The UN’s COP26 climate summit demands far more than warm words; world leaders must explain how they will curb emissions and prepare their countries to cope with all the risks the climate crisis will bring. Accountants have a pivotal role to play over the next decade and beyond.
For even the most dismissive of sceptics, these past six months have produced a compelling range of evidence that we will all suffer from the changing climate. From flooding in western Europe to wildfires in Turkey, Greece and the western US, multi-year droughts in Australia causing a near biblical plague of mice, and ongoing disasters in many of the poorest parts of the world.
Slowly, a response is building from politicians and business. For example, to date, 191 parties – 190 countries plus the European Union - have signed up to the goals of the Paris Agreement, a legally-binding international treaty on climate change adopted at the UN’s COP21 meeting in 2015. This intends to limit the rise in global temperatures well below 2°C this century and to pursue efforts to keep it under 1.5°C.
Unfortunately, as well as being slow that response is wildly insufficient. The landmark report Climate Change 2021: The Physical Science Basis, published by the Intergovernmental Panel on Climate Change (IPCC) in August, warned that under any future scenario considered likely by scientists, both the 1.5°C and 2°C targets will be broken this century, unless far larger cuts in carbon emissions take place.
“It’s very widely accepted that climate change risk is a business and financial risk; there’s the physical risk of climate change, for example the impact of weather events on a business, and there’s also the transition risk – the risk to a business of the global economy moving to a fully decarbonised world,” says chartered accountant Russell Picot, who retired as HSBC Group Chief Accounting Officer in 2016. “It’s pretty clear that most if not all businesses will be affected by one or another of these.”
“There’s the broader societal aspect of this,” adds Picot, also a Special Advisor to the Financial Stability Board’s Climate-related Financial Disclosures Task Force and a Senior Associate at the Cambridge Institute for Sustainability Leadership. “What will our customers and the broader general public find acceptable about the way we conduct our business.”
And, obviously, we should expect change from governments too. “This issue can’t be left to the market to solve,” says Richard Spencer, Director of Sustainability at ICAEW. “There has to be a policy, legislative and regulatory response that bites as well.”
The challenge facing organisations is how to respond to such a complex set of problems. As the recent IPCC report made depressingly clear, the focus is now shifting from prevention to adaptation. “It’s about understanding how climate change is going to affect your specific business, what you need to do to mitigate those risks, and for us making sure we have resilience within our infrastructure to meet the challenges climate change will bring,” says Chris Tregenna, Group Treasurer at water company Pennon Group.
What finance teams should do
What is increasingly clear is that finance teams have a pivotal role to play in both quantifying the climate risks that organisations face and communicating them back to the business and other stakeholders keen for reassurance that the issue is in hand. “Companies are recognising that they don’t have much of a choice because their investors want to know, their employees want to know and their customers want to know,” says Richard Barker, Professor of Accounting and Deputy Dean of the University of Oxford’s Saïd Business School.
Ravi Abeywardana, Technical Director of the Climate Disclosure Standards Board (CDSB), believes the opportunity for accountants to apply their existing skills to help organisations create a more sustainable world is exciting. “We sit at the heart of business, churning numbers and providing insight, creating the necessary ecosystem to warrant and implement adaptations. As the next few years unfold, accountants worldwide have an immense responsibility, and opportunity, to support the shift to a sustainable global economy.”
It’s important to realise that although good quality reporting in this area is necessary it is by no means sufficient. “Good reporting has to be rooted in good practice,” says Spencer. “Businesses can’t just do what they’ve always done but a bit better; that’s just an efficiency play and it is too late. We have to do things differently.”
The right standards and meticulous reporting will undoubtedly push that behavioural change, however. IFRS Standards require the incorporation of material climate-related matters in financial reporting, and investors have made it clear that climate related risks are material to their investment decision-making. “Right now, listed companies as well as large private enterprises have to start mobilising their resources to quantify climate risks in their annual reports, which include Financial Statements,” says Abeywardana.
“This is arguably the first and biggest step to changing the way our global economic system prices business activity, to include environmental costs. In turn this helps them to provide investors with decision-useful environmental information via the mainstream financial report, enhancing the efficient allocation of capital. Soon this requirement will extend to charities and public sector organisations.”
The need for a common baseline
However, knowing precisely what to report and how to report it remains a thorny issue. Uncertainty around the format that standards should take and the absence of international standards remain sticking points. The growing use of emerging voluntary sustainability reporting frameworks such as those of the Task Force on Climate-related Financial Disclosures (TCFD) is to be lauded but their flexibility remains a double-edged sword; on the one hand they allow organisations to focus on the areas and climate risks most pertinent to their operations, on the other critics argue that the huge scope for interpretation leaves the door wide open for potential greenwashing.
There’s certainly no shortage of climate reporting initiatives; the IFRS Foundation Trustees are in the process of setting up an international sustainability standards board whose first job will be to develop climate standards. Meanwhile, the European Commission is pushing ahead on developing its own European sustainability reporting standards, the first set of standards to be adopted by October 2022. Some form of climate reporting is also on the US’s Securities and Exchange Commission’s agenda, although what they will do and how remains to be seen.
Former US Financial Accounting Standards Board (FASB) chairman Bob Herz is both an expert adviser to and member of a G7 Impact Taskforce formed under the UK Presidency of the G7 tasked with finding ways to improve transparency, integrity, and trust in impact reporting and ways to accelerate the mobilisation of capital to address global sustainability challenges. “I think one of our roles is to try to bring all of this together and have a plan for moving forward so we have more uniform, more comparable and better-defined standards,” Herz says. “At least there needs to be a common baseline.”
It remains to be seen which of these competing approaches will dominate or whether they will awkwardly coexist. However, the absence of global consensus on climate reporting shouldn’t be used as an excuse to stall action, Picot urges. He chairs the Trustee Board of the HSBC Bank (UK) Pension Fund and is Director of the Universities Superannuation Scheme. Both organisations have reported under TCFD.
As it currently stands, climate risk reporting may not be based on a tight set of measuring rules and it’s certainly not comparable to financial reporting standards, but the opportunities for the finance function are clear, Barker says: “You don’t get to a well-developed model of carbon accounting and reporting without the accountants being involved. The issues around capturing carbon emissions in your supply chain are methodologically bread and butter for accountants. It’s about measuring, capturing data and validating so it’s a straightforward extension of the management accounting and corporate reporting function.”
At the same time, another issue that’s surfacing is the extent to which companies are able to produce data on their Scope 3 emissions – that is, carbon emissions that emanate from their supply chain. “What you’re accounting for here is the whole value chain. The scope to expand the accountants’ role in all of this is enormous,” Barker says.
Despite the technical issues presented, Picot believes a bigger issue is the challenge of communicating climate risks to stakeholders and explaining how your business plans to address them. “You need to be clear to your stakeholders about what it is you’re going to do and how your business is going to be successful in a decarbonised world – that’s the opportunity. The companies that go early with credible plans will fare better than the laggards.”
This is an opportunity for the profession to take a bigger role on an issue that will only become more important, Barker believes, but there’s also an undeniable sense of urgency as the broader implications of global warming become ever more apparent. “It’s the biggest challenge that humanity faces,” Barker warns, “and it’s got to happen quickly or we’re in huge trouble.”
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