How London-listed companies are responding to climate-related risks and opportunities

Climate change continues to create physical and transition risks for organisations, leading to various potential impacts including disrupted supply chains, reputational damages, and rising insurance costs. That’s why capital providers are increasingly demanding information about how companies are managing their exposure to climate-related risks and opportunities.

At the London Stock Exchange, we celebrated the launch of two key initiatives last year that will facilitate higher-quality, climate-related disclosure, and global comparability:

• The International Sustainability Standards Board (ISSB) released standards, in June, that aim to establish a global baseline of sustainability-related financial reporting, building on existing standards and frameworks. 
• The Transition Plan Taskforce Disclosure Framework, launched in October, which sets out good practice recommendations for transition plan disclosures. 

A key element of the London Stock Exchange’s climate transition offering is our Climate Governance Score. Rather than assessing a company’s carbon emissions trajectory, it focuses on metrics that measure climate governance. Best-practice climate governance can include integrating climate targets into management incentives, implementing effective risk and resilience strategies and conducting stress-tests to assess these strategies. The Climate Governance Score is private to the company it relates to.

The Climate Governance Score applies the methodology of the Transition Pathway Initiative’s (TPI) Management Quality (MQ) Score. The TPI is a global, asset owner-led initiative to which 145 investors – jointly representing over US$60trn in combined assets under management – have so far pledged their commitment. These asset owners are using the TPI tool to assess transition risk.

Using the Climate Governance Score, we explore how London-listed companies are responding to climate-related risks and opportunities – and how this has evolved.

As companies grapple with today’s uncertain macroeconomic conditions, they are nonetheless making progress in integrating climate considerations. More than a third (35%) of the London-listed companies with a Climate Governance Score saw improvements, while only 4% saw a decline in their score performance. 2022 marked the first full year of mandatory Task Force on Climate Related Financial Disclosures (TCFD) reporting for some companies in the UK, which has likely contributed to improvements. TPI’s methodology is based on the TCFD recommendations and therefore improvements in TCFD compliance should have a correlation and lead to higher Climate Governance Scores.

Source: London Stock Exchange

Since the last review in October 2022, we have seen a 10% increase in companies achieving the highest level of climate governance (Level 4 – Strategic Assessment). At the other end of the spectrum, we have witnessed a decrease in the proportion of companies that have limited awareness of climate change considerations: companies that received the lowest score dropped from 3% to 1%. Though some companies are yet to consider climate as an issue, there are over 10 times more companies that have made a strategic assessment than there are companies that do not recognise climate as a significant business issue.

Most companies recognise climate-related risks and opportunities, implementing a policy on climate, disclosing scope 1 and 2 emissions, and setting emissions-reduction targets. However, over 80% of companies tend to score lower on the indicators that evaluate their contribution to broader climate policy. To achieve a higher overall score, companies can consider actions including:  demonstrating how they support domestic and international climate change mitigation efforts, disclosing their membership and involvement in trade associations engaged in climate issues, and managing inconsistencies between their positions on climate issues and those of their trade associations.

In recent years, some industries have been frontrunners in integrating climate considerations into their business strategy. Some of those leaders are traditionally high-emitting sectors, which may be because they face greater scrutiny on the actions they are taking to decarbonise and are also disproportionately exposed to transition risks.

Source: London Stock Exchange

In the latest assessment however, all industries are averaging similar Climate Governance Scores, reflecting an economy-wide focus on climate change mitigation and adaptation. Excluding the utilities sector, which has remained unchanged from its leading position in the previous review, the average score for each sector has improved.

Though real estate was previously behind other sectors and remains one of the lower-performing sectors, it recorded the largest improvement with 65% of companies improving their score over the period. Climate change is impacting the bottom line, whether it is rising insurance costs, green building requirements and changes to property values.

The correlation between market capitalisation and strong climate governance continues, as companies with the largest market caps account for the largest proportion of companies receiving the highest score. A combination of factors might be driving this correlation. Firstly, larger companies tend to be the focus of investor initiatives such as Climate Action 100+, which engages with select companies on their actions to decarbonise. Secondly, size often determines the scope of regulation and therefore larger companies have become more accustomed to reporting on climate-related risks and opportunities. And finally, implementing climate into strategy and managing climate-related risks are complex, with larger companies more likely to have dedicated teams to drive implementation.

Investors increasingly engage with companies on their climate governance and see this as a key element in managing risk within their portfolios. Climate governance is an opportunity not only to communicate sustainability efforts to stakeholders, but to generate strategically valuable insights, which can be linked to creating and protecting business value.