A Deep Dive into Environmental Risks

Climate and other environmental risks have featured among the World Economic Forum’s top global risks for seven consecutive years yet, despite this awareness, current approaches to managing scarce natural resources such as water and to building resilience to environmental threats still leave much to be desired.

A 2016 report[1] by ClimateWise, a global network of leading companies in the insurance sector including Zurich, highlighted the widening gap between insured losses and total economic losses from climate-related natural catastrophes. This climate protection gap exceeded USD 100 billion in 2015, which suggests that companies and countries need a better understanding of the environmental and societal challenges they face.

Part of effective risk management is understanding the risks, their triggers and one’s exposure. Companies need to ask themselves about the likelihood and potential impact of adverse events. Only then can they start taking actions to mitigate the probability of such an event or reduce the impact. This process starts at the top with the board and has to be embedded in long-term strategy all the way down to individual employees.

Risk managers need to develop a comprehensive understanding of every point of risk within the business’ global supply chain to identify potential vulnerabilities. Any such audit today needs to include issues such as resource scarcity and social challenges alongside more traditional environmental concerns such as damage to property and infrastructure or the safety of employees.

As an example, water scarcity is one of the biggest environmental challenges globally - and one that has been underestimated, according to Zurich’s Risk Insight on Water Scarcity. The report highlights water as a global challenge to business, pointing to a World Bank statistic (2016) that suggests regions of Africa and the Middle East could see growth rates decline by up to six percent of GDP by 2050 due to water scarcity. This in turn can lead to food scarcity, social unrest, migration and other challenges. It is only by understanding these larger implications of the underlying risk that businesses can develop a suitable response.

The upside is that new technologies are paving the way for companies to not only address these complex risks but also create huge opportunities for innovation. For example, water supply could transition from centralized networks towards more distributed systems. New materials and sensor technologies allow treatment at the household or community level, creating opportunities to capture rain and directly reuse waste water. For the time being, economies of scale still favor large, centralized plants in existing urban areas but the balance of costs and benefits is beginning to tip in favor of distributed water systems which, if implemented, would reduce businesses dependency on centralized resources.

Key Takeaways

·        Awareness of environmental risks is increasing, but corporate leaders need to improve their understanding of what these risks mean for their business specifically if they are to mitigate them

·        To help companies better understand their exposure to natural resource scarcity efforts are advancing in quantifying natural capital – for example, by assigning a value to the water that a company uses for its operations

·        Companies are also being encouraged to audit every link in their supply chains to understand where they are vulnerable. This is amplified by the fact that despite globalization a surprising proportion of companies still rely on suppliers from a single region, meaning a localized extreme weather event can trigger a global supply chain crisis

·        Environmental risks can very quickly become business risks with high financial impact. Companies that fail to demonstrate environmental risks’ resilience are likely to be challenged by investors.

·        A company that understands its environmental risks and dependencies has a competitive advantage, as it can better hedge its risks. The worst thing for a company to discover is a risk they haven’t thought about when it’s too late.

[1] Investing for Resilience, ClimateWise, December 2016