Unlocking Value: The Strategic Benefits of Climate Risk Assessment in the Energy Sector

THE CLIENT:
Trading Arm of a Large Global Energy Company

USERS:
Credit Team

Climate change poses significant financial risks to the energy market, particularly for firms engaged in trading and investment activities. As climate-related events grow in frequency and severity, companies face multiple challenges, from physical risks like extreme weather disrupting infrastructure and operations to transition risks driven by shifts in policy, technology, and market sentiment. These dynamics can impact valuations, market volatility, and long-term strategic positioning.

To remain resilient and competitive, these firms must adopt robust climate risk management practices, including scenario analysis and forward-looking assessments, to safeguard revenues, meet client expectations, and support sustainable growth.

For energy trading companies, integrating comprehensive climate risk assessment is a strategic imperative. Scenario analysis allows firms to anticipate shifts, assess exposure across portfolios, and align with global sustainability goals.

Introduction

The energy trading arm of a large global energy company recognized the critical importance of quantifying climate-related impacts to better assess the risks and opportunities associated with its clients. By applying advanced climate risk assessments and scenario analyses, the company’s credit team enhanced their understanding of how climate factors could impact long-term customer contracts and energy trading partners. This case study explores how a forward-thinking trading team within an energy company integrated climate risk quantification into its assessment framework, positioning itself to identify emerging risks and opportunities and contribute to a more resilient energy landscape.

Pain Points

To support the team’s credit risk assessment, the client identified several key needs:

• Expertise in quantifying climate risk: The firm required a robust framework to effectively evaluate the projected impact of climate risks.
• Access to high-quality financial and environmental data: The firm required reliable and comprehensive data on emissions and climate impacts to support accurate risk assessments and informed decision-making.
• Integration of climate risks into existing frameworks: The firm faced challenges in incorporating climate risk assessments into their current risk management processes, necessitating tools that facilitate this integration alongside traditional financial risks.
• Understanding supply chain vulnerabilities: The firm needed insights into how climate-related disruptions could affect their portfolio operations, allowing for better risk mitigation strategies.
• Tailored credit assessments: The firm needed access to specific insights on the valuation and credit impacts of various climate scenarios for customers in a variety of downstream sectors, enabling a nuanced understanding of how climate factors influence their portfolios.

These pain points underscore the critical need for a comprehensive climate risk assessment solution tailored to the unique challenges faced by large energy corporations. Climate Credit Analytics (CCA) has emerged as the ideal framework, designed to enhance systematic quantitative analysis and effectively address the complexities of climate risks.

The Solution

Climate Credit Analytics (CCA) is an award-winning^[1] climate scenario analysis model suite launched in 2021. It makes the critical link between climate change and credit risk by translating climate scenarios into drivers of financial performance (e.g., production volumes, fuel costs, and capex spending) tailored to specific industries. These drivers are then used to condition and forecast complete financial statements of corporates under various climate scenarios, including those published by the NGFS, a group of over 149 central banks, financial authorities, and observers.^[2]

Key Features

• Compatibility with multiple climate scenarios: These include scenarios from 1) the Network for Greening the Financial System (NGFS), 2) Regulators including European Central Bank, Federal Reserve Board and Monetary Authority of Singapore 3) short term stress scenarios (which may be user-defined) for added flexibility.
• Best-in-class data: These tools leverage S&P Global’s extensive and proprietary datasets including company-level financial and emissions data, industry-specific data, and quantitative credit scoring methodologies.
• Coverage of private and public companies: S&P Global Market Intelligence has company fundamental data and uses a waterfall approach to enable full portfolio analysis, even in cases where granular data is not readily available. The offering enables automated bottom-up analysis for 2.2 million companies. Where users have the requisite information, a proprietary analysis capability is also available.
• Easy Implementation: This includes a compact set of Excel templates connected to S&P Global’s databases for real-time on-the-fly analysis, as well as web services (for CCA) enabling users to undertake the analysis within users’ own IT environment.
• High degree of flexibility: CCA enables users to perform sensitivity analysis on many parameters and tailor key assumptions (e.g., counterparty transition planning) for decision-useful insights.
• Provides a clear connection between transition variables, financial drivers, and resulting financial impacts: This enables clients to understand the model inputs, drivers and output, supporting confident reporting on climate-related financial risks to regulators and investors.
• Sensitivity Analysis: This feature empowers businesses to meticulously examine the potential impacts of change in specific variables or assumptions on their climate risk exposure. This capability facilitates the development of robust risk management strategies, empowering businesses to navigate climate-related challenges effectively. 

Key Benefits

Implementing a comprehensive climate credit risk assessment solution offers several key benefits for the Credit team:

• Enhanced Risk Management: With a diverse portfolio, the firm would benefit from improved risk management capabilities. CCA enabled the firm to quantify and analyze the potential impacts of climate change on its operations, helping to mitigate risks associated with volatility and regulatory changes.
• Informed Strategies: By integrating climate risk insights into its strategies, the firm had the capability for more informed decisions. Understanding the long-term impacts of climate change on the market allowed the firm to capitalize on emerging opportunities while managing exposure to existing risks.
• Improved Stakeholder Engagement: By enhancing transparency in climate risk management and reporting, the firm can better communicate its sustainability efforts to investors, customers, and other stakeholders, fostering trust and strengthening relationships.
• Strategic Adaptation and Resilience: The solution enabled the firm to identify vulnerabilities in its supply chains and operations, allowing for the development of proactive strategies to mitigate climate-related disruptions and enhance resilience in an uncertain environment.

In summary, a comprehensive climate risk assessment solution empowered the firm to enhance its risk management, inform strategies, improve stakeholder engagement, and build resilience against climate-related challenges, ultimately positioning the firm favorably in an evolving energy landscape.