Australian Regulators Stress the Importance of Managing Climate-Related Risk

Following in the footsteps of its international counterparts, the Australian Prudential Regulation Authority ("APRA") is ramping up its guidance on the management of climate-related risks.

On 22 April 2021, APRA released for consultation its draft guidance to banks, insurers and superannuation trustees on managing the financial risks of climate change (see Prudential Practice Guide CPG 229 Climate Change Financial Risks (CPG 229)). The guidance covers governance, risk management, scenario analysis and disclosure in respect of three categories of climate-related financial risks:

  • Physical risks, which result from changing climate conditions and extreme weather events, and can lead to lower asset values, increased insurance claims and supply chain disruption;
  • Transition risks, which result from policy changes, technological innovation and social adaption, and can lead to impacts on price and demand, stranded assets and loan defaults; and
  • Liability risks, which arise as a result of stakeholder litigation and regulatory enforcement, and can lead to business disruption and penalties resulting from litigation.

CPG 229 is aligned with the Financial Stability Board's Task Force on Climate-related Financial Disclosure and follows engagement with peer regulators in other jurisdictions. Consultation on the draft CPG 229 closes on 31 July 2021, with a finalised CPG 229 expected to be released in late 2021.

APRA's release of the draft CPG 229 follows a statement made by Australian Securities and Investments Commission ("ASIC") Commissioner Cathie Armour in February 2021 which reinforced ASIC's view that disclosing and managing climate-related risk is a key responsibility of directors and officers of listed companies. See our previous Commentary.

International Developments

These steps by the Australian regulators follow recent developments in the European Union ("EU") and United Kingdom.

The EU authorities are leading the way on environmental, social and corporate governance disclosure regulation in the financial sector, including through the recent Sustainable Finance Disclosure Regulation, which entered into force on 10 March 2021, and European Securities and Markets Authority guidance on disclosure requirements with respect to climate-related risks.

The United Kingdom is also well advanced, with the Prudential Regulation Authority and Financial Conduct Authority having released formal regulatory guidance, and the Bank of England kicking off its climate-risk stress testing in 2021.

Even for regulated entities without United Kingdom or EU interests, these developments are likely to influence strongly the expectations of investors and other stakeholders, as well as future Australian regulatory standards. Further impacts are being seen in reduced opportunities to transfer climate-related risks under the terms of insurance policies. Together, these trends highlight that regulated entities and companies should be focused on understanding their unique exposure to climate risks in a variety of different scenarios and how to articulate those risks in their disclosures.

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