Carbon Tracker’s latest analysis points once again to the danger of climate-related financial risks hidden in companies’ accounts.
Climate reporting is now an established part of the corporate diary. Task Force on Climate-Related Financial Disclosures (TCFD) reporting covering climate strategies, targets, risks and opportunities are being subsumed into the International Sustainability Standards Board (ISSB) climate reporting rule “IFRS S2 Climate-related disclosures”, which will become the global standard for climate reporting[1].
And yet we are still waiting for companies’ financial reports to address material climate risks properly. This is the core conclusion from Carbon Tracker’s latest analysis of 2022 Financial Statements (published in 2023) for the 140 of the world’s largest greenhouse gas emitters. Remarkably, 60% of companies reviewed failed to provide meaningful information about whether, and how, climate risks and the energy transition impact the financial statements.
You might conclude from this that despite all the hoopla around climate risks, the reality is they are not material to company’s expected cash flows, asset values or liabilities.
The problem is that these same companies are frequently setting out in their TCFD disclosures how climate change, the associated policy actions by governments and their own climate commitments will be material for their future performance.
Of course, there are uncertainties. But does uncertainty mean they should be ignored in companies’ accounts? Generally speaking, if the impacts are probable, they should be incorporated.
We need numbers, not words alone
Even where climate impacts are probable and foreseeable, for instance where a company has set out specific plans to reduce emissions by purchasing more renewables power, investing in energy efficiency or capturing and storing carbon emissions, it is not always evident how the associated cash flows are being captured in the accounts. If the future use of an asset is predicated on carbon capture and storage, then one would reasonably expect that the cost of this investment would be accounted for in impairment testing.
Such disconnects between climate change reporting in the front half of an annual report and the financial statements is precisely what Carbon Tracker finds. None of the 140 companies they reviewed had “fully consistent accounting and reporting”. Worse still, just 7% of auditors flagged this as a concern.
Regulators are increasingly alert to the problem. However, Carbon Tracker’s report points to a widespread disregard for supervisory notices that require companies to reflect climate risks in their accounting[2]. A few companies, like CRH, have been singled out for review by the accounting regulator, but that doesn’t seem to be moving the needle[3].
Why does all this matter?
Let’s put it this way. If an oil and gas company estimates that it could lose up to 12% or 17% of its total equity in a scenario of accelerating decarbonisation (as Shell reported in its 2022 and 2021 accounts respectively), investors can beware, and encourage the company to take action to build resilience.
If this is hidden, however, the market cannot prepare. Fear of the unknown is likely to be far more damaging to financial stability than transparent disclosure of climate-related financial risks.
[1] https://www.ifrs.org/sustainability/tcfd/
[2] See for instance the European Securities & Markets Authority enforcement priorities for 2023: https://www.esma.europa.eu/document/2023-ecep-package ; FRC equivalent: https://www.frc.org.uk/news-and-events/news/2022/12/frc-announces-areas-of-supervisory-focus-for-202324/
[3] https://www.frc.org.uk/library/supervision/corporate-reporting-review/crr-case-summaries-and-entity-specific-press-notices/?query=CRH&quarter=#crr-case-studies
Important information
This document is intended for retail investors and/or private clients in the US only. You should not act or rely on this document but should contact your professional adviser.
This document has been prepared by Sarasin & Partners LLP (“S&P”), a limited liability partnership registered in England and Wales with registered number OC329859, which is authorised and regulated by the UK Financial Conduct Authority with firm reference number 475111 and approved by Sarasin Asset Management Limited (“SAM”), a limited liability company registered in England and Wales with company registration number 01497670, which is authorised and regulated by the UK Financial Conduct Authority with firm reference number 163584 and registered as an Investment Adviser with the US Securities and Exchange Commission (“SEC”) under the Investment Advisers Act of 1940. The information in this document has not been approved or verified by the SEC or by any state securities authority. Registration with the SEC does not imply a certain level of skill or training.
In rendering investment advisory services, SAM may use the resources of its affiliate, S&P, an SEC Exempt Reporting Adviser. S&P is a London-based specialist investment manager. SAM has entered into a Memorandum of Understanding (“MOU”) with S&P to provide advisory resources to clients of SAM. To the extent that S&P provides advisory services in relation to any US clients of SAM pursuant to the MOU, S&P will be subject to the supervision of SAM. S&P and any of its respective employees who provide services to clients of SAM are considered under the MOU to be “associated persons” as defined in the Investment Advisers Act of 1940. S&P manages mutual funds in which SAM may invest its clients’ assets as appropriate.
This document has been prepared for marketing and information purposes only and is not a solicitation, or an offer to buy or sell any security. The information on which the material is based has been obtained in good faith, from sources that we believe to be reliable, but we have not independently verified such information and we make no representation or warranty, express or implied, as to its accuracy. All expressions of opinion are subject to change without notice.
This document should not be relied on for accounting, legal or tax advice, or investment recommendations. Reliance should not be placed on the views and information in this material when taking individual investment and/or strategic decisions.
The value of investments and any income derived from them can fall as well as rise and investors may not get back the amount originally invested. If investing in foreign currencies, the return in the investor’s reference currency may increase or decrease as a result of currency fluctuations. Past performance is not a reliable indicator of future results and may not be repeated. Forecasts are not a reliable indicator of future performance. Management fees and expenses are described in SAM’s Form ADV, which is available upon request or at the SEC’s public disclosure website, https://www.adviserinfo.sec.gov/Firm/115788.
Neither Sarasin & Partners LLP, Sarasin Asset Management Limited nor any other member of the J. Safra Sarasin Holding Ltd group accepts any liability or responsibility whatsoever for any consequential loss of any kind arising out of the use of this document or any part of its contents. The use of this document should not be regarded as a substitute for the exercise by the recipient of their own judgement.
Where the data in this document comes partially from third-party sources the accuracy, completeness or correctness of the information contained in this publication is not guaranteed, and third-party data is provided without any warranties of any kind. Sarasin & Partners LLP shall have no liability in connection with third-party data.
© 2024 Sarasin Asset Management Limited – all rights reserved. This document can only be distributed or reproduced with permission from Sarasin Asset Management Limited. Please contact marketing@sarasin.co.uk.