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Friday, August 19, 2022

Embracing change

Dr Andrew Coburn examines how FMCGs might turn climate risk into a commercial opportunity 

The FMCG market has often been seen as one of stability amidst more turbulent sectors, where related goods see high global turnover that is forecast to deliver an industry value of $15 billion by 2025.

However, as a sector that is held responsible for over a third of global greenhouse-gas emissions, consumer sentiment, and the way that buyers increasingly define and redefine the values by which they make purchases, is altering the market status quo. Further, investors are now far more in tune with the importance of addressing climate change, for both moral good and financial viability, and so company reputations can be damaged and valuations decimated by climate inaction.

For many businesses, climate change brings to mind long-term physical risks; think rising seas, mass extinction and extreme weather conditions. But the reality is far more present.

Often overlooked, transition risks – business-related risks that follow social, economic and political trends related to a low-carbon future – are, nearer-term, presenting a significant challenge for businesses within the coming years.

Frequently presented as a cost-prohibitive challenge, climate action gives companies an opportunity they can’t afford to miss. Analyses carried out by Risilience found that the valuation of businesses failing to take climate action could be eroded by as much as 30 percent over the next five years, depending on company profile and how aggressively they tackle climate change.

And as climate-related legislation increasingly takes hold across the globe, the temptation to view climate change as a problem for tomorrow’s FMCG enterprises has been eclipsed by the reality that it is a very real problem for businesses today.

Climate risk: a business challenge now, not later

The ‘low-carbon economy’ presents pressures from several directions that squeeze margins and force change on companies. Regulations are driving increases in costs to penalise carbon emissions, as demands from shareholders and investors intensify with the expectation that businesses should be responsible stewards of the environment and adopt expensive new technologies to address climate change.

For example, in 2020, asset management firm Blackrock called on companies to disclose climate-related risks in line with the Task Force for Climate-related Financial Disclosure (TCFD) – and this is not an isolated incident. In 2021, The Investment Association, a trade body with £8.5 trillion under management, announced its intention to flag companies in high-risk sectors that failed to comply with the TCFD legislation – both actions from major, global investment players that should keep any CFO up at night.

Of course, for FMCG brands, consumers are also applying pressure to the bottom-line as they demand more sustainable products while some refuse to take the hit at the checkout. Research carried out by YouGov found that only a little over half (57 percent) of consumers surveyed would pay more for sustainable goods in the more climate-mature UK market, falling to as low as 27 percent in Japan.

 

And, as business valuations come under threat from climate risk, in some cases, entire product ranges and elements of a company’s business model can be rendered unsuitable by these pressures, especially if these challenges are not identified and swift action taken.

The outlook seems bleak but, as is the case with any market disruptor, the opportunity for business transformation is there to be seized.

Forging a pathway through climate action

Detailed analysis for where these pressures are likely to erode the value of the business shows where new opportunities can be found.

Like the FMCG market itself, the low-carbon economy is competitive and plays to the changeable nature of consumers, who can be highly discriminating and prone to switching brands according to how sustainable they believe the company to be – an opportunity for early movers to gain market share.

We can take the lesson from the nineties when early changemakers saw the Internet economy coming. Today we have the green economy, which is gaining momentum, so the choice is whether to grasp the opportunities that it creates or wait until it erodes your business model and, ultimately, the bottom line.

Winning businesses will be those that decouple commercial growth from emissions, mitigating transition risk and embracing a green economy. For FMCG companies, which typically have complex, global value chains, the challenge of decarbonising lies outside of their direct control – typically, over 80 per cent of their greenhouse-gas footprint is upstream or downstream (scope 3). Many are already addressing the low-hanging fruit that is their direct emissions (scope 1 and 2); upgrading technologies and electrifying processes. However, making meaningful reductions to their footprint requires remodelling supply chains, engaging with customers and, in some cases, making fundamental, strategic transformations of a product portfolio.

Finally, companies are finding that motivation and changing attitudes in their management and wider workforce are key to bringing about internal change from within an organisation. Internal incentivisation and performance-linked compensation, shadow carbon pricing and mandating changing practices, such as updating corporate travel policies, are all ways to instil a culture that seeks to prioritise climate action at both the strategic and operational levels of the business.

To develop a comprehensive strategy, each of these initiatives needs to be evaluated for the volume of emissions that are saved relative to the costs and effort required, in terms of capital investment budget and operational change; and the resulting benefits and opportunities that the initiative provides for reducing risk.

A net-zero planning framework is essential and starts from a detailed understanding of the business and where its emissions come from, combined with detailed analyses of the costs and benefits each proposed initiative, respectively, requires and delivers, as part of an integrated strategy.

Finding business opportunity through actionable insights

For some businesses in the FMCG market, climate action will be driven by senior risk and sustainability professionals, in other cases it might be the CFO or CEO who claims leadership of climate-related strategy. As with any core business initiative, however, there must be buy-in at the board level, with executive sponsors ready to champion the strategy across the organisation.

A successful net-zero strategy is founded on three elements; climate change science, business acumen, and innovation. When combined, and driven by data, all three provide sufficient visibility and operational efficiency such that the business can progress and thoroughly prepare for all risks that lie ahead.

This same data will also be needed to seek and acquire buy-in from the top to ensure the value of acting, and fiscal damage for failing to, are highlighted to decisionmakers and budget holders in the business.

In addition, as we know, actionable insights are essential for driving momentum and evolving strategies. As an industry contributing over a third of greenhouse-gas emissions, FMCG organisations should seek risk analytics to shape their net-zero journey and truly understand the internal and external pressures that come from their customers, competitors, board and legislators – challenges that don’t lie in the future but sit very much in the here and now.

Dr Andrew Coburn
Dr Andrew Coburn is the CEO of Risilience. Andrew is one of the leading contributors to the creation of catastrophe models which over the past 20 years, have come to be an accepted part of business management in financial services and public policy making for societal risk. He has provided research inputs into government policy, such as House of Congress legislation on terrorism risk management policy and urban planning for disaster mitigation in Mexico, Metro Manila, and Southern Italy. https://risilience.com

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