Measuring climate risks of companies

Measuring climate risks of companies

There are three major types of climate risks: physical risks, transformation risks and liability risks. Of particular concern for companies are risks associated with decarbonisation. But political measures aimed at greenhouse gas neutrality can have a direct major impact, for example on production processes, the technologies used or product designing.

This transformer is a smart-grid component. It regulates the varying power feed from solar and wind parks automatically.

© BayernLB

Decarbonising the economy harbours risks

Of the three main types of climate risks – physical risks, transformational risks and liability risks – the risks associated with decarbonisation are the most critical for the vast majority of companies. Political measures deployed to achieve  greenhouse gas neutrality can directly affect production processes, technologies used and product design. Such measures may include a CO2 tax or more stringent limit values for energy consumption, or simply increased consumer demand for energy-efficient electrical appliances.

Video: A question of creditworthiness - Gebhard A. Stadler, country risk and industry analyst at BayernLB, on sustainability criteria in country ratings

Measuring climate risks of companies

Decarbonisation strategy affects credit ratings and share prices

The way in which a company handles these climate risks can affect its market success, which in turn affects its credit rating, share prices and, ultimately, its ability to pay interest and dividends. It is therefore crucial that investors have access to the relevant information. The Task-Force on Climate Related Financial Disclosures (TCFD) published a number of recommendations as to how companies should communicate information on climate risk management to their stakeholders in the future.

Carbon ratings provide illuminating information

Companies already have carbon ratings. They are usually issued by specialist sustainability ratings agencies such as ISS-oekom, MSCI ESG, sustainalytics or Vigeo Eiris. These ratings look at a variety of individual criteria to assess areas such as:

  • The company’s climate objectives and strategy
  • How environmentally friendly the company’s products and services are
  • How the company’s GHG emissions have changed in recent years
  • The scope and quality of the company’s climate reporting processes.

The use of carbon ratings in asset management allows investors to target their investment towards companies with a lower level of climate-related risk than their industry peers. By selecting sectors and companies with lower greenhouse gas emissions, investors can take targeted action to reduce the carbon footprint of a portfolio.

On the right track? From climate risks to climate goals

Carbon ratings provide a clear picture of the current climate risks of a particular company. But the question of whether a company is on the right track and moving towards greenhouse gas neutrality is also playing an ever-more important role. In addition to an analysis of the current situation, analyses of goals and progress are also increasingly important.

There are currently two pioneering approaches for this:

  • The “Best-in-progress approach” analyses which companies have made the most progress in terms of climate risk management in recent years. These companies are most likely to continue to take a dynamic approach to these risks in the future.gress approach” analyses which companies have made the most progress in terms of climate risk management in recent years. These companies are most likely to continue to take a dynamic approach to these risks in the future.
  • The “Best-in-transition approach” determines whether a company is on a medium to long-term transformational path towards greenhouse gas neutrality. It goes without saying that uncertainty is inherent in predictions made for a point 20 to 30 years in the future. For this reason, initiatives such as the Science Based Targets are working to formulate scientifically founded climate protection goals for companies. Around 360 companies world-wide have already committed to determining science-based targets for their organisation.