The evolving landscape of climate transition planning is increasingly pivotal in driving the global transition toward a low-greenhouse gas and climate-resilient economy, as detailed in a new report by WTW. This shift is propelled not only by escalating regulatory requirements for businesses to disclose their net-zero roadmaps but also by presenting a distinctive business opportunity.
Transition planning now forms a crucial component of business strategy, addressing the risks and opportunities stemming from the worldwide movement toward a low-carbon future. Organizations and their risk managers are encouraged to adopt a more dynamic approach to comprehending their transition risks, facilitating a clearer understanding of the interplay between risks and their causes and effects. Businesses encounter various uncertainties on their path to net-zero transition, including policy, legal, and market changes. These uncertainties could result in significant alterations in asset values and cash flows or heightened operational costs. Strategies to mitigate the impact of climate change on businesses include purchasing insurance, exploring alternative risk transfer options, divesting from high-emitting assets, or transitioning business models to reduce carbon footprints and greenhouse gas emissions.
Integrating Climate Risk Quantification
The initial step in this process involves quantifying climate risks that could erode business value. By leveraging modeling and analytical tools, organizations can integrate climate risk quantification into their business and financial planning. This approach aids in embedding transition planning into business strategies, achieving anticipated returns while managing climate risks, and fulfilling evolving climate reporting obligations. Regulatory momentum for robust transition plans and climate risk quantification is gaining traction. In 2023, the International Sustainability Standards Board (ISSB) finalized its International Financial Reporting Standards (IFRS) with the publication of Standard 1 Sustainability-related Disclosure Standard and Standard 2 Climate-related Disclosure Standards (IFRS S1 and S2). Notably, IFRS S2 encompasses provisions for disclosing transition plans.
Furthermore, the Corporate Sustainability Reporting Directive (CSRD) in the EU mandates that all listed and large companies disclose a transition plan aligned with a 1.5 degrees Celsius global warming scenario in their annual reports. In the US, the Securities Exchange Commission climate proposal necessitates organizations to disclose transition plans as part of their climate-related risk management strategy. The year also witnessed the launch of the Transition Plan Taskforce Disclosure Framework, a UK-based initiative aimed at assisting organizations in developing comprehensive transition plans in line with IFRS S2 requirements. This framework aligns with the transition plan guidance developed by the Glasgow Finance Alliance for Net Zero, fostering international convergence around defining robust and credible transition plans.
Moving Beyond Carbon in Quantifying Transition Risks entails considering metrics beyond emissions alone. While emissions-based metrics appear objective and easily verifiable by external stakeholders, they may not fully capture an organization’s exposure to transition risks. A 2023 joint report from WTW and the Institution of International Finance highlights the limitations of GHG emissions as a sole indicator. These emissions metrics often suffer from reporting biases, are backward-looking, and may not accurately reflect a firm’s profitability affected by increased emissions costs, including potential carbon taxes.
Moreover, the report emphasizes a low correlation between financial risk and carbon intensity, suggesting that a comprehensive transition plan should encompass a broader range of metrics and considerations.