Managing Risk as a Company in a Changing Climate

How effective scenario planning and appropriate signal monitoring can help companies make the most of the transition to a low carbon economy.

The Future Is Unpredictable and Nonlinear

The world is changing at an unprecedented pace. While it is impossible to predict the precise nature of these changes, a combination of environmental, economic, political, social, and technological drivers suggests that the transition to a lower carbon, more resource efficient economy is inevitable. This transition could take different forms and the route chosen will determine the scale and nature of different risks and opportunities for companies. 

Increasingly, investors are calling on companies to disclose their exposure to risks against a range of different possible futures to ensure they are equipped to deal with the changes. The Task Force on Climate-related Financial Disclosure developed recommendations that call for organizations to deploy scenario thinking to assess their exposure under different pathways.

Using Scenario Thinking to Help Prepare

Change in the global economy is constant and difficult to predict. Climate scenarios do not attempt to predict the future, but they do allow us to visualize multiple feasible future worlds and help us understand the different possible pathways to reach these future states. By developing a range of different scenarios, organizations can explore how potential risks and opportunities could evolve and develop strategies that allow them to better respond to different outcomes. 

Various detailed analytical climate and energy scenarios are publicly available, such as the International Energy Agency’s World Energy Outlook and the Intergovernmental Panel on Climate Change’s Representative Concentration Pathways. These reports provide authoritative and comprehensive analyses of potential changes. However, they are global and rarely provide the level of detail in specific product markets or geographies to enable business leaders to effectively assess how they will be impacted by climate disruption. Because only the businesses themselves understand their future strategies and investment plans, it is imperative that companies develop scenarios detailed enough to stress test their operations under a range of situations.

Scenarios can push developments forward based on current situations or assume an endpoint and backcast the required path to reach it. They may be constructed with the assistance of quantitative modeling, rely exclusively on qualitative research techniques, or involve a mixture of approaches. Quantitative models are more resource-consuming. Qualitative methods allow a more flexible approach to building the future state but lack the specificity of quantitative models. Whichever approach an organization chooses to use, it needs to develop time-bound staging posts that allow them to see potential changes in the short, medium, and long-term.

Monitoring Progress

Understanding risks and opportunities under different scenarios and how those scenarios evolve over time enables an organization to develop change indicators. Change indicators can be used to monitor the real-time trajectory toward a particular scenario. This allows companies to unlock useful insights about where changing risks and opportunities may lie and respond accordingly. Indicators could include the pace of EV uptake, the number of countries implementing carbon pricing and the price itself, and the number of people adopting meat-free or lower meat diets.

No single indicator definitively shows if the world is heading toward a particular scenario; however, when viewed together, indicators should provide a clear sense of the direction. This will allow an organization to better predict the likelihood and nature of future risks and opportunities to adopt the most appropriate strategic response.