In common language, “materiality” could be replaced with “importance” or “relevance.” In a business setting, however, the word has greater significance; no adequate substitute is available. In this context, materiality is not a binary characteristic, or even a one-dimensional spectrum; instead it lies in a two-dimensional array.
Materiality has been defined in a multitude of ways by numerous organizations. Though these organizations have developed their definitions independently, to serve their own purposes, there is a great deal of overlap in both. Perhaps the simplest and, therefore, most broadly-applicable description of materiality was provided by the GHG Protocol:
“Information is considered to be material if, by its inclusion or exclusion, it can be seen to influence any decisions or actions taken by users of it.”
Recognizing the proliferation and potential risk of divergent definitions, several organizations that develop corporate reporting standards and assessments published a consensus definition in 2016:
“Material information is any information which is reasonably capable of making a difference to the conclusions reasonable stakeholders may draw when reviewing the related information.” (IIRC, GRI, SASB, CDP, CDSB, FASB, IASB/IFRS, ISO)
The consensus definition is still somewhat cryptic, only alluding to the reason for its existence – corporate financial and ESG (Environmental, Social, Governance) reporting. As much can be surmised from the list of signatory organizations as from the definition itself.
A materiality matrix is a pictorial presentation of the assessments of topics on two dimensions or criteria. It can be presented as a 2 x 2 matrix, such as that in Exhibit 1; slightly increased granularity is provided by a 3 x 3 matrix, as shown in Exhibit 2. Granularity at its extreme results in a conventional two-dimensional graph, such as that in Exhibit 3.
As seen in this set of examples, axis titles can vary. The choices made may be dependent upon the company’s common language, the purpose of the assessment, or type of report to be prepared. For simplicity and consistency, the following convention will be followed throughout the following presentation:
Horizontal (“X”) axis – Impact on Business
Vertical (“Y”) axis – Importance to Stakeholders.
This phraseology is equally applicable to financial and ESG reporting, simplifying implementation.
Types of Materiality
The generic definitions of materiality presented in the introduction refer to “single materiality.” The two types of single materiality, commonly labeled “financial” and “impact” (ESG or sustainability) materiality, have already been mentioned.
“Double materiality” refers to information relevant to both financial and impact materiality reports. The degree of materiality may differ between types for a particular topic, and often does. Nonetheless, if information is deemed material in both contexts, it is said to exhibit double materiality.
Different users of reported information may require varying levels of detail to apply it appropriately. This situation has been dubbed “nested materiality.”
“Core materiality” has been introduced as an umbrella term for three common material matters – greenhouse gas emissions, labor practices, and business ethics. The term was coined as a reflection of the nearly universal materiality of these topics across varied industries. Each represents one component of ESG – environmental (GHG), social (labor), and governance (ethics).
“Extended materiality” considers impacts on portions of the value chain outside the assessor’s control. Understanding upstream (i.e. supply chain) and downstream (i.e. marketplace) impacts better informs one’s own materiality assessments.
“Dynamic materiality” is the term used to describe the changeable nature of materiality over time. It is the reason that materiality assessments should be repeated periodically. Materiality is in flux; previous assessments may no longer be valid.
Conducting a materiality assessment is a structured exercise involving a variety of people throughout an organization. Descriptions of the process vary, but there is a high degree of agreement about the content and purpose; a seven-step process is presented here. The steps are: Prepare, Brainstorm, Categorize, Assess, Plot, Validate, and Publish. A description of each follows.
Prepare. Preparation for a materiality assessment is similar in many ways to that for various other types of projects. Much of the effort required involves defining the assessment to be conducted. Definition includes, but need not be limited to:
Brainstorm. This step can be conducted in a brainstorming session as typically described, or less literally, as a period of information gathering. All available sources of information should be considered to compile a list of potentially material topics. This can include existing mechanisms of communication, such as a website inquiries, sales and marketing interactions, shareholder calls, customer service call centers, or other established channels. Surveys, questionnaires, or other information-gathering techniques can also be used specifically to support a materiality assessment. The methods and tools used should be identified in the assessment process definition.
Topics that trends suggest may be material in the future should also be captured, even if they do not currently meet the criteria. Doing so will facilitate future assessments, as previous assessments serve as a key source of potential topics. Inexperienced members of an assessment team may be unsure where to look for potential materiality. Fortunately, there are tools available to assist in this research, including:
Categorize. Arrange potential topics in groups that facilitate further research and assessment. Groups could reflect the department, region, or other division to which each topic is most relevant. If a different set of categories is a better fit with the team and organization structure, define the preferred classification scheme in the assessment process to ensure all team members view the information through the same lens. See Vol. VII: Affinity Diagram (8Feb2023) for additional guidance.
Assess. Evaluate each topic on the dimensions of Impact to Business and Importance to Stakeholders according to the scales and scope defined during preparation. Conduct additional research, if required, to quantify the impacts as accurately as possible. It is imperative that each topic be assessed consistently in order for the materiality matrix to accurately represent the state of the business.
The International Integrated Reporting Council (IIRC) guidelines for conducting an assessment include several perspectives from which each topic should be viewed and other factors that may influence the magnitude of impacts. Assessment teams are advised to consider both quantitative and qualitative factors. Quantitative factors may be direct measures of financial impact, but could also be represented by percentage changes in sales, yield, or other performance metric. Qualitative factors are those that “affect the organization’s social and legal licence [sic] to operate,” including reputation and public perception. These can be effected by the discovery of fraud, excessive pollution, workplace fatalities or illness, or other violations of “social contracts.”
Both the area and time frame of impacts should be considered. The area of an impact refers to it being internal or external to the organization. Internal impacts include matters involving the continuity of operations and other disruptions that effect the organization directly. External impacts include matters that effect stakeholders who then exert pressure on the organization in various ways. These may include reputational damage, higher cost of capital, or the availability of required resources.
An impact may have a short-, medium-, or long-term effect on an organization. Short-term impacts are immediate and usually recoverable, such as an accident or spill. The definitions of medium- and long-term vary among industries, but “average” or typical time frames used are 3 – 5 years and 5+ years, respectively.
Medium-term impacts may include resource depletion, contract or license expiration, or other foreseeable change in an organization’s operating environment. Long-term impacts are often associated with technology development and related regulations, such as renewable energy, electrification of transportation, and artificial intelligence. The longer the time horizon, the more difficult it is to predict the nature and magnitude of the impact that will be experienced and, therefore, stakeholders’ perceptions.
The IIRC’s recommended perspectives are:
Compare each topic’s assessment to defined threshold values to determine which will be included in the materiality matrix and related reports. If thresholds have been established by Enterprise Risk Management, they should also be applied to the materiality assessment.
Various thresholds can be defined, both financial and non-financial. The IIRC references several:
Plot. Create a pictorial record of the assessment in the format(s) defined during preparation. The number of material topics, range of impacts, documentation standards, and other organizational norms may influence the format of the materiality matrix. In the example shown in Exhibit 5, UPS differentiates between impact areas and trends that have significant influence on the business and, therefore, must be watched closely. As shown in Exhibit 6, Unilever has chosen to identify five categories that cover a range of ESG topics. Note that both present assessment results on a qualitative scale only; businesses are loath to publicly divulge financial information, lest competitors gain an advantage. Unilever has even excluded items of “low” materiality – those that did not exceed a defined threshold – from the matrix.
Multiple matrices can be created for different purposes, such as one for a financial report, one for a sustainability report, and a composite matrix for a shareholder report. Exhibit 7 provides an example of separate matrices for reporting and strategy decisions. Combining them results in the composite matrix shown in Exhibit 8. If each marker on the graph were identified by a label, as is the “GHG Emissions” example, the matrix would be cluttered and difficult to read.
To prevent visual overload, an alternative format, such as that shown in Exhibit 9, could be used. In this example, each topic is identified by a number and its context – financial or sustainability – by the color of the marker. An expanded legend or accompanying table (not shown) identifies each topic. The information contained in an expanded legend, most often, is a short name (e.g. “GHG Emissions” in the previous example), while an accompanying document can contain detailed descriptions of the company’s investments, strategy, and other plans. A public presentation is likely to contain the former, while the latter would be prepared for a meeting of executives or directors.
Validate. Engage both internal and external stakeholders to assess the validity of the materiality matrix. This step can be as simple as an informal “gut check,” where stakeholders opine on the absolute and relative ratings of material topics, accepting the matrix if it “feels right.”
More-sophisticated evaluations involve comparisons of the assessment team’s ratings with those based on independently-acquired data. The team may be challenged to defend its ratings by presenting supporting data and demonstrating the assessment process. The objective of such challenges is to evaluate and confirm the strength of evidence and, thus, justify a topic’s position in the matrix.
When additional data and critical review require it, adjustments are made to ratings and the matrix is updated. Upon completion of the review and validation to stakeholders’ satisfaction, the materiality matrix, accompanying document, and report are finalized.
Publish. The level of detail included in published reports varies, depending on the intended audience. As mentioned previously, public disclosures may be limited to an overview, while internal management documents contain far more information, in both breadth and depth. Typical components of a materiality assessment report include:
Materiality and Strategy
“Strategy” is a very broad term, often clarified by a modifier such as “operations,” “marketing,” or “investment.” Each of these, and more, can be influenced by a materiality assessment. Examples of decisions that may be effected include:
The third component, influence, refers to an organization’s ability to effect the impact of a material topic on its stakeholders. If an organization lacks capability, its strategy may focus on risk management, development of capabilities needed to reduce the impact, technology advancement that modifies the materiality landscape, or other method of compensation.
The key takeaway is this: even a high-impact topic that is highly salient to stakeholders (i.e. upper right of the materiality matrix) may not be a high priority; the lack of influence simply renders effort futile. Presenting this accurately and transparently is crucial to maintaining stakeholder trust and support.
Another facet of influence is an organization’s ability to effect stakeholders’ perceptions of a topic. If stakeholders’ assessments of materiality are based on faulty research, corrupted data, etc., correcting the record is perfectly noble. However, the potential for nefarious use of influence also exists. For example, ethically-challenged individuals may choose to inappropriately downplay a material topic, mislead stakeholders, or divert attention from a management failure. Even when used righteously, the practice may be considered manipulative, fostering skepticism and resentment. It is mentioned here because the presentation would be remiss without it; its inclusion is intended to serve as a strong warning. Influence should be used in this way rarely and with extreme caution.
The unassuming appearance of a materiality matrix belies the intensity of research and analysis required to make it useful. It also understates its utility as a strategy-development and communication tool. The uninitiated may pay it little attention, but for those who see Superman in a newsroom, the insight it can provide is enormous.
For additional guidance or assistance with Operations challenges, feel free to leave a comment, contact JayWink Solutions, or schedule an appointment.
For a directory of “Commercial Cartography” volumes on “The Third Degree,” see Vol. I: An Introduction to Business Mapping (25Sep2019).
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[Link] “The Strategic Value of ESG Materiality Assessments.” Conservice ESG.
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[Link] Materiality Tracker.
[Link] “Sustainability Materiality Matrices Explained.” NYU Stern Center for Sustainable Business; May 2019.
[Link] “Practitioners' Guide to Embedding Sustainability.” Chisara Ehiemere and Tensie Whelan. NYU Stern Center for Sustainable Business; March 13, 2023.
[Link] “The essentials of materiality assessment.” KPMG International, 2014.
[Link] “Dynamic, Nested and Core materialities - Materiality Madness?” Madhavan Nampoothiri. Nord ESG; July 25, 2022.
[Link] “From 0 to Double – How to conduct a Double Materiality Assessment.” Sebastian Dürr. Nord ESG; August 2, 2022.
[Link] “Dynamic Materiality: Measuring What Matters.” Thomas Kuh, Andre Shepley, Greg Bala, and Michael Flowers. Truvalue Labs, 2019.
[Link] “The materiality madness: why definitions matter.” Global reporting Initiative; February 22, 2022.
[Link] “Embracing the New Age of Materiality: Harnessing the Pace of Change in ESG.” Maha Eltobgy and Katherine Brown. World Economic Forum; March 2020.
[Link] “Materiality analysis and its importance in CSR reporting.” Altan Dayankac. DQS Global; November 3, 2022.
[Link] “Materiality Concept.” Brooke Tomasetti. Carbon collective; March 8, 2023.
[Link] “Materiality: Background Paper for Integrated Reporting.” International Integrated Reporting Council; March 2013.
Jody W. Phelps, MSc, PMP®, MBA
JayWink Solutions, LLC
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