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Climate change: How D&Os can mitigate liabilities and possible advantages

June 29, 2022

Directors across the world are increasingly concerned about climate risk. But collaborative climate disclosure can reduce the likelihood of liabilities and offer strategic benefits.
Climate
Climate Risk and Resilience|

Growing global D&O climate anxiety

Directors’ and risk managers’ concerns about the impact of climate change and the environment on businesses have increased in almost all global regions, findings from WTW’s 2022 Directors’ Liability Survey in partnership with Clyde & Co LLP suggest.1 The report also indicates the larger the company by revenue, the more significant the risk was perceived.

We can expect climate and other environmental, social and governance ESG risks to continue to increase for directors and officers (D&Os) as governments, regulators and stakeholders seek to bring about the rapid changes required to meet international climate and ESG commitments. While in terms of risk for directors themselves (rather than risk for the business) climate change was a top-six risk in G.B., Asia and Australasia, as standards and expectations increase, it follows that D&Os would be well-advised to anticipate increasingly forensic examinations of their climate disclosures.

This issue is already top of mind for many of the organisations we’re currently engaging with around reporting requirements for physical, transition and liability risks under the UK’s Task Force on Climate-related Financial Disclosures (TCFD), as well as wider emerging regulatory and disclosure standards.

One of the biggest themes we’re seeing is organisations needing support around analytically backing-up the basis for the climate-related risk statements, with D&Os well-aware they could be liable should these statements be challenged.

Risks of non-prescriptive climate disclosure guidance

Something else we’re witnessing is business leaders’ uncertainty over whether they are indeed getting their climate disclosures right, due in part to the non-prescriptive nature of guidance such as TCFD. While they and others await greater clarity and standardisation, in the meantime, D&Os may feel they’re operating in something of a vacuum.

In this void, many organisations are finding themselves in search of benchmarking against their contemporaries: How are we stacking up against our peers’ climate disclosures? Are we being too optimistic? Too pessimistic? Are we disclosing too much or not enough?

Finding the climate disclosure sweet spot

There are difficult questions for D&Os to answer around how far to disclose, for example, the potential financial impact of a physical risk. Once you put a number to something like this, there could be an impact, such as in terms of the cost of premiums.

Climate disclosure is still a directional game. Defining factors such as the value at risk related to climate change, for now, is about working towards the right balance.

For example, if you were to attach a single number on a physical risk yet to materialise, this might potentially convey a misleading narrative to investors, insurers and other stakeholders.

As another alternative, disclosing data in the form of an analytically evidenced range can both satisfy disclosure requirements while helping to avoid misleading narratives that could adversely impact risk financing.

Mitigating D&O climate disclosure risks

With policymakers across the world pushing for potentially rapid transition, this opens up significant risk which may mean transition proves more disorderly and disruptive than business leaders may be hoping.

Getting ahead on ensuring your climate disclosure project has a sufficiently wide scope of the potential risks, the impact of these and the strategy to mitigate all transition, physical and liability risks would seem to make good long-term sense for many organisations and their D&Os.

Directors need to focus both on identifying and disclosing their organisations’ transition and physical risks and then getting the right content to demonstrate how the actions taken to mitigate these are measurable.

Working to avoid claims around misleading disclosures or greenwashing also means ensuring this content demonstrates the actions you are taking are more than tick-box efforts. Actions should be translatable into quantifiable impact.

Climate disclosure – what good looks like

Good climate disclosure is about making sure content is robust and transparently addresses what strategy the organisation is taking to address climate change. The approach needs to be based on detailed climate scenario analysis to assess the likely financial exposures for strategically relevant time horizons, underpinned with a narrative that can be well-understood at a senior level and across business functions, as well as external stakeholders such as financial investors and regulators.

Successful climate disclosure can see senior leaders deepen their understanding while producing the requisite results. There may be an education piece around some of the vocabulary and analysis on climate to empower business leaders with greater confidence they not in danger of misinterpreting the disclosures.

Successful climate reporting programmes also generally involves multiple stakeholders and business area owners working in tandem. Effective disclosure and managing climate-related risk gets to the heart of how a business operates, so it is likely to engage operations and strategic functions, risk, financial and sustainability teams. This can enable assumptions to be validated or challenged, baking-in confidence that the key financial risks and opportunities associated transition, liability and physical climate risks are understood and the company’s strategy on addressing these is adequately informed.

If this type of collaboration doesn’t happen, your climate disclosure project may unwittingly be based on insufficient or, even worse, inaccurate information. It may not deliver the desired impact, and may even run into the sand without the necessary buy-in from the colleagues needed to achieve robust disclosure.

Well-run disclosure projects protect D&Os and their organisations both by identifying the risks and opportunities arising from transition, liability, and physical risks, and without seeing any element in isolation. While it’s sometimes natural to break things down into more digestible parts, once you carry out the proper climate risk assessments needed to arrive at a robust disclosure, you will continually see how each part of the story is correlated, both across risks areas and the strategic openings.

Beyond climate D&O risks to competitive advantage

We’re seeing a general trend to think about the whole area more analytically and strategically, with this theme emerging in almost every conversation we’re currently having on climate disclosure.

Activating climate disclosure in this way means D&Os can be well-positioned to optimise the business’ risk financing while making themselves less vulnerable to liabilities.

One further key message here is when you get the climate disclosure story right, you may attract more talent, particularly from the pipeline of newer graduates, than those businesses at risk of tick-box or poorly evidenced disclosure.

Download WTW’s 2022 Directors’ Liability Survey report in partnership with Clyde & Co LLP.

Footnote

1 https://www.wtwco.com/en-GB/Insights/2022/04/d-and-o-liability-survey-2022

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