Physical climate risks

In a corporate context, a distinction is made between ‘physical climate risks’ i.e. risks arising from climate hazards such as damages to buildings caused by heavy rainfall, and transitory climate risks arising from reinforced climate policies and the decarbonization of the economy.

The reporting obligations introduced by the Corporate Sustainability Reporting Directive (CSRD) and the EU Taxonomy mean many EU-based companies will have to address and systematically manage their physical climate risks.

The Federal Environment Agency in Germany published a report on "Managing physical climate risks" in August 2023, which details how companies can prepare for climate risks such as extreme weather events, droughts or rising sea levels.

We summarise the key points of the report for you and thus provide you with an overview of how you and your company can best prepare for climate risks.

Climate risk and geographical location

Depending on their geographical location, companies must adapt to different climate change- related changes. According to climate scenarios, for example, heavy rainfall is expected to increase on the coasts, while the driest regions in eastern Germany are likely to experience an increase in heavy rainfall as well as heat. Extreme weather events are expected especially in the east and south-west of Germany, which is why these regions are also referred to as "climatic hotspots" It is important to consider the location of sites when identifying risks and have plans in place for each location.

Undertake a climate risk analysis

One requirement arising from the EU Taxonomy is the preparation of a climate risk analysis. This process will help identify sites and systems where the business might be at risk from climate hazards both currently and in the future, and the extent to which each of these

hazards could have a negative impact on each site in a worst-case climate scenario.

The Federal Environment Agency in Germany has outlined six steps that companies should follow to prepare such an analysis.

The basic steps a company can undertake are the following:

1. Determination of the objects to be analysed

• A climate risk analysis must be performed for EACH of the company's sites.
• Therefore, the various sites including suppliers and supply chains must be identified.

2. Determination of the system elements

• Sites consist of corresponding system elements such as warehouses or employees that are affected to varying degrees by climate risks. These system elements must be identified in addition to the company's sites as a first step before performing the climate risk analysis.

3. Determination of the time horizon

• To achieve taxonomy conformity, climate risk analyses must normally be performed for both current (up to 10 years from now) and future (from 10 years from now) climate hazards.

4./5. Determination of potentially relevant climate hazards and compilation of information on climate hazards

• Various sources of information can be used to detect potential climate risks, these could be: data provided by the (German) Weather Service, municipal climate risk analyses of cities or specific risk reports provided i.e. by Ministries.

6. Identification and assessment of physical climate risks

• After gathering all the important information, it will be assessed to which extent each climate hazard can have a negative impact on the company's sites or system elements in a worst-case scenario.
• For each element the corresponding climate risks need to be analysed, the time horizon must be clarified and sensitivities as well as interdependencies between the system elements need to be determined.
• The preparation as well as the final creation of a climate risk report is a participatory process in which several internal as well as external experts must be involved.

A detailed description of the preparation of a climate risk and vulnerability analysis can be found on the website of the Federal Environment Agency.

Establish adaptation measures

Where your climate risk analysis identifies elements of the company exposed to significant physical climate risks, technical and organisational countermeasures must be taken. For example, the EU Taxonomy requires the establishment of adaptation measures to

significantly reduce the most important physical climate risks. It is important to note that the adaptation plan must not affect the climate resilience of other stakeholders and ecosystems and must not have a negative impact on climate protection.

Integration throughout the organisation

The Executive Board and Supervisory Board or management must monitor the company's climate risks appropriately. This can be done by periodically addressing the topic as an item on the risk management agenda. There must also be explicitly defined responsibilities below management level. Sites and climate risk analyses must be reviewed regularly, and climate-related risks must also be reported externally in accordance with the CSRD as of this year.