Which climate risks belong in your sustainability report?

Identifying climate-related risks and opportunities is only the starting point in the sustainability reporting process. Under AASB S2 Climate-related Disclosures, organisations must assess whether those risks and opportunities could reasonably be expected to affect their prospects, including future cash flows, access to finance, and the cost of capital.

For many organisations preparing for mandatory reporting, this prospect assessment is where some of the most important judgement calls are made. While climate risk and opportunity assessments often identify a broad range of potential issues, only those that could influence an organisation's prospects are relevant for disclosure. The challenge is demonstrating why some climate-related risks and opportunities warrant disclosure, while others do not.

In our recent sustainability webinar, How to conduct a climate risk assessment, we considered one of the more important judgement areas in the reporting process: assessing whether identified climate-related risks and opportunities could reasonably be expected to affect organisational prospects (i.e. prospects assessment).

Moving beyond risk identification

Once climate-related risks and opportunities have been identified, they should be documented in a structured risk register. This provides the foundation for assessing risk severity, documenting controls and supporting subsequent disclosure decisions.

However, compiling a risk register is only the beginning. Organisations must then evaluate the significance of each risk and opportunity, considering both the level of exposure and whether it could reasonably be expected to affect the organisation's prospects. This assessment forms the basis for determining what should be carried forward into disclosure processes.

Looking at risks through two different lenses

One of the key concepts in climate risk assessment is understanding the difference between inherent risk and residual risk.

Inherent risk reflects the level of exposure before controls are considered. Residual risk reflects the exposure that remains after controls and mitigation activities have been applied.

Organisations often focus on residual risk because it reflects today's operating environment and existing mitigation activities. However, inherent risk can be equally important when considering disclosure. A risk may appear well-managed today, but can still represent a significant underlying exposure that investors and other stakeholders would expect to know about.

This is why many organisations assess both perspectives. Looking only at residual risk can underestimate the significance of a climate-related issue, while considering inherent and residual risk together provides a more balanced view of the organisation's exposure and resilience.

The role of the prospect assessment

Once climate-related risks and opportunities have been identified, organisations must assess whether they could reasonably be expected to affect their prospects. The assessment helps narrow a broad list of identified risks and opportunities to those that require further financial impact assessment, scenario analysis, and disclosure.

This is often one of the most significant judgement areas in the reporting process because it provides a transparent and defensible basis for inclusion or exclusion decisions. As assurance expectations continue to mature, organisations will need to demonstrate how and why those decisions were made.

Don't overlook opportunities

Organisations often apply more rigorous assessment processes to risks than opportunities, but the same prospect assessment should be applied to both.

Climate-related opportunities may arise through new products and services, changing customer preferences, operational efficiency initiatives, electrification projects, renewable energy adoption and emerging market opportunities. In some circumstances, the same market trend creating a transition risk for one organisation may create a growth opportunity for another.

A thorough assessment considers both sides. Understanding where opportunities may emerge can help organisations identify potential areas of resilience, innovation and competitive advantage while providing stakeholders with a more complete picture of prospects.

Documentation is becoming more important

As climate reporting matures, organisations need to document not only identified risks and opportunities, but also the rationale underpinning prospect assessment decisions. Organisations are expected to demonstrate how climate-related risks and opportunities were identified, what information was considered, and how final disclosure decisions were reached.

Clear documentation can help organisations:

• Support assurance reviews
• Demonstrate consistency in decision-making
• Explain assumptions and judgements, and
• Maintain an audit trail for future reporting periods.

It also makes it easier to revisit assessments as climate science, regulation, stakeholder expectations and business circumstances evolve over time. Ultimately, well-documented assessments make it easier to defend decisions, support assurance activities and maintain consistency from one reporting period to the next.

How BDO can help

BDO works with organisations to identify, assess and document climate-related risks and opportunities in line with AASB S2 requirements. Our sustainability specialists can assist with climate risk and opportunity assessments, prospect assessments, scenario analysis, financial impact assessments and preparation of mandatory sustainability reporting.

To find out how we can support your reporting journey, contact our sustainability reporting team today.