Climate-related Risks

Climate-related risks are the potential negative financial impacts on a business arising from climate change. Major disclosure frameworks organise these risks into two categories: physical risks and transition risks.

1. Physical risks stem from climate-related hazards directly affecting assets, operations or supply chains. Acute physical risks are event-driven risks stemming from climate change, such as extreme storms, floods, wildfires, and heatwaves. It can cause sudden asset damage or operational disruption. Chronic physical risks are longer-term shifts: rising sea levels, changes in precipitation patterns, or sustained increases in average temperatures that gradually erode productivity or asset value. 
2. Transition risks arise from the shift to a low-carbon economy. The frameworks identify four sub-types:

• Policy and Legal: carbon pricing, emission regulations or litigation exposure 
• Technology: obsolescence of high-carbon assets or processes as cleaner alternatives scale
• Market: shifting consumer preferences, supply chain disruptions, or reduced access to financing
• Reputational: negative perception linked to a company’s emissions profile or climate commitments 

The distinction matters because physical and transition risks operate on different timescales, affect different parts of the business and require different responses. A manufacturer faces chronic physical risk from water stress at its production sites and transition risk from tightening carbon regulations simultaneously, and both carry financial consequences.

Climate-related risks appear as a core disclosure requirement across three major frameworks.

• TCFD established the physical/transition taxonomy and required companies to disclose risks across governance, strategy, risk management, and metrics.
• ESRS E1 requires companies to classify each material climate-related risk as either physical or transition and disclose how it was identified and assessed.
• IFRS S2 builds directly on TCFD, making risk identification and disclosure mandatory for companies reporting under ISSB standards.

All three frameworks expect companies to use climate scenario analysis as part of this process, modelling how the business would be affected under different warming trajectories or policy environments and connecting the results to financial planning.

Understanding your climate-related risk exposure is the first step toward disclosure-ready reporting.