Several recent developments that are likely to impact the way that Australian listed companies consider climate change related risks.
At a recent event hosted at MinterEllison's offices, the Reserve Bank of Australia made a significant statement on the relevance of climate change to its economic modelling processes. In addition, other recent developments are likely to significantly impact on the way that Australian listed companies consider climate change related risks in their governance, risk management and financial reporting. In short:
- Investors and regulators continue to elevate baseline expectations around corporate disclosure of climate-related financial risks.
- The Reserve Bank of Australia has now strongly endorsed the economic and financial risk lens applied to this issue by APRA and ASIC.
- The AASB and AuASB have released a joint guidance statement on the relevance of climate-related risks for financial statement accounting estimates.
- The UNPRI (investors >US$80 trillion FUM) has announced mandatory signatory reporting against governance and strategy indicators contained in the Recommendations of the Taskforce for Climate-related Financial Disclosures from 2020.
- Finance and governance teams must ensure they have a contemporary understanding of climate-related financial risks, and prepare for new lines of inquiry from directors and auditors.
It seems that every day is bringing another new development on climate-related financial risks. From energy policy to mining development approvals, prudential and securities regulation, shareholder resolutions and misleading disclosure claims, climate change has become relevant to – and material for – a broad swathe of sectors across the Australian economy. With an issue this dynamic, it can be difficult for business to keep track of the implications for corporate governance, strategy, risk management and disclosure. We have consolidated some of the most significant recent developments, and what they mean for corporate governance practice.
Regulators in lock-step on approaching climate change as a financial risk issue
The Reserve Bank of Australia has joined APRA, ASIC and the ASX in considering the implications of climate change through an overtly economic risk lens. In an event hosted by the Centre for Policy Development at MinterEllison’s Sydney offices, Dr Guy Debelle emphasised that climate change is a core consideration in the discharge of its monetary policy (employment and inflation) and financial stability remits. Read the full transcript of Dr Debelle’s speech.
Climate-related financial risks – assessing financial statement materiality
As featured in the Australian Financial Review on 13 March, the Australian Accounting Standards Board (AASB) and Auditing & Assurance Standards Board (AuASB) have issued a joint guidance statement on the integration of climate change-related risks into financial statement materiality considerations: Climate-related and other emerging risk disclosures: assessing financial statement materiality using AASB Practice Statement 2 (Guide). The Guide represents an unequivocal statement by Australia’s accounting and audit standard-setters that climate-related risks are relevant to accounting estimate materiality assessments: from asset fair values and impairments to changes in useful life assumptions and provisions for onerous contracts. The Guide is not ‘mandatory’. However, the AASB and AuASB warn that they expect that directors, preparers and auditors will actively consider the materiality of relevant climate-related risks when preparing, approving and auditing financial statements. Many corporations already disclose their approach to climate-related financial risks. This primarily occurs in the narrative portions of the annual report (such as the Operating Financial Review or directors’ report), or in separate sustainability reports. Those narrative reports ordinarily fall beyond the scope of the financial audit engagement. Accordingly, the Guide is particularly significant in its repositioning of climate-related risks squarely within the scope of external audit scrutiny.
Narrative disclosures remain critical
Whilst the AASB/AuASB Guide relates only to financial statements, narrative disclosure of climate-related financial risks will continue to be important in presenting a true and fair view of a company’s financial position and prospects. In their quest for decision-useful information, institutional investors such as the >US$30+ trillion Climate Action 100+ Alliance increasingly demand investee compliance with the ‘voluntary’ disclosure recommendations of the Taskforce on Climate-related Financial Disclosures (TCFD), released by the G20 Financial Stability Board in June 2017. Particular emphasis is being placed on the TCFD’s requirements on forward-looking scenario analysis and stress-testing across the plausible range of climate futures (including against the ‘well below 2°C’ threshold set out in the Paris Agreement). The importance the TCFD Recommendations is only set to increase with the ASX Corporate Governance Council specifically ‘encouraging’ entities to consider the framework in the recently-revised 4th edition of the Corporate Governance Principles & Recommendations (see page 28). This is supported by the announcement by the world’s largest responsible investment industry body, the >US$80 trillion FUM UN Principles of Responsible Investment, that reporting against the TCFD’s governance and strategy indicators will be mandatory for signatories from 2020.
What should companies do now?
The step-change in market expectations around climate-related financial disclosures is clear. But the dynamic pace continues to challenge even the most progressive corporate finance and governance teams. So what should preparers do to stay at the forefront of investor and regulatory expectations in 2019? What questions can be expected from auditors and board audit committees? How will directors respond when presented with a swathe of forward-looking risk disclosures (particularly when the directors’ report typically falls beyond the scope of external audit assurance)?
To assist with those questions and more around the ‘new normal’ on climate change, in 2018 MinterEllison released a guide to climate-related financial risk governance and disclosure: The Climate Risk Reporting Journey: A Corporate Governance Primer. We will shortly be releasing a 2019 update to the Primer, with references to both the AASB/AuASB Guide and advisory statements from Australian and international securities regulators.