- Category: Reporting and disclosure
Understanding the TCFD’s physical risk recommendations to address and disclose climate-related challenges and opportunities
In recent years, the importance of understanding and mitigating climate-related risks has become increasingly evident for businesses worldwide. One of the key frameworks that has been designed to help companies address these challenges is the set of recommendations developed by the Task Force on Climate-related Financial Disclosures (TCFD).
But what is TCFD, and how does it help businesses manage the impact of climate change? This post will explore TCFD physical risk, including both chronic and acute risks, and the broader spectrum of physical and transition risks outlined by TCFD.
What is TCFD? An Overview of the Task Force on Climate-related Financial Disclosures
The Task Force on Climate-related Financial Disclosures (TCFD) was initiated in 2015 by the Financial Stability Board (FSB) because it became increasingly evident that climate change poses a financial risk to the global economy. Creating more transparency on climate-related risks through company disclosures was one of the main goals of the initiative and Michael Bloomberg, chairman of TCFD, summarized this clearly:
“Increasing transparency makes markets more efficient and economies more stable and resilient.” Michael R. Bloomberg
Over the years, the taskforce developed a widely used set of recommendations for implementing disclosures and risk-management processes. TCFD focuses systematically on climate risk management in companies across different industries, addressing both physical and transition risks.
How is TCFD related to CSRD, ESRS, and IFRS?
What are the benefits of implementing climate-related disclosures according to TCFD?
The benefits of climate-related disclosures for physical and transition risks are not limited to more transparency for stakeholders but they can have a variety of significant positive impacts for businesses, including:
Better awareness and understanding of climate risks and opportunities, leading to improved risk management and strategic planning.
Improved access to capital by boosting investor and lender confidence in climate risk management.
Enhanced compliance with disclosure requirements for financial filings.
Addressing investor demand for climate information in a preferred framework, reducing climate-related information requests.
By implementing the TCFD recommendations and addressing chronic and acute physical risks, businesses can develop strategies to mitigate these climate-related impacts. This involves incorporating climate risk assessments into the overall risk management plans and investing in climate resilient solutions and adaptation measures. Understanding and preparing for both physical and transition risks will enable companies to build more sustainable and robust operations and value chains.
An overview of the structure of TCFD
The recommendations by the Task Force on Climate-related Financial Disclosures are structured in four pillars:
- Governance: The organization’s governance around climate-related risks and opportunities
- Strategy: The actual and potential impacts of climate-related risks and opportunities on the organization’s business, strategy, and financial planning
- Risk Management: The processes used by the organization to identify, assess, and manage climate-related risks
- Metrics and Targets: The metrics and targets used to assess and manage relevant climate-related risks and opportunities.
In its framework, TCFD outlines the most relevant climate risks (physical risks and transition risks) as well as the opportunities that companies should integrate into their strategic planning and risk management process to assess potential financial impacts:
- Risks
- Physical Risks (Acute Risks and Chronic Risks)
- Transition Risks (Policy and Legal, Technology, Market, Reputation)
- Opportunities
- Resource Efficiency
- Energy Source
- Products and Services
- Markets
- Resilience
Physical climate risks are usually separated into acute and chronic physical risks. Chronic and acute risks often need different risk management approaches due to their differences in how they affect businesses in the short-, medium-, and long-term:
Acute Physical Risks: These are event-driven risks associated with short-term, extreme weather events and climate phenomena. Examples include hurricanes, floods, and wildfires. These risks can cause immediate and severe damage to assets, infrastructure, and supply chains, resulting in significant financial losses and operational disruptions.
Chronic Physical Risks: These are longer-term shifts in climate patterns that can cause gradual and sustained impacts. Examples include changes in precipitation patterns, rising average temperatures, and sea level rise. Chronic physical risks can lead to long-term changes in environmental conditions, which can affect the viability of certain business operations, increase operating costs, and require substantial investments in adaptation measures.
Implementing TCFD Recommendations: Best Practices for Managing Climate-Related Risks
The following five steps can help you with the implementation of the TCFD recommendations and align with other disclosure requirements, see also our recent article on “Why Physical Climate Risks and Value Chain Risks Matter for CSRD Reporting”
1. Integrate Climate Risks into Governance Structures:
- Ensure that the board and senior management have clear oversight and responsibility for climate-related risks and opportunities. This includes defining roles and responsibilities, and regularly reviewing climate-related issues at board meetings.
2. Conduct Robust Scenario Analysis:
- Perform and disclose scenario analyses to understand the potential impacts of different climate scenarios. Use these analyses to assess the resilience of the organization’s strategy and to inform strategic planning and risk management.
3. Develop Clear Metrics and Targets:
- Establish and disclose specific metrics and targets for managing climate-related risks and opportunities within your company and along your organization’s value chain. Regularly review and update these metrics to reflect the organization’s progress and evolving understanding of climate risks.
4. Enhance Risk Management Processes:
- Integrate climate-related risks into the organization’s overall risk management processes. This includes identifying, assessing, and managing these risks using a structured and systematic approach, and ensuring they are considered alongside other types of risks in decision-making processes.
5. Improve Disclosure Quality and Consistency:
- Provide transparent, comparable, and decision-useful climate-related financial disclosures. Ensure that disclosures are consistent with the TCFD recommendations or equivalent frameworks, covering governance, strategy, risk management, and metrics and targets.
Assessing the impacts of chronic and acute physical risks: climate scenario analysis with Correntics
Scientifically robust data and efficient risk quantification capabilities are essential to perform a forward-looking climate change scenario analysis and to adapt a company’s strategy in the face of increasing acute and chronic physical climate risks. Correntics offers a state-of-the-art solution to identify, assess, and mitigate physical climate risks. Learn more about our solution: Climate Risk Analytics Platform.
