Companies that wait to transition until there is a stronger policy response will face higher costs and a shorter window to achieve net zero commitments.
Climate policy response by governments and investment in clean technologies must be accelerated to keep temperature rise near 1.5°C, according to industry experts speaking at Morningstar’s ‘Sustainable Investing Summit 2023’.
Ada Kinczyk, Director of Research at investment consultancy WTW, said there are “reasons to be optimistic”, citing declining coal consumption, rising electric vehicles (EVs) sales and the decreasing cost of renewables.
But “we are moving rather slowly towards a low-carbon future”, she said.
“In the last three years, the global carbon budget required to stay well below the 2°C target has shrunk by over a quarter,” Kinczyk told onlookers, adding that this reduction is largely the result of the world adding more than 35 gigatonnes (Gt) of CO2 into the atmosphere every year.
“This demonstrates progress, but it’s still too slow.”
The world’s remaining ‘carbon budget’ – the amount of CO2 that can be emitted to have a chance of limiting global warming to 1.5°C – has actually halved in the past three years, according to a group of leading climate scientists.
Also speaking at the event, Azadeh Sabour, Head of Climate Solutions at Morningstar Sustainalytics, noted that climate policy is “off track” to keep temperature rise near 1.5°C.
A recent report by the Inevitable Policy Response (IPR) forecasts that climate policy will continue to accelerate, driven in part by the twin Paris Agreement Global Stocktake/Ratchet cycles between now and 2030.
However, the IPR research, published in September, found that policy action is not in line with pathways that limit warming to the lower limit of 1.5°C in the Paris Agreement; with only 3% of global policies currently moving towards the 1.5°C low or no overshoot target.
“Companies that wait to transition until there’s a stronger policy response are going to face higher transition costs, as they’ll have a shorter time period to reduce their emissions,” said Sabour.
In September, the International Energy Agency (IEA) updated its Net Zero Roadmap, which noted that reducing greenhouse gas (GHG) emissions from the energy sector to net zero and limiting global warming to 1.5°C remains feasible due to growth in clean energy technologies.
To be aligned with the IEA’s projections, Sabour said investments in clean energy technologies will need to “significantly jump” to several trillion dollars annually.
Too big to handle
Last week, the Transition Plan Taskforce (TPT) finalised its disclosure framework, which aims to ensure firms’ transition plans take a “strategic and rounded” approach that explains how they will meet climate targets, manage climate-related risks, and contribute to achieving net zero.
“At the company level, when assessing transition risk exposure for large, listed equities, it becomes evident that there are numerous emissions targets, but often a lack of a detailed plan for implementation or achievement. Some of these targets may even be seen as greenwashing,” said Kinczyk.
“Companies often lack the necessary tools to understand what the transition might entail more broadly, beyond things that are directly within their control,” she said, adding that this includes a lack of visibility or knowledge on the transition strategies of suppliers, the future prices of goods vital to their operations, the status of public infrastructure, or changing consumer behaviour.
In April, Morningstar Sustainalytics launched its ‘Low Carbon Transition Ratings’ to assess a company’s alignment to net zero and provide a assessment on the actions being taken to transform its business to meet its commitments.
“Our initial findings reveal that more companies are disclosing emissions data, which is great, more are setting net zero commitments, and some are making investments towards emission reduction programmes,” said Sabour.
“However, 90% of the largest public companies that we assess globally are significantly misaligned to a 1.5°C future and, in aggregate, are on a pathway to a 3°C temperature rise by the end of the century.”
This trajectory highlights the “pessimistic view” that despite the rise of net zero commitments, too few companies are well-prepared for the business model transformation that’s required to achieve net zero ambitions, she said.
“This points to a significant underestimation of the transition risks brought about through accelerated policy and technology shifts.”
Kinczyk explained that building a detailed picture of the broader transition is challenging, as it requires an extensive understanding of numerous sub-sectoral regional transition pathways, each needing to be comprehended on its own while also aggregating to form a “coherent, consistent whole”.
“All these changes need to occur simultaneously to stay within the right carbon budget, but they also must be realistic,” she said, noting that this is compounded by uncertainties regarding factors such as increases in the capacity of electricity transmission.