Companies have been disclosing on how their operations impact the climate and this information is easily accessible in companies’ websites and public reports. But, what about the information regarding the impact of climate risks to companies? Recently, this topic is being discussed at a greater length and the demand for companies to disclose it has risen. This is due to the fact that the direct physical impacts of climate change risks are exposing companies’ operations to complex operational risks. On top of that, this demand is also driven by the indirect and transition climate change impacts, including introduction of new policies and regulatory requirements to shift towards a low carbon economy, as well as changes in customers demand on product and services that are more ‘climate friendly.
Reporting on the impact of
climate risks to operations represents how the company is both managing the
risks as well as creating business opportunities for the sustainability of the
business.
In response, stakeholders are
demanding for greater transparency on the climate impacts on companies’
financial performance, including future performance.
Adoption of the Financial
Stability Board’s Task Force on Climate-Related Financial Disclosures (TCFD) recommendations
is also increasing, and we are seeing this across the world. The recommendations
of TCFD have been driving companies to enhance the holisticness of climate
disclosures. The TCFD sets out a framework that enables companies to disclose
their climate risk profile and integrate it into mainstream filings. This
information provides regulators and investors with a meaningful climate-related
risk information to better assess how companies manage climate change impact
and how they respond over short, medium and long term.
TCFD – Current Progress
The TCFD recommendations are
widely accepted by organisations from various sectors, including investors,
associations, as well as policymakers. All have expressed full support towards
the adoption of the TCFD recommendations.
However, the implantation of the
TCFD is deemed as the main challenge, from getting started to improvements the
adoption. CDP
and Marsh & McLennan Companies’ Global Risk Center in its research has
reported that the implementation challenges faced by organisations include the
following three key areas:
·
Securing leadership buy in for
a wider approach to climate risks
·
Overcoming siloed
risk-management processes
·
Limited experience with climate
change scenario analyses.
Securing leadership buy in
The Board and Management need to
properly define and evaluate the impact of climate risks to the balance sheet
of the company. In order to do so, Board and Management should expand their
horizons of their considerations towards climate related issues and trends. It
is reported that more than 80%
of companies’ Board provide oversight on climate issues. However, it also
reported that only 10% of companies actually incentivise Boards to prioritise
climate risks, and even lower percentage
of Boards consider climate risks as a top 5 risks affecting the company within
the next 5 years. This clearly contradicts with the -Global Risk Report by the
World Economic Forum which ranks climate- and environment-related threats as
the most likely and most damaging over the next decade.
Risk management are working in
silos
Conventional risks can be easily
isolated and addressed with standard risk-management process, and this will not
pose much issues to a lot of businesses. However, it is a totally different
ball game when it comes to more complex risks embedded in interconnected
systems, such as nature-related risks and climate risks including on risks
pertaining the transition to a low-carbon economy.
Climate risks for example, are
now considered one of the biggest risk topics being discussed. According to CDP, only 34%
and 28% out of more than 1,500 companies, respectively, are linking physical
risks and regulatory and transition risks associated with climate change beyond
six years.
For investors, organisations and
other stakeholders that are assessing the mid- or long-term view, limited and
short-term climate change impact analyses will not be adequate in providing
them with robust information on potential direct physical and transitional
risks from climate change.
This is certainly a complex
issue. On top of that, another research has found that the complexity also
rises from the lack of stadardisation and clarity on risk definitions, as well
as which function within the organisation that is accountable to manage them.
Climate risk management should not fall under under the sole responsibility of
one individual or a function which in many cases – the sustainability team.
Responding to climate risks will require broad ownership, understanding and
collaboration across the organisation on climate risks and opportunities and
how they relate to financial impacts in the long run.
There’s not much experience
and cases on climate change scenario analysis
Based on TCFD’s recommendation,
companies should describe the potential impact of different climate scenarios,
including a 2-degree Celsius scenario, on businesses, strategy and financial
planning.
The fact is, companies encounter
a lot of challenges and potential barriers in translating climate scenarios to
integrated financial analysis. Various types of climate scenarios and widely
varied outcomes result uncertainty to determine which climate scenarios are
appropriate to use and to translate into meaningful financial impact analysis.
Currently, the developed climate scenario models were established mainly for
academic and economic use cases, but not financials. Existing scenarios require
input and judgment from experts across the organisation but the other challenge
is that for many cases, the process involves a lot of very educated guesswork
and not everyone guesses in the same wavelength as others.
Companies are required to find
ways to integrate the analysis into current strategy and scenario planning and
risk assessment. Subsequently, companies are required to provide linkages of
the scenario impacts to future business strategy and performance. Data is one
of the main obstacles as there is lack in historical and factual data to link
climate impacts to financial performance.
TCFD’s recommendations will
likely to be via phased approach and require time especially for companies that
are new in their overall Environmental, Social and governance (ESG) journey. There
is also indeed, the need for a clear and practical reporting framework.
The long-term horizons of climate
risks and opportunities typically extend beyond the scope of business planning
and one thing that needs to be highlighted is that normally, business works on
a short-term cycle, hence, quarterly financial reporting is the common
practice. For financial stability, the horizon is extended, but typically only
to the outer boundaries of the credit cycle — about a decade. This brings to
another concern – by the time climate change becomes the defining issue for
financial stability, probably it will be too late for a response, unless,
drastic actions are taken right now to evaluate and disclose climate-related
factors.
Conclusion
Without a doubt, assessing and
reporting on climate impacts – risks, resilience, opportunities is challenging.
However, by undertaking it, it provides the edge for companies to get the upper
hand to face the adversity arising from climate change. This, is key for a
truly, sustainable future.
All views and opinions expressed on this site are by the
author and do not represent any particular entity or organisation
