Page 607 - COSO Guidance

3. Performance for ESG-related risks

Scenario analysis
Scenario analysis is a well-established tool for assessing the potential implications of a range of long-term
future states under conditions of uncertainty. Originally developed at Shell Oil in the 1960s, scenario analysis
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is a systematic process for defining the plausible boundaries of future states. This can be a particularly
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effective tool for ESG-related risks, as it reduces the extent to which managers need to “predict” possible
outcomes – by providing a range of scenarios for the organization to consider and use for planning its response
(e.g., Will the supply channel be modified? Which areas will be flooded?).
Many organizations and investors already use scenario analysis for anticipating future states for other
risks, including climate-related risk assessments as part of their risk management and strategic planning
processes. Appendix VII contains references to entity examples and climate-related scenario analyses from the
Intergovernmental Panel on Climate Change (IPCC) and International Energy Agency (IEA). These examples and
those in the TCFD’s Technical Supplement: The use of scenario analysis in disclosure of climate-related risks
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and opportunities provide detailed information on applying scenario analysis to climate-related risks. This tool
can also be applied to other ESG-related risks (e.g., regional water availability, outsourcing labor cost models),
which could emerge in distinct ways over time.

Real estate company: Climate-related risk
A real estate company operating in a warm, coastal country identified acute and chronic physical risks
related to climate change impacting its ability to achieve target profits. The company used scenario
analysis to project the impacts to the company through 2050.
The company leveraged the 2-, 4- and 6-degree scenarios (2DS, 4DS and 6DS) from IEA and followed
the TCFD Technical Supplement: The use of scenario analysis in disclosure of climate-related risks and
opportunities to model the effects of sea level rise, severe storms and increased daily temperature on the
value and availability of insurance available to protect fixed assets.

Coastal Homes profit over time
4,000
Profit (in millions of USD$) 2,500 Scenario 1 - 0DS
3,500
3,00

2,000
Scenario 2 - 2DS
1,500
Scenario 3 - 4DS
1,000
500
0 Scenario 4 - 6DS
(500)
(1,000)
2017 2030 2040 2050
Year
The results of the scenario modeling:
• The severity of physical climate-related risks led the company to determine that doing nothing would
challenge the survival of the business. The scenarios provide the ability to discuss the potential impacts
on the company and how the company should respond and shift strategy.
• The company prioritized the risks as high based on the coastal location.

ESG-specific tools
There is also a range of specific approaches that can support ESG-related risk assessments. The Natural
Capital Protocol Toolkit or the Social & Human Capital Protocol Toolkit enables professionals to identify subject-
matter-specific tools for quantifying ESG-related risks. Examples from the toolkits are included in
Table 3b.10.

60 Enterprise Risk Management | Applying enterprise risk management to environmental, social and governance-related risks • October 2018