Climate-related disclosures – a breakthrough?

The Task Force on Climate-related Financial Disclosures, which we discussed here, has now issued its report of recommendations.

It builds these recommendations around “four thematic areas that represent core elements of how organizations operate.” Here they are:

  • Disclose the organization’s governance around climate-related risks and opportunities.
  • Disclose the actual and potential impacts of climate-related risks and opportunities on the organization’s businesses, strategy, and financial planning.
  • Disclose how the organization identifies, assesses, and manages climate-related risks
  • Disclose the metrics and targets used to assess and manage relevant climate-related risks and opportunities.

The report supports each of these with more detailed recommended disclosures. For our purposes, the most interesting of these, and the most likely to open up major new territory, perhaps lies under the second heading, focusing on the potential impact of climate-related changes: it requires describing “the potential impact of different scenarios, including a 2°C scenario, on the organization’s businesses, strategy, and financial planning.” The 2°C scenario “lays out a pathway and an emissions trajectory consistent with holding the increase in the global average temperature to 2°C above pre-industrial levels (and provides) a common reference point that is aligned with the objectives of the Paris Agreement.” Other scenarios might reflect “Nationally Determined Contributions (NDCs), business-as-usual scenarios, or other challenging scenarios”

The report fleshes this out further: “For an organization at the initial or early stages of implementing scenario analysis or with limited exposure to climate-related issues, the Task Force recommends disclosing how, qualitatively or directionally, the organization’s strategy and financial plans may be affected under relevant climate change scenarios. This information helps investors, lenders, insurance underwriters, and other stakeholders understand the robustness of an organization’s forward-looking strategy and financial plans across a range of possible future states. Scenario analysis disclosures can be most useful when they are related to the organization’s main financial information.” This seems to stop short of recommending an actual forecast or projection of how key financial measures might be affected by the various scenarios. But the reference to relating the disclosures to the main financial information inherently tends to push in that general direction. The report suggests that preparers “provide such disclosures in their mainstream (i.e., public) financial filings” – presumably in most cases this would mean providing them in the MD&A.

The following passage from the report also pushes heavily toward the territory of the financial statements:

  • In most G20 countries, financial executives will recognize that the Task Force’s disclosure recommendations will result in more quantitative financial disclosures, particularly disclosure of metrics, about the financial impact that climate-related risks have or could have on an organization. Specifically, asset impairments may result from assets adversely impacted by the effects of climate change and/or additional liabilities may need to be recorded to account for regulatory fines and penalties resulting from enhanced regulatory standards. Additionally, cash flows from operations, net income, and access to capital could all be impacted by the effects of climate-related risks (and opportunities). Therefore, financial executives (e.g., chief financial officers, chief accounting officers, and controllers) will need to be involved in the organization’s evaluation of climate-related risks and opportunities and the efforts undertaken to manage the risks and maximize the opportunities. Finally, careful consideration will need to be given to the linkage between scenario analyses performed to assess the potential impact of climate-related risks and opportunities (as suggested in the Task Force’s recommendations) and assumptions underlying cash flow analyses used to assess asset (e.g., goodwill, intangibles, and fixed assets) impairments.

Some of this might strike readers as a bit of an overreach, for now anyway. For example, for purposes of impairment testing, IAS 36 requires basing cash flow projections “on reasonable and supportable assumptions that represent management’s best estimate of the range of economic conditions that will exist over the remaining useful life of the asset.” Clearly, that needn’t correspond to the theoretical scenarios presented for purposes of the scenario analysis. But still, even by putting it out there that there might be a correspondence, the report takes a step to remove IFRS-compliant financial statements from ring-fenced isolation.

Anyway, that’s obviously just the merest flavour of the report’s content, and no doubt we’ll return to it in future articles. It notes: “the success of these recommendations depends on near-term, widespread adoption by organizations in the financial and non-financial sectors… Widespread adoption of the recommendations will require ongoing leadership by the G20 and its member countries.” At the time of writing it’s impossible to know if that’s likely – it seemed to me at the time of its release that the media generally treated the report (if at all) as an interesting matter of secondary importance, rather than as an immediate call to action. I don’t think I’m being too drearily negative when I say it has the flavour of an Obama-world document more than one for the brutally reckless world we’re actually heading into for the foreseeable future. All the more reason, of course, for those key players to speak out and start pushing hard….

The opinions expressed are solely those of the author

 

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