Disclosure of climate-related financial risk: major change is imminent

Companies that fail to accurately report on climate related risks may face significant legal and reputational damage

There has been a global proliferation of voluntary reporting standards that companies might adopt with respect to disclosure of climate change-related financial risk.

Notably, in 2016, the G20 Financial Stability Board established the Task Force on Climate-Related Financial Disclosures (TCFD), which released a set of recommendations for the voluntary disclosure of climate change-related financial risks in 2017, around which there has been widespread business convergence.

What sets the TCFD recommendations apart is their sophistication – they require companies to disclose qualitative data, including scenario analysis, which identify risks based on differing climate change-driven scenarios.

Despite being developed as a voluntary framework, the TCFD recommendations are rapidly becoming mainstream by virtue of their endorsement by major investors, regulators and many major companies worldwide.

For example, signatories to the United Nations Principles for Responsible Investment (UNPRI) are required, from 2020, to adopt and report under the TCFD recommendations. At the time of writing, UNPRI members include more than 160 organisations headquartered in Australia, including many of the country's major banks, investment managers and asset owners.

'The relevance of climate-related risks to today’s financial decisions and the need for greater transparency have only become clearer and more urgent over the past two years. Nearly 800 public- and private-sector organizations have announced their support for the [Task Force on Climate-Related Financial Disclosures] and its work, including global financial firms responsible for assets in excess of $118 trillion.'¹

 

The New Zealand Government and a joint taskforce of UK regulators are also exploring the possibility of changing the law in those jurisdictions to mandate TCFD reporting.

There is currently no proposal to change the law in this way in Australia, but federal regulators have released guidance endorsing the TCFD framework (and climate-related risk disclosure more broadly):

• ASIC: In 2019, ASIC published updates to two Regulatory Guides, RG228 and RG247, to provide guidance on climate-risk disclosure. Significantly, RG247 highlights climate change as a systemic risk that might impact the company's future financial prospects, and that may need to be disclosed in an operating and financial review (OFR). The updates followed the publication by ASIC in 2018 of ASIC Report 593 on Climate Risk Disclosure by Australia's Listed Companies. This confirmed that a listed entity must disclose any material business risks — including, where relevant, climate-related risks — affecting future prospects in its OFR in accordance with s229A(1)(c) of the Corporations Act.
• APRA: APRA formally established a thematic supervisory priority on climate-related financial risk in 2016. Following the publication of the results of a survey of 38 large entities across all regulated industries in March 2019, in early 2020 APRA announced climate change financial risk as a key focus area over the coming 12-18 months. In its 24 February 2020 open letter to regulated entities, APRA reiterated that it encourages entities to disclose under the TCFD recommendations framework and signalled that it would prepare a new prudential practice guide aimed at encouraging regulated entities to better prepare for climate risks and clarify regulatory expectations. Consultation on the new prudential practice guide is expected to commence in mid-2020 and publication to occur before the year's end.
• ASX: In the 4^th edition of the Corporate Governance Principles and Recommendations, released in February 2019, climate change is expressly mentioned for the first time. The Principles and Recommendations provide that a listed entity should disclose whether it has any material exposure to ESG risks and, if so, how it manages or intends to manage those risks. The ASX Corporate Governance Council recommends that listed entities adopt the disclosure framework set out in the TCFD recommendations.

Further, in December 2018, the Australian Accounting Standards Board (AASB) and the Auditing and Assurance Standards Board (AUASB) released guidance on 'Climate-related and other emerging risks disclosures'. The AASB/AUSAB Practice Statement provides a decision tree to assist entities with the process of disclosing climate risks within their financial statements.

Key risks

Companies that fail to report on climate-related risks in the manner required may contravene Australian corporations law or listing rules.

Companies should also consider the risks associated with inaccurate corporate disclosures constituting misleading and deceptive conduct under the Australian Consumer Law (Australian Consumer Law issues are discussed further here).

This risk of legal non-compliance is, in turn, a key driver of corporate behavioural changes in relation to climate change. Companies realise that,  to report effectively in response to corporate reporting obligations, they need to conduct extensive internal due diligence to better understand their operations and potential impacts on the world around them. They also recognise that non-compliant reporting is considered 'low-hanging fruit' for activist NGOs seeking to draw attention to corporate behaviour in relation to climate change.

The sophistication of the required reporting will likely increase in line with the uptake of the TCFD recommendations. Market participants, including investors, lenders and consumers are increasingly expecting that companies will adopt voluntary disclosure frameworks such as the TCFD recommendations, and ASIC has recommended that companies with material exposure to climate change consider voluntarily reporting under the TCFD framework.² A failure to disclose risks in a way that allows stakeholders to assess their potential impact on a business may affect a company's ability to attract investment (see further below the section on 'Just Transition' commencing here).

Key questions

• Considering statutory duties, regulatory guidance and voluntary commitments through (for example) UNPRI, should your organisation adopt TCFD reporting?
• Are adequate systems in place to provide assurance on the accuracy and completeness of climate-related disclosures?
• Has your organisation considered who may rely on climate-related disclosures, and satisfied itself that those people will not be misled in substance by those disclosures?
• How do your organisation's climate-related disclosure practices compare to its industry peers?
• Do your organisation's climate-related reporting practices put it at a competitive disadvantage? Will this remain the case?
• If your organisation does not currently report, should it have a roadmap which sets out how it intends to progress towards reporting in the future? Is there an identified trigger point?
• Does your organisation have systems in place to regularly confirm its disclosure practices meet market and regulatory standards as this area continues to evolve?