Advertisement

Finance’s role in accounting for climate change

Accountants and finance professionals have an outsized role in supporting informed discussions on climate change risks.
Finance’s role in accounting for climate change

Environmental risks have edged out other threats in the past decade to now dominate the top global risks listed by the World Economic Forum’s annual Global Risks report. In 2019, “extreme weather events”, “failure of climate-change mitigation and adaptation”, and “natural disasters” were among the top five risks by likelihood and potential impact.

Climate change is impacting certain businesses and industries more than others, and in a speech at the CIMA President’s Centenary Dinner in London earlier this year, former Unilever CEO Paul Polman, HonFCMA, urged finance professionals to extend their skills in optimising financial capital to include social and environmental capital. One way is to start asking: What is my organisation’s impact on climate change? How will climate change affect my organisation’s business model?

At a recent panel discussion at the Malaysian Institute of Accountants conference in Kuala Lumpur, panellists suggested finance professionals go further and support conversations where organisations can align profitability and sustainability.

It is in these conversations that accountants and finance professionals play a crucial role in keeping boardroom conversations on climate change informed, said Sunita Rajakumar, founder of the Malaysian chapter of Climate Governance Initiative, a project by the World Economic Forum, and one of the speakers on the panel.

“It’s a difficult conversation to start,” Rajakumar said. “And that’s why we’re here at a professional accountants’ conference because I think accountants need to understand what the implications are and why businesses can go under if this top financial risk is not adequately managed.”

An independent director at four public companies in Malaysia, Rajakumar noted that companies face two kinds of climate-related financial risks:

  • Stranded assets: Assets that could potentially be damaged or devalued due to climate-related disasters or a change in regulations, such as fossil fuel reserves that may have to remain in the ground to meet global temperature targets; and
  • Transition risks: Financial impact resulting from society’s transition to a low-carbon economy, leading to policy and legal changes, shifts in market demand and preferences, and reputational impacts.

“If you don’t have a robust defence to what you’re doing, then [regulators will consider] you part of the problem,” she said. “It may be that the government [in the future] decides that your business practice is no longer legal and slaps a fine on it.”

But there needs to be an awareness of such climate change risks before a company can engage in risk management or climate change strategies, and for many companies, the conversation is only beginning.

“When I’m sitting in boardrooms and having conversations with other leaders, a lot of what we look for are numbers,” Rajakumar said. “When anything numbers related comes up, we’ll say, ‘What does the accountant say?’ Accountants play such an important role in this conversation.”

She pointed to a few climate-related metrics companies should know about their businesses — carbon footprint in the form of greenhouse gas emissions, energy consumption, water consumption, waste composition, and waste disposal — that will help in setting science-based targets to manage climate-related risks.

Terence Tan, CPA (Australia), a partner in EY’s climate change and sustainability services, said on the same panel that finance departments have traditionally been tasked to manage a company’s resources, including the bottom line and profitability, but in facing climate change risks, there needs to be a mindset shift.

“We have an opportunity to look beyond profitability and managing traditional resources,” Tan said. “We also need to look at managing environmental resources.”

In corporate reporting, there needs to be sufficient accounting of nonfinancial information such as sustainability reporting that includes the economic, environmental, and social impacts of an organisation, he added.

Tan said that accounting and finance professionals can play a key role in conducting materiality assessments for their organisations. Although what is considered material — factors that impact an organisation’s ability to meet its obligations to its stakeholders — differs from organisation to organisation, he said, finance departments can help companies consider their key environmental risks and help boardrooms factor in those risks in forward-looking strategies of the organisation.

“The key is to embed them [climate risks] into the strategic planning of the organisation,” he said.

However, Rajakumar cautioned against “greenwashing” in sustainability reporting. Greenwashing — inaccurate or misleading suggestions that an organisation’s policies, products, or investments are more environmentally sound than they actually are — is quite common, according to Hans Hoogervorst, the chairman of the International Accounting Standards Board.

“We’ve spawned an entire industry — the consulting industry — to help us with our sustainability and integrated reporting. [But is combating climate change] integral to the business of the company, is it ingrained in its DNA?” Rajakumar said. “Because when you mandate [sustainability] reporting, it can lead to greenwashing.”

Ultimately, companies need to be profitable to stay in business, and managing climate change risks should go beyond correctly accounting for their potential damages, Rajakumar said. She stressed that accounting and finance professionals need to know how to align stakeholders’ interests and that profitability and sustainability can co-exist.

“I don’t think it needs to be a zero-sum game,” she said.

— Alexis See Tho is an FM magazine associate editor. To comment on this article or to suggest an idea for another article, contact her at Alexis.SeeTho@aicpa-cima.com.


Related resources

CGMA reports