The Time To Act On Climate Transition Risks Is Now

The Time To Act On Climate Transition Risks Is Now

A recent primer report from Verdantix highlights the urgency of climate transition risks and provides an overview of strategies to assess and mitigate damage from the transition to a low carbon economy.

As the world transitions to a low carbon economy, markets are shifting, new technologies are emerging, climate policies and litigation are snowballing, and corporate reputations are on the line. These so-called transition risks already affect firms’ bottom lines, both positively and negatively. For example, the EU has recently agreed on a law that will require natural gas suppliers to limit methane emissions or face financial penalties. On the flipside, organizations can capitalize on opportunities to, for instance, invest in new markets or improve resource efficiency.

Although the energy transition is underway, we still have far to go. A recent report from the United Nations found that national climate plans are insufficient to limit global warming to 1.5°C. Meanwhile, fossil fuel production continues to rise – the Stockholm Environment Institute found that, based on current government plans, production in 2030 will be more than double what would be consistent with a 1.5°C warming scenario. These reports of insufficient and sluggish decarbonization efforts are all too common. With delayed action on GHG reductions, a disorderly transition becomes almost inevitable, paving the way for a multitude of adverse outcomes.

Not only will a disorderly and delayed transition lead to severe physical climate impacts as warming continues, but it will also exacerbate transition risks. A slow transition will increase the need for sudden – and likely very expensive – decarbonization in the future. Firms might be forced to rapidly decarbonize their operations or pay penalties, while the skills required in a low-carbon economy may be in short supply. As explained by the World Economic Forum in its Global Risks Report 2022, additional risks will emerge if some countries or sectors decarbonize quickly but leave behind other parts of the economy or vulnerable groups. This type of disjointed transition could disrupt supply chains, and inconsistent policies and incentives across jurisdictions and sectors could increase operating and compliance costs, while also decreasing demand for specific goods and services within some market segments.

To reduce these risks and take advantage of opportunities, corporates must look both internally and externally. Within the organization, scenario analysis is key for identifying risks and assessing their materiality. These risk analyses can feed into transition plans, followed by implementation and monitoring of risk management activities. Value chain risks, such as Scope 3 emissions, supply of materials, and demand for products and services, are best addressed through collaborations with suppliers and customers. Similarly, industrial partnerships are valuable for addressing industry-specific risks, such as technology dependencies, regulations and industry reputation.

To learn more about transition risks and strategies for managing these risks, check out the Strategic Focus: Transition Risk Primer and watch this space for related coverage from Verdantix.