Skyscraper shrouded in mist

Climate Change - What are the Physical Risks for Businesses?

We’re increasingly aware of the consequences of climate change, from melting ice caps to bleached coral reefs, but what are the physical risks for businesses? We investigate

When Mark Carney, governor of the Bank of England and Michael Bloomberg, the billionaire former mayor of New York, launched their Taskforce on Climate-Related Financial Disclosures (TCFD), to encourage companies to outline the risks climate change poses to their business, they split those risks into two categories – physical risks and transition risks.

The impacts that have long been predicted by climate scientists are starting to become more obvious and to affect more people – extreme floods in Washington DC, heatwaves in the Arctic Circle, droughts and wildfires in California, and melting ice sheets in Greenland are among the events that have been reported in the last few months alone. 

Often these impacts are illustrated by pictures of starving polar bears or dying coral reefs, which are dramatic and photogenic but also suggest that the crisis is happening far away. “Polar bears live in a distant place that most of us have never been, so we think it doesn’t really affect us,” said Jonathan Baillie, chief scientist at National Geographic, at the Economist Climate Risk Summit in London last year. 

“People care, but it’s hard for them to make the connection with ecosystems that have always been there, providing us with a range of services.”

But these ‘ecosystem services’ are really important to all of us – they include forests, which absorb about 60 percent of the carbon emissions we pump into the atmosphere, reduce flooding and air and water pollution, and provide raw materials, while mountains store water in the form of glaciers. National Geographic recently installed the world’s highest weather station, on Mount Everest, to study the impacts of climate change in the Himalayas. This might seem like another distant environment with no relevance to most of us, but as Baillie pointed out, “about 1 billion people depend on the water that comes from the Himalayan glaciers and we project that we will lose about a third of the glaciers by the end of the century”. 

Companies expect climate change to cost them $1 trillion in the next five years

The impacts on all of us are becoming more evident – in 2017, climate-related natural disasters cost the US more than $300 billion, and the 2018 figure is likely to be higher after the massive wildfires in California. Indeed, those wildfires have already claimed a high-profile casualty – one of the biggest electricity companies in the US, PG&E, has had to file for bankruptcy because of fears that its ageing infrastructure caused fires last year that killed 86 people. Companies expect climate change to cost them $1 trillion in the next five years.

“The issue affects everything,” said Alice Hill, senior director for resilience policy in the Obama administration. But while cutting the greenhouse gas (GHG) emissions that cause climate change is a global challenge, adapting to the impacts is a local issue, she said, citing the example of Superstorm Sandy in 2012. The storm hit New York and overwhelmed Manhattan’s flood defences in part because sea levels had risen by 8cm since the city’s flood defences were installed, meaning that they were less effective than they should have been. 

Sandy led to huge power losses that, in addition to plunging homes and businesses into darkness,  affected a huge amount of infrastructure including wastewater treatment plants, the transportation system – because no-one could pump fuel – and hospitals, which had to be evacuated because their back-up generators were in their basements and so were flooded. “The city that never sleeps went black,” she said.

The benefits of preparing well were starkly illustrated by the Goldman Sachs HQ, which was lit up like a beacon in the darkness after the company deployed 25,000 sandbags around the building. “It was an island of resilience in the midst of this terrible event,” Hill added. 

However, it also illustrated one of the problems with the current approach to dealing with physical risks. “Everyone is planning for their own asset, but not for the wastewater treatment and transport systems to fail. That drags everyone down.”

Every bit of infrastructure that is built from now on must be made “fit for the low-carbon challenge and resilient to the physical impacts of climate change,” said Emma Howard Boyd, chair of the Environment Agency.

Physical climate risks affect sectors right across the economy, from food and drink producers who are seeing crop yields suffer to utilities that are struggling to cool their power stations, holiday resorts facing flooding and sea level rise right through to – less obviously – insurers. 

“If we don’t reduce risks, we’re facing an existential threat for the insurance industry,” Cynthia McHale, senior director, Insurance at sustainable investment thinktank Ceres told the summit. “In a world where temperatures are 4C higher, insurance just becomes too expensive to buy.” 

This presents a problem not just for insurers but for the entire economy. The effects of people not having insurance can be seen today in Puerto Rico, where rebuilding in the aftermath of Hurricane Maria is happening very slowly, she added.

The challenge of dealing with physical climate risks is that it is not just the straightforward disruption of extreme weather events that companies face, or the direct effects on their own operations and staff – difficult as that is. Increasingly, supply chains are being disrupted, partly by the impact on infrastructure such as roads and ports, and by the disruption to production of the raw materials they need to do business.

Companies looking to deal with these risks first need to work out which ones will affect them most. Once they know what they are, they may have to change the way they do business, said Caroline Hill, head of sustainability at property developer Landsec. 

Real estate is one of the sectors that will be most affected by rising temperatures. As a property developer, Landsec faces challenges on two timescales, Hill said. There are acute physical risks such as flash flooding and rivers breaking their banks, windstorms and coastal surges, she said. But there are also chronic, or recurring, risks, which include an increased need for cooling and reduced need for heating, as well as rising sea levels.

As physical risks become more evident, there is growing pressure to deal with them – from regulators, investors, policymakers, employees and consumers. It’s clear businesses will need to meet these challenges head on and adapt.