People, planet and the corporate balance sheet
Can accountants link profit and the fate of our planet? Corporate reporting could help shift us to a low-emissions economy.
- Much of the push for businesses to move on climate change has come from investors.
- Taskforce on Climate-related Financial Disclosures guidelines are a framework for reporting how climate risk affects assets.
- A 2019 AASB/AUASB guidance recommends companies with significant climate exposure also report on climate risk in their financial statements.
By Prue Moodie
In December 2019, chief executive of Goldman Sachs, David Solomon penned an opinion piece in the Financial Times, writing that there was "a powerful business and investing case" for the banking giant to take steps to address climate change.
Goldman Sachs announced it would spend US$750 billion in financing, advisory services and investments for initiatives that fight climate change, and ruled out financing projects that didn’t, such as drilling for oil in the Arctic or developing new coal mines.
It was a huge moment: a show of support from a business conglomerate that set both government and corporate leaders’ tongues wagging.
Despite – or perhaps because of – the global pandemic, climate change is back on the business agenda, with momentum steadily building locally, too.
ANZ recently joined the RE100 initiative, pledging to 100% renewable energy in its buildings. (Westpac and the Commonwealth Bank are already RE100 signatories.) Microsoft has committed to being “carbon negative” by 2030.
Software firm Atlassian and its co-founder Mike Cannon-Brookes have become poster children for the issue, pledging to become a net zero carbon emission business by 2050 and urging other companies to follow.
In New Zealand in July 2018, the leaders of Z Energy, Westpac and Ngāi Tahu Holdings, among others, formed the Climate Leaders Coalition to help New Zealand transition to a low emissions economy.
Much of the push for business to move on climate change initiatives, however – and move quickly – has come from investors. In May, it was revealed one in three Rio Tinto investors supports a demand for the miner to set targets to slash the emissions of its customers across the world.
In July, a 23-year-old law student from Melbourne announced she was suing the Australian government for failing to disclose the risk climate change poses to the value of government bonds such as superannuation.
Large investors are also in the sights of civil society activists. In 2017, then 23-year-old Mark McVeigh, represented by Environmental Justice Australia, sued his retirement fund, the Retail Employees Superannuation Trust (REST), for not properly considering climate change risks when investing members’ money, and for not properly responding to his own requests for information.
The legal action has sent a shiver down the spine of the investment community; the case will be heard in Sydney in early November.
Financial disclosure of how climate affects assets
If REST had produced a report that openly discussed how the weather and the possibility of strict greenhouse gas controls might affect its various assets, it might not be facing the action.
Of course, that kind of honest assessment of climate risk has a name: Taskforce on Climate-related Financial Disclosures (TCFD) reporting.
The explicit purpose of the TCFD framework is simply to get organisations to fess up to investors about climate risk.
But many hope that TCFD reports – particularly in combination with financial statement disclosures – will slow down capital investment in greenhouse gas emitting activities.
Alison Howard, head of sustainability at New Zealand’s hydro, wind and solar generator Meridian Energy, has a slightly different stance. She believes the TCFD’s purpose is to avoid companies and their investors holding stranded assets “such as oil and gas companies who haven’t thought through the impact of strong climate action policy on their business”.
Before the recommendations of the TCFD, climate risk was largely seen as an environmental issue, says Joan Cleary, group financial controller with QBE Insurance.
“It is an environmental issue, of course,” says Cleary. “But the TCFD recommendations have helped the broader community understand that it is also a business risk.”
“[Climate change] is an environmental issue, of course. But the TCFD recommendations have helped the broader community understand that it is also a business risk.”
It’s the focus on tangible data rather than vague statements of intent that make TCFD so important, she adds.
In other words, reliable data from scientists.
Picture: A wind turbine in Wellington New Zealand. Credit: Getty Images.
Two strands of risk analysis in a TCFD report
The TCFD framework was published in mid-2017. Its demands are quite complex, and companies are moving slowly, adopting more of the framework each year.
There are two broad strands to the risk analysis in a TCFD report: the risk of weather becoming more destructive as the planet warms and the consequences of that on a business; and “transition risk”, the risk of a company’s main business becoming less viable due to policies implemented by governments to reduce greenhouse gas emissions.
Will Steffen, executive director of the Australian National University Climate Change Institute, gave a presentation in 2017 that predicted a world in which the temperature had risen 4 degrees Celsius above pre-industrial levels would have a maximum carrying capacity of about 1 billion people. That’s compared to today’s population of 7.8 billion.
If he’s right, it’s safe to say that not many of today’s companies would thrive.
The information investors want
In January 2020, BlackRock CEO Larry Fink declared that “climate risk is investment risk”, and that the world’s largest asset manager would make sustainability concerns an integral part of its portfolio construction.
Pru Bennett CA, partner with corporate advisory firm Brunswick Group, was formerly BlackRock’s head of investment stewardship for the Asia-Pacific region.
“What investors find really frustrating is a board not having a position on climate change,” she says.
“By position, I mean how it’s going to impact long-term strategy. As in, this is how climate change is going to affect our business, and this is what we’re going to do about it.”
An example of how a TCFD report can talk about strategy is QBE’s Climate change – our approach to risks and opportunities, included in its 2019 annual report, which outlines how climate change may cause insurance premiums to become unaffordable, potentially resulting in loss of revenue.
In order to address this risk, the report states QBE is engaging with external stakeholders, including national and local governments, “to encourage adaptation and resilience measures against weather-related events”.
A TCFD report doesn’t have to refer to a company’s own emissions, although many do. The emphasis is on the risk of value destruction (or the possibility of value creation) because of climate change.
Companies are not able to slow climate change by themselves, although widespread TCFD reporting may well encourage a kind of collective will to reduce emissions. But the real power of TCFD reporting involves a feedback loop governed by investors.
The theory is that better disclosure by companies will allow investors to better understand the risks they face when investing in those companies. Once they understand the climate risks embedded in individual companies, investors will then make rational decisions about allocating capital. That will reduce the cost of capital to companies with lower climate risk, or at least strategies to deal with climate risk.
But TCFD is not signalling a new green awakening across all the world’s boardrooms. Author Jane Gleeson-White, who wrote a book about accounting for sustainability in 2014 called Six Capitals (an updated edition was released this year) has a frustration with these forms of corporate disclosure.
“These reporting methods are, ultimately, a poor way of making companies responsible. Why? Because they’re guidelines and recommendations. And they’re very investor-driven.
“Yes, the investment conglomerates want as much information as possible. But there’s nothing noble about wanting to maximise the return on money.”
Picture: White Cliffs Solar Thermal Power Station in New South Wales was one of the world's first solar power stations. Credit: Getty Images.
The risks that lie in inaction
TCFD reports remain squarely in the non-financial reporting category. They are voluntary, they are not assured to the same rigour as financial statements, and they are often not signed off by the board.
But TCFDs break the mould of non-financial reporting in at least three ways that are important to investors.
Most non-financial reports deal with corporate operations. The number of greenhouse gas emissions a company releases, for example. But instead of the impact of the corporation on the world, TCFD reporting looks at what the external world does to the company.
Second, TCFD reporting asks companies to accept the calculations of climate scientists about how the weather will change in specific warming scenarios. If a company board is still debating whether climate change is real, there’s no point doing a TCFD report.
Third, as well as danger to physical assets from the weather, TCFD reporting asks companies to answer a hypothetical question about transition risks. If the world keeps global warming to under 2 degrees Celsius (compared to pre-industrial levels), what kinds of constraints will governments place on greenhouse gas emissions? And, how will my company fare?
Karl Mallon, director of science and technology at Australian company XDI Cross Dependency Initiative, which helps companies assess climate risk to their physical assets, says that physical risk calculations are probably harder than transition risk calculations.
“We give clients an annualised dollar figure of likely insurance premiums out to many years in the future. Or a figure as a proportion of the asset value,” Mallon says.
Still, transition risk is difficult for companies to assess because the answer to the basic question is so uncertain. Will governments, particularly since economies have been laid waste by COVID-19 shutdowns, have the will to get tougher on greenhouse gas emissions? And if so, how?
Mark Spicer, director of KPMG’s climate change and sustainability group in Australia, says we must expect some kind of policy response eventually. “It will probably a carbon price. You need to consider how that will affect the price of goods you can offer to customers.”
When it comes to physical risks, Spicer recommends that companies look throughout their value chain. Your company may feel satisfied that it has contingency plans and insurance in place if a warehouse were hit by flood, for example. But what about your suppliers? And will you be able to get goods to market?
The accountant’s role
Earlier this year, 14 accounting bodies representing 2.5 million accountants globally, including Chartered Accountants Australia and New Zealand, supported a call to action in response to climate change.
CA ANZ’s pre-budget submission, ahead of the October 2020 Australian Federal Budget, calls for expenditure that supports goals such as a zero emissions economy. It also calls for a review of tax subsidies for activities that are having a negative impact upon climate change.
CA ANZ’s own climate change strategy calls on professional accountants to provide advice and services to develop and implement plans for climate change mitigation and adaptation.
This includes developing reporting frameworks such as those from the International Integrated Reporting Council and the TFCD.
Meridian Energy’s Alison Howard says that while compiling a TCFD report starts with a company’s risk manager or someone in the strategy area who can start the ball rolling on what-if scenarios, there’s a TCFD role for accountants in businesses with a high level of Scope 1 emissions (direct emissions from owned or controlled sources).
“At Meridian, accountants are involved in carbon accounting, and I think they have a good combination of skills to do that in every company.
“So if your business has high direct emissions, the accountant should be involved in both calculating the emissions and thinking through how any upcoming regulation could impact the business.”
“The accountant should be involved in both calculating the emissions and thinking through how any upcoming regulation could impact the business.”
Wendy McGuinness, CEO of New Zealand sustainability think tank The McGuinness Institute, agrees. “Accountants provide standardised information that can be verified and compared over time and with other entities. If we don’t have that data quality, we lose the ability to inform and make this transition cost effective and timely.”
A guidance on climate risk
In April 2019, Australia’s Accounting Standards and Auditing and Assurance Standards boards issued a joint bulletin about disclosure of climate risk.
It’s a world first. No other country has issued financial statement guidance that relates specifically to climate risk.
The bulletin said that if a company believed investors thought climate risk of any kind was a material issue for the company, it should include a climate-specific note in its financial statements.
“I think the AASB/AUASB guidance is important because it tells the accounting community that climate risk is important,” says Australian company director John Stanhope FCA, now non-executive director of AGL. “The truth of the matter is that climate change impacts financial outcomes.”
The guidance has at least two important impacts. The first is in the area of accounting skills. Accountants in the finance team are not usually asked to calculate impairment of assets very far into the future. But the effects of both direct climate effects and regulatory risk could take place many decades from now, requiring accountants to make longer range asset impairment calculations than they are used to.
The second impact is that if a company reports on climate change in its financial statements, the information in the TCFD is likely to get more rigorous scrutiny than otherwise.
“AGL did not include climate guidance in its financial statements this year, but did in its annual report,” says Stanhope. “But if it included the information in financial statements in future, the finance team would get the information from the TCFD.
“The TCFD gives them the information about the consequences of policy decisions and physical risks. The finance team still determines the numbers in the financial statements.”
How this AASB/AUASB guidance changes climate risk reporting
The AASB/AUASB guidance turns reporting on climate risk from a corporate social responsibility into a financial one.Read more
AASB-AUASB Joint Bulletin, “Climate-related and other emerging risks disclosures: assessing financial statement materiality using AASB Practice Statement 2”Read the updated guidance
TCFD Implementation Guide
Download this how-to from the Task Force on Climate-related Financial Disclosures.Download