Natural capital accounting has for years been heralded as the next big thing in sustainability, championed by the UN, the World Bank, and a number of finance-sector led and business groups. These and other organizations have long insisted that banks, investors and insurers who ignore their dependencies on natural capital such as clean air and oceans do so at great risk.
Yet financial institutions’ embrace of natural capital risk assessment has been underwhelming. With the latest Special Report from the UN Intergovernmental Panel on Climate Change (IPCC) warning of the negative consequences of climate change to the natural systems that underpin the global economy, the tide may be turning.
Now one of those leading platforms for natural capital, The Natural Capital Finance Alliance (NFCA) has released new guidance for the finance sector on natural capital risks. The organization’s latest report, “Connecting Finance and Natural Capital: A Supplement to the Natural Capital Protocol,” provides a framework for financial institutions to assess the natural capital impacts and dependencies of their investments and portfolios.
Case for action grows stronger
“Over the past year we have seen a notable upsurge in interest from financial institutions in natural capital risk assessment,”Niki Mardas, a member of the NCFA Steering Committee, told TriplePundit.
“We suspect this is partly a result of the Paris Agreement and the UN's Sustainable Development Goals [SDGs], which have shown a clear sense of direction for government policy around the world,” Mardas said, “and partly due to an increasing understanding of the links between climate, natural capital and profitability as we see more companies materially affected by events such as droughts, floods, heatwaves and supply chain disruption.”
The NCFA, which developed the framework with the Natural Capital Coalition and the Dutch SIF VBDO, claims that natural systems are deteriorating past the point of effective service provision. This, they say, will have potentially significant consequences for many businesses, and subsequently, for those who have financed or insured them.
“It is clear from the IPCC report that there will be huge disruptions over the coming years and that the entire business models of some sectors will need to change,” Mardas said. “This presents both risks and opportunities for the finance sector.”
New tool delivers “heat map”
Understanding and accounting for natural capital risk has not always been straightforward. To address this stumbling block, the NFCA will launch in November its Natural Capital Explorer (NCE), calling it “the world's first comprehensive knowledge base and tool enabling banks, asset managers and insurers to screen their portfolios for natural capital risks.”
The tool will deliver a simple “heat map” to financial institutions, detailing how companies they lend to or invest in, across 167 business sectors, depend on nature to enable their production processes, what the associated risks may be, and the data that can be used to qualify and quantify risk exposure at a global and national-level.
According to Mardas, the tool, together with its supporting database, will enable financial institutions to understand the effects all economic sectors on natural capital.
“This means they can identify the highest risk sectors in their portfolios and better manage that risk, either by redeploying capital or by engaging with those companies. It will also help them to align their portfolios with the SDGs, many of which are natural capital-related,” he said.
Making the case for natural capital
Much of the financial institutions’ understanding of natural capital has centered on specific issues – such as forests, water, climate change or energy – and on the impacts that their portfolios are having on the health of natural capital stocks.
However, Mardas argues their attention should be focused on their dependency on natural capital and ecosystem service flows. These are more directly material to investment risk and returns.
To test out the NFCA’s guidance, a number of companies undertook case studies, including ASN Bank, which set a goal to have a positive impact on biodiversity.
“Institutions which have undertaken natural capital assessments have noted how integral natural capital is to business models,” Mardas said. “For some, it has been an obvious extension of work they are already undertaking on climate change, especially to look at biodiversity.
“Most of the organizations have gone on to set specific targets around natural capital, which will involve integrating this into their risk processes. They have shown that natural capital can be measured, it can be managed and it makes business sense to do so,” he said.
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