Climate Risk: Understand, Plan and Fortify

How has the pandemic changed preparedness for climate risk? FEI Daily spoke with Katherine Klosowski, VP of Natural Hazards and Structures Engineering at FM Global to find out.

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FEI Daily: At a really basic level, can you talk me through some climate risks and the related financial risks?

Katherine Klosowski: When I think about climate risk, I think about natural hazard events: floods, hurricanes, hailstorms, tornadoes, wildfires. And then, in terms of the financial impact, I think about how those risks that I just mentioned can impact a business. I always break it down into three main components: There's the property damage that can occur because of, for instance, a flood event. There's the ensuing business interruption that happens at that location that's just been flooded, because if they've been flooded, they can't carry on with their mission. And then the third component is the ensuing supply chain issues. So sometimes, especially when we're working with large multinational organizations, even if their particular location hasn't been impacted by a flood, chances are they have a supplier that was impacted by that flood.

FEI Daily: The company recently released the CEO/CFO Climate Risk study. Why did you choose to include CFOs?

Klosowski: They're the people with the money. Bottom line. And when I think about how we actually prepare an organization for dealing with climate risk, sometimes it takes money. It takes strategic direction, as well as the finances to make that decision. And FM Global being an insurance company, we work very closely with risk managers. And risk managers work to assess the risk and then to help mitigate the risk.

Take, for instance, a location that's exposed to flooding. The risk manager's main way of dealing with that is to say, ‘Let's put in some flood protection.’ But when we can elevate that conversation up to the CFO, they can think about it in a much more strategic light. And they can make the decision of, hey, it might take a lot of money, a big investment, to protect this location against flood, but why don't we pick up and move to a location that's not flood prone.

And by avoiding the risk, you're safeguarding your property even more than when you're protecting the risk.

FEI Daily: How has the pandemic changed preparedness for climate risk?

Klosowski: There are two things. First, the pandemic is causing a lot of disruption. People had to change the way they work. Some organizations have changed the product that they're providing based on the pandemic. And that then impacts the amount of preparedness that they may or may not have to a natural hazard event.

Think of an emergency response team. A location that's been hit and is now practicing social distancing might have only a fraction of their employees on site. When a flood or a hurricane comes, it might take them even longer to put in place their protection, because they don't have the same number of people there to do it. And likewise, it could take them even longer to do whatever salvage or cleanup because they don't have the same number of people on staff anymore.

And then there's the whole financial piece. The pandemic has shut down or slowed a lot of the supply chain. If, for instance, a location is hit by flooding and they need to replace their electrical equipment or their elevator equipment, well, that equipment is going to be much harder to get because the supply chain has been impacted because of the pandemic.

Normally when there's some type of disruption in the supply chain, it'll only happen at one region of the world at a time. This pandemic is global. So these impacts are happening around the world at the same time.

What can an organization do to try and prevent themselves from being at the mercy of the supply chain? They can prepare for it. If you have an understanding of what might happen, then you can start preparing for those events.

FEI Daily: One statistic from the study that stood out to me is that 66% of the respondents think boards and executive management should be held accountable for the adverse financial impact of climate risk on their business. What are some of the steps that boards and management are taking to address climate risk now?

Klosowski: I break it down to three steps: understand, plan and fortify. The executives need to understand what the impact of climate risk is to their organization. Are they in a flood zone? Are they in an earthquake zone? Or are they susceptible to hail damage? Once they understand what risks are present at each of their locations, then they can start planning what they're going to do about that. And here's where they really need to take a strategic look at their plan. Identify the locations that are really driving their revenue stream, and protect those first. And that leads into the third item, which is to fortify. Identify the strategic buildings or processes and fortify those to prevent damage from the event. When I think about fortifying, it's the physical structure, so the buildings, as well as their supply chain. I've already mentioned the global nature of many supply chains. And it would be going a bit far to ask an organization to put flood protection in at one of their suppliers locations. But if they do know that one of their suppliers is in a flood zone, then maybe they want to have a second supplier already in the wings for that particular product.

FEI Daily: What are the biggest takeaways for finance folks from this study?

Klosowski: One is around the investments. Many organizations think that investing in the changes that climate risk is going to bring is too expensive. But the reality is, the investment made now saves a ton of money down the road. An organization is going to pay for climate risk. They can either pay for it with an investment upfront, or they can pay for it in terms of lost market value and trying to recover from a loss down the road.

We did a study a few years ago that showed that for every dollar invested in preventing against hurricane or flood damage, there was a $105 savings in the potential loss expectancy. The investment is well worth it.

The second point I'll make for the CFO is around market share. And FM Global commissioned a study from Pentland Analytics last year, and it looked at publicly traded organizations who were impacted from the 2017 hurricane season. And 2017 was the year that we had Hurricane Harvey hit Houston, Hurricane Irma hit Florida and Hurricane Maria hit Puerto Rico. Many organizations that year in their public filings wrote about having a loss from the hurricanes. Those organizations who mentioned having a significant loss to make it into their annual report or their 10 K filings, also saw a 5% decrease in their market value, taking away all other impacts on the market. So climate risk has a real bearing on an organization's value.

FEI Daily: I know that's a hard thing to answer because things are in such flux right now. But what do you see for the future of climate risk preparedness?

Klosowski: I'm an eternal optimist and I'm an engineer. So when I see a problem, I always think there's a solution to that problem. I would love to see more and more organizations become prepared. And I think in the marketplace, especially with it being extremely competitive, and especially knowing the pandemic has caused all kinds of chaos in the financial system, there will be organizations that become leaders in dealing with climate change. And others that will probably go extinct because they haven't dealt with the issues. Leaders are the ones that are going to have the courage to take charge and to make some of those changes.