This year, natural disasters and extreme weather events – including flooding, extreme heat, drought and wildfires – have already caused $65bn in loss and damages globally. Recognizing the risks our changing climate poses to the UK economy, the FCA (Financial Conduct Authority) took regulatory action, with the UK becoming the first of the G20 nations to introduce mandatory reporting on climate-related financial risks in line with TCFD (Task Force on Climate-related Financial Disclosures) recommendations which require companies to disclose both transitional and physical climate-related risks.
Four months on from its introduction on 6 April 2022, has the intervention actually resulted in material improvement in both the completeness of reporting and consistency with the TCFD framework? The FCA has conducted a quantitative and qualitative analysis to assess the quality of these disclosures. The FCA report finds that across sectors, 81% of companies are confident they have complied with all TCFD recommendations. However, FCA analysis reveals that in reality, this is not so.
What is the aim of a good climate disclosure?
The aim of FCA’s regulatory intervention, which currently only affects premium listed companies, is to improve the quality and quantity of climate disclosures across the corporate sector, and in doing so increase “transparency on climate and wider sustainability risks and opportunities”. Reporting on climate risk and opportunities isn’t just a tick-box exercise, it can provide real financial benefits to organizations that take the time to do it properly.
By accessing decision-useful and timely disclosure data, investors, regulators and insurance underwriters can accurately price the risk and opportunities related to climate change. The benefits of accurate and credible reporting mean individual companies can identify and therefore act on their own climate risk and opportunities, whilst collectively creating the market transparency required to facilitate efficient capital allocation, allowing both businesses and economies to transition smoothly to a low-carbon economy.
The barriers to accurate climate risk reporting
The FCA’s analysis flags that the reviewed climate disclosures lacked detail. The page count of TCFD-aligned disclosures varied greatly, with the majority of companies (20%) submitting disclosures just four pages long.
Length of TCFD-aligned disclosures as reported by the FCA
To comply with TCFD-aligned frameworks, companies must be able to report the physical impacts of climate change at the asset level. This is because, for many companies, physical climate risk is closely tied to assets they own or rely on. For large companies who rely on hundreds of assets, it is unlikely that this fits on four pages.
1). Lack of accessible and accurate data on their climate risks
The primary reason companies struggle to report on climate-related risks facing individual assets is because climate data is complex to collate and analyze in-house. Our climate is an interconnected system and climate hazards interact with each other - extreme heat can lead to droughts, which can increase the chance of forest fires. Any analysis examining the risk posed to a single building must also consider the climate as a whole. This is not an easy ask for any company that doesn’t have physical climate risk expertise in-house.
2). Unable to conduct accurate climate scenario analysis
Unsurprisingly, scenario analysis was highlighted as a common reporting gap when it came to disclosures. The UK’s disclosure requirements advise companies to “select scenarios which are most relevant to its business” and that scenarios may include “a 1.5°C scenario or a ‘business as usual’ scenario where temperatures are likely to continue on their current trajectory to reach over 2°C.” Interpreting this requirement is the first obstacle companies face when conducting scenario analysis.
Climate scenarios are analytical tools used to explore the potential impacts of climate change under different socioeconomic conditions, as well as to understand how human development and associated emission pathways affect the natural world. They help business leaders to make informed decisions by considering multiple different future climate possibilities and impacts, and allow them to better create strategies to mitigate damage to their assets and adapt.
While they are essential to understanding long-term risk, climate-related scenarios are generally developed for macroscopic assessments. This means they do not “always provide the ideal level of transparency, range of data outputs, and functionality of tools that would facilitate their use in a business or investment context”, according to the TCFD.
In addition, many companies lack the data needed to understand the impact of different scenarios over multiple regions. Climate intelligence products such as EarthScan™ equip businesses, governments and NGOs with the CI they need to make confident, informed decisions. By providing dynamic, decision-useful science-backed insights across three IPCC-aligned climate scenarios, customers can download and share decision-useful climate intelligence at the asset-level to enhance internal and external ESG reporting, such as TCFD-aligned climate disclosures.
Practice makes perfect
Whilst the FCA admits companies still have a long way to go to achieving accurate and credible disclosures, it’s still promising to see the number of companies disclosing their climate risks and opportunities increasing. Albeit, this is rising faster than the quality of the reports.
Although the UK regulations currently only affect 1,300 of the country’s largest companies, these regulations will be fully mandatory across its entire economy by 2025. Following President Biden’s Executive Order, the United States Securities and Exchange Commission (SEC) has submitted its own proposed framework that heavily leverages the one put forward by the TCFD. Providing this law progresses through litigation, US companies may be expected to disclose their climate-related risk as early as 2023. With the G20 being the drivers behind the TCFD, it’s likely that the rest of the world will soon follow suit, initiating a new era of climate reporting.
As more and more countries recognize the catastrophic impact climate change will have on their economy, it’s no longer a case of “if” your business will be asked to comply with TCFD-aligned disclosure, but when.
As the FCA assessment highlights, complex and fragmented climate data means disclosures are not easy to get right first time. Non-compliance can result in fines of a minimum of £2,500 and a maximum of £50,000. For innovative companies looking to get ahead of regulation, it pays to understand your climate risk and opportunities sooner rather than later.
Using climate intelligence to comply with TCFD-aligned climate disclosure
Understanding climate-related risks at the asset level is now possible thanks to climate intelligence (CI). By fusing cutting-edge earth science and machine learning techniques, CI lets companies see the current and emerging hazards facing their assets such as office buildings, manufacturing facilities, and distribution centers, enabling them to determine the present and future impact of these hazards on their bottom line.
Global analyst firm IDC cited EarthScan, Cervest’s CI product for enterprises, as a solution that equips businesses, governments and NGOs with the CI they need to make confident, informed decisions and reports that enhance the resilience of their assets and meets disclosure requirements.
To learn more about enhancing your climate-related financial disclosures with climate intelligence, download our free and comprehensive ebook.
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