Erb Institute Toolbox: Materiality Assessment

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Materiality Assessment


Contents Introduction + Business Case.............. 1

Materiality Assessment

Materiality Definitions.......................... 2 How To Identify What Matters Most......................................... 4 Important Considerations and Vignettes............................................... 8 Resources.............................................. 9 Appendix............................................. 10

Materiality Assessment


Introduction + Business Case This toolbox is a part of a series of toolboxes designed by the University of Michigan’s Erb Institute to inform and aid a wide variety of sustainability practitioners. Materiality Assessment comes after, and builds upon, the foundational concept of Stakeholder Engagement. This toolbox presents Erb’s vision of materiality assessment’s role in sustainability and describes a strategic approach to assessing materiality in an organizational context. We designed the toolbox to be relevant irrespective of geography, industry, organization size or budget. Topics we’ll cover include:

materiality definitions:

how to identify what matters most to your business in terms of:

important considerations:

including those used

external stakeholders

such as internal and external

in financial reporting,

business objectives

stakeholder engagement

sustainability reporting and

time dimensions of materiality

practices and organizational

ensuring a triple-bottomline approach is used

sustainability strategy


Toward the end of the toolbox, you’ll find vignettes

be expended to address the narrower scope. But that’s

and a list of additional resources.

only part of the value of a materiality assessment.

A word on the business case for assessing materiality:

At a minimum, an investment in assessing

Companies have learned that identifying, understanding, dealing with and reporting on the multitude of economic, environmental and social risks and opportunities associated with business is a resource-intensive, necessary endeavor. So it’s become necessary to be able to narrow the

materiality will:

• appropriately deploy resources to identify and mitigate risks and exploit opportunities • create additional opportunities for engagement with key stakeholders (both internal and external)

what’s relevant—that’s materiality assessment. The

• help align disparate business functions around sustainability issues that affect the enterprise

ROI for materiality assessment likely is not entirely

• spot trends

scope of possible issues by identifying and analyzing

quantifiable in an economic sense, except perhaps to compare what financial resources would be expended if all identified issues were addressed vs. what would

• facilitate sustainability-related reporting and communications



Materiality Definitions


For better or worse, the terms “materiality” and “material” can mean different things in different contexts. Separate but similar concepts of materiality have grown out of:

financial accounting and reporting frameworks, including GAAP

sustainability accounting frameworks, including SASB

sustainability reporting frameworks, including GRI

sustainability assurance frameworks, including AA1000 and others

Let’s take a look at those definitions; we’ll want to refer to them when we talk about the steps for assessing materiality.

MATERIALITY IN FINANCIAL ACCOUNTING AND REPORTING How is something economic to be considered “material” in the context of reporting a company’s financial performance? • In the U.S., publicly traded companies must disclose “material” financial information to current and potential investors in all federal regulatory filings. (Some states with filing obligations have a similar requirement.) ɗɗ Something is financially “material” if it would influence the investment decision of a “reasonable” investor. ɗɗ It’s not uncommon to consider 5% of a company’s revenue or 5% of a company’s total assets to be material, although lesser amounts are usually considered material if they would have swung the business to a financial loss from a profit. ɗɗ Under this definition, materiality is directly related to size. • Under GAAP, accounting standard provisions do not have to be implemented if the item is “immaterial,” which is generally considered to mean having a sufficiently small impact on financial statements that a reader would not be misled. Since auditors’ opinions on financial statements are


based on GAAP, accounting firms generally adhere to this concept of materiality when rendering opinions. • International Financial Reporting Standards (IFRS), which govern financial accounting requirements and are the basis for financial disclosure in many non-GAAP countries, say that: ɗɗ Information is material if its omission or misstatement could influence the economic decisions of users, taken on the basis of the financial statements. ɗɗ Materiality depends on the nature and amount of the item judged in the particular circumstances of its omission or misstatement. ɗɗ Given the pervasive nature of materiality, it is difficult to consider the concept except as it relates to the qualitative characteristics of relevance and faithful representation. ɗɗ Materiality is a screen or filter used to determine whether information is sufficiently significant to influence users’ decisions in the context of the entity, rather than as a qualitative characteristic of decision-useful financial information.

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IFRS is undertaking a special project to study materiality in financial contexts. See IASBProjects/Disclosure-Initiative/ Materiality/Pages/Home.aspx

Materiality Assessment

MATERIALITY IN SUSTAINABILITY ACCOUNTING Created in 2011 in part to address the move toward “integrated” reporting (that is, simultaneous reporting of financial, environmental and social performance), the U.S.-based Sustainability Accounting Standards Board (SASB) ( has undertaken to develop sector-based sustainability accounting standards to guide disclosure of sustainability-related information to investors in publicly traded corporations. SASB’s standards, which are harmonized with other sustainability-focused standards, are becoming the de facto framework for sustainability accounting. SASB standards refer to the U.S. Supreme Court definition of materiality—the definition used in financial accounting, discussed above. The sustainability accounting concept of materiality is intentionally aligned with the financial accounting concept. While every company is ultimately responsible for deciding what is material in its particular situation, SASB’s sector-based approach is based on the belief that each sector experiences enough commonality in terms of sustainability that it can safely develop a minimum set of sustainability issues most likely to constitute material information for companies operating in that sector. SASB intended to have developed sustainability accounting standards for about 80 industries in 10 sectors by the end of 2016.

MATERIALITY IN SUSTAINABILITY REPORTING Does materiality mean the same thing to readers of reports as it does to investors? This issue has been addressed by the Global Reporting Initiative (GRI) ( in its several iterations of sustainability reporting frameworks (currently, “GRI 101: Foundations 2016”). To GRI, materiality means relevance, in the sense that relevant topics are those that may “reasonably be considered important” for reflecting the business’s economic, environmental or social impacts or influencing the assessments or decisions of organizational stakeholders. A company’s treatment of materiality should also reflect the influence of international standards and agreements by which the company is bound. This concept is broader than the approach accounting standards take. GRI believes that sustainability reporting is done in the context of communicating

and deciding what affects the business’s ability to meet current needs without sacrificing future needs, not influencing investment decisions. GRI wants companies to report both risks and opportunities, which can help stakeholders understand whether the business creates, preserves or erodes value. As a test for properly using materiality in reporting, GRI suggests the organization consider internal and external factors such as: •

broader economic, social and/or environmental interests and topics raised by stakeholders such as workers who are not employees, suppliers, local communities, vulnerable groups and civil society

future challenges for a sector, as identified by peers and competitors

key organizational values, policies, strategies, operational management systems, goals and targets

consequences for the organization that are related to its impacts on the economy, the environment and/or society (for example, risks to its business model or reputation)

MATERIALITY IN SUSTAINABILITY STRATEGY The range of possible sustainability work in any one business is vast—economic, environmental and social issues play out in company operations and throughout value chains. Sustainability practitioners need a way to prioritize their work. Materiality assessment is a prioritizing tool that: • winnows the scope of possible work areas to those that are of concern to key stakeholders • directs resources to appropriate initiatives and projects • aligns sustainability strategy with enterprise risk and opportunity, and ultimately the core business model • facilitates trend spotting A materiality assessment is developed at one particular point in time, so its results are constrained by the circumstances existing at that point. It’s essential to remember, however, that sustainability issues, stakeholders and business objectives change over time. Companies must perform sustainability-related materiality assessments on a regular basis to properly guide strategy. Think of assessing materiality as essentially iterative in nature. MATERIALITY ASSESSMENT | NOVEMBER 2017


How To Identify What Matters Most


This section of the toolbox outlines a standardized process for assessing sustainability-related materiality in a business context. The end product of the process is a “materiality map” (or “materiality matrix”) that informs sustainability strategy. While the process we present is standardized, you’ll likely customize it to fit your company’s business model, culture and circumstances. Despite the ongoing development of a common approach to materiality assessment, companies do not apply it in a rote way; some businesses take an organic view of assessing materiality.

Step 1

UNDERSTAND YOUR PURPOSE(S) FOR ASSESSING The first step in materiality assessment involves gaining a thorough consideration of your purpose(s) for undertaking the analysis. For example, you could use the results to build strategies to: • mitigate key economic, environmental or social risks in your supply chain • develop customer-facing opportunities related to product features • improve communications and reporting on non-financial business matters • exploit trends that could represent either risks or opportunities Having a clear understanding of your purpose(s) is a precursor to creating your own definition of “material” (see the discussion above). It will also help identify the primary audience for the outcome of the materiality assessment process. For example, if you intend to create an integrated report that will be filed


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with U.S. regulators and also distributed to stakeholders, numerous regulators and lawyers have commented on the unique nature of materiality in the context of financial reports that are filed with regulatory bodies. In fact, some have cautioned against using the term “material” and instead suggest using words like “important,” “significant” or “relevant” when talking about sustainability.1 This ongoing dialogue is beyond the scope of this toolbox, but it highlights the importance of clearly understanding your purpose(s) for assessing materiality.

Despite the caution urged by financial regulators and


others, we’ll use the terms “materiality” and “material” throughout this toolbox. You might consider substituting other terms such as “relevant,” “important” and “consequential” in non-financial contexts.

Materiality Assessment

Step 2

SET YOUR SCOPE, CRITERIA AND TIME HORIZON Before considering and analyzing issues with stakeholders: A. Decide which parts of the business are to be included in the assessment (set your “boundary”): • • • • •

geographic considerations internal business units upstream supply chain downstream distribution network joint ventures, subsidiaries and partnerships. (Here, you’ll decide by choosing ones over which you have operational control or own a significant/ majority ownership stake.)

C. Set a time frame for your materiality assessment. Certainly, issues within a one-year horizon should be considered. But is something that will occur five years out material today? 50 years? In a rather infamous 2010 public letter (Release Nos. 33-9106; 34-61469; FR-82, available at, the U.S. Securities and Exchange Commission (SEC) told reporting companies that climate change impacts might be considered material in some businesses irrespective of the time frame. When pressed to offer a more useful bright line, the SEC declined.

B. Agree on a definition of “material”—your criteria for inclusion in sustainabilityrelated initiatives and/or reporting. Refer to the definitions above.

Step 3

IDENTIFY BUSINESS DRIVERS AND OBJECTIVES In this step, identify your company’s primary business drivers and objectives, looking internally to gain understanding of what’s important in your particular situation. Review material and engage key internal stakeholders who can help identify: • areas of business risk

Make a written list based on this review. You may want to transfer the list to an Excel spreadsheet, where you can assign weighted value to each driver or objective and then sort by rank order. Or you may use any similar methodology to “score” your company’s business drivers and objectives.

• drivers for opportunities for growth (new markets, new products/services) • specific objectives for mitigating risk and exploiting opportunity



Step 4

CAPTURE AND RANK AREAS OF CONCERN This step winnows the scope of sustainability issues by identifying and analyzing economic, environmental and social issues in terms of stakeholder concern/interest. Here is the process to follow to identify and rank areas of concern:

ɗɗ Meet with internal stakeholders in focus/working groups to discuss issues. ɗɗ Capture information about external stakeholders from internal stakeholders who interface with them (such as procurement for suppliers, marketing for customers, and legal for regulators and NGOs).

• Select internal and external stakeholders whose input will inform the materiality analysis.

ɗɗ Engage in one-on-one dialogue with select external stakeholders to validate their views on issues.

• Enable identified stakeholders to inform your analysis of the economic, environmental and social issues, capturing information on their perspectives. Stakeholder participation in your analysis may take many forms:

ɗɗ Define a methodology for scoring, and score each issue in terms of stakeholder interest, which gives you a rankordered list of areas of concern.

ɗɗ Review publicly available information on external stakeholders to capture their views.

Step 5

MAP CONCERNS AGAINST IMPORTANT BUSINESS DRIVERS In this step, create a visual representation, usually called a “materiality map,” of each sustainability issue, ranked on two dimensions: • level of stakeholder concern/interest (derived from Step 4) • relation to important business drivers and objectives (derived from Step 3)

You may create this map using visualization software, flip charts with sticky notes, whiteboards or whatever you feel will enable the best result. Irrespective of the process you use: 1.

Create a diagram with an X axis labeled “Importance of Business Drivers/ Objectives” or a related term and a Y axis labeled “Level of Stakeholder Concern” or a related term.

2. Using the scores you developed for each business driver/objective and area of concern and each business driver, place the issue on the diagram in the appropriate place.


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Materiality Assessment

Here is an example of a materiality map, taken from a recent materiality analysis undertaken by AT&T:


In this example, you will see that economic, environmental and social issues are plotted against the two scales. This visual representation provides valuable information as to: • overall relative priority of the issues—identifying true areas of concern • issues with common prioritization ranks • Note that there are four quadrants to AT&T’s materiality map, which is a typical approach. Each quadrant will dictate a common approach to the areas of concern plotted in that quadrant. Often: ɗɗ Issues in the lower left quadrant are monitored and trends are noted because neither business objectives nor stakeholder concerns are high; little or no engagement is planned around these issues. ɗɗ Issues in the upper left quadrant will require more engagement and a communications plan to satisfy concerned stakeholders.

ɗɗ Issues in the lower right quadrant are monitored closely internally, without much engagement of or communications to external stakeholders, because of the significant correlation of these issues with business drivers/objectives. ɗɗ Issues in the upper right quadrant necessitate real engagement by internal business functions and regular reporting and communications to key external stakeholders, to both manage the issues and engage meaningfully with concerned stakeholders.

This is one of the real values of the materiality assessment process— facilitating common management, engagement and communications approaches to areas of concern based on their relevance to your situation.



Important Considerations


Keep these three things in mind to achieve a robust materiality assessment: 1.

Stakeholder identification and engagement are key to success, so ensure that you’ve completed the necessary steps related to identifying stakeholders before beginning the materiality analysis. While you may have engaged with some of these stakeholders on sustainability in initiatives outside of the materiality analysis, for some, this will be the first time their views on issues are taken into account. Make the engagement meaningful, two-way and respectful—particularly with external stakeholders who may not share your business’s culture or viewpoint.

2. Just as important is finding and engaging the right internal resources to help you identify business drivers and objectives. Functions that should be involved include operations, supply chain, product development, sales and marketing, finance and HR. 3. Sustainability-related materiality assessment, especially when new to a business, can stretch organizational capacity both when it’s done and when the company acts on its results. Be sure you have a good understanding of (a) your company’s capacity to collect, manage and analyze economic, environmental and social data from a wide variety of sources and (b) the resources you’ll need to implement a strategy based on the results of your assessment. But, for now, don’t let concerns about resource requirements enter into the materiality assessment process—those issues are dealt with in strategy and implementation.



Unilever has taken a strategic approach to materiality assessment since developing its sustainability plan in 2009-2010. Unilever assesses materiality in terms of: • “The degree to which an issue is aligned with our vision and purpose, brand portfolio and geography. • The potential impact on our operations, or on our sourcing and consumers. • The extent of Unilever’s influence on the issue. • The importance of an issue to our key stakeholders.” The result of Unilever’s assessment led to the identification of 15 specific areas of concern, covering economic, environmental and social aspects of sustainability. Read more at:

Nestle’s 2014 review of its initial materiality assessment included a refined approach to the process. Changes from the initial process included: • engaging a broader group of stakeholders • focusing on the value chain • taking into account the concerns of the socially responsible investment community • a more thorough assessment of impacts on the business • use of an outside consultant and auditor to guide the process and validate results It’s a very interesting read:


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Materiality Assessment


Resources Here’s a selective list of additional resources for your consideration, should you want to learn more about sustainability-related materiality assessment:

SASB has an extensive discussion of its materiality assessment methodology:

The Global Reporting Initiative tackles the question of materiality in the context of sustainability reporting in two white papers available at:

The consulting arm of KPMG has a guide to materiality assessments: IssuesAndInsights/ArticlesPublications/Documents/materiality-assessment.pdf

The consulting arm of EY has a document on materiality: EY-lets-talk-sustainability/$FILE/EY-lets-talk-sustainability.pdf

Accountability’s materiality guide is interesting. In particular, take a look at page 22 at:






Level of Stakeholder Concern





Impact on Business Drivers


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Materiality Assessment





Materiality Assessment





Robert W. Kuhn, Kuhn Associates Sustainability Advisors LLC

Dr. Joe Árvai Faculty Director, Erb Institute for Global Sustainable Enterprise

November 2015

Dr. Ravi Anupindi Professor of Operations Management and Research, Stephen M. Ross School of Business Terry Nelidov Managing Director, Erb Institute for Global Sustainable Enterprise

© 2017 by the Regents of the University of Michigan

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