By Samantha Arnold, Transaction and Compliance and Tim Flower, Technical Director, Golder
As disruptive as the COVID-19 pandemic has been to businesses worldwide, the escalating environmental crisis remains the biggest global risk. The need has never been greater for manufacturing companies to intensify efforts toward sustainability and to build resilience to future climate impacts.
There are increasing expectations from investors, lenders, insurers and other stakeholders for transparent, consistent reporting of climate risks, sustainability and broader environmental, social and governance (ESG) performance. We expect to see broad uptake of voluntary financial disclosures relating to climate and nature, and an increasing trend towards mandatory disclosures.
How can you navigate these challenges, and where should you focus your efforts?
The Task Force on Climate-related Financial Disclosures (TCFD)
There is a bewildering array of standards and guidelines for ESG and sustainability reporting. The Task Force on Climate-related Financial Disclosures (TCFD) is fast becoming the preferred disclosure platform for climate risk. Established in 2015, it provides a framework for corporations and financial institutions to assess, manage and report on climate-related dependencies and impacts. The TCFD covers the four key areas of governance, strategy, risk management, and metrics and targets over the short-, medium- and long-term.
TCFD reporting is already mandatory in New Zealand and will become mandatory in the UK from 2023. A working group has also been convened to develop a sibling to the TCFD that will be known as the Taskforce on Nature-related Financial Disclosures (TNFD). The TNFD aims to aid the appraisal of nature-related risk (such as biodiversity loss and deforestation) and to encourage global financial investment flows away from nature-negative outcomes and towards nature-positive outcomes.
Tackling the TCFD
Many manufacturing businesses are at an early stage of the TCFD journey. With that in mind, we offer some practical observations to support a comprehensive and defensible climate strategy.
1. Don’t become overwhelmed by the task ahead
Considering and addressing climate risks is not that different from the kinds of enterprise risk assessments and management that businesses undertake at least annually. TCFD is just a new component to integrate into your existing governance, strategy and procedures. The TCFD includes a knowledge hub and there is support available, not only from the TCFD itself but also from specialist consultants. A consultant can help you work through your climate-related risks and opportunities by providing independent insights into your sector and sharing experiences for benchmarking purposes.
2. Reducing the unknowns from physical risks may mitigate monetary risks
By taking a coherent approach to climate-related risks and considering a range of ‘unknowns’, you can present a defendable future climate risk profile to financiers and insurers. For example, many companies have already experienced acute physical risks from climate-related impacts at one or more of their sites (such as flash flooding, heat or water stress). This can lead stakeholders to perceive an increased overall risk to the business, with associated increases in insurance premiums and cost of finance. That is before they take into consideration the slower chronic physical risks such as longer-term changes in temperature, sea levels or rainfall. By undertaking an independent, consistent portfolio approach to climate risk and opportunities, your business’s overall risk position is likely to be improved through proactively managing change.
3. Consider transitional risks and look for opportunities
For many businesses, transitional risks may be more immediately material than physical risks. Transitional risks are those associated with a transition to a low-carbon economy and are driven by business requirements (e.g., changing policy, shifting laws and potential for litigation) as well as societal expectations (e.g., reputational norms and changing behaviours). A key example is the shift by many vehicle manufacturers towards electric vehicles. The required adaptations may be challenging and need to be driven by advancement towards a new final business destination, but they also create potential opportunities through technological innovation and efficiency improvements. Harnessing these opportunities can provide more immediate benefits and assist manufacturers on the journey towards net-zero.
4. Focus on what is ‘decision-useful’ and of material concern
The TCFD recommendations are described as being ‘designed to solicit decision-useful, forward-looking information’. In other words, your focus should be on investigating and managing climate risks that directly affect your ultimate business goals, rather than attempting to report on every possible aspect. Determine practical materiality thresholds so that you can prioritise and target your resources on the key influencing variables for your business. An independent opinion can often assist in defining materiality and help provide focus.
5. Explore a range of climate scenarios
To futureproof your business, you need to consider a range of different plausible climate scenarios that consider multiple variables over a range of timeframes. Although this is a more complex approach than stress-testing the impacts of single events at discrete points in time, it will provide a more robust and holistic picture of how climate risks could affect your business. Because climate risk is just another variable to add to your range of potential future operational business scenarios, careful consideration is needed to align the most appropriate climate scenarios with your business.
6. Set science-based targets and ‘Scope 3’ considerations
Many manufacturers are already able to report ‘Scope 1’ emissions directly related to the manufacturing process, as well as the ‘Scope 2’ indirect emissions (such as energy usage). These TCFD quantifications can be informed by the same process activities and emissions data collection dictated by planning and permitting requirements. ‘Scope 3’ is more challenging for many, as it extends into the supply chain. For example, how much waste do you and your suppliers produce and where does it go? Adjustments to ‘Scope 3’ activities may bring longer term opportunities for sustainable change and even the possibility of financial benefits. It is important to take the time to set an appropriate baseline, determine the denominator variable for normalisation (if appropriate), and set science-based targets with clearly defined pathways of implementation and assessment. These choices become the standard for all future comparisons.
7. Take some lessons from COVID
The emergence of the COVID-19 pandemic has demonstrated our vulnerability to major disruption. Will COVID increase our sense of urgency to address the other risks facing our businesses and force us to view climate and nature-related risks through a new lens? One very positive lesson we can draw from the COVID-19 experience is that businesses are more capable of implementing and adapting to rapid changes than we may ever have anticipated. If we can harness the increased agility and innovation demonstrated during COVID-19 pandemic, we may be able to accelerate positive climate-related action by the manufacturing sector and take a significant step towards a more sustainable future.