I was born and raised in Mumbai, on the western coast of India. To date, “average temperature” has been around 82 degrees Fahrenheit (28 degrees Celsius). The temperature “soared” to 86 degrees Fahrenheit (30 degrees Celsius) for a week or two in peak summer, and if it went any higher, we thought the world was coming to an end. In December, the temperatures “dipped” to a pleasant 75 degrees Fahrenheit (24 degrees Celsius). So, imagine my horror when I went back this year and the temperature in December was, on average, 86-90 degrees Fahrenheit (30-32 degrees Celsius). I refused to step out between 10 a.m. and 5 p.m. This is climate change. It did not happen overnight. The change has been gradual, steady and undeniable.
Apart from not being able to walk around town at noon because of the heat, climate change brings other risks as well. Climate risk refers to the potential financial, social or environmental harm caused by climate change, and is broadly defined as the range of potential business and financial impacts that organizations may face resulting from the effects of climate change. These risks are categorized as either physical risks or transition risks.
Physical risks arise from the increase of extreme climate-related disasters. Climate change increases the probability of the occurrence of events like wildfires, storms, floods and heatwaves. These are termed acute risks. It also increases the risk of events like droughts, landslides, sea-level rise and precipitation. These are called chronic risks. Both acute and chronic physical risks pose a threat to physical infrastructure in real-time and present immediate business interruptions. Their effects are tangible. For example, rising sea levels or storms could destroy an organization’s assets. If those assets are key to business, economic loss could translate to a financial loss.
Transition risks, on the other hand, come from trying to slow down the rate of climate change using practices such as transitioning from reliance on fossil fuels towards a low-carbon economy. These risks stem from changing policies, evolving technology, and shifting sentiments. They are blended risks, associated with the pace and extent at which an organization manages and adapts to the internal and external pace of change. If stakeholder sentiments are changing, they need to be aware of and adapt to meet those evolved ideas. If a regulatory change is on the horizon, they need to anticipate and prepare for it. Transition risks can be highly specific risks at an asset or company level, and they are difficult to quantify. Several global organizations have changed their business models to meet heightened regulatory requirements and new consumer expectations, resulting in a larger amount of transition risks.
For organizations to better manage these risks, we need to identify climate risks and assess their potential impact. One way to do this is to conduct a qualitative literature review of 1.5/2oC and 4oC climate scenario impacts. This is called Climate Scenario Analysis (CSA). The CSA is a valuable tool for understanding the consequences—both positive and negative—of climate change for businesses and encouraging longer-term strategic thinking about risks and opportunities. Framing climate risks and opportunities in the context of potential future warming scenarios allows companies to assess the impact of future risks and opportunities arising from climate change across their value chain, make the necessary preparations, and demonstrate their resilience to stakeholders. Since climate risk is specific to location and jurisdiction, it is crucial to customize the assessment to local, regional, national and institutional contexts. Qualitative climate scenario analysis is often the first step for organizations to explore potential future climate impacts. Qualitative analysis is the process of identifying risks and determining the probability of a risk occurring and its impact on an organization, subjectively. If the organization desires, the qualitative analysis can then be taken forward quantitatively. Quantitative approaches may be achieved by using existing external scenarios and models provided by third-party providers or through in-house modeling by the organization. However, quantifying climate risk is a very complex and specialized endeavor. The data, methodologies and expertise required are beyond the core competencies of many organizations.
Climate risk reports should inform a company’s leaders and stakeholders, and in some cases the public, about the risks an organization may face currently and in the future. The report should advise decision makers within the organization about possible resilience and adaptation actions that can be taken. The report should define the scope of the climate risk assessment and provide an overview of the existing data and resources used, identify the risks that are most relevant and rate the organization’s vulnerability and exposure to each risk. Vulnerability is the tendency of the exposed system and its components to be adversely affected; exposure is the presence of people, livelihoods, infrastructure, assets, species, or ecosystems in places and settings that could be adversely affected. The scenarios and associated analysis of development paths should illustrate potential pathways and outcomes. The report should also highlight measures to mitigate and adapt to climate change. This could include resource efficiencies and cost savings, the adoption of low-emission energy sources, the development of new products and services, access to new markets, and building resilience along the supply chain.
Measuring and managing climate risks is desirable for companies to reduce long-term financial risk. Assessing climate risks and developing appropriate responses will enable organizations to meet the growing sustainability expectations of investors and stakeholders and prevent future financial losses.
