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Frontier Economics' recently advised a number of clients in relation to the Queensland Competition Authority's review of its approach to climate change related expenditure. Below are some highlights and commentary on our advice included in the final position paper.

The Queensland Competition Authority (QCA) has released its final position paper for the Climate Change Expenditure Review 2023, referencing our independent advice to Dalrymple Bay Infrastructure (DBI) and Aurizon Network.

The QCA initiated this review to:  

Economic regulators need to perform a difficult balancing act when assessing expenditure proposals related to managing climate change risks. The impact of climate change on regulated infrastructure (and, therefore, on users of that infrastructure) is fraught with uncertainty.  

Uncertainty over whether regulators will approve climate change related expenditure—or over whether recovery of such expenditure would be disallowed once it has been incurred—may deter regulated businesses from making prudent and efficient investments to improve the resilience of their networks.  

Clear guidance about how proposals for climate change related expenditure will be assessed by regulators can help reduce this uncertainty and encourage prudent and efficient investments that may otherwise be foregone. 

For this reason, other economic regulators, should conduct their own reviews and publish formal guidelines on how they intend to assess regulatory proposals for climate change related expenditure. The QCA’s guidelines are not specific to any particular industry or jurisdiction, so would be a relevant starting point for other regulators and regulated businesses beyond Queensland. 

Managing climate uncertainty to invest prudently and efficiently in resilience

Of the many issues covered by the QCA’s review, our advice focussed on the development of a framework to assess the prudency and efficiency of climate change adaptation expenditure.  

Below are some highlights: 

We advised Aurizon Network that:  

“In assessing prudent and efficient ex ante resilience expenditure the QCA should encourage regulated entities to pragmatically incorporate the uncertainty inherent in climate change related risks into their proposals for adaptation expenditure.” 

 In our report to DBI, we added:  

“Climate-resilience should be a necessary condition to project prudency and efficiency. Investing in infrastructure that is vulnerable, by design, to an accepted range of climate-related risks is likely to be lower cost in the short term but higher cost in total over the life of the asset.” 

We discussed the development of an upfront expenditure framework that could facilitate investment under uncertainty, providing advantages to both regulated infrastructure providers and their customers. That is, a framework which: 

We considered that these elements together would promote regulatory certainty and facilitate investment in prudent and efficient levels of infrastructure resilience.  

The Coal Effect – funding and financing approaches to address residual stranding risk

Fossil fuel exposed firms are exposed to transition risk, or risks arising from the process of adjusting towards a lower-carbon economy. This can impact forecasted demand, the value of assets and liabilities, and thereby the risk profile and viability of the regulated business. 

A key driver of transition risk for coal exposed companies is policy change. Net zero targets, can reduce domestic demand for coal. However, targets vary in status, development and expected achievement date. This uncertainty, in combination with uncertainty around technological development and carbon abatement costs, makes future demand for coal similarly unclear. 

We identified a scenario where Aurizon Network may support more adaptation expenditure to increase the resilience of the network (with the expenditure to go into the regulatory asset base). However, future customers may be unwilling or unable to continue to pay for past adaptation expenditure. These factors create asset stranding risk, which may disincentivise a regulated business from investing in network resilience today, even if the investments are supported by current customers. 

We then considered options the QCA might adopt to address asset stranding risk. We discussed the merits of addressing an increased stranding risk associated with climate change via an uplift to the allowed rate of return (i.e., the ‘fair bet’ approach) that would be just sufficient to compensate investors for the increase in stranding risk.  

Also considered was the use of accelerated depreciation, which has been used by regulators in Western Australia (ERAWA) and New Zealand (the Commerce Commission) to address the stranding risks faced by gas pipelines following the adoption of emissions targets that have shortened the expected economic life of those regulated assets. 

In our advice, we recommended that the QCA should confirm clearly that:  

Overall, we identified the benefits in the QCA providing clear upfront guidance on the types of information and evidence it would require from regulated businesses, to demonstrate asset stranding risks and management responses.  

This could include the QCA needing to take into consideration a larger range of plausible future scenarios, rather than focusing on just the expected future profile of demand at a given point in time, reflecting the long-term uncertainty faced by the coal industry. 

Frontier Economics Pty Ltd is a member of the Frontier Economics network, and is headquartered in Australia with a subsidiary company, Frontier Economics Pte Ltd in Singapore. Our fellow network member, Frontier Economics Ltd, is headquartered in the United Kingdom. The companies are independently owned, and legal commitments entered into by any one company do not impose any obligations on other companies in the network. All views expressed in this document are the views of Frontier Economics Pty Ltd.

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Building a business case to confidently manage climate-related risks and opportunities

Climate change impacts will continue to unfold across Australia with increasing severity in the years ahead. This will result in a set of complex and material financial implications for business. For Australian business to confidently rise to the challenge of systematically measuring, managing and mitigating risks and opportunities of climate change it will need a sound understanding of how climate change will most likely impact its finances. This Bulletin discusses Frontier Economics and Edge Environment’s approach to extending climate risk frameworks to build business cases for climate response against the inevitable, and potentially disorderly, climate transition ahead.

Australia is in the midst of cascading and compounding climate impacts

After centuries of relative climate stability, the world’s climate is changing. As average temperatures rise, acute hazards such as floods and fires and chronic hazards such as drought and sea level rise intensify. These hazards are categorised as the physical risks of climate change.

The frequency and severity of weather events in Australia is increasing and may further intensify as ecosystems are pushed beyond tipping points.  Recent weather events in Australia such as the unprecedented rainfall and flooding in South-East Queensland, New South Wales and Victoria, extreme heat in Western Australia and the 2019–20 bushfires have resulted in highly significant financial losses for businesses and the communities they operate in.

Climate risk, however, remains an emerging discipline compared to other traditional risk areas. Climate risk management will necessarily grow in importance over coming years – recently, the Australian Prudential Regulation Authority (APRA) warned business around the need to prepare for “rapidly increasing expectations” on climate risk disclosure.

Against this backdrop, forward looking businesses are taking steps to understand, quantify and manage their climate risk exposures.The good news is we have the tools to address urban heat: integrated planning of our natural and built environment covering blue, green, and grey infrastructure.

TCFD is a lens to grapple with these risks

The Taskforce on Climate-related Financial Disclosures (TCFD) reporting framework has emerged as the global benchmark in climate risk reporting. It seeks to make businesses’ climate related disclosures comprehensive, consistent and transparent. TCFD enables effective investor analysis of a company’s demonstrated performance of incorporating climate related risks and opportunities into businesses’ risk management, strategic planning and decision making.

The TCFD was set up in 2017 by the Financial Stability Board – an international body of regulators, treasury officials and central banks – to provide voluntary recommendations on how business could voluntarily disclose the risks and opportunities from climate change (see Box 1).

Box 1: TCFD in brief

The purpose of TCFD is to provide a framework for organisations to make consistent and transparent climate-related financial disclosures. The TCFD framework document provides the following overview of the types of disclosures that it recommends:

It is recommended that the business provides its disclosures in their public annual reporting.

Source: Recommendations of the Task Force on Climate-related Financial Disclosures

Momentum in the market is growing and norms are being set

Since being first published in 2017, TCFD has been rapidly adopted by a broad range of organisations across the globe – the 2022 status report for TCFD points to TCFD “support” encompassing US$220 trillion of assets and US$26 trillion of combined company market capitalisation.

There is a trend towards mandating climate-related disclosures. Mandatory climate risk disclosures have been announced in jurisdictions including the UK, the EU, Hong Kong, Japan, Singapore and New Zealand. Significantly, the United States Securities and Exchange Commission has proposed rules to enhance climate-related risk disclosure drawing from the TCFD recommendations. Collectively, these actions will set norms and expectations for Australian businesses to develop their own disclosures.

In 2021 the New Zealand Government passed legislation mandating climate-related disclosures for around 200 financial entities.  Further to impacting those covered by the introduction of this mandate, the move is widely expected to act as a catalyst for increased climate-related disclosures across businesses operating in the wider New Zealand economy.

Decision making under complexity needs tangible financial analysis

While TCFD is ultimately intended to support more informed capital allocation by investors, it can also be an important tool for organisations to respond to the risks and opportunities of climate change.

For an approach to inform practical decision making it needs to provide climate-related impacts in financial terms:

Clearly this is a complex task, but it needn’t be daunting if we have the right tools and systematic approaches. Finding a solution requires assessing the changing climate exposure and vulnerabilities of an enterprise through time. A collaborative approach which brings together the key stakeholders across an enterprise provides the means to map the material climate impacts, their drivers and the likely financial consequences to the company. This collaborative approach also enables joint ownership of critical uncertainties to be addressed within business’ operations, financial reporting and data management. A structured approach is then required to cut through the uncertainty and deliver a clear path forward to adequately measure, manage and mitigate climate risks.

Frontier Economics and Edge Environment have partnered to combine our skills in financial analysis, ESG, risk management, climate science and sustainability to work through this complexity (see Box 2).

Box 2: Frontier Economics’ partnership with Edge Environment

Edge Environment and Frontier Economics have worked across a broad range of climate risk and resilience projects, mostly within the property, infrastructure and government sectors. Together, this partnership provides a unique opportunity to better understand both financial risks and opportunities of climate change for Australian and New Zealand businesses.

Edge is a specialist sustainability services company focused on Asia-Pacific and the Americas. Its teams are based in Australia, New Zealand, the United States and Chile. Edge exists to help its clients create value from tackling one of world’s most fundamental challenges: creating truly sustainable economies and societies. Edge does this by combining science, strategy and storytelling in a way that gives clients the confidence to take ambitious action, and do well by doing good.

Source: Frontier Economics

A collaborative approach is required to address this complexity

Confident climate-risk decision making requires a multi-disciplinary approach, incorporating climate science and financial analysis. However, deep technical expertise alone is not sufficient.

There is also a need for broad buy-in and engagement from within and across an organisation in order to access information, form granular insights, identify key operational climate-related impacts and quantify financial consequence. Organisations are encouraged to systematically look beyond the acute and direct impact of extreme events but also to the aggregated impacts of chronic and indirect effects of climate extremes.

Even with all these elements, it can be difficult to know where to start a climate-related financial analysis.

Frontier Economics and Edge have developed a practical approach

A useful starting point in analysing climate-related risk and opportunities is to assess the impacts of recent extreme climate events – such as the Eastern Australia bushfires and drought of 2019-20 and the extreme rainfall of 2021-22 – on a business’ operations and related cashflows.

This “looking back to look forwards” approach provides multiple advantages. It allows the:

The logic mapping and notional financial consequences can then be tested and validated using actual operational and financial data to identify the impacts of recent extreme events.

This approach also clearly highlights any data gaps which limit the extent to which financial consequences can be isolated – providing insight to improve risk management systems.

This baseline analysis has standalone value as it provides a snapshot of the resilience of an organisation to recent climate change events which can be linked back to materiality thresholds in a firm’s enterprise risk framework. It is also vital in building a foundation for robust and defensible scenario analyses of the likely impacts of future climate extremes on an enterprise. It can be used to inform forward looking analysis of climate change impacts, which considers both cash flow and asset valuation risks and opportunities.

The approach taken by Frontier Economics and Edge Environment focusses on undertaking robust, transparent and actionable analysis. For example, we focus first on the short-term (to 2025) before extending analyses further into the future. A short-term lens reduces uncertainty and allows organisations to home in on impacts which require urgent action. It also allows for extensions such as cost-benefit analysis to support investment decisions around certain interventions.

Building the business case to confidently make decisions about managing your organisations climate risk is a journey – come and talk to us about getting started.

Figure: Logic map framework

 

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The National Australia Bank Limited (NAB) sought to acquire the Australian consumer business of Citigroup Australia Pty Limited (Citi). They applied for informal clearance of the proposed acquisition from the ACCC. The ACCC’s investigation focused in particular on the white-label business of Citi and whether NAB would have an incentive post-acquisition to damage this business which competed with its own-label cards.

Frontier Economics was retained by lawyers of the parties to assess these incentives and write a report which was submitted to the ACCC. The ACCC announced today that it would not oppose the acquisition.

Frontier Economics advises clients on a range of competition and dispute support matters.

Once thought of as purely an environmental issue, climate change is now recognised as a major threat to economies and financial markets around the world. As a result, public and private sector organisations are being asked to provide public disclosures of how current and future climate risks will impact their operations.

Recognising the increased need for climate change impact reporting with a greater focus on financial analysis, Frontier Economics and sustainability services consultancy Edge Environment are very excited to be partnering with each other to offer clients advice that combines in-depth environmental expertise underpinned by solid economic analysis and modelling.

“The requirements for climate disclosure reporting have been increasing around the world in recent years. We have seen climate change shift from being primary an environmental or “green” issue to one with legal, governance and financial implications” said Dr Mark Siebentritt, Edge’s Commercial Director and one of its climate risk analysis experts.

“We are seeing many of our clients step up their analysis of climate risk. This is in response to commentary by financial regulators in Australia about the need for companies to address what is now regarded as a foreseeable and material risk. Change is also coming through international markets with some countries like England and New Zealand headed toward mandatory climate risk disclosure reporting.”

One of the key challenges of climate risk disclosure reporting aligned to frameworks like the Taskforce on Climate Related Financial Disclosures (TCFD), is the need to better understand the financial implications of climate change.

“The impacts of climate change on the financial statements of an organisation is complex.  Companies can find it challenging to do this as there are many drivers that need consideration. For example, take the impact of extreme heat on a property portfolio. You first need to understand the risk of such extreme weather in different climate change scenarios. Then you need to understand the physical impacts of extreme heat, this may include increased energy costs, damage to the property and even consideration of whether the property is unhospitable in extreme heat. Finally, you need to place a financial value on these physical impacts. Climate risk specialists and financial experts working together can give companies these insights” said Ben Mason, economist at Frontier Economics.

“A key risk companies are often interested in is around energy supply transitioning to renewables and the impacts on energy prices. We have energy network models and have provided shadow carbon price advice to various clients.”

Building on our expertise in TCFD reporting, Frontier Economics is expanding into ESG related advice more broadly. Ensuring decisions are based on sound and rigorous economics is critical for companies navigating this complex area.

Background

Edge Environment and Frontier Economics have worked across a broad range of climate risk projects, including within the property, infrastructure and government sectors. Together, this partnership provides a unique opportunity to better understand both financial risks and opportunities for Australian and New Zealand businesses.

About Edge Environment

Edge is a specialist sustainability advisory company focused on Asia-Pacific and the Americas. Its teams are based in Australia, New Zealand, the United States and Chile. Edge exists to help its clients create value from tackling one of world’s most fundamental challenges: creating truly sustainable economies and societies. Edge does this by combining science, strategy and storytelling in a way that gives our clients the confidence to take ambitious action, and do well by doing good.

About Frontier Economics

For more than twenty years, Frontier Economics has contributed sound economics to many important debates and decisions in Australia, New Zealand and the Asia-Pacific. Governments, regulators and businesses use our economic advice to inform policy development, market design, regulation and investment. Frontier Economics prides itself on delivering quality, independent economic input that can lead to better decisions and better outcomes for our clients.

Two separate mergers that Frontier Economics advised on have been cleared by the Australian Competition and Consumer Commission (ACCC).

AFG acquisition of Connective

The ACCC will not oppose Australian Finance Group Ltd’s (ASX:AFG) proposed acquisition of Connective Group Pty Ltd (Connective). AFG and Connective are both mortgage aggregators, which act as intermediaries between mortgage brokers and lenders, such as banks.

The ACCC found that the AFG and Connective compete closely with one another and that the proposed acquisition will create the largest mortgage aggregator in Australia. However, the ACCC cleared the proposed acquisition because they found that other established aggregators, including Finsure and the aggregators owned by the National Australia Bank, are likely to continue to provide strong competition. Frontier Economics assisted lawyers for AFG in drafting their submissions to the ACCC.

Lumibird acquisition of Ellex

The ACCC will not oppose Lumibird’s proposed acquisition of the Lasers and Ultrasound Business of Ellex (ASX:ELX). Lumibird and Ellex supply ophthalmic lasers and ultrasound equipment for the diagnosis of eye conditions in Australia and globally. Both companies export products throughout the world and Ellex is the clear market leader in Australia. However, the ACCC found that Lumibird’s acquisition of Ellex would only slightly increase the market share of the combined business and cleared the acquisition. Frontier Economics advised lawyers for Ellex.

Frontier Economics regularly advises clients on competition matters.

The inaugural event of the Regulatory Policy Insitute ANZ (RPI ANZ), “Rebuilding faith in institutions, markets and competition – what is the way forward?” will be a full house this evening, with the event reaching capacity registration.

The panel discussion will feature George Houpis, Director of Frontier Economics alongside Professor George Yarrow, former chair of the Regulatory Policy Institute in Europe, Rosemary Sinclair, CEO of Energy Consumers Australia and Peter Kell, former deputy chair at regulators the Australian Securities and Investments Commission (ASIC) and the Australian Competition and Consumer Commission (ACCC).

George will focus on issues and challenges that governments and consumers face in the area of digital platforms. The ACCC’s report into digital platforms was released in mid-2019, and raised certain areas that the Australian regulator was looking into. Many of these same issues are concerning other regulators around the world. George’s presentation will discuss whether existing frameworks are enough to regulate this sector, with particular insights from the European context.

Frontier Economics is jointly sponsoring this event with Herbert Smith Freehills.

Frontier Economics (Europe) director George Houpis is visiting Australia and will present at the inaugural seminar of the Regulatory Policy Institute ANZ on Thursday 29 November.  "Rebuilding faith in institutions, markets and competition: what is the way forward?" will look at challenges revealed in regulated markets such as financial services, energy and the digital space. Is competition in these markets working effectively to deliver beneficial outcomes to consumers?

To respond to these challenges, there have been calls for greater regulation, greater competition and more enforcement. Different types of intervention have been put forward, and other issues are also now on the policy table: fairness, culture, ethics and trust. So what next for the policy environment? What comes next for regulation, markets and consumer?

George is a founding director of Frontier Economics and specialises in the theory and application of regulation and competition policy, market research and forecasting in the telecoms, postal and other sectors.

Along with George Houpis, the panellists discussing these issues include Professor George Yarrow, former chair of the Regulatory Policy Institute in Europe, Rosemary Sinclair, CEO of Energy Consumers Australia and Peter Kell, former deputy chair of ASIC and the ACCC. The panel will be chaired by Liza Carver, Regional Head of Practice, Competition, Regulation and Trade at Herbert Smith Freehills.

To register for this event, please visit the event booking page.

Frontier Economics is jointly sponsoring this event with Herbert Smith Freehills.

For more information, contact us.

Frontier Economics chairman Lord Gus O'Donnell and former Australian Minister for Trade and Investment Andrew Robb AO presented to a full house at the 'Brexit & Australia" event in Singapore held on 25 September. The audience was treated to the unique perspectives in government and international trade offered by both presenters, with the occasional controversial statement thrown in!

The Frontier Economics chairman spoke about how Brexit came to pass and the decisions made by the British Government along the way, stretching over three years and three Prime Ministers . He also spoke about the challenges faced by the current government in trying to negotiate a deal that would result in the UK leaving the EU in a more orderly fashion than crashing out with no deal Such a deal would mark the end of the beginning of the negotiations required between the UK and the EU. The next stage is to sort out the details of the UK’s trading relationship with the EU, to replace the deals the EU has with other countries and to negotiate trade deals with countries like Australia, Canada, New Zealand and the USA. Andrew Robb drew parallels between Australia’s program of microeconomic reforms in the 70s and 80s to show that while that transition was difficult, it was followed by substantial economic growth as the country became more liberalised and trade opened up. The parallel drawn with Brexit is that it may have long term beneficial effects on trade, particularly with countries outside of the EU (e.g., Australia).

The event was co-presented by the Australian Chamber of Commerce, Singapore, and the British Chamber of Commerce, Singapore, with the discussion moderated by Juliette Saly from Bloomberg Radio & Television.

Frontier Economics was delighted to sponsor this event as part of our 20th anniversary celebrations.

For more information, contact us.

The Australian Chamber of Commerce and British Chamber of Commerce in Singapore are presenting a joint event, "Brexit & Australia" on Wednesday 25 September 2019.  Frontier Economics is co-organising this event as part of our 20th anniversary celebrations. Brexit & Australia will discuss what is happening in the lead up to and following October 31st when Brexit is due to take place. Prime Minister Boris Johnson promised that the UK will leave the EU regardless, however, there is still considerable uncertainty about the process and what it form it will take. Further ahead, what does Brexit look like for Asia and Australia?

Join our key speakers, Lord Gus O'Donnell, former British senior civil servant & economist, now Chairman of Frontier Economics (Europe) and Andrew Robb AO, former Minister for Trade and Investment in Australia (2013-2016) as they share more on relations between the UK, Australia and the rest of the world.

We would like to thank AustCham and BritCham for co-organising this event. To register, please visit the event page.

In 2019, Frontier Economics is celebrating 20 years of economics.

For more information, please contact us.

On Wednesday 7 November 2018, Frontier Economics is co-hosting a seminar with the Melbourne School of Government at the University of Melbourne.  Gus O'Donnell, Chairman of Frontier Economics Ltd (our sister company headquartered in the UK) will be presenting a public seminar on "Changing Behaviour in the Public and Private Sectors".

This seminar looks at the challenges in applying behavioural insights to alter behaviour in both the public and private sectors.

Gus O'Donnell served three Prime Ministers as the UK’s Cabinet Secretary and head of the British Civil Service between 2005 and 2011. After stepping down as Cabinet Secretary, he was made a life peer of the House of Lords. He has held senior roles at the UK Treasury (including as Permanent Secretary of the Treasury between 2002 and 2005), the British Embassy in Washington, International Monetary Fund and the World Bank. Before joining the British Civil Service in 1979, Gus was a lecturer in economics at the University of Glasgow. He has written and spoken extensively on the use of behavioural economics in policymaking.

Date: Wednesday 7 November

Time: 1.00 - 2.15 pm, followed by light lunch

Venue: Terrace Lounge, Melbourne School of Government, Walter Boas Building

Enquiries: msog-events@unimelb.edu.au

For more information, please contact:
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