible to support their cause. To speak as they do of “democratization of energy” is a unifying concept that can add many followers to their cause.

And thirdly, and very much in line with the previous characteristic, these activist groups have worked on a broad narrative that they find more mobilizing than when it is linked to a very specific aspect. As with the search for a shared purpose, this broad narrative makes it possible to address the object of the campaign from multiple approaches, bringing together broader points of view and more diverse collectives. That is, the vast majority of mobilizations that take place under the slogan Renewable yes, but not so are not a protest against a specific installation, beyond those that can be made in small towns, but against a model that they consider an “invasion”, thus allowing to address the issue from a broad perspective and involving more people to the cause.

“We want greater citizen participation”

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Beyond the general proclamations and objectives of these mobilizations, there is a constant concern among the individuals who participate in them. The lack of information about these projects or the need for greater citizen participation permanently flutter in the territories where they want to install wind or solar farms.

It is at this point where the companies promoting these facilities must play a fundamental role. Because as we have seen previously in the case of Germany, it is not enough to comply with all the legal requirements to carry out the project, but it is essential to have the continuous approval of the local community and other stakeholders. What is at stake is the Social License to Operate.

To this end, companies can pursue certain strategies that in many cases share common characteristics with those pursued by social movements. For example, having a shared purpose that grants or extends the Social License to Operate and clearly expresses why and for what purpose this company exists and what its contribution to society is.

On the other hand, detecting who the influential actors are, those who have the capacity to mobilize and make decisions, is essential to organize resources, maximize the scope and promote the action of third parties. Precisely this last consideration, promoting the action of third parties, especially in an activist campaign, is essential to achieve the objectives, even if it often involves sacrifices in favor of the result.

Finally, building long-term relationships based on an exchange of mutual benefits and on a broad and shared vision of a variety of issues or objectives is key to carry out any project.

If you are interested in learning more about how to manage projects where activism and community mobilization is a relevant factor, we invite you to download “The Transformation of Activism: what we have learned and what has changed in the era of power of individuals.”

Trying to identify specific messages among all the tangle of noise we find today in the media and on social networks is the perfect definition of looking for a needle in a haystack.

This is a task that can become very tedious without the right digital resources.

The volume of publications, comments, threads, reactions, users, hashtags or reproductions that can be generated in the online sphere turn the digital conversation into a sea of information that is often unnavigable.

When we talk about measuring the reputational damage generated by the conversation on social networks, it is important to resort to artificial intelligence tools if what we are analyzing are considerable volumes of conversation.

Above all, bearing in mind that a fundamental measurement indicator is based on the sentiment of the messages. That is, whether they are harmful, neutral or positive from a reputational perspective.

It is for this reason that data analysis has become an essential part in extracting and identifying those messages in the conversation that may have caused reputational damage. In this sense, data analysis tools work in a way that allows us to:

● Navigate within the total social conversation to identify messages around the issue specific: this task is not always easy, since each platform has its own limitations. For example, Twitter offers more facilities by saving the history of conversations, while on Facebook privacy is more important, allowing less accessibility to the information.

Estimating the real reach of messages thanks to metrics or engagement signals: again, the way to measure the reach of a message in networks will vary depending on the platform. In the case of Twitter, the application’s own metrics (retweets, comments or likes) calculate the reach, while on other platforms it is necessary to measure engagement in order to obtain reliable data.

Economic quantification of the messages detected to estimate the reputational impact caused: this estimate is made through the Equivalent Advertising Value, a criterion used in the world of communication by which each message is assigned an economic value subject to the advertising value of the medium or platform in which it is published.

On the other hand, the usefulness of data analysis is not limited exclusively to social networks.

Sometimes, the volume of media coverage on a issue can also be difficult to manage.

Especially, if what we want is to measure the reputational damage suffered by a person or a company for a particularly mediatic case that has generated a lot of volume of coverage in a short period of time or for anissue that has lasted several years. This is the case, for example, of legal proceedings that drag on for several years giving rise to different peaks of coverage with each new judicial milestone.

In these cases, data analysis can be used to measure the volume of news about the issue, its scope or its relevance, depending for example on the level of prominence of the particular issue in a news story or according to the importance of the media in which it has appeared.

These KPIs are integrated a posteriori into a Communication Value formula that assigns a value to each variable to arrive at an economic quantification of the reputational damage caused.

In any case, these quantitative results must be combined with the qualitative assessment by an expert and multidisciplinary team capable of interpreting the data obtained and defining the relevance of criteria such as keywords, sensitive topics, the use of certain photographs over others or the tone of a news item.

In this sense, reputation expert reports integrate the quantitative conclusions drawn from the data analysis, the resulting economic quantification and the qualitative assessment of an expert team in an example of modern expertise that, thanks to data intelligence, will allow claims for compensation for reputational damage in court.

Article prepared with the collaboration of María Nogales, young talent at LLYC.

To learn more about our methodology for measuring reputational impact as expert evidence, we invite you to download: “Expert reports: how to prove and quantify reputational damage in a judicial process.”

To learn more about our methodology for measuring reputational impact as expert evidence, we invite you to download: “Expert reports: how to prove and quantify reputational damage in a judicial process.

Besides being one of his best-remembered gags, Tip y Coll’s “baja la Bolsa, sube el pescado” has become a kind of inexorable curse. It comes to say that when inflation soars, stock prices plummet and there’s nothing else to do. If anything, stick your head under your wing and wait for the weather to clear. In the face of so much fatalism, communication is often (and can be) the best remedy. Communicating where the problem lies, how to tackle it and how it can reinforce a corporate strategy always pays off.

Market ups and downs are usually temporary, sometimes even cyclical, and good companies tend to hold their own and recover over time, even if they suffer share price slumps at certain times.

As Benjamin Graham said, “Mr. Market is a schizophrenic in the short term, but he recovers his sanity in the long term”, and the father of value investing was right. Possibly the best investment is one that has the focus on the long term and on understanding and understanding the fundamentals of those companies in which one invests and of which one becomes a co-owner through that investment.

The strategy that companies must work on in order to be well positioned in this context obviously involves having a solid, resilient, dynamic and consistent business model, but also the way we present it to the investment community. The strategic communication approach to be followed, based on the company’s value proposition or equity story, should be leveraged mainly on 3 axes:

The company’s value proposition or equity story, should be leveraged mainly on 3 axes:

  1. Business: essentially a company is what it does. It is essential to make our business model known and explain, in detail, why our product or service offers advantages to our customers and the social ecosystem that make it relevant and necessary.
  2. Management: a company is what it does, and also who does it. And especially important, especially for the investment community, is to know who manages it. It is essential for the markets to know the vision of the management, the strategy to be implemented by the company and the final purpose it will seek to achieve from its area of activity.
  3. Fundamentals: a company is what it does, and also who does it.
  4. Fundamental: the reliability of our business model should not come exclusively from our ability to meet the commercial objectives set. From the inside, the company must have an impeccable balance sheet, which will also be one of the key messages in the corporate narrative.

The communication strategy that companies develop today, are the future reflection of how their stakeholders will perceive them in the future, and the activation of the appropriate channels and messages in the implementation of this strategy, a critical issue.

Walking the tightrope

And it is precisely in one of those moments of uncertainty and distrust in the markets in which we currently find ourselves. According to Refinitiv data, as of October 20, 2022 the main Spanish stock market index, the Ibex 35, is trading at 7,619 points, down -13.04% year-to-date (or Year to date – YTD). For reference, the S&P500 is trading YTD at 3,695 points, down -22.96%; the Nasdaq at 10,680, down -32.54% YTD; and the Euro Stoxx 50 is trading at 3,468 points, down -19.94%.

It is not surprising considering all the uncertainty and volatility that, almost by now we are used to, we are having to live and experience in recent years: pandemic, war in Ukraine, energy prices, etcetera, coupled with a scenario of rising interest rates not seen in the last decade.

With regard to the companies that make up this index, the discount at which they are trading compared to the consensus price of the stock market analysts who regularly cover them is, on average, 26%.

Currently, all Ibex 35 companies are trading at a discount (except for the taken-over Siemens Gamesa and Naturgy), with prominent players such as Santander (-33%), Cellnex (-47%), Grifols (-59%), Arcelor Mittal (-44%) and Laboratorios Rovi (-41%), to name just a few.

All the major sectors represented in the Ibex 35 are experiencing a similar situation:

Ibex 35 average discount ¹ -26%
Sectors
Banking -22%
Energetics -15%
Industry and Construction -29%
Pharma -45%
Leisure and tourism -27%
Technologies -34%

In a situation like the one we are in, what should these “good companies” do to get over the hump? How should they approach their positioning strategies in the medium and long term?

The answer is clear: it is time to forget about the daily share price and focus on moving our current value proposition forward. Once the market’s pace changes and investors return to the arena hungry for opportunity and profitability, with full portfolios and a mandate from their clients to move and grow their wealth, their eyes will be drawn to the best-positioned options.

In a globalized and fully democratized world in terms of access to content, where the line between official and unofficial sources of information is increasingly blurred, those organizations that want to reach their investors, shareholders and key target audiences will need to have a clear and defined strategic vision, with the help of the best experts in the development of reputational positioning in the markets.

Back to the references to value investing, in the words of one of Spain’s leading asset managers, Francisco García Paramés, “investment is a long-term business where patience is the key to profitability.

If investment, like management, should focus on the long term, so should the strategic reputational vision and positioning of companies. And now, right now, is the time to be brave, grit our teeth, and work with an eye to our future recognition.

¹ Data collected from the Refinitiv financial reporting platform as of October 20, 2022.

Article prepared by Ignacio Colmenero, senior consultant in Financial Communication at LLYC.

The proliferation of situations that are neither controllable nor predictable by companies and that directly affect their activity is beginning to become one of the characteristics of our times. COVID-19, the latest war events, the upward trend in energy sources and prices, among others, condition the reputation of brands and their future.

Reputational risk and damage to the corporate brand have become one of the main threats facing organizations. According to AON’s annual global risk results, these intangibles are becoming as important as traditional risks such as economic slowdown or regulatory changes.

Main risks faced by an organization

Building a good reputation and brand positioning requires making commitments on issues relevant to citizens and delivering on them. That is to say, to respond with clear commitments to the expectations of stakeholders, integrating their expectations into the business.

Among the different aspects that build a good reputation, sustainability and ESG criteria have grown significantly. According to global studies on corporate reputation, around 40% of an organization’s reputation depends on them. Many studies show a direct relationship between ESG and reputation, especially in areas such as purchase intention.

At Corporate Excellence – Centre for Reputation Leadership, the business platform that I have the honor of leading, we observe how sustainability and ESG criteria are integrated as mechanisms for preventing non-financial risks that affect the global reputation of organizations.

Deforestation, gender or sexual orientation discrimination in the workplace or the absence of labor rights are some examples of bad practices that in the past caused major reputational crises and that today would threaten the survival of any brand. This is one of the few certainties in this complex context: stakeholders do not only pay attention to financial factors.

But two other factors are driving an acceleration of sustainability:
the regulatory boom and the demands of investors. Many experts are even calling it a sustainable regulatory tsunami.

Sustainability is an intangible with a high impact on reputation and credibility. It is a strategic element for identifying opportunities and creating value. Therefore, it goes beyond the efficient management of natural resources, and speaks of the business reality in a triple aspect: environmental, social and governance. Managing in this triple dimension broadens the company’s license to operate.

Everything suggests that ESG risks will continue to grow in importance. While the World Economic Forum identifies climate as one of the main long-term risks, it highlights social divisions, resource crises and mental health as short-term challenges.

Managing non-financial risks is a strategic imperative, and managing them requires assessing the reality of the organization, identifying changes in stakeholder expectations and establishing a risk map that enables organizations to make decisions. I therefore believe that reputation management and sustainability will increasingly go hand in hand and that their presence in corporate strategies is becoming a determining factor for the future of organizations.

The second law of thermodynamics states that the entropy of the universe increases with time. In other words, energy tends to disperse. Something similar may be happening in the regulatory development of ESG (Environmental, Social and Governance) issues.

At present, more than 30 jurisdictions, overseeing 12 major markets, are developing regulatory proposals on sustainability reporting around the world. Several regions are developing their own taxonomies of sustainable finance. More than half a dozen central banks are developing bank climate stress tests and myriad other regulatory pieces involve elements such as carbon taxation, supply chain responsibility, waste, circular economy and so on.

The regulatory development of the ESG agenda may be great news, as long as it draws an orderly, homogeneous and consistent framework across regions and markets. On the other hand, it can be a nightmare if these rules of the game are incompatible or at least inconsistent across regions. Where are we right now?

On the consistency side, we can highlight two ideas. On the one hand, that ESG regulation at the global level has a clear focus on capital markets. Proof of this has been the recent takeover of the creators of financial standards on the future of sustainability reporting, where both EFRAG in Europe and IFRS will present their work proposals this year. In the European case, for example, the Commission plans to adopt its standard in October for entry into force in 2024. A second element of consistency has to do with climate prevalence. This is the regulatory area that is making the fastest progress thanks to the broad scientific, political and business consensus on the subject.

However, as we move out of the climate arena we test the limits of the consensus. Proof of this has been the systematic postponement in the presentation of the European sustainable governance package that incorporates a proposal for a directive on environmental and social due diligence, as well as a specific regulation regarding the duties of board members.

From a geographical point of view, another major element of fragmentation has to do with the difference in the European ESG regulatory approach compared to other jurisdictions on three fronts. (i) At the objective level, the European approach aims to influence the market by facilitating the financing of the transition to a sustainable economy, while other regions focus on generating transparency for better decision making. (ii) The definition of materiality diverges. While Europe has coined the concept of dual materiality – reporting those aspects that are material from both a sustainability and financial point of view – other jurisdictions use a simple materiality approach (financial in nature) limiting ESG aspects to risk management. (iii) The degree of stringency is different. Europe has long since abandoned the comply-or-explain principle to become mandatory, other jurisdictions remain anchored in the soft regulation approach.

Predicting the future is always complicated, but we can draw two possible scenarios. One in which European leadership in ESG aspects prevails, as is happening in other areas such as digital rights. Another in which entropy ends up diluting the efforts of sustainability actions due to fragmented regulation. Probably the balancing factor will be the ability on the part of the EU to execute a more orderly regulatory timetable, allowing the market to digest the ESG regulatory tsunami. Sustainability is at stake. The second law of thermodynamics states that the entropy of the universe increases with time. In other words, energy tends to disperse. Something similar may be happening in the regulatory development of ESG (Environmental, Social and Governance) issues.

At present, more than 30 jurisdictions, overseeing 12 major markets, are developing regulatory proposals on sustainability reporting around the world. Several regions are developing their own taxonomies of sustainable finance. More than half a dozen central banks are developing bank climate stress tests and myriad other regulatory pieces involve elements such as carbon taxation, supply chain responsibility, waste, circular economy and so on.

The regulatory development of the ESG agenda may be great news, as long as it draws an orderly, homogeneous and consistent framework across regions and markets. On the other hand, it can be a nightmare if these rules of the game are incompatible or at least inconsistent across regions. Where are we right now?

On the consistency side, we can highlight two ideas. On the one hand, that ESG regulation at the global level has a clear focus on capital markets. Proof of this has been the recent takeover of the creators of financial standards on the future of sustainability reporting, where both EFRAG in Europe and IFRS will present their work proposals this year. In the European case, for example, the Commission plans to adopt its standard in October for entry into force in 2024. A second element of consistency has to do with climate prevalence. This is the regulatory area that is making the fastest progress thanks to the broad scientific, political and business consensus on the subject.

However, as we move out of the climate arena we test the limits of the consensus. Proof of this has been the systematic postponement in the presentation of the European sustainable governance package that incorporates a proposal for a directive on environmental and social due diligence, as well as a specific regulation regarding the duties of board members.

From a geographical point of view, another major element of fragmentation has to do with the difference in the European ESG regulatory approach compared to other jurisdictions on three fronts. (i) At the objective level, the European approach aims to influence the market by facilitating the financing of the transition to a sustainable economy, while other regions focus on generating transparency for better decision making. (ii) The definition of materiality diverges. While Europe has coined the concept of dual materiality – reporting those aspects that are material from both a sustainability and financial point of view – other jurisdictions use a simple materiality approach (financial in nature) limiting ESG aspects to risk management. (iii) The degree of stringency is different. Europe has long since abandoned the comply-or-explain principle to become mandatory, other jurisdictions remain anchored in the soft regulation approach.

Predicting the future is always complicated, but we can draw two possible scenarios. One in which European leadership in ESG aspects prevails, as is happening in other areas such as digital rights. Another in which entropy ends up diluting the efforts of sustainability actions due to fragmented regulation. Probably the balancing factor will be the ability on the part of the EU to execute a more orderly regulatory timetable, allowing the market to digest the ESG regulatory tsunami. Sustainability is at stake. Brace yourselves because there are curves ahead.