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Optimizing the climate equation: Helping clients get ahead of the sustainability curve

Energy & Climate Change

Jul 4, 2023

By Jehan Saldin · Jul 4, 2023

Optimizing the climate equation: Helping clients get ahead of the sustainability curve

Climate change, driven by human-generated greenhouse gas (GHG) emissions and deforestation, has become one of the most pressing challenges for humanity today. Its effects can be witnessed on a global scale in many forms: health risks, damage to property and infrastructure, loss of biodiversity, disruptions in food production, water scarcity, and more. The economic toll of climate change has also been raising concern. In 2022, the economic losses from natural disasters amounted to USD 313 billion compared to USD 383 billion in 2021; despite this decline, average economic losses from natural disasters over the past 10 years were up 16.8% compared to the average of the prior decade.

Global economic losses from natural disasters (2000–2022)

Initiatives such as the Paris Agreement and the UN Sustainable Development Goals (SDGs) are commendable steps in tackling climate change. However, they pose challenges to businesses, particularly in industries traditionally considered significant GHG emitters. While the impact of climate change varies by sector, its far-reaching consequences directly affect 70% of all economic sectors worldwide. This drives organizations to actively pursue sustainable solutions to adapt to and mitigate these effects.

Furthermore, mounting pressure from consumers in addition to stringent regulations is compelling companies to adopt sustainable practices. According to a Deloitte global survey conducted in 2021, nearly 30% of executives stated that they were experiencing operational implications from climate change, with over a quarter reporting resource scarcity as a result.

Previously, insurers primarily focused on underwriting climate risk; their role has now evolved to provide additional value-added services such as risk advisory to assist clients in navigating and mitigating climate-related risks. This approach also aligns with their long-term interests, as it could lead to fewer claim payouts. According to the UN Office for Disaster Risk Reduction (UNDRR), investing in disaster-resilient infrastructure now can yield significant future savings, with every USD 1 spent on risk reduction and prevention potentially saving up to USD 15 in post-disaster recovery and USD 4 in reconstruction costs. Insurers (and reinsurers) aren’t the only ones offering such services, as consulting firms such as McKinsey and BCG often come with a bespoke and wider range of solutions that address multiple SDGs. Despite this, each player has its own place and aspect(s) of the value chain to which it is better suited.

In this Insight, we delve into sustainability services, exploring the various types of solutions available and the reasons for their growing popularity, and take a deep dive into the key activities of select players in the space.

What’s driving the sustainability trend?

1. Treaties and initiatives to curb global temperature are spearheading the sustainability drive

A UN World Meteorological Organization report highlights a concerning finding: There is a 66% chance that the average global temperature will exceed a 1.5°C increase above pre-industrial levels between 2023 and 2027. According to Swiss Re, if no action is taken to address climate change (temperatures rising above 3°C), the world economy could lose up to 18% of GDP by 2050. This shows the urgent need for quick and widespread decarbonization and sustainability efforts, which must be supported by robust legal and regulatory frameworks. Governments have a crucial role in establishing safety nets to protect vulnerable communities, while businesses must proactively identify emerging climate threats and develop effective strategies to mitigate them.

The primary objective of the Paris Agreement is to limit the global average temperature increase to well below 2°C above pre-industrial levels, with efforts to strive for a temperature rise below 1.5°C. The treaty warns that exceeding this scientifically-backed target could lead to irreversible damage to ecosystems and calls for the reduction of GHG emissions by 45% from 2010 levels by 2030 and to achieve net zero by 2050. Since the signing of the Paris Agreement, the number of climate laws passed across the world has gradually increased throughout the years—such as the European Green Deal (2021), a set of proposals to make the EU's climate, energy, transport, and taxation policies fit for reducing net GHG emissions by at least 55% by 2030 compared with 1990 levels.

Cumulative number of climate laws passed globally since the Paris Agreement

Number of climate related targets set across the globe

Another closely linked agreement is the UN SDGs—comprising 17 global goals—which seek to achieve sustainable development by addressing a range of social, economic, and environmental challenges by 2030.

The following eight SDGs focus on environment-related goals and will be the focus of the activity analysis that follows:

By aligning efforts toward achieving both the Paris Agreement goals and the SDGs, the relevant parties can pursue a comprehensive approach to tackling climate change while promoting sustainable development in a balanced and inclusive manner. Sustainability solutions such as risk transfer, risk advisory, and other digital solutions either directly (through specific consulting services) or indirectly (through insurance cover for renewable energy projects) help businesses align with the UN SDGs.

2. Business challenges (and opportunities) due to climate change span industries; insurers are uniquely positioned in this risk equation

The risks associated with climate change and the increasing regulatory pressure have the potential to profoundly affect businesses across various industries, albeit to different extents. Industries like agriculture, for instance, are particularly vulnerable to the consequences of changing weather patterns, including droughts, floods, and heatwaves.

In addition, increasing regulations can escalate compliance costs along with climate change-induced property damages that can lead to mounting expenses for repairs and insurance coverage.

Impact and opportunities across key industries

The insurance industry plays a crucial role as a risk transfer mechanism across these sectors. Consequently, insurers have seen a proportional increase in the level of underwriting risks they need to assume, and it is anticipated that property losses resulting from climate change will rise by 60% by 2040. While these risks can be passed on to policyholders through higher premiums, this approach poses a potential danger of excluding individuals who cannot afford the increased costs, particularly in areas prone to disasters.

Moreover, insurers are gradually aligning their practices with international agreements like the Paris Agreement and the UN SDGs. As part of this shift, many insurers have started to withdraw coverage for fossil fuel industries such as coal, oil, and gas, which significantly contribute to GHG emissions. We’ve gathered the following information from the Insure Our Future alliance:

62% of reinsurance companies and 39% of primary insurers have announced plans to stop insuring coal projects

Notably, 38% of reinsurers are excluding certain oil and natural gas projects from their coverage

Lloyd's of London remains the sole European company continuing to provide insurance for new coal projects

The decision to distance themselves from these industries is driven by investor demands, climate activists, and the adverse impacts of climate change on other aspects of their business.

In addition, insurers are seizing opportunities by developing tailored risk transfer products such as parametric insurance and providing risk advisory services such as consulting services to identify climate change risks, thereby adopting a proactive approach that focuses on preventing risks rather than merely responding after events occur.

3. The rise in eco-conscious consumers stresses the importance of sustainability drive

Consumers across all demographics are increasingly prioritizing sustainability when making purchasing decisions, demanding more ethical and eco-friendly products. They now consider the carbon footprint of their purchases not just during consumption, but throughout the entire product value chain, from manufacturing to disposal. Consumers consciously seek products that are sustainably sourced and manufactured, while also supporting companies that actively engage in environmental protection. According to the World Economic Forum in 2021, online searches for sustainable goods globally have increased by 71% since 2016.

Millennials, the largest generation in the current US workforce, are particularly environmentally conscious when it comes to purchasing decisions. However, even Baby Boomers and Gen-Zers, who are generally less conscious, have shown an increase in spending on sustainable products. From 2019 to 2021, Baby Boomers' spending on sustainable products increased by 24%, while 75% of Gen-Zers consider sustainable purchases to be more important than brand names, demonstrating a growing trend of informed purchasing decisions.

In addition, consumers and the public are actively pushing for government regulations on products and urging businesses to adopt sustainable practices for the benefit of the environment and general welfare. Social media platforms have become powerful tools for spreading awareness and criticizing companies engaged in harmful environmental practices.

Businesses that incorporate environmental, social, and governance (ESG) factors can differentiate themselves in the market and also benefit from higher sales. In the US retail sector, products with ESG-related claims saw a 1.7 percentage-point higher growth than products without such claims between 2018 and 2022. Furthermore, nearly half the global consumers surveyed by IBM reported paying an average premium of 59% for products labeled as sustainable, highlighting the willingness of consumers to invest in environmentally responsible brands. Sustainability offerings from consulting firms, such as those from Accenture, support businesses in delivering sustainable customer experiences.

Customer preference toward sustainable goods

Common sustainability concerns across a project’s value chain

sustainability x insurance: value chain concerns new

Source: Compiled by SPEEDA Edge based on multiple sources

What are the different types of sustainability services?

Based on the analysis of select insurers, reinsurers, and consulting firms, the following categories for sustainability services were identified:

The scope of this report is limited to sustainability services offered by the type of companies identified above to their external clients and excludes any measures taken as part of their internal sustainability practices in line with their own sustainability goals such as achieving net-zero emissions.

A deep dive into sustainability offerings

Summary of activities across key players

1. Insurers

The role of insurers has transformed, expanding beyond being mere risk transfer mechanisms to encompass comprehensive risk advisory solutions and proactive service offerings. By providing products and services that directly or indirectly encourage positive environmental impact, insurers can drive sustainable practices within businesses. One way they achieve this is by linking premiums to ESG risks or goals. This approach not only benefits the environment but also translates into advantages for insurers, such as fewer claims resulting from the promotion of such measures.

Primary insurers offer many risk transfer solutions to address physical environmental risks. Risk transfer solutions in relation to climate change offered by these insurers cover the following risk types:

Physical risks: Associated with the direct impacts of climate change, such as hurricanes, flooding, and wildfires. Also includes related risks such as falling crop yields or lower occupancy at hospitality establishments due to changing climate and weather patterns.

Transition risks: Arise from the transition to a lower-carbon economy. Stems from costs associated with complying with the changing legal and regulatory landscape, the development of new clean technologies, and shifts in consumer trends. It also includes redundancy costs and financial losses resulting from scaling down operations related to fossil fuel usage.

Liability risks: Linked to climate litigation and the resulting damages from failing to comply with relevant climate change-related legislation or even failure to act.

A common offering provided by most insurers is the environmental impairment liability cover for pollution stemming from own premises and job sites either from current or past operations. It covers SDGs 6, 11, and 14 and is targeted at companies in industries such as energy, waste management, and logistics, as well as consultants and contractors. Insurers also offer parametric insurance, which offers payouts based on the occurrence of natural catastrophe events and covers SDG 13. These are mostly targeted at businesses to protect businesses from interruptions and secure agricultural incomes.

Primary insurers also offer risk advisory services and digital tools that allow businesses to identify climate risks and formulate strategies to address these. They can also help identify direct emissions from their own operations (Scope 1), calculate emissions resulting from the generation of purchased energy (Scope 2), and all emissions generated across the value chain (Scope 3) for manufacturing companies with a global footprint. Moreover, partnerships between insurers, data providers, and analytics companies are prevalent, particularly in the parametric insurance space. Insurers rely on these partnerships to access data, such as weather information, for triggering insurance claims and risk modeling.

Notable activities of key insurers

AXA offers the most comprehensive range of solutions that cover six different SDGs. It has also established an investment fund in partnership with Unilever and Tikehau Capital, specifically for regenerative agriculture projects.

Allianz also offers products covering multiple UN SDGs. In addition to risk transfer products like environmental liability and parametric insurance, Allianz collaborates with SYNETIQ to support vehicle repairs with recycled parts. It also invests in projects aligned with the SDGs and supports the transition to a low-carbon economy.

Berkshire Hathaway has limited activity in this area, primarily offering an environmental liability product through its unit in France.

Other less common offerings by insurers include tax credit protection (offered by AIG and Aon) and cover for businesses to rebuild properties using sustainable materials (offered by Chubb, Marsh, and Willis Tower Watson).

Detailed comparison of insurer activity

Download the workbook to compare more than two companies at once and access the full list of activities

2. Reinsurers

Reinsurers play a vital role in the insurance ecosystem by providing reinsurance services to primary insurers. This allows primary insurers to effectively manage a larger volume of climate-related risks and explore the creation of innovative climate-related products. In addition to supporting primary insurers, reinsurers also offer their own climate risk insurance coverage through their corporate insurance business units.

Hannover Re, through its subsidiary Hannover Re Bermuda, specializes in reinsuring the global catastrophe XL business. On the other hand, Swiss Re offers catastrophe coverage through its Property & Casualty Reinsurance business unit. Risk transfer solutions, including parametric, environmental impairment liability, and renewable energy-related covers, were the most common products offered among reinsurers, aligning with SDGs 7 and 13. Digital solutions and risk advisory services, however, were provided mainly by Swiss Re, Munich Re, and Hannover Re.

Notable activities of key reinsurers

Swiss Re and Munich Re offered the most comprehensive product portfolios.

Swiss Re provides many digital solutions for modeling and quantifying natural catastrophes, developing new insurance products for weather-related perils and renewable energy projects, as well as improving the claims process.

Munich Re offers risk transfer solutions with a focus on renewable energy-related coverage. It also offers digital solutions that leverage location risk intelligence for weather and climate risk analytics, enabling companies to effectively manage risks to their assets and properties.

In contrast, Hannover Re offers parametric insurance products and has expressed plans to discuss and review at least five climate change insurance solutions by 2023.

Moreover, Lloyd's of London chairs the Insurance Task Force (ITF) under the Sustainable Markets Initiative, which aims to empower commercial customers in developing, investing in, and scaling their sustainability initiatives.

Detailed comparison of reinsurer activity

Download the workbook to compare more than two companies at once and access the full list of activities

3. Consulting firms

Consulting firms specialize in delivering comprehensive advisory solutions to assist companies in various areas related to sustainability management, accompanied by a range of digital offerings. They help organizations identify and evaluate carbon emissions throughout their value chain and manufacturing processes. Moreover, consultancy firms excel in assessing climate risks that may impact businesses and play a crucial role in formulating and implementing strategies to address these challenges effectively. This field of expertise is commonly known as environmental consulting.

Notable activities of key consulting firms

McKinsey is a prominent player, offering a comprehensive range of services that span various SDGs. Its expertise extends to ESG-related advisory, sustainability-focused product development, emissions identification, formulating strategies to achieve net-zero strategies, and other ESG objectives.

Another notable consultancy firm in this space is Tata Consultancy Services (TCS), renowned for its significant portfolio of digital solutions tailored specifically to address sustainability and climate change challenges.

In addition, Bain & Company focuses on solutions that advise clients on adopting circular business models and sustainable supply chains. To bolster these offerings, the company has also formed partnerships to create a digital tool to identify, prioritize, execute, and track decarbonization across a business.

Accenture on the other hand is pursuing acquisitions as the preferred strategy to accelerate growth and develop its consulting capabilities. Since December 2021, it has acquired five companies along with their respective teams and expertise. Furthermore, it had made investments in ESG-focused startups through its venture capital arm.

Detailed comparison of consulting firm activity

Download the workbook to compare more than two companies at once and access the full list of activities

How do the different sustainability solutions address the key concerns?

Optimizing the climate equation: value chain x solutions

Source: Compiled by SPEEDA Edge based on multiple sources

What’s next?

The role of (re)insurers to evolve from providing just risk transfer solutions to a broader risk advisory role: The escalating frequency and intensity of natural disasters resulting from climate change have significant implications for insurers. They are faced with higher premiums and a growing influx of customers seeking coverage against such events. This trend is exemplified by the reduction of the protection gap to 58% in 2022 from 78% in 2000. However, these changes also bring additional underwriting risks and pose challenges in maintaining the affordability of risk transfer products. Despite efforts to mitigate these challenges through frequent risk modeling and stress testing, (re)insurers may still find themselves ill-prepared to underwrite risks in high disaster-prone areas, leading to their eventual withdrawal from the market. This highlights the importance for insurance companies to facilitate the transition toward achieving net-zero emissions by developing risk advisory solutions that complement their existing risk transfer portfolios.

Global protection gap

Multi-industry experience to give consulting firms an advisory edge: Consultancy companies are well-positioned to capitalize on the consequences of climate change, as businesses increasingly turn to their expertise to navigate the complexities of climate-related challenges, driven by the growing regulatory and consumer pressures for environmental responsibility. These consulting firms offer risk advisory services that span various stages of relevant projects, leveraging their extensive experience across industries, understanding of diverse stakeholders, and comprehensive knowledge of the regulatory landscape. Their advisory services encompass crucial areas such as carbon footprint analysis, climate risk assessment, sustainability strategy development, and sustainability reporting. Notably, the environmental consulting sector has already experienced a growth rate exceeding 2% between 2016 and 2021, with projections indicating a further acceleration to 10% by 2026, indicating the growing demand for their services.

Given the operating challenges associated with climate change, capitalizing on emerging opportunities would be key for business survival across industries: Climate change presents businesses with a range of challenges, but it also opens doors to new opportunities that are crucial for long-term success. The impact of climate change varies across industries, with certain sectors experiencing more significant effects than others. Taking the energy sector as an example, GHG-intensive industries like coal power face difficulties in attracting capital due to the growing number of investor mandates that prohibit investments in such sectors. Simultaneously, climate change exerts unprecedented pressure on the electricity system, both as a result of increased energy demand and enhanced risk of physical disruptions caused by extreme weather events. However, despite these challenges, the transition to renewable and next-generation energy sources is creating emerging opportunities within the sector.

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Allianz

Allianz provides a comprehensive array of insurance and asset management solutions, including property-casualty, life, and health insurance for both private and corporate clients. Their extensive portfolio...

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