Climate risk management: Three steps to optimized long-term strategies

Many organisations are setting their net zero targets, typically looking at how carbon-intensive their operations and suppliers are in order to plot a course towards their goals.

To properly address climate risks strategically, however, you will need to the look at the widest range of risks arising from, or extenuated by, climate change. To give one example, one action you might be considering is switching from carbon to wind power, a less stable source of electricity that requires adequate investment in storage solutions. This means your climate risk management strategy should identify and quantify the risks and opportunities associated with this change. Exercises like vulnerability assessments will help you identify your key risks as they are now and how these may change in a warming world.

Risk analytics can help you identify and quantify climate risks. For example, you can harness analytics to understand how changes in acute hazards such as extreme wind and flood, as well as chronic stress factors like sea-level rise and heat stress, could impact your organization under multiple climate scenarios.

Your next step in devising a long-term optimised climate risk strategy is quantifying the impact of all current mitigation actions and any mitigations that may form part of the long-term organizational response to climate-related risks.

This means for selected future time periods you should:

• List-out the planned actions to achieve net zero
• Develop, assess and prioritise adaptation measures to reduce risk from physical impacts (like changing temperature extremes and more frequent flooding)
• Quantify the cost and impact of proposed climate risk mitigations whether those would be a mix of physical adaptation, risk transfer or other business levers
• Allow for correlations and diversifications and the impact of one risk, as well as mitigation actions, on others – for example, constructing new manufacturing sites using ‘green’ materials might increase property damage and business interruption risk.

You should also be prepared to repeat the above for different, scientifically recognized climate scenarios. You will have multiple, possibly hundreds of options to reach net zero. And the combinations of all potential mitigation actions could number in the thousands, if not more. Deciding what represents the most efficient – the least cost and in line with your organization’s stated risk tolerance – may feel potentially overwhelming. This process can be made considerably easier by relying on climate and risk analytics.

The most efficient trade-offs between cost and reducing climate-related risks will be different for every organization and will shift as conditions evolve. The answer to questions around how you can reduce your climate risk volatility without affecting your budget, for example, is going to change over time.

Risk analytics can help you identify the most efficient risk financing strategies that maintain your risk within your stated tolerance levels while spending precisely what you need to protect the business from physical and transition risks.

Analytics can also show business leaders evidence-based rationales for pursuing one climate risk mitigation investment over another and reveal the arbitrage opportunities between climate-related risks and mitigations over desired durations and across different metrics.

Whatever process or methodology you use to optimize your climate risk strategy, you should use it to test and review your strategy on a regular basis as new information and interconnectivity of climate-related risks emerge.

Data-led and repeatable processes will support your organization in switching from a reactive, reporting-focused climate risk response to a more strategic and proactive approach that meets climate disclosure and net zero expectations while readying the business for longer-term competitive advantage.