2021-12-07
CLIMATE Reporting Standards
What we should all know about TCFD and climate-related financial reporting
Where we are today: At the beginning of the biggest transformation of the economy ever!
The climate transformation of the economy already harbors tangible risks, but also brings with it many opportunities. Decision-makers can use these now to meet increasing customer requirements and regulation. This will help determine how future-oriented their company is positioned and what potential exists in the future to be successful in the “net zero economy” and implement a positive climate impact.
The transformation is being driven by the financial sector, who would have thought it?
As the earth's temperature continues to rise, threatening entire ecosystems and the entire basis for human existence, tangible business losses, threatened assets and destroyed infrastructure are causing a rapid rethink in the economy. This is being driven by the financial sector, where changes in figures such as falling profits and rising costs can be assessed in real time. In response, more and more governments and private sector initiatives are calling for a range of measures to reduce global greenhouse gas emissions, which will lead to disruptive changes in all sectors of the economy in the near future.
The challenge: there is a lack of transparent, climate-related ESG information
The challenge is that investors, lenders and insurers currently have no clear insight into which companies will survive or even thrive in the face of changing environmental conditions, new technology developments and rising customer expectations. And which companies are likely to struggle as they cause one thing above all: negative climate impacts.
“It is time to ensure that every financial decision takes climate change into account.”
– Mark Carney, UN Special Envoy for Climate Action and Finance, Governor of the Bank of England, December 2019.
Without reliable, climate-related ESG information, i.e. data on a company's specific positioning in the areas of governance, social and environmental impact, financial markets and decision-makers can neither correctly identify nor price in climate-related risks and opportunities. They therefore face an arduous transition to a low-carbon economy - with unpredictable value shifts and destabilizing costs as industry rapidly adapts to the new environmental conditions.
Comprehensive obligations to disclose climate-related information
Two days before COP26, the UK government has made it official: from April 2022, large companies will be obliged to disclose information in accordance with the recommendations of the Task Force on Climate-Related Financial Disclosures (TCFD). This means that the UK is the first of the G20 countries to legally commit to the otherwise voluntary TCFD framework. However, the TCFD requirements are not only gaining in importance in the UK - countries around the world are currently examining how to integrate the urgent recommendations into their own ESG guidelines. One thing is clear: the TCFD requirements are rapidly transforming from a voluntary to a globally mandatory regulation that will, sooner or later, have a major impact on the way all companies do business beyond the financial sector.
What exactly is TCFD and what should companies be prepared for?
In this article, we explain what decision-makers need to know about what is perhaps the most important financial framework of recent years. Find out below which countries are planning a mandatory adjustment, which TCFD requirements are particularly relevant and what effects can be expected on your own business activities.
TCFD in brief
The Financial Stability Board has been developing the TCFD framework since 2015 at the request of the G20 finance ministries and the central bank in order to improve the reporting of climate-related financial information. The Board published its final report in 2017. The aim was to develop recommendations for effective, climate-related disclosure of company-related data. However, the result was much more: instead of imposing additional reporting obligations on companies, the TCFD recommendations were aligned with existing disclosure requirements in the area of ESG reporting and therefore now serve as a holistic guide for a comprehensive reporting process. Ultimately, companies should be guided through their holistic reporting and investors, lenders and insurance companies should gain insights into the climate-related risks and opportunities of their budget decisions.
The importance of the TCFD targets in figures
The G7 countries: Canada, France, Germany, Italy, Japan, the UK and the US, together account for 32% of global GDP and collectively produce 23% of global greenhouse gas emissions. A recent study by Swiss Re found that the G7 economies could experience average annual losses of up to 8.5% by 2050 if current CO2 emissions continue. Total losses could reach USD 4.8 trillion (EUR 3.95 trillion) per year - double the GDP losses from the Covid-19 pandemic (according to Green Central Banking). The TCFD recommendations are intended to counteract these climate risks in the financial world and reveal which investment decisions favor a successful climate transformation.
Climate damage from 2017-2019 amounts to 640 billion dollars
Value-at-risk as a result of climate change by 2100 is up to $43 trillion.
TCFD, The Need for Climate-Related Financial Disclosure
TCFD as a link between climate protection and the economy
By its own definition, the TCFD framework is committed to global market transparency and stability. The international working group consists of 32 experts from the G20 financial community - the TCFD is chaired by Michael R. Bloomberg, founder of Bloomberg L.P. The task force was also advised by 2,000+ supporters, including over 859 financial companies managing $175 trillion in assets (as of March 2021). The task force emphasizes that its recommended guidance will better enable companies to incorporate climate-related risks and opportunities into their strategic planning processes. This should increase companies' and investors' understanding of the financial implications of climate change, enabling markets to steer investments towards sustainable and resilient climate solutions and business models.
TCDF identifies key climate opportunities and risks for companies.
The three main parts of the TCFD recommendations
The TCFD regulations consist of three main parts:
Recommendations in the four core areas
Seven principles for effective disclosure
Scenario analysis
Recommendations in the four core areas
The TCFD recommendations serve to disclose forward-looking and climate-meaningful information instead of the well-known backward-looking KPIs (such as CO2, turnover or production figures), which provide information on how well a company is addressing the increasing climate risks and whether it is effectively and successfully implementing its own climate transformation. To date, this information has been available - if at all - in qualitative, unstructured text modules in the form of sustainability reports and should now be reported annually and publicly accessible as comparable, validated data with the financial documents of an organization, such as the annual report.
The TCFD working group draws on the financial expertise of the G20 and existing climate-related reporting requirements to develop a holistic framework for climate-related financial disclosure. The recommendations are divided into four thematic areas: Governance, Strategy, Risk Management and Metrics & Targets.
The information disclosures focus on the four core topics of all companies:
Governance: Disclosure of an organization's governance of climate-related risks and opportunities
Description of the committee's oversight of climate-related risks and opportunities
Description of management's role in assessing and managing climate-related risks and opportunities
Strategy: Disclosure of the actual and potential impact of climate-related risks and opportunities on the organization's operations, strategy and financial planning
Description of climate-related risks and opportunities that the organization has identified in the short, medium and long term
Description of the impact of climate-related risks and opportunities on the organization's operations, strategy and financial planning
Description of the resilience of the organization's strategy considering different climate-related scenarios, including a scenario of 2°C or less
Risk management: Disclosure of how the organization identifies, assesses and manages climate-related risks
Description of the processes for identifying and assessing climate-related risks
Description of the organization's processes for managing climate-related risks
Description of how processes for identifying, assessing and managing climate-related risks are integrated into the organization's overall risk management framework
Metrics and targets: Disclosure of the metrics and targets used to assess and manage relevant climate-related risks and opportunities
Presentation of the metrics used by the organization to assess climate-related risks and opportunities in line with its strategy and risk management process
Disclosure of greenhouse gas (GHG) emissions from Scope 1, Scope 2 and, to the extent possible, Scope 3 - and the associated risks
Description of the targets used by the organization to manage climate-related risks and opportunities and performance against targets
Seven principles for effective disclosure
In addition to the recommendations for information disclosure in the four core areas, the TCFD sets out seven principles for effective and high quality reporting:
Disclosure should present relevant information.
Disclosure should be specific and complete
Disclosure should be clear, balanced and understandable
Disclosure should be consistent over time
Disclosure should be comparable between companies within an industry or portfolio
Disclosure should be reliable, verifiable and objective.
Holistic disclosure should be provided at timely intervals.
Scenario analysis
As climate-related financial risks are largely unpredictable, companies are advised to create various climate-related scenarios to test and increase the resilience of their strategy. Scenario analysis helps companies to identify and assess the potential impact of individual measures and, above all, to prepare for all possible outcomes and minimize their risk.
Who is affected by the TCFD?
The TCFD recommendations have so far been largely voluntary, but apply to organizations of all legal forms and in all sectors. However, as more and more governments are introducing TCFD-adapted legislation, more and more companies are becoming legally obliged to comply. Today, more than eight countries are already in the process of making TCFD-compliant disclosure mandatory and it has been endorsed by more than 100 governments worldwide. New Zealand was the first country to make mandatory TCFD-oriented climate-related disclosure mandatory. It was followed by Switzerland, the UK, China and other countries. In all cases, however, implementation will take several years. Governments around the world are currently considering how to integrate the TCFD recommendations into their own policy response to climate change.
Why should companies start preparing for TCFD today?
Today, the question is no longer “whether the climate transformation will happen” - i.e. whether the transition to a low-carbon economy will affect most industries and sectors - but rather “how” - i.e. how the intensity and speed of the climate transformation will shape the different impacts on companies. It is precisely this “how” that is difficult to estimate and even more difficult to grasp in your own company. Nevertheless, every decision-maker will face the challenge of analyzing financial risks and returns from today onwards.
In most G20 countries, large companies will be directly obliged to disclose their climate-related information right down the value chain and are therefore already gradually passing on the TCFD requirements to their suppliers. For this reason, it is crucial for all companies, including small and medium-sized enterprises, to accurately consider their own climate-related information and be able to communicate it. The presentation of climate-related ESG information in public annual financial reports will therefore become the “new normal” in the near future. By implementing the TCFD recommendations, companies will therefore have to greatly increase their transparency regarding their own climate performance for investors and a wide range of stakeholders - and thus also better manage their own resilience to the possible consequences of climate change.
The advantages of rapid implementation of the TCFD requirements
The working group summarizes the advantages of rapid implementation of the TCFD recommendations in the following 4 points:
Better access to capital through increased lender confidence
Efficient fulfillment of existing disclosure requirements
Increased understanding of climate-related risks and opportunities
Proactive approach to investors and fulfillment of increasing customer demands
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