Climate Change Disclosure - Managing Multiple Stakeholders

As the financial services sector completes its second year of mandatory climate change disclosure reporting, it’s a good time to take a step back and review the current requirements and how these are to be enhanced and harmonised against the standard setters’ expectations. Insurance companies are expected to disclose various aspects related to climate change to provide a comprehensive view of their approach to managing associated risks and opportunities, but what is required by whom, and by when can quickly became confusing with so many different stakeholders, so here we aim to identify current requirements, expected developments and emerging industry practice, some of it mandatory and some of it discretionary.

Background

Climate change disclosure requirements for insurance companies in the UK exist for several reasons:

Risk Assessment and Management: Climate change poses substantial risks to insurance companies. Extreme weather events, rising sea levels, and changing weather patterns can lead to increased insurance claims. By disclosing their assessment of climate-related risks, insurers can better manage these risks and make informed decisions about underwriting policies and setting premiums.
Investor and Stakeholder Expectations: Investors and stakeholders increasingly expect companies, including insurance firms, to disclose their exposure to climate-related risks and their strategies for mitigating those risks. Disclosure helps build trust and confidence among investors and other stakeholders by demonstrating that companies are proactively addressing these risks.
Regulatory Compliance: Regulatory bodies, such as the Prudential Regulation Authority (PRA) and the Financial Conduct Authority (FCA), set guidelines and requirements for financial institutions, including insurers, to manage climate-related risks. Compliance with these regulations ensures that insurance companies are adequately prepared to handle the potential impacts of climate change.
Long-Term Sustainability and Resilience: Climate change is a long-term challenge that can significantly affect the financial stability of insurance companies. By disclosing how they are adapting their strategies, managing risks, and contributing to sustainability efforts, insurers can improve their long-term resilience and viability.
Global Standards and Best Practices: International initiatives like the Task Force on Climate-related Financial Disclosures (TCFD) have gained widespread recognition and support, with reporting requirements therein starting to be adopted by companies – the obvious ones relating to Greenhouse Gas Emissions (GHG), with organisations now reporting on their Scope 1, 2 and 3 emissions, covering direct and indirect emissions.

Aligning with these global standards helps insurance companies operate within a framework that is increasingly becoming the norm for financial reporting and risk management.

Overall, climate change disclosure requirements for insurance companies aim to enhance transparency, improve risk management practices, align with global standards, and ensure the long-term sustainability of the insurance industry in the face of climate-related challenges.

Current Disclosure Requirements

In the UK, insurance companies are subject to various climate change disclosure requirements aimed at assessing and disclosing the risks and opportunities associated with climate change. These include:

Climate Financial Risk Forum (CFRF)

The CFRF, consisting of the PRA, the Financial Conduct Authority (FCA), and industry representatives, offers guidance on best practices for managing climate-related financial risks. While not mandatory, it provides recommendations for effective climate-related financial risk disclosures.

FCA Requirements

The Financial Conduct Authority (FCA) has emphasized the importance of climate-related disclosures. While not explicitly requiring adherence to specific frameworks like the TCFD, the FCA expects insurance firms to consider climate-related risks and appropriately disclose material information to investors and policyholders.

PRA Supervisory Statement on Enhancing Banks’ and Insurers’ Approaches to Managing the Financial Risks from Climate Change

The PRA released a supervisory statement outlining expectations for banks’ and insurers’ approaches to managing the financial risks from climate change. It includes considerations for governance, risk management, scenario analysis, and disclosure.

Financial Reporting Council

The Financial Reporting Council (FRC) is increasingly concerned with the quality and maturity of climate-related metrics and targets disclosures. Whilst its work so far has focussed on claims and statements made in other sectors, its approach is of direct relevance to Insurance firms and the current “Thematic review of climate-related metrics and targets” should help firms improve the quality of their reporting.

Collectively, these requirements aim to encourage insurance companies to assess and disclose the potential impact of climate change on their business operations, risk management strategies, investment portfolios, and long-term sustainability. They also cover the way firms report on their own efforts to reduce their carbon footprints, against a backdrop of increasing concern about ‘greenwashing’ – dubious claims about the environmental benefit of actions being taken.

The message is essentially the same from the PRA and FCA and insurance companies are under much pressure to stay updated with evolving regulations and industry best practices regarding climate change disclosures to ensure compliance and alignment with emerging standards, forcing the industry into the position of being a key (somewhat reluctant) facilitator of achieving the UK government’s ‘NetZero by 2050’ strategy.

UK Sustainability Disclosure Standards

In August 2023, the UK government announced a framework to create the UK Sustainability Disclosure Standards (UK SDS), which will set out corporate disclosures on the sustainability-related risks and opportunities companies face. They will form the basis of any future requirements in UK legislation or regulation for companies to report on risks and opportunities relating to sustainability matters, including risks and opportunities arising from climate change.

The UK SDS will be based on the IFRS Sustainability Disclosure Standards issued by the International Sustainability Standards Board (ISSB). By using these as a baseline, the aim is for the information companies disclose under UK SDS to be globally comparable and decision-useful for investors. The disclosures required by these standards will help investors to compare information between companies, thereby aiding decision making, supporting the efficient allocation of capital, and smooth running of the UK’s capital markets.

The creation of the ISSB was announced at COP26, the 2021 UN Climate Change Conference in Glasgow, with the role of creating a global baseline for sustainability reporting. The ISSB is a standard-setting board of the International Financial Reporting Standards (IFRS) Foundation, a not-for-profit organisation that sets global, corporate reporting standards, through the International Accounting Standards Board (IASB).

ISSB published its first 2 new standards on 26 June 2023. They are:

The UK government has been a strong supporter of the ISSB since its launch. In its paper Mobilising Green Investment: 2023 Green Finance Strategy, the UK government laid out plans to establish a framework to assess the suitability of IFRS S1 and IFRS S2 for endorsement in the UK, and the creation of the first 2 UK SDS. The UK government aims to make endorsement decisions on the first 2 standards by July 2024.

To add to this already somewhat complex landscape of requirements, any entity which also operates in Europe, the number of which is obviously considerable, will also have to demonstrate adherence to the European Sustainability Reporting Standards (ESRS) for annual reporting from 2024.

Harmonisation between the two developing standards is assured by their respective setters, but it is inevitable that there will be a small number of diverging requirements, which insurers will need to address and will likely add costs to reporting budgets.

As usual, the market is split between early adopters of the disclosure requirements, and others who are taking time to understand these and addresses mandatory expectations initially. Possibly a good decision as the IFRS standards are due to take over the work of the Taskforce on Climate-related Financial Disclosures (TCFD), the framework that insurers have widely adopted in Europe. That said, the vast majority of the reporting criteria are expected to be alike.

Conclusion

Climate related disclosure is mostly certainly an issue that is not short of opinions and standards. There are multiple (non) governmental and regulatory organisations in various jurisdictions issuing mostly consistent policies on the various issues. For an insurance firm operating internationally, understanding and managing the expectations of those various stakeholders is an increasingly complex matter, despite the best efforts of those organisations to create some harmony.

Overlaying all of the regulatory burden is what many might consider to be the greater of risks, at least to individual organisations. The court of public opinion. Organisations like Extinction Rebellion and Just Stop Oil have becoming increasingly obstructive in their approach to companies which they feel are not taking their obligations to society seriously. Ten Lloyd’s insurers found this out the hard way in October when their offices were occupied by protesters objecting to the concept of them insuring the West Cumbria coal mine and the East Africa Crude Oil Pipeline. There is no suggestion any of the firms affected had failed to meet their legal and regulatory objections, but the court of public opinion felt they should be held to a higher standard.

The lesson to be learned? Not all stakeholders will be directly invested in or overseeing the actions of your firm, but those who might initially appear less visible may perhaps be the most disruptive. Make sure you understand who all of your climate-related stakeholders are and have a strategy for managing them.

If you have any questions about the way your firm manages the various different climate change stakeholders, please speak with the author or your usual ICSR contact.