Putting climate change on the balance sheet

2 March 2020: as the UK gears up to host COP 26 amid the planet’s growing climate crisis, has the time for sustainable cost accounting finally come? Chris Warmoll and Penny Sukhraj report.

Frequent flooding, severe storms and soaring global temperatures are now also the concern of accountants – the UK profession is the latest to join global regulators and activists in calling attention to the crisis. 

A pledge has been made calling on professionals worldwide to use their skills to tackle climate change under the Prince of Wales’s Accounting for Sustainability Project (A4S) Accounting Bodies Network, which represents 2.5 million accountants worldwide. 

The logic is simple: with their unique skills, accountants are better placed than most other professionals to calculate accurately the environmental costs of companies’ business decisions and integrate climate risk into organisational strategy, finance, operations, and communications.

Last week, Mark Carney, Governor of the Bank of England, expressed his wish for the framework from the Task Force on Climate-related Financial Disclosures (TCFD) to become compulsory and for more institutions to sign up. Carney was speaking at an event at the Guildhall, London designed to highlight that climate finance, and adapting the financial system to address climate risks, will be a major theme ahead of the Glasgow COP26 summit.

These calls to action, taken together with the Financial Reporting Council’s plan to review how companies and auditors assess and report on the impact of climate change, indicates a shifting landscape that will likely involve a grafting of climate issues into the DNA of company accounting and auditing. 

Commenting on the announcement of its review, FRC Chief Executive Sir Jon Thompson said boards of UK companies “have a responsibility” to report their impact on the environment and the risks of climate change to their business, and that investors “expect them to operate sustainably”. Auditors also have a responsibility to “properly challenge management” to assess and report the impact of climate change on their business, according to Thompson.

Hywel Ball, EY’s UK Head of Audit, welcomed the FRC’s review, stating, “climate change continues to be an area of greater engagement for investors and also reflects the growing focus on how companies are articulating the long-term value they build for all their stakeholders”.
 
There’s little doubt investors need insight on such an all-encompassing issue – company accounts are therefore key to their understanding of how the corporate institutions in which they invest are responding to the challenges of climate change.

“Companies need to make visible what their profit and capital would be, given a sustainable climate. Paris-aligned accounting would be catalytic,” Natasha Landell-Mills, Head of Stewardship at global asset manager, Sarasin & Partners, told the Financial Times.

The Local Authority Pension Fund Forum, which comprises more than 80 local government pension scheme funds and controls over £250bn in combined assets, has recently endorsed such an approach following presentations from Richard Murphy, Director of the Corporate Accountability Network.

Its stance on sustainable cost accounting has also been championed by Alan MacDougal, Managing Director of the Pensions & Investment Research Consultants, Europe’s largest independent corporate governance and shareholder advisory outfit, who told ICAEW Insights that “its time is now”.

Murphy, an ICAEW fellow, argues that putting the real cost of climate change on the balance sheet is now essential and must be fully embedded into the DNA of company reporting. “This means that reporting must be both mandatory and audited. That requires the disclosure to be within the financial statements and not in ESG or other reports.” 

According to Murphy, it’s a matter for all the stakeholders of a company, including its investors. “All of them have to know if a reporting entity can make the transition to be net zero carbon and have access to the capital that will be required to make this happen. This is a financial reporting, and thus an accounting, issue and so has to be on the balance sheet.

“Accounting cannot be neutral and should, therefore, both report and encourage good practice and be a core part of that process of change,” continued Murphy.
 
“Ensuring that provisions for the cost of climate change be reported on the balance sheet of larger entities is all about providing them with the incentive to make the necessary investments, secure the necessary capital, and make the required changes as soon as possible.

“We do not have time to waste in delivering this,” said Murphy.