The climate risk challenge for investors

The climate risk challenge for investors

There has been more for investors to consider on climate risk in the last two years than in the last two decades. Since the launch of the Carbon Disclosure Project in 2000 and the Greenhouse Gas Protocol a year later, climate risk from an investment perspective has been slow to gain attention outside large quoted or heavy emitting companies. In the UK, the advent of quoted company reporting in 2013 and the commitments made by the government, alongside most other countries, in Paris in 2015, had little material impact on investment decisions and compliance, here or elsewhere.

ESG rises to the mainstream

2019 was the year that all changed dramatically, helped along by Greta Thunberg and her Davos invitation and Theresa May’s decision to upgrade UK legal targets to Net Zero. From headline announcements by big investment firms to a raft of new regulations and requirements during 2020, we have arrived in a world where climate risk and related disclosures on carbon emissions and governance are now an urgent priority. Investment firms are vying to outdo each other on ESG performance and credentials, whilst private equity firms are starting to positively address the detail of the challenges to support existing intent.

'The Financial Times described ESG as an "alphabet soup"'

The move from fringe to mainstream has not been without its problems. Even as signatories to the Principles of Responsible Investment have risen from 100 in 2006 to 3,000 today, the issue has attracted prominence, but detailed action remains emergent. The Financial Times has described ESG as an “alphabet soup” with too many acronyms and not enough harmonised data. In the E of ESG, carbon emissions are the big topic and come with the advantage of largely agreed reporting and accounting standards, even though they need more definition. The bigger problem is for investors to understand what is required of them by the multiple national and international regulatory and voluntary demands.

Measurement and disclosure are the main urgency

The wave of Net Zero commitments and drive to incorporate carbon credentials into the promotion of investment funds has seen intent favoured over action as a result. The Securities & Exchange Commission recently concluded that may ESG claims were misleading, albeit not deliberate, the Climate Action 100+ initiative identified that the majority of large company Net Zero claims were unsupported by a plan and the French government have moved to outlaw “greenwashing”. The focus for investors is on how to drive data that is robust and can support headline intent and turn it into verifiable action.

This is where measurement and disclosure are the main urgency. For the CEO of a large company asset whether quoted or unquoted, carbon disclosure through regulation and investor demand is an increasing requirement, along with their plans for reduction, science-based targets and fully planned Net Zero targets. This cannot be conjured out of thin air or satisfied using a commitment to a set standard enshrined in law, like Modern Slavery or Anti Bribery or KYC and requires considerable effort to achieve.

Understanding the acronyms

To fulfil the demands or recommendations of carbon disclosure and management, including SECR, TCFD, PRI, NZAMI, SFDR, IIGCC, TPI you first need to understand the acronyms and then dive into the detail required to deliver information in multiple formats. Fortunately, the key elements required are, a carbon report, a reduction plan and governance and frameworks to deliver it. This helps to inform the climate risk and opportunity analysis for a business over the next decade and beyond.

UK firms have an advantage, in so far as the government has been developing and issuing conversion factors and methodologies for measurement of emissions for over a decade and these standards are highly regarded globally.

Measurement is, however, just the beginning. Once a company has measured its initial impact and created a baseline year, it usually has to look to improvements in quality and scope of reported data. It can report Scope 1 & 2 emissions only, but in time it will need to report Scope 3. This is anyway advisable for significant indirect emissions from supply chains and activities that are material to a company’s operations.

"Measurement is just the beginning"

The next step is to look at the emissions profile of the business, what drives its emissions, the sources or processes involved at an activity level. This will inform a company’s ability to assess its options to reduce emissions through investment in technology/equipment, process/behavioural change and in its procurement policies. This assessment leads to an action plan that can be measured for effectiveness and to support Net Zero planning and future commitments. At, or before this stage many companies are making Net Zero claims which show intent but may be a hostage to fortune.

It is only a full year after the first report, that progress and hurdles to reduction can be fully evaluated, that will inform reasonable 2030 targets and required effort to achieve them. For those measuring a baseline year that has been heavily affected by Covid-19, there may be a requirement to go back to 2019 for measurement if they wish to establish a good baseline for reduction planning and action. Speculative or aspirational targets can be misleading and could result in reputational risk.

Normalising carbon management

Companies with large internal resources undertake much of this work in house, but for the majority of small and mid-cap companies, some external support is needed. Ideally this is foundational work that enables to the process of carbon management to be internalised and normalised as part of business reporting and management. Tools and resources supported by expert advisory exist to help companies start the journey to Net Zero and derive the many benefits that engagement can bring.

The current wave of initiatives and announcements should not confuse or distract companies and their investors from beginning the journey to real reduction and achievement in the area of climate risk. Indeed, many are being supported by their investors to do so in a coherent and positive way. The biggest challenge for investors, is the risks that inaction and an inability to deliver performance data and the supporting evidence for their disclosures, will bring.

Carbon emissions action plan

Demand for carbon emissions disclosure and action on reduction continues to gain pace. It brings with it challenges for companies on how to best address the issue and deliver positive results. Our carbon emissions 10 point action plan is designed to support action and avoid common pitfalls.

Further reading:

How to embed ESG in your value creation planning

The dynamics of connecting ESG to value creation

About the Author

Hugo Kimber is the Founder, Director of Carbon Responsible a data-driven solutions business that empowers companies through providing the tools to capture and report on emissions impact.   

Hugo has worked in carbon emissions management since 2006 and has been an appointed adviser to industry associations and groups. His early work on carbon emissions involved the creation of award winning and leading reporting products for global travel and tourism. He has also operated as an Executive Chairman leading businesses at scale. 

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