5 minute read 24 Aug 2018
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Four risks for companies to manage on climate reporting

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EY Reporting

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5 minute read 24 Aug 2018

As demands grow for companies to incorporate environmental risk into their strategies, noncompliance is drawing attention from regulators.

Climate risks are increasingly affecting corporate reporting strategies. Alice Garton has been at the forefront of efforts in this area in her role as Company and Financial Project Lead at ClientEarth, a nonprofit organization of environmental lawyers.

Headlining a session at the 2017 Financial Times Climate Finance Summit, Garton outlined how recent developments in climate litigation will affect companies that are in the process of adapting to the ongoing energy transition, away from fossil fuels and toward sustainable and renewable energy.

She explained that cases can be divided into three main categories: failure to mitigate risk, failure to manage risk, and failure to adequately disclose and report on risk. The last category was the focus of Garton’s discussion. She broke the issue down further into four risks companies will need to focus on in the coming years:

Most companies accept that climate poses serious financial risk.
Alice Garton
ClientEarth

1.    Inconsistency between internal workings and external standards

Garton cited a recent case in the US where a company’s internal assessments of its climate risk varied significantly from what it was telling the markets and regulators. The New York Attorney General was able to prove this by subpoenaing evidence that demonstrated that the company’s consultants had warned that increased climate regulation would have “severe impacts on the company — and, indeed, reduce its sales in the US by 30% or more.”

2.   Misrepresentation of forward-looking conditions

In 2016, an energy company continually insisted to its investors that none of its proven hydrocarbon reserves would become stranded. The resulting overstatement in the value of its reserves caused the company a major headache and resulted in a significant write-down.

“The company now faces a class action shareholder lawsuit for making false statements on its climate risk over a six-month period,” Garton said. In another example, an energy company “cherry-picked” energy scenarios that were favorable to it, and this gave a misleading impression of the strength of the business.

3.   Misrepresentations on compliance with regulatory standards

There have been a number of high-profile corporate scandals in recent years that illustrated the need to comply with the highest regulatory standards. But Garton warned that greater awareness of the issue isn’t enough without action.

“Anyone with experience at a senior level in large companies knows that the vast majority of the board’s time is spent on core financial matters,  not environmental compliance,” she said. “As the energy transition bites and the materiality of environmental standards increases, regulators, investors and consumers expect companies to catch up. So expect to see these types of actions becoming more common.”

4.   Mandatory filings differ from voluntary disclosures

The last 15 years have seen most environmental risk reporting done on a voluntary basis, through initiatives such as CDP (formerly known as the Carbon Disclosure Project). This reflected the fact that most environmental risks were considered important only to certain stakeholders and didn’t meet the materiality standard for mainstream financial regulations.

“That has changed in the last few years now that most accept that climate poses serious financial risk,” said Garton. “Companies and advisors need to look at where they currently disclose their risks and move them into mainstream filings, where appropriate.”

Garton concluded that a broader approach that incorporated not only better management of risks, but also of their reporting, was now the minimum expected of corporates across the world.

Summary

Recent developments in climate litigation will affect companies that are in the process of adapting toward sustainable and renewable energy.

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EY Reporting

Insights from external journalists, academics, practitioners and EY professionals

Reporting, EY Global Assurance’s insights hub, provides high-quality content tailored for board members, finance directors and audit committee chairs.