Physical risk analysis

Climate disclosures should be assessed against the first National Climate Risk Assessment

The First Pass of the National Climate Risk Assessment[1] released earlier this year by the Department of Climate Change, Energy, the Environment and Water highlights the vulnerability of Australia’s businesses and sovereign capabilities to extreme climate events and shifting climatic patterns. The Assessment identified 56 nationally significant physical climate risks across 7 Australian systems, including the economy, health and primary industries. A subset of 11 priority risks was selected for further analysis in the Second Pass Assessment, due for release in late 2024. 

The Assessment enables the Australian government to strategise and coordinate our national-level response to climate risk. By providing an objective and evidence-based foundation, it also supports decision-making for government, industry, and communities, empowering them to conduct their own climate risk assessments and deploy adaptation measures.

While the Assessment has been well received by investors[2], it has not been visibly adopted by Australian businesses, for whom the true value lies in being a government-backed standard and guide for their own risk assessments and disclosures. Considering Australia’s climate vulnerability and incoming mandatory disclosure requirements, businesses would be prudent to undertake or revisit climate scenario analysis to understand their unique risks and opportunities. By ensuring the alignment of their own assessments with the National Climate Risk Assessment, businesses can build climate resilience and secure investor confidence in their (soon mandatory) Australian Sustainability Reporting Standards (ASRS) disclosures.

To help you understand the general themes of the Assessment, to follow are what we see as the major insights and implications.

More funding is required for Defence and emergency services to maintain response capabilities

Increasingly frequent and severe climate-related hazards are anticipated to result in Defence and emergency services being called upon more often for disaster response and recovery. In Defence’s National Strategic Review [3], it identified that these increasing demands are already negatively impacting their capabilities.

Central to Defence’s future response requirements is the changing frequency of compound (Box 1) or coincident climate events. While bushfire weather conditions are projected to increase in future years, there is still uncertainty about the broadscale trends in wet-windy compound events (e.g. 2022 Lismore floods)[4].

The key implication is that Defence and/or emergency services may need additional/significant government funding to meet the increasing demand for recovery services, otherwise we face a deterioration in our national resilience.

Climate change will fundamentally affect our agricultural systems, impacting productivity and profitability

Agricultural productivity is expected to decrease under climate change due to changing rainfall patterns and increases in extreme heat, impacting the profitability of Australian agribusiness and ultimately threatening Australia’s food security.

Given the high vulnerability of the agriculture and aquaculture sectors, businesses need a comprehensive understanding of their current level of resilience to physical risks, and how their risk profile will change under future warming scenarios. Incorporating the effects of current risk management practices and potential adaptive measures into these analyses supports strategic decision-making. This approach not only demonstrates effective management in disclosures but gives investors’ confidence in a business’ ability to understand and address their physical risks.

A past example of Energetics’ work in this space is with Sealord and its subsidiary Petuna Aquaculture, who we supported in undertaking quantitative scenario analysis across their Tasmanian operations.

Greater integration of physical risk into business capital allocation processes is needed to access potential funding through investors and the government

Critical infrastructure, such as telecommunications and transport, along with services like banking and food access, can be disrupted by climate-related hazards, in turn reducing Australia’s capacity to prepare for and recover from these events. Building resilience to physical climate risks at a national scale is essential, but it will require significant capital investment by Australian institutions. Banks will be key in providing the capital to undertake adaptation projects at the household and critical asset level, though they must be prudent in how they balance the commercial viability of loans with supporting communities and business in vulnerable locations.

A ramp up of government funding and the facilitation of investment is needed to drive climate adaptation and resilience across national infrastructure through loans or incentives, with institutional investors playing a key role as capital providers and strategic partners. While it's essential for investors (and government) to thoroughly understand both the current and potential future physical risks to and resilience of each asset, IGCC’s 2023 Net-Zero survey^[6] found that only 22% of Australian institutional investors have assessed physical risks across their whole portfolio. This highlights the need for greater integration of physical risks, resilience and opportunities into investment and due diligence processes.

With escalating climate impacts, a potential opportunity for organisations with large asset bases is to establish specialised critical service provision and business continuity teams. These teams could provide a more targeted and streamlined response for your assets than a combination of Defence and volunteer organisations such as the SES and Rural Fire Service. This approach not only manages an organisation’s own risk but also builds resilience in critical infrastructure and affected communities, potentially yielding significant reputational benefits. Care must be taken however to collaborate with volunteer organisations such as the SES and Rural Fire Service.

Disregarding climate impacts above 3°C of warming has the potential to underestimate future impacts and lead to an insufficient adaptative response

The Assessment examines the risks for conditions over a 20-year period centred on 2020[7], and over the medium (2050) and long term (2090). Interestingly, when selecting climate scenarios, the report states: “GWL4 [Global Warming Level of 4°C] was not considered for the long-term (2090) time horizon as the current evidence indicates that this is not scientifically credible to occur by 2100.”

The Assessment instead selects GWL3 as the worst-case scenario out to 2090, which roughly corresponds to the warming experienced under SSP2-4.5 by 2100, and is considered an ‘intermediate’ emissions scenario by the IPCC^[8]. While this reflects the current ‘most likely’ range for future global temperatures, its selection as a worst-case scenario could underestimate physical risk impacts, and does not consider further warming from climate tipping points^[9], potentially leading to insufficient adaptation.

An overarching strategy, but more to come

The ‘Second Pass’ of the National Climate Risk Assessment will use detailed technical analysis and further stakeholder engagement to assess the 11 priority risks identified in the ‘First Pass’, considering climate impacts, and potential opportunities out to 2100. This analysis is underway and scheduled for completion by the end of 2024. Concurrently, the National Adaptation Plan will respond to risk assessment findings and establish a framework for addressing nationally significant climate risks. These future releases will provide further detail on our nationally significant risks and their responses. The output of the ‘Second Pass’ will be tailored to inform potential adaptation responses and include datasets, visualisations and maps. Leveraging these resources for individual business’ own climate risk assessments will provide deeper insights into risks and opportunities.

Understand your risks and opportunities in a changing climate

While the ‘Second Pass’ assessment will provide further detail on our nationally significant risks, the ‘First Pass’ assessment has found that Australian businesses, particularly those in the agriculture, infrastructure and finance sectors are highly exposed to physical climate risks. With escalating climate impacts and mandatory disclosures on the horizon, understanding and managing your physical climate risks has never been more important. Using scenario analysis and stress testing, Energetics can help your business gain the insights to embed physical risk and resilience considerations into your strategic planning and upcoming disclosures.