Preserving Value through Adaptation to Climate Change

Abstract

Corporate "mitigation" efforts to limit greenhouse gases alone will not be sufficient to protect companies against future environmental impacts. For most companies intent on preserving their operating efficiency and value, "adaptation"-the process of changing behavior in response to actual or expected climate change impacts-is emerging as a critical partner to mitigation efforts aimed at reducing the accumulation of greenhouse gases in the atmosphere. The recent growth in the expected costs associated with the risk of climate change emphasizes the importance of developing new technology and redesigning infrastructure and other assets that will enable companies to respond to such change without excessive reductions in profitability. The nature and extent of adaptation in each situation will depend on the costs involved relative to the benefits of adopting different adaptation strategies to achieve a target level of resilience. Companies that choose to adapt and do so effectively are expected to benefit from an improvement in their net risk-return profile. Consistent with this expectation, the authors found that a sample of companies from the European energy sector that adapted to the 2005 EU climate change mandate by diversifying their fuel sources (mainly away from coal) experienced reductions in both risk and return while non-adapting firms experienced roughly the same returns, but at the cost of higher risk. The benefit of adapting is thus seen as showing up not in higher returns per se, but in higher risk-adjusted returns.