Most people, most governments, and most investors would like companies to commit to a business model compatible with climate sustainability. Why have so few responded?

Perhaps the most important reason is that, until recently, companies were able to declare profits as though climate change simply did not exist. For example, an oil well could be valued as though it would still be pumping oil and earning $80 per barrel in 2050 or a thermal power plant still in operation in fifty years time.

Hidden, unsustainable climate assumptions underpinned company profits – and the bonuses they paid their executives. Until we put an end to such a myopic approach, companies will continue to invest unsustainably, because it is profitable to do so.

Change is happening.

In an interpretation of its existing standards, the global accounting standard setter has made it clear that accounting rules require climate to be considered, and material assumptions shown. The body which sets audit standards has further clarified that climate must also be part of the audit. In other words, the historic practice of ignoring climate considerations and hiding assumptions is coming to an end [1]. 

Investors have also joined the chorus, demanding companies use assumptions aligned with a sustainable world. Links to all these papers and statements can be found on the website of the Principle for Responsible Investment, the world’s largest investor organization.

What difference has this made? By some accounts, quite a lot. BP, for example, has written off $16 billion in assets, and cut back its exploration expenditure, citing climate concerns.

But there is still a long way to go.

Companies need to respect accounting standards; auditors should insist they do; regulators should hold both of them to account; investors should insist on sustainable assumptions; policymakers and journalists should demand action. If you belong to any of these groups and need to know more about who is organizing action, get in touch through the PRI website.

Most of us want companies to commit to a sustainable business model. The acid test of that commitment is shown in the company accounts, and in how they calculate their profitability. We now have the opportunity to insist that that is done in a way that is consistent with climate stability.

Indeed we must do so, if we are to have a sustainable world.

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[1] One critical observation of this work was that the bodies that draw up the rules by which companies calculate profitability have a huge influence. Most of the world uses International Financial Reporting Standards (IFRS), which are established by the International Accounting Standards Board (IASB). The US and some other territories have their own standards, established by the Financial Accounting Standards Board (FASB), on behalf of the Securities and Exchange Commission (SEC). Auditing Standards are established globally by the International Auditing and Assurance Standards Board (IAASB) – in the US, they are applied by the PCAOB. Details of guidance from each of these bodies can be found in the PRI website.

David Pitt-Watson is a pioneering practitioner and campaigner in the field of responsible investment; founder and CEO of Hermes activities in the field. He leads the Climate Accounting Group sponsored by the Principles for Responsible Investment.