Climate Risk: How businesses can prepare for a changing climate

Full transcript below: 

Brad: Welcome to the Climate Risk Podcast. I'm your host, Brad Hurley from the consulting firm ICF. In this podcast series, we'll explore the concept of climate risk. We'll learn about the steps that businesses, utilities, and other organizations are taking to understand their climate risk, how they're addressing it, and what they're doing to disclose their climate risk to investors and other stakeholders. To launch the series, I asked my colleague Peter Schultz to explain what we mean when we talk about climate risk from a business perspective, and to describe some of the factors that are driving businesses to understand and reduce their climate risk. Peter is a vice president for climate change and resilience at ICF, where he focuses on analyzing climate risk and opportunities in the private sector. We spoke in his office in Washington, D.C.

The different forms of climate risk

Peter: Climate risk can take a couple of forms. The two main buckets that I, and many others, think about it is as physical risk and as transition risk. Physical risk is direct property damage. So, when there is an increase in the number or intensity or severity of weather events that directly damage a business or its profitability, that's one aspect of physical risk. Another aspect of physical risk is when a business loses the ability to sell things--or its customers lose access to that business. Another way physical impacts of weather on the business can be manifested is by affecting the supply chain. For example, back in 2011, there was some severe flooding that happened in Thailand. One of the things that that did was knock out the production of computer hard disks, and that doubled the price of hard disks worldwide. And it thereby increased the prices of computers that are sold around the world. Another thing that it did here in the United States is, by knocking out the production of parts, it affected the ability of automobile manufacturers in the United States to build cars. So, those are a number of ways in which physical risks can be manifested to businesses.

But there's the second kind of risk, which is transition risk, and that's risk where things are changing. So, changes in regulation, changes in legislation, changes in market preferences. An obvious example of this would be a company that’s really heavily invested in fossil fuels. If there is a transition to a lower-carbon economy, perhaps there are regulations or there's legislation that's put in place that puts price on carbon or otherwise makes it difficult for a business that's invested that way to prosper--then there could be a downturn for that particular business.

The value of evaluating risk

Brad: So, are there a lot of companies that are working on this that are actually evaluating their climate risk? Is this something that's becoming a thing?

Peter: Yeah, it is becoming a thing. And it's really accelerating in terms of the ways in which companies are thinking about this. We've seen this change really in the last five or so years. And there are a couple of things that are driving it. One is that, coming out of the 2008 economic turmoil, there was a group that was formed out of the G20 where they were looking at ways to prevent things like another 2008 economic disaster. So, one of the risks that they looked at was risks associated with climate change, and they created something called a Task Force on Climate-related Financial Disclosures or the TCFD. This TCFD process outlined a number of key principles and processes that businesses can use to understand and to address risk. And this is being taken really seriously. For example, in France, Article 173 was passed. That article requires that major businesses operating in France must analyze and disclose their climate risks, whether that's a physical risk or whether that's a transition risk. And the EU and UK are both poised to enact some legislation that would do the same. So, it's being taken pretty seriously.

There are a number of other drivers at the top of that list. Businesses just frankly, are seeing the impacts to their own operations--to their own bottom line--and seeing it happen to their competitors and want to take steps to avoid the negative happening to them. But there's a flip side to this, in that some businesses are looking at opportunities associated with climate change as well. For example, a business that is working in a natural resource sector, let's say forestry, the places that are good now for a particular kind of plantation might not be so good 10, 20 years in the future. And so, businesses are taking active steps to understand where they need to be positioned in the future. Other businesses are thinking about technology. So, the technologies that are good for today may not be the technologies that they want to be invested in the future. They're thinking about those opportunities and ways to beat their competition to this place. It's kind of like what Wayne Gretzky used to talk about the puck. Don't go where the puck is right now, go where it's going to be.

Brad: Are there particular sectors that are leading the way on this or that are more active than others?

Peter: Yeah. Here at ICF, we're working with a number of energy utilities that are really proactive in understanding the risks that they face and trying to do some concrete things to increase the reliability of the service that they provide--as well as the overall sort of major resilience to big, significant impacts and shocks. So, that's one of the sectors that can be an early adopter. We see it across the natural resource sectors. We see some places in real estate and another kind of feature that tends to distinguish early adopters is size. It tends to be the bigger companies that have had the bandwidth to take on consideration of climate risks and opportunities.

Brad: You mentioned that France has a disclosure law. Are there any other countries that are doing that? What about the EU or...?

Peter: Yeah. There are discussions underway in the EU to formalize that. And there are also discussions in the UK in association with the Bank of England, which has been an active player in the Task Force on Climate-related Financial Disclosures. And it seems likely that there will be some legislation at the level of the EU and in the UK. There hasn't been a lot of formal discussion that has been proposed in the United States to take this on at the corporate level. But I should say that in the Obama administration, there was an executive order that, for example, required that all investments made by U.S. agencies overseas had to consider climate risks to those investments. I think it's possible that that will arise again in the future.

Brad: And I imagine if something does happen at the EU level, then multi-national companies based in the U.S. may want to have some kind of harmonization or a level playing field?

Peter: That's right. Yeah. And that's in part why it tends to be the multi-nationals that are the early adopters, the ones that are first thinking about climate change because even though if a company is based in the United States, they may have operations in France, EU, UK, etc. The fact that those European entities are taking this so seriously then comes back to their U.S. operations and their U.S.-based planning.

Brad: Do you know of any smaller businesses that are looking at this?

Peter: Yeah. Well, a really good example of the kind of company that's on the frontlines are small ski resorts. I mean, they are struggling. Here where we are in the U.S. Mid-Atlantic region, it's a really tough business and it's gotten tougher in the last decade and a half. So, that's a really obvious kind of impact and an obvious kind of industry. Out west, they have seen--staying with the ski industry-- impacts on the order of billions of dollars in the last couple of decades. Something on the order of a 10% reduction in workforce in the warmer winter years relative to the snowy years with real impacts on the bottom line.

Key principles to help sort out solutions

Brad: Once I've evaluated my climate risks, what do I do about it? Do I purchase some kind of insurance to sort of even out the exposure, or what are some of the solutions that businesses can look at?

Peter: The TCFD outlines a set of principles for doing just that. One of the initial steps that they recommend is having the leadership of the company address this. There's that governance piece. And then kind of growing out from that is thinking about how this consideration of climate risk can affect the strategy--and then how that can roll out into thinking about risk management, and then how you can monitor and measure progress. But I think you're asking specifically about like, what are some of the measures that companies can take to manage those risks? Insurance is absolutely one of those. So, just distributing that risk is certainly one approach that the companies take. Another approach that companies take to distribute risk other than buying insurance is to diversify--and diversify in ways that kind of separate them from sort of extreme sensitivity to weather.

Other things that companies do is create physical barriers, sort of gray approaches. So, if they are in a place that's prone to flooding, there are a whole bunch of relatively new technologies for protecting properties from flooding that are being deployed, these sort of portable flood gates that can be put up when storms are approaching. There are also green approaches that companies are taking.

So, at our company, one of the things that gives us some level of resilience is our ability to telecommute when there's a particular weather event that's happening. And you know, the tendency would be for more disruptive weather events, that ability increases our resilience. So, the ability to work remotely is one of a whole slew of approaches that companies can take. And that's one of the things that we bring--and others bring--when they're helping companies think through that solution space. It’s not just sort of one hammer and everything is a nail so we just have one solution. The robust approach is to think about all of the different ways that a company can respond to the risks. Whether that's buying insurance or whether that's building a wall, all of those things should be on the table.

And it's not just the effectiveness and the cost that is important in a business thinking this through. It's also the timing. Because if you spend a whole bunch of money on something that you could just simply replace as part of your normal O&M [operations and maintenance] process, that makes a lot more sense than laying out the money right now to tear down something that's perfectly good to build something that is more resilient when you know that in 5 or 10 years, you're going to have to replace that. So, maybe just wait if you can that 5 or 10 years. Then replace it with something that is similar in cost, but uses the technology that's more resilient to changing weather patterns.

Brad: Thanks to Peter Schultz for that great overview and introduction to the topic of climate risk. If you're interested in climate risk and would like to learn more, please subscribe to the podcast. You can follow along as we explore this topic in more depth.