It’s a green minefield: Climate risk management

What are the regulators saying?

Draft prudential practice guide CPG 229 was released for consultation by the Australian Prudential Regulation Authority (APRA) late last week.¹ It’s perhaps the clearest signal yet that Australian banks, insurers and superannuation trustees must urgently sharpen their focus on climate risk management. 

Former APRA Executive Board Member Geoff Summerhayes and APRA have long urged regulated entities to address climate risk on the basis that it is “foreseeable, material and actionable now.”² Unlike New Zealand, which is well down the path of legislating for compulsory climate disclosure aligned to guidance issued by the Task Force on Climate-Related Financial Disclosures (TCFD)³, APRA has to date not taken the step of introducing a stand-alone mandatory disclosure regime or prudential standard modelled on the TCFD. 

APRA has consistently taken the position, in effect, that prudential standards CPS/SPS 220 (Risk Management) and CPS/SPS 510 (Governance) apply to climate risk like any other material risk. The proposed CPG 229 provides some new guidance, but expressly reaffirms that climate risk can and should be integrated into broader risk management and governance frameworks, just like financial risks originating from credit, underwriting or liquidity.⁴

Reinforcing APRA’s perspective on the materiality of climate risk and the role of directors, ASIC Commissioner Cathie Armour said in February 2021 that disclosing and managing climate risk is a key director related responsibility. ASIC, which has previously recommended the TCFD framework to listed companies, is also indicating that it may consider enforcement action if there are serious disclosure failures.⁵

APRA acknowledges a degree of flexibility in draft CPG 229. It notes that the relevance of practices in climate risk management may vary depending upon the “size, business mix and complexity” of the entity, and will evolve and mature over time.⁶ However, for organisations and boards that have yet to heed the many regulatory calls to action, the unequivocal message from APRA and ASIC in 2021 is that this must be a priority, at the very least in a robust and phased approach. Just like effective risk management, climate risk management must be ongoing, and continuously improved. 

How does this impact directors’ liability?

Noel Hutley SC and Sebastian Hartford Davis issued a legal opinion in 2016 concluding that directors may be liable for breaching their duty of care for failing to understand, act on and disclose climate risks. In 2019, a supplementary opinion noted that the standard of care, and exposure to climate change litigation, was increasing. To reduce exposure to liability, the advice has been that company directors must consider climate change risks actively, disclose them properly and respond appropriately.⁷

In a further supplementary opinion issued this past week, Hutley SC observes the growing trend towards net zero commitments, and cautions that these be based on “reasonable grounds” due to the risk to directors’ for ‘greenwashing’ or issuing misleading climate-related statements and disclosures.⁸ The supplementary opinion underscores that while organisations must urgently address climate risk and disclosure, it’s critical that the analysis is robust and targets are meaningful, and supported by positive action and credible climate risk strategies.  

Directors should be mindful that while APRA and ASIC continue to agitate for action on climate risk management, organisations that take a ‘box-ticking’ approach, devote insufficient resources or attention to climate risk analysis, make commitments or disclosures without a reasonable basis or develop an ESG and climate narrative merely to placate regulators and stakeholders, do so at their own peril. 

What’s happening with other stakeholders?

In recent days the Australian Council of Superannuation Investors (ACSI), representing 36 Australian and foreign super and institutional investors with combined assets of more than $2.2 trillion, also ‘upped the ante’ on climate risk management. ACSI has put ASX 200 companies on notice that it may recommend voting against the re-election of directors if it believes companies have “fallen short” on climate risk management. In releasing its new climate change policy, ACSI has also said it supports climate-exposed companies giving investors an annual advisory vote on climate progress.⁹

While ACSI is exerting pressure on the boards of big business amid concerns that not all companies have listened to investor expectations, there is little doubt the burgeoning focus on ESG risk is reflected across the entire market. Wider community sentiment is that the pace of change is too slow. Organisations with poor outcomes on environmental, social and governance issues are our daily headline news, and are paying a hefty price in reputational damage and diminishing value.

Even Mother Nature continues to weigh in, unleashing bushfires and extreme flooding in New South Wales as a reminder of the perilous risk and potentially crippling financial consequences connected with our changing climate. 

In this climate risk management minefield, the message for directors must surely be: it’s time to move, but this is tricky territory, so tread with caution.

This article was co-authored with Sophie Timms.