What is the TCFD?
Overview:
The Task Force on Climate-related Financial Disclosures (TCFD) is a framework aimed at helping private companies understand and more consistently disclose the impacts of climate change on their financial performance. This information is intended to help investors and other stakeholders accurately price climate-related risks and opportunities and more efficiently allocate capital.
The TCFD was established in 2015 by the Financial Stability Board (FSB) and currently has over 3,400 supporters with a combined market capitalization of $27.2tn across 95 jurisdictions.[1] The framework is based on eleven recommendations under four pillars: Governance, Strategy, Risk Management, and Metrics and Targets – see Table 1.
Practical considerations – how to support the TCFD
Support for TCFD is a commitment by companies to understand and implement the recommendations. In return the framework provides companies with a consistent and comparable way to demonstrate how they are considering and acting on climate change to investors and stakeholders. [3] Pledging support for TCFD is simple, and only requires a company to fill out an online form.[4] The company is then added to the TCFD website as a supporter. The TCFD Hub also provides guidance and support to help companies implement the recommendations.[5] The examples below illustrate how a company could start to think about and ultimately disclose against the recommendations.
Strategy
The Strategy questions are designed to prompt companies to reflect on how they might be affected by climate risks in two main categories – physical (acute and chronic) and transition risks (policy/legal, technology, market, and reputation), as well as the opportunities that may arise from the impacts of climate change (see Table 2 for descriptions and possible impacts). The guidance asks for a “description” (e.g. “a description of the specific climate-related issues potentially arising in each time horizon (short, medium, and long term) that could have a material financial impact on the organization”), which can be a qualitative account of how the company views and acts on these risks and opportunities. The idea here is to start simply, providing all companies the opportunity to reflect on these issues without the need for significant technical expertise.
Table 2: TCFD physical and transition risks and opportunities.
Advancing disclosures - scenario analysis
This qualitative approach applies to most of the questions, though the TCFD also encourages more technical responses for some questions. For example, whilst a qualitative description of scenario analysis (Strategy question C.) is accepted to explain overall trends and relationships for many companies, a quantitative approach using analytical modelling techniques is recommended for companies with more exposure to climate-related issues - see Table 3 for TCFD’s guidance.[6]
Table 3: TCFD Strategy question C. on scenario analysis.
Scenario analysis aims to provide investors and other stakeholders with more information about how a company is planning for different possible future states, and what actions they are taking to mitigate the risks and take advantage of the opportunities posed by future climate conditions. A range of scenarios are recommended, including 1.5°C and 2°C Paris aligned scenarios (in which global temperatures are kept below the recommended rise of 1.5°C or 2°C above pre-industrial levels) as well as other scenarios relevant to specific jurisdictions (e.g. a scenario aligned with a country’s Nationally Determined Contributions (NDCs)) and a worse-case scenario (in which global temperatures rise to 4°C or more). The key point here is that while a qualitative approach may provide a sense of how a business may need to change due to future conditions, a quantitative assessment will provide a more robust and measurable assessment of the possible risks and impacts which in turn can be used to inform a company’s strategy and decision-making much more accurately. It will also help investors to understand a company’s strategic approach to climate risk and compare companies across portfolios. More guidance on applying scenario analysis can be found in the link to TCFD Guidance in the notes below.
Metrics and Targets
On Metrics and Targets, companies are asked to disclose how they measure and monitor risks and opportunities. TCFD has defined seven metric categories – see Table 4 – with suggested units and considerations as to why these elements should be included. It also recognises that some organisations may find it difficult to gather this information (e.g. due to difficulties sourcing data from third-party fund managers), and asks that such organisations “provide qualitative and quantitative information, when available” including descriptions of metrics and methodologies, e.g. used to calculate targets.[6] The purpose of this section is to help establish a company’s risk exposure and inform investors and stakeholders how they are managing those risks.
Table 4: TCFD climate metric categories
Latest changes and direction of travel
Support for the TCFD is growing rapidly and becoming a standard expectation for larger companies. Since January 2021, the UK’s largest companies have been required to state whether they disclose against the TCFD in their annual reports, and if not, explain why not. As of April 2022, it became mandatory for UK listed companies with more than 500 employees and more than £500m annual turnover to disclose against the TCFD recommendations. This follows the UK’s announcement at COP26 in November 2021 to become a net zero aligned financial centre. Since then, the UK government has launched its Net Zero Strategy and the UK Transition Plan Taskforce which will require UK financial institutions and listed companies to develop climate transition plans demonstrating how they will cut emissions and adapt to climate change in line with the country’s 2050 net zero target. [7]
The TCFD also now applies to asset managers at both the entity (how the firm assesses climate risks and opportunities in managing or administering investments on behalf of clients and consumers) and portfolio levels (a set of consistent and comparable disclosures for products and portfolios including a core set of climate-related metrics). [8] Additionally, it will form a crucial role in informing the new International Sustainability Standards Board’s (ISSB) forthcoming global standard for sustainability-related reporting – read more here. The TCFD mandate is also expected to expand to cover smaller companies from 2023.
How to get started with the TCFD
The TCFD’s reach is expanding rapidly and whether or not companies are in jurisdictions where disclosure is mandatory or not, there is increasing pressure to consider and report against TCFD. This trend is only increasing. So what can you do to make a start?
Make a public commitment by pledging support to TCFD.
Prepare for reporting by assessing the TCFD recommendations, including definitions and concepts (e.g. physical and transition risk), and requirements for disclosure (e.g. data, metrics, scenario analysis, targets). Start by reading the 2021 Annex.[9]
Prepare to conduct scenario analysis, initially considering how you’d respond qualitatively but with a view to later investigating quantitative techniques.
Assess resources – do you have internal resources and systems available to source and evaluate data (e.g. GHG emissions) or would external assistance be required?
Consider next steps – if you’ve already reported against the TCFD recommendations, how can you advance your ambitions (e.g. by setting targets and developing a climate action plan).
To find out more about what you need to know to ensure your business is working towards TCFD compliance, please get in touch.