New Year Resolution: Climate Change Risk Analysis

Companies developing energy sources as alternatives to environmentally unfriendly fossil fuels have been prominently featured in Small Cap Strategist posts.  Investors have been encouraged to put capital behind energy sources that will help wean consumers, business and industry off energy sources spewing out carbon emissions that could do irreparable harm to our planet.  We have adventured into companies with technology to burn fuels more efficiently and others with systems that to strip greenhouse gases from the air. 

Glacial Melt

As the climate crisis has deepened, our themes have become more urgent.  We know it is not enough to simply dabble a bit here and there with a token investment in some novel fuel source.  Capital must be removed from those petroleum-based fuels sources even if politicians do not have the resolve to move against the entrenched oil and gas industry.  That very capital must move with meaningful scale to low-carbon energy sources that ultimately result in lower emissions of greenhouse gases.

There are other concerns that have been ignored by investors  -  climate crisis risk in incumbent business models.  Businesses slow to make changes to resource utilization or even persist in denying the reality of climate change, are subject to particular risk.  Even for those companies that are not intensive energy users are still vulnerable to erratic weather and natural disasters typical of a warming climate.

Environmental chaos is accelerating at such a remarkable pace, that the negative effects are certain to show up in sales, earnings and asset values of every company on the planet.  Analysts have continued to approach investment targets as if those impacts are still long in the future  -  a problem for investors in the next decade or beyond.  The reality of the climate crisis is that the impacts of global warming are impacting the pace of business activity and the value of assets today. 

Australians Escape 2020 Wildfires by Camping on Beaches

We are making a New Year resolution to make a more thorough analysis of the risks ensuing from the climate crisis.  Each and every company we consider should be put to extra tests of revenue streams, costs and expenses and asset values.  Liabilities should be adjusted to reflect the operation’s future obligation to clean up its own greenhouse gas emissions as well as repair damage to facilities that result from natural disasters, rising water levels and four air. 

Management teams have hidden behind outdated accounting standards to avoid disclosing the reality of climate change related costs and expenses.  The argument that the extent of climate change liability cannot be estimated and therefore need not be included on the balance sheet seems a bit weak in the face of the actuarial practices of insurance companies that are routinely either denying insurance or asking for higher premiums to cover climate change risk.  If management does not make voluntary disclosure, analysts and investors must ask the tough questions on every earnings conference call and at every investment presentation. 

Are historic revenue streams in any way made vulnerable by climate change?  What portion of the customer base is vulnerable to climate change effects?

Which suppliers or partners could increase selling prices to cover climate change costs?  What part of the materials or components supply chain could be interrupted by climate change?

What assets are located in regions most impacted by climate change? Are these assets critical to realization of sales activity? What costs are anticipated to fortify assets against climate change?

What insurance coverage can the company rely on to cover climate change impacts?  Has any insurance coverage been discontinued or reduced because of insurance company withdrawal from regions impacted by climate change? 

Notice that these questions go beyond the usual queries of fossil fuel usage.  While of critical importance, we believe the token sustainability report on the corporate website is not enough.  Often beautifully cloaked in images of animals and sweeping landscapes, environmental statements have done little to insulate companies from the impact of climate change.  The dread onslaught is upon us with even greater intensity than previously anticipated.  The consequences must be made a part of everyday investment analysis and earnings projections adjusted accordingly.

  

Neither the author of the Small Cap Strategist web log, Crystal Equity Research nor its affiliates have a beneficial interest in the companies mentioned herein.