More than 70% of listed companies that represent some of the world’s largest carbon-polluters, alongside most of their external auditors, are not fully accounting for climate-related risks in financial statements. This is despite significant financial risks faced from the climate crisis and net-zero pledges made by many.
These are the key findings of Flying Blind: The glaring absence of climate risk in financial reporting, a report by Carbon Tracker, based on a study coordinated with the Climate Accounting Project (CAP) and the PRI.
For the study, the teams reviewed the 2020 filings and other relevant reports of 107 companies, including 94 that are part of the Climate Action (CA)100+ focus companies. These are companies which investors identified as having significant carbon footprints and/or as crucial to the energy transition.
The study covered a range of sectors: 33% Oil and Gas, 17% Transportation, 13% Utilities, 7% Cement, 7% Consumer Goods and Services, and 23% Other industrials (including mining, chemicals and steel). The report found that over 70% of the companies reviewed did not provide evidence that they had considered climate in their 2020 financial statements, or any indication as to why such matters might not be significant to their businesses.
Surprisingly, 80% of the auditors did not appear to assess the effects of climate risks when auditing these companies.
In 2019 and 2020 global accounting and auditing standard-setters clarified that material climate-related risks should not be ignored in accounts or in audits. Furthermore, a significant coalition of investors requested that companies and their auditors consider material climate risks in forthcoming financial statements. This includes an Open Letter signed by the PRI, UN Environment Programme Finance Initiative (UNEP FI), the UN-convened Net-Zero Asset Owner Alliance initiative, the Institutional Investors Group on Climate Change, Investor Group on Climate Change (IGCC), the Asia Investor Group on Climate Change (AIGCC), and the Pensions and Lifetime Savings Association (PLSA).
Many financial statement amounts can include assumptions and estimates about the future. For example, impairment testing of long-lived assets looks at future cash flows to support recovery of asset values. These cash flows could be adversely impacted by the energy transition due to declining demand for products or commodity prices, among others. However, few companies disclosed these inputs, leaving no way to know if climate had been considered. This is distinctly separate from information that is outside of the financial statements, such as sustainability disclosures.
Another concern raised by the report is the lack of consistency across company reporting. 72% of companies showed no evidence of follow through from other discussions of climate risks or emissions targets to their treatment in the financial statements, or explained any differences. Despite this, 63% of the auditor consistency checks did not identify these inconsistencies.
Importantly, none of the companies incorporated Paris-aligned assumptions into their financial statements, even via sensitivity analyses. This had also been requested by the significant coalition of investors in order to achieve no more than 1.5 degrees warming and net-zero emissions by 2050.
By failing to provide transparency around whether and how they have taken climate-related risks into account in the related assumptions and estimates used in the financials, companies, and their auditors, are leaving investors in the dark. As a result, the report recommends a number of actions:
- Companies disclose climate-related forward-looking estimates and assumptions, such as remaining useful lives and projected carbon or commodity prices, to show how they are taking climate-related risks (and their own climate targets) into account. This also gives investors a starting point for their analyses.
- Auditors ensure that the financial statements are consistent with other company disclosures about climate-related matters, that climate-impacted assumptions and estimates are adequately scrutinized in the audits and transparently disclosed in company reports, and that investor demands for downside sensitivities are satisfied.
- Regulators should, as part of their supervisory/enforcement reviews, identify inconsistencies and audit failures, and ensure that they are addressed.
- Investors should engage with companies on these issues and consider them in voting and investment decisions.