The Impact of Climate Change in the Valuation of Production Assets via the IFRS Framework

Abstract

An interesting relatively new development in the field of corporate climate change disclosures is the Task force on Climate-related Financial Disclosures (TCFD). The TCFD aims to help identify the information needed by financial stakeholders to appropriately assess and price climate change related risks and opportunities. In its first Report (2016), the TCFD recommends that companies provide climate change related disclosures specifying the impact thereof on their financial performance through mainstream (i. e. public) financial filings. In this paper, we look at the financial accounting standards as an institutional framework, and in particular pose the question to what extent this framework supports companies to disclose how climate change impacts their operations and the value of the production assets. To test to what extent companies make disclosures in relation to climate change, we selected four energy companies and conducted a comparative case study analysis. Our focus is on the valuation of production assets, more specifically, drilling platforms, windmill platforms, heavy equipment and transport means used to support the production, and pipes and cables to transport the energy units produced. Interesting findings were: (i) in all four cases, potential future changes (caused by climate change) concerning the valuation of the production assets are not (yet) accounted for in their Balance Sheet Annex. This is remarkable because climate change is likely to have an effect on the future value of the production assets employed in the two types of industries, among others caused by the development that renewable energy demand increases at the expense of non-renewable energy demand; and (ii) the current financial reporting system does not support renewable energy companies to provide meaningful and quantitative insights in expected increases of their future cash inflows and their financial and innovation potential. This impedes financiers and investors to accurately and meaningfully assess the value of a renewable energy company’s business compared with a non-renewable company’s business.

The disclosure of climate-related risks and opportunities in financial statements: the UK’s FTSE 100

“…However, this does not answer the question of how climate-related risks and opportunities are currently being estimated. Scholten et al (2020) reviewed the climate-related disclosures of four energy companies with a specific focus on how they valued production assets in their 2016-2017 Balance Sheets. These researchers conclude that climate change would have an impact on the value of these assets, but the firms did not reflect any impairment in their financial statements.…”

“…That said, the empirical evidence on climate-related disclosures is somewhat limited (Baboukardos et al, 2021a(Baboukardos et al, , 2021b. Significant gaps exist in terms of the status quo reporting practices, the best practices firms should implement to fulfil their stakeholders' information needs and how firms might go about transitioning to a "net zero" carbon strategy (Scholten et al, 2020).…”

“…The urgent need to address climate change is driving a worldwide shift to a green economy and new regulatory requirements. Understanding how firms are responding to changing requirements and the physical risks of climate change has increasingly become a topic of academic interest (Bui et al , 2020; Scholten et al , 2020), and one of the main clarion cries of this body of literature is that non-financial disclosures are only contributing to impression management; they are not demonstrating a genuine commitment to sustainability (Kuruppu et al , 2019; Akbar and Deegan, 2021). However, while prior studies have largely focussed on non-financial disclosures (e.g.…”

Adoption and Determinants of Task Force on Climate-Related Financial Disclosures (Tcfd) Reporting Frameworks by Australian Stock Exchange (Asx) Listed Companies

“…The existing international financial reporting standards (IFRS) are not sufficient to encourage companies in addressing the climate change related financial risks in assessing the value of productive assets. To overcome the limitations of IFRS framework, Scholten et al (2019) regard TCFD recommended climate change scenarios as high quality financial reporting frameworks and hence suggest to use them with IFRS framework in the valuation of productive assets.…”

How does the research community contribute to corporate climate‐related risk disclosures? The gap between ideals and reality

“…The scientific research community has made a considerable contribution to the implementation of the TCFD recommendations, particularly researchers specializing in the field of enterprise and business management (Achenbach, 2021; Bose & Hossain, 2021; Cummings, 2022; Goto, 2020; Lin et al, 2020; Scholten et al, 2020; Siew, 2021; Suortti, 2021; Vola & Gelmini, 2021). A common thread in the resulting literature is the development of physical and transition risk assessment methods to support TCFD, including projects such as Aqueduct Tools (from the World Resources Institute, WRI), the Climanomics platform (from the Climate Service), and the Climate Value‐at‐Risk model (from Carbon Delta) (Connell et al, 2020; Liu & Tung, 2020; Smith, 2021).…”