Connecting the Dots: Business Risks and Climate Change

The relationship between business and climate change involves both risks and opportunities. Three risks, in particular, deserve close consideration as each of them highlights future business opportunities.

Transition Risks

What are they? These are the business risks architecture firms face related to changes in the policy and regulatory landscape; in other words, efforts to transition the economy from fossil-based to a low-carbon economy.

What is driving transition risks?

Last year, the US and other nations at COP26 made net zero commitments for the years 2030, 2035, and 2050. Now, we’re seeing an acceleration of policy and regulatory change at all levels of government to meet these targets related to:

• Energy efficiency, e.g., improved energy codes, BEPS laws, and improved fuel economy standards;
• Fuel switching, e.g., “electrify everything” movement in buildings and transportation; and
• Emissions reduction policies, e.g., climate mobilization acts, climate solutions acts, embodied carbon laws, and zero carbon buildings.

There’s also a federal policy push through stimulus packages signed into law in 2021 to advance new clean energy technology development, including green hydrogen, battery storage, advanced nuclear, and carbon capture. Some federal lawmakers continue to aim for more in 2022.

With this policy and regulatory activity, architecture firms should explore the following questions:

• How is your firm internalizing these demands for low-carbon design solutions?
• What additional services might your firm offer to meet new client demands?
• Do you have the staffing and expertise to transition to new ways of designing and specifying materials and thinking about the built environment and the bigger role it plays in causing global warming?

If you’re not exploring these questions, your firm is at risk from fully realizing the opportunities ahead. Bottom line, we are living in times of great change and the market is going to reward architecture firms that embrace the challenge; those that do not, risk missing enormous opportunities. Your firm should pause to consider:

• Gathering your best and brightest leaders to take stock of the changes that are afoot;
• Assessing the risks of change, including market demand to hit net-zero targets;
• Emphasizing the expertise your firm can offer to effectuate the transition; and
• Reflecting on the extraordinarily historic opportunitythat has presented itself with massive amounts of federal funding through ARPA and IIJA for projects that meet climate targets and relate to sustainability.

Liability and Operational Risks

What are they? These are the physical risks of climate change.

 What’s driving liability and operational risks?

We know from a series of recent climate science reports from the Intergovernmental Panel on Climate Change that we can expect, with high degrees of scientific probability, more frequent and more severe climate-related weather events. Even in best-case global warming scenario modelling where the world pivots quickly to a low-carbon economy this decade, the planet has rapidly warmed over the last 100 years. We cannot remove greenhouse gas emissions at scale with the technology available today. While the global community works to slow temperature rise through reduced emissions, the global community faces increasingly severe weather events. Just last year, the US witnessed 20 separate billion-dollar weather/climate disaster events totaling $148 billion in costs.

With these climate risks in place, architecture firms should consider whether they have:

• A process for flagging increased future physical risks on their projects and the associated business interruption risks;
• The expertise (or partners with expertise) to help manage these climate-related project risks;
• Protocols for documenting communications; and
• Trained contract reviewers to identify potential liability in your professional services agreements.

If your answer is “sort of” or “not really,” then it may be time to consider exploring these questions for better risk management and improved service to clients and communities at large.

What we’re seeing is a shift in climate-related litigation from a products liability framework to one where the allegations are framed around the concept that a business “failed to protect against foreseeable harms from increasingly severe weather events.” The best guidance we can give is to view all projects as having new exposures to the risks of climate change, the frequency and severity of which depend on geographical and locational factors. It’s also important to consider local hazard mitigation plans, adaptation plans, and disaster recovery plans. In other words, designing projects based on historical weather events is simply not enough. Assume that the weather of the past is NOT the weather of the future, especially when you consider that the future of any capital assets being put in place today have a service life of 50-75 years—a timeframe that will most assuredly suffer from more intense and frequent severe weather events.

Strategic Risks

What are they? These are business risks that we’re seeing in financial markets that will likely impact project development, procurement preferences (public and private), and the future pipeline of work involving environmental, social, and governance (ESG) trends, which includes a recent proposed set of rules by the SEC on mandatory climate disclosures.

For those unitiated, ESG is an acronym for categories of issues that investors want public companies to factor into their business models and planning. Simply put, investors see the need to rebalance corporate purpose for long-term value using an investment sustainability framework/lens to measure and plan business success beyond traditional financial performance metrics.

An ESG mindset measures, accounts, and plans for climate uncertainty, biodiversity loss, water and air pollution impacts, resource availability, solid waste challenges, dignity and equality, community and social vitality, employment, and wealth generation, among other things. Such a mindset helps businesses:

• Anticipate and mitigate transition risks;
• Prepare for the disruptive risks related to climate-related severe weather;
• Plan strategically for market opportunities and supply chain challenges; and
• Optimize workforce satisfaction and attract high quality talent.

Architects should ask themselves, what action is my firm taking today on ESG? If you’re not currently taking any action, now is the time to start learning and considering what actions to take to avoid getting caught flat-footed.

What is driving strategic risks behind ESG?

In short, the answer is demand by investors, and behind the investors, consumers, perhaps driven by changes in generational views. Aside from the reasons stated above about the value of ESG risk mitigation thinking, another reason to get this on your firm’s radar is the recent SEC action proposing that public companies disclose their climate risks, with the goal being to avoid catastrophic market failures (as we saw in the 2008 financial crisis). What this regulatory move does (if passed) is twofold:

• Mandate public companies to disclose on metrics like greenhouse gas emissions (direct, indirect, and supply chain, which includes their professional services providers); and
• Require reporting on how these companies are thinking strategically about reducing emissions (including plans and timelines) as well as documenting ways in which they plan to protect their capital assets against severe weather.

These trends and actions matter to architecture firms as mandatory disclosures and ESG reporting frameworks will influence procurement of ESG-friendly goods and services from private companies—upstream and downstream. Notably, whether the SEC climate disclosure rules pass or not in the US, the momentum worldwide and pressure on public companies operating globally to transform their business models to account for ESG issues doesn’t appear to show any signs of relenting. To capitalize on this momentum and the need for public companies to report on how they are lowering emissions and managing their asset resiliency, architecture firms should capture the competitive advantage now.

Victor and CNA work with the AIA Trust to offer AIA members quality risk management coverage through the AIA Trust Professional Liability Insurance Program, Business Owners Program, and Cyber Liability Insurance program to address the challenges that architects face today and in the future.