Even casual observers of the financial world can see that concerns about climate risks have taken it by storm.
In the last year, the world’s major accounting and auditing standard setters, such as the International Accounting Standards Board (IASB), have clarified that existing standards require that all material risks – including climate-related ones – must be addressed in the accounts. Consider this: if the world is going to cease using fossil fuels, are prices for those fuels likely to be higher in the future, or lower? Most companies and observers would think lower, but in that case, shouldn’t accounting assumptions then reflect this new reality?
Also in the past year, investors representing more than US$100 trillion in assets under management have asked companies responsible for high levels of greenhouse gas emissions to explain how they have accounted for climate-related risks in their financial statements.
These developments recently led Carbon Tracker, in conjunction with the Climate Accounting Project, to publish a report, Flying Blind, on the financial statements of more 107 companies that investors have identified as focal points for engagement.
We found a glaring absence of any discussion of how those risks were being addressed. In many cases, and despite companies having identified such risks as material, there was little evidence that it had changed the forward-looking numbers used in the accounts.
Why does this matter? These numbers drive the results in the financial statements – the data upon which investment decisions depend. Without transparency, we have no idea whether these investments are consistent with a greener future. If not, and they are imagining an unsustainable world, what does that mean for the investments that are based upon them?
A world headed for net-zero emissions will not value emissions-producing assets as it always has, if it values them at all.
The report found that more than 70% of companies and 80% of auditors did not indicate they had considered material climate matters in such reporting. Just a quarter of companies provided disclosure of at least some relevant quantitative assumptions used in preparing the financial statements. Moreover, 72% of companies appeared to treat climate matters inconsistently with other reporting, and, even with observable inconsistencies across company reporting, auditors rarely commented on any differences. None of the companies used assumptions and estimates, or provided sensitivities, consistent with achieving the goals of the Paris Agreement, despite many publicly committing to that accord.
Our review found numerous areas of concern. For example, though Europe- and Canada-based companies disclose the future commodity price assumptions used for valuing their oil- and gas-producing assets, their peers in the United States do not, leaving those investors in the dark. But wouldn’t it be important to know whether the U.S. companies were basing their accounting on high oil prices going forward?
In essence, these reports fall short of what standard setters have said is required, and don’t go anywhere near what investors are seeking.
As the standard setters have made clear, climate-related risks have to be addressed like any other risks. Where the world’s ongoing energy transition is likely to impact companies, that impact can no longer be ignored (as if it ever could have been ignored). A world headed for net-zero emissions will not value emissions-producing assets as it always has, if it values them at all.
Auditing standards require auditors to use “professional skepticism” to apply a critical eye and question management assessments rather than simply assume that management is honest. This is required since the audit is performed not for the benefit of a company’s management, but instead for the benefit of the company’s investors. What is now clear is that when it comes to climate-related risks, management and auditors can no longer leave investors in the dark.
Rob Schuwerk is the executive director of Carbon Tracker North America.