Risk Management

Investors Push for Climate Risk Disclosure

Companies that haven't made extensive disclosures about their climate risk profile should be prepared for a raft of questions from shareholders.
David McCannJune 5, 2018
Investors Push for Climate Risk Disclosure

While companies may drag their feet on disclosing the true extent of their risks relating to climate change, investors can overcome such subterfuge by raising awareness of the risks and engaging directly with targeted companies.

So says Four Twenty Seven, a provider of climate risk intelligence for financial markets.

Shareholder engagement on climate change already has grown tremendously in recent years, notes a new report from the firm. More than 270 institutional investors, collectively managing almost $30 trillion of assets, have joined in an effort called Climate Action 100+.

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The five-year initiative aims to engage with the world’s largest greenhouse gas emitters to improve governance on climate change, curb emissions, and strengthen climate-related financial disclosures.

Regardless, while companies’ disclosure of climate risks is “gaining traction,” the report says, it’s still limited.

“Financial institutions are eager for more disclosures as they seek to understand and report risks to their portfolios, but many corporations are new to this topic,” Four Twenty Seven says.

Shareholder engagement on the physical effects of climate change does not just benefit investors, the report claims. It also “can improve companies’ awareness of their own exposures” and improve relationships with long-term investors as knowledge on key related issues increases and expectations become clearer.

At present, according to the report, investors are likely to become aware of exposure to financial damages from extreme weather events only after they have occurred.

But there’s movement in the other direction. “New data and analytics are increasingly empowering investors to spot systemic climate risk factors before they lead to financial harm,” the report notes.

Markets are reacting as well. For example, negative repricing of assets is being seen where climate impacts are most obvious, such as the coastal areas around Miami.

Real-Life Damage

For public companies with facilities around the world, one extreme weather event may prompt investors to  investigate other regions where companies in that sector may be exposed, according to the report.

In 2017, PepsiCo and Coca-Cola faced a ban in two states in India after retailers boycotted the companies’ products in protest of their depletion of groundwater.

Now, Four Twenty Seven reports, “a closer look at PepsiCo and other beverage companies shows they face significant exposure to water stress in the western United States and Mexico.”

Regulatory changes — such as California’s Sustainable Groundwater Management Act — and the shifting availability of water supply present material risks for the beverage industry, according to the report.

The energy industry is another one that’s particularly prone to climate risk, the report points out. Refineries tend to be water-intensive, and offshore drilling sites are vulnerable to sea-level rise and cyclones.

Automobile manufacturing, a resource-intensive operation, is exposed through its supply chain, as production of some components and materials is concentrated in just a few locations.

The report gives several other examples of climate hazards and their business aspects. Taken collectively, they paint a portrait of the wide range of effects from climate change:

Cyclones/hurricanes/typhoons: In 2013, Pepsi-Cola Products Philippines had to write off more than $10 million in inventory losses as a result of destruction during Typhoon Haiyan.

Sea-level rise: Winter storms in 2013 and 2014 in England and Wales caused flooding that damaged 23  harbors. The UK Environment Agency estimated that total economic damage to the ports was $2.9 million.

Extreme rainfall: In 2011, floods near Bangkok, Thailand, damaged multiple manufacturing sites, hurting the profits of Sony and Panasonic and causing Moody’s Investors Service to downgrade their debt ratings, according to Reuters.

Heat stress: In February 2017, a heat wave across Australia and a consequent demand for cooling actions caused several mining companies to shut down their plants. The event caused lasting damage to some smelters, which cooled with molten materials hardening inside them, Reuters reported.

Water stress: In 2015 Brazil experienced its worst drought in 80 years. As a result, General Motors’ water costs increased by $2.1 million. A subsequent reduction in the availability of hydropower drove up electricity costs by $5.9 million, as reported by Water and Waste Digest.

Wildfires: Bulk wine producers were hit by low grape production globally over the 2017 growing season. Such companies operate at low margins, so increased grape prices coupled with higher water prices were financially damaging, U.S. News wrote.

Let the Questions Begin

The more investors take the advice of organizations like Four Twenty Seven, the more companies can expect to be presented with a barrage of questions regarding their exposure to climate risk.

Many such questions will relate to operations.

With respect to planning processes:

  • Is there a process for identifying short-term and long-term risks from a changing climate?
  • Are there systems for monitoring changing conditions?
  • Are there risk thresholds to alert risk and logistics officers?

Similarly, with regard to production:

  • How may climate impacts affect production capacity?
  • If any assets are damaged, is there a contingency plan for rebuilding or diverting production elsewhere?
  • Are any assets exposed to more permanent effects of sea level rise, and if so, are there plans to relocate operations?
  • Are assets in regions prone to cyclones able to withstand strong winds?

Other questions are about information systems:

  • Does the company have early warning systems for the weather risks that most immediately threaten its sites?
  • What data sources does management use to collect information on extreme weather risk?
  • Is there staff expertise to gauge the impact of acute events and make decisions?

With respect to energy, cooling, and water use:

  • Has the company analyzed how rising temperatures will affect energy usage?
  • Are there power purchasing agreements in place to mitigate fluctuating costs of energy use?
  • What are the primary sources of water and how is water consumption managed?
  • How is the labor force sensitive to heat, and are adequate cooling measures in place?
  • What processes are in place to monitor and improve efficiency and performance of operations relative to key resource inputs?

And those are just the operational issues. Companies may hear similar smorgasbords of questions regarding market risk, supply chain risk, management quality, and financial resilience.

In conclusion, Four Twenty Seven says, “Engagement on physical climate risk is an effective tool to ensure that companies with past or future exposure to climate impacts provide more information on their risk exposure and start preparing to mitigate risks.”

Such engagement “may help prevent losses in company valuation and deliver value through improved processes for companies. Corporate engagement is also critical to … ensure that companies invest early in building resilience.”