Why businesses need to assess physical climate change risk

The effects of climate change continue to exacerbate in recent years; more frequent and prolonged heat waves, droughts and wildfires as well as extreme rainfall. Today, the costs of climate change are becoming clear. A recently report published by Swiss Re Institute showed that Asia Pacific was hit by 103 catastrophic events in 2021, with approximately US$12 billion insured out of the total US$63 billion in economic losses caused by these events.

There is now growing momentum across sectors to address the risks posed by climate change. Major economies such as the United States, China and Japan are taking a proactive stance through various new policies, commitments and investments to tackle carbon emissions. The U.S. Securities and Exchange Commission (SEC) recently proposed that companies disclose their range of climate risks and greenhouse gas emissions¹. In Singapore, the government had announced its 2030 Green Plan to address climate change and sustainable development².

Our climate is already warming, resulting in significant changes in the physical risk landscape. There is a need to tackle the challenge of transiting to a sustainable and carbon-neutral economy, which is a critical component of the broader climate change conversation.

However, where and how can businesses make a start?

While climate risk can be categorised into three areas i.e. physical, transition, and liability risk, physical climate risk is the natural starting point in broader climate risk engagement. With a physical climate risk assessment companies can identify the impact of physical climate risk on their portfolios not only in the near-term but also long-term future.  

Beyond looking at identifying the impact of physical climate risk as a strategic business consideration, two other key reasons include compliance with regulatory developments and access to capital.

With long-term business planning, there is now an increasing demand for qualitative and quantitative evaluation of the 'at risk' value attributed to climate change. The 2011 Thai floods affected various Japanese auto manufacturers that had set up operations there to benefit from the lower operating costs and to escape the natural catastrophe risk of operating in their home country.

According to the World Bank, the floods cost US$46.5 billion economically and only US$9 billion insured. Hence, this significant event cost underscores the importance of understanding the quantitative value at risk to existing assets, supply chains or entering a particular market. The 2011 Thai floods also serve as a timely reminder that while climate risk assessment is often associated with long-term planning, it is also useful in the short term in identifying signs of climate change already present in today's risk landscape.

The Financial Stability Board (FSB), an international body that monitors and makes recommendations about the global financial system, created the Task Force on Climate-related Financial Disclosures (TCFD) in 2015 to improve and increase reporting of climate-related financial information.

The TCFD is significant because many jurisdictions around the world are increasingly referring to its recommendations in climate-related risk management guidance. The Group of Seven (G7) rich countries for instance, have lent support to mandatory TCFD reporting that will force banks and companies to disclose their exposure to climate-related risks. Additionally, the Monetary Authority of Singapore (MAS)’ had issued its own Guidelines on Environmental Risk Management in December 2020 which are aligned with TCFD’s recommendations.

The financial services industry is increasingly taking sustainability risk management into consideration when providing debt or equity to corporates. While asset managers and banks independently decide on whether to make capital available to companies based on ESG considerations, there is greater pressure on companies to align with ESG best practices. Today, companies must have the ability to identify climate risks and hot spots for their businesses in order to secure capital or obtain insurance.    

Another important aspect to consider relating to capital availability is the way that insurability and insurance costs associated with an increase in the threat of climate-related catastrophes would evolve in the future. Several large energy companies, for instance, are now finding it more difficult to secure adequate wildfire or bushfire insurance in 'climate hot spots' such as South East Australia as a result of scarcity of insurance capacity, and the prevailing uptrend of these events.

Businesses today are operating in times of unprecedented risk with the pandemic and climate change. 

Additionally, it allows them to implement mitigation measures and risk transfer strategies that set the foundation and provide the resilience for them to thrive in the long term.

^{1 U.S. SEC proposes companies disclose range of climate risks, emissions data | Reuters  
2 Singapore Green Plan 2030}