Harvard Case - Forecasting Climate Risks: Aviva's Climate Calculus
"Forecasting Climate Risks: Aviva's Climate Calculus" Harvard business case study is written by Mark Egan, Peter Tufano. It deals with the challenges in the field of Finance. The case study is 18 page(s) long and it was first published on : Sep 12, 2023
At Fern Fort University, we recommend that Aviva develop a comprehensive climate risk management strategy that integrates climate considerations into all aspects of its financial strategy, investment management, and asset management practices. This strategy should include a robust risk assessment framework, scenario planning, and financial modeling to quantify the potential impact of climate change on Aviva's portfolio and operations. Furthermore, Aviva should proactively engage with its stakeholders, including investors, regulators, and policymakers, to advocate for a transition to a low-carbon economy and promote environmental sustainability within the financial sector.
2. Background
Aviva, a leading global insurance and asset management company, faces growing challenges from climate change. The case study highlights the increasing awareness of climate risks within the financial sector and the need for proactive management of these risks. Aviva's CEO, Maurice Tulloch, recognizes the potential impact of climate change on the company's investment portfolio, particularly in areas like real estate, infrastructure, and fixed income securities. The case study emphasizes the need for Aviva to develop a clear financial strategy to address these risks and opportunities.
The main protagonists in the case study are:
- Maurice Tulloch: Aviva's CEO, who is leading the company's efforts to address climate change.
- The Climate Change Working Group: A group of executives tasked with developing a climate risk management strategy.
- Aviva's investment team: Responsible for managing the company's investment portfolio.
3. Analysis of the Case Study
The case study can be analyzed through the lens of risk management and financial strategy. Aviva faces a multitude of climate-related risks, including:
- Physical risks: Direct impacts of climate change, such as extreme weather events, sea-level rise, and changes in temperature, which can damage assets and disrupt operations.
- Transition risks: Risks associated with the transition to a low-carbon economy, such as changes in government regulations, technological advancements, and shifts in consumer preferences.
- Reputational risks: Risks associated with the company's response to climate change, such as being perceived as lagging in sustainability efforts or failing to manage climate risks effectively.
Aviva can utilize a variety of frameworks to assess and manage these risks, including:
- Scenario planning: Developing different scenarios for the future, including various climate change impacts, and analyzing their potential effects on Aviva's portfolio and operations.
- Financial modeling: Quantifying the financial impact of climate change on Aviva's assets, liabilities, and cash flows.
- Stress testing: Evaluating the resilience of Aviva's portfolio and operations to extreme climate events.
- ESG (Environmental, Social, and Governance) investing: Integrating ESG factors into investment decisions to identify companies with strong environmental performance and mitigate climate risks.
4. Recommendations
Aviva should implement the following recommendations to address climate risks and capitalize on opportunities:
- Develop a comprehensive climate risk management strategy: This strategy should be integrated into Aviva's overall financial strategy and encompass all aspects of the company's operations, including investment management, asset management, and risk management.
- Establish a robust risk assessment framework: This framework should identify, assess, and prioritize climate-related risks across all business units and investment portfolios.
- Implement scenario planning and financial modeling: Aviva should develop scenarios for different climate change impacts and use financial modeling to quantify the potential financial effects on its operations and investments.
- Engage with stakeholders: Aviva should proactively engage with investors, regulators, and policymakers to advocate for a transition to a low-carbon economy and promote environmental sustainability within the financial sector.
- Develop a climate-aligned investment strategy: Aviva should incorporate ESG investing principles into its investment decisions, focusing on companies with strong environmental performance and low carbon emissions.
- Invest in climate-related technologies and solutions: Aviva should explore opportunities to invest in companies and technologies that are developing solutions to climate change, such as renewable energy, energy efficiency, and carbon capture.
5. Basis of Recommendations
These recommendations are based on the following considerations:
- Core competencies and consistency with mission: Aviva's mission is to help people secure their future. Addressing climate change is essential to achieving this mission, as climate change poses significant risks to individuals and businesses.
- External customers and internal clients: Aviva's customers and investors are increasingly concerned about climate change and its impacts. By taking proactive steps to address climate risks, Aviva can enhance its reputation and attract investors who value sustainability.
- Competitors: Other financial institutions are already taking steps to address climate change. Aviva needs to keep pace with these competitors to remain competitive in the long term.
- Attractiveness ' quantitative measures if applicable (e.g., NPV, ROI, break-even, payback): While it is difficult to quantify the exact financial benefits of climate risk management, the potential costs of inaction are significant. By taking proactive steps to manage climate risks, Aviva can potentially avoid future losses and unlock new opportunities.
- Assumptions: These recommendations assume that climate change is a real and pressing issue that requires immediate action. They also assume that investors and regulators will continue to increase their focus on climate risks and sustainability.
6. Conclusion
Aviva has a unique opportunity to become a leader in climate risk management and sustainability within the financial sector. By implementing the recommendations outlined above, Aviva can not only mitigate climate risks but also capitalize on the growing opportunities in the low-carbon economy. This will ultimately enhance the company's long-term financial performance and reputation.
7. Discussion
Other alternatives not selected include:
- Ignoring climate risks: This would be a risky strategy, as climate change is a growing threat to the financial sector.
- Waiting for regulatory action: Waiting for regulators to mandate climate risk management could leave Aviva behind its competitors and expose it to greater risks.
Key risks and assumptions associated with the recommendations include:
- The accuracy of climate change projections: While climate science is well-established, there is still uncertainty regarding the precise timing and magnitude of future climate impacts.
- The effectiveness of climate risk management strategies: There is no guarantee that any climate risk management strategy will be completely effective in mitigating all potential risks.
- The willingness of investors and regulators to support climate-aligned investments: There is a risk that investors and regulators may not fully embrace climate-aligned investments, which could limit Aviva's ability to capitalize on these opportunities.
8. Next Steps
Aviva should implement the following steps to move forward with its climate risk management strategy:
- Form a cross-functional task force: This task force should be responsible for developing and implementing the climate risk management strategy.
- Develop a climate risk assessment framework: This framework should be used to identify, assess, and prioritize climate-related risks across all business units and investment portfolios.
- Conduct scenario planning and financial modeling: Aviva should develop scenarios for different climate change impacts and use financial modeling to quantify the potential financial effects on its operations and investments.
- Engage with stakeholders: Aviva should proactively engage with investors, regulators, and policymakers to advocate for a transition to a low-carbon economy and promote environmental sustainability within the financial sector.
- Monitor and evaluate progress: Aviva should regularly monitor and evaluate the effectiveness of its climate risk management strategy and make adjustments as needed.
By taking these steps, Aviva can position itself as a leader in climate risk management and sustainability, enhancing its long-term financial performance and reputation.
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Case Description
In late 2021, Ben Carr, Director of Analytics and Capital Modeling at Aviva Plc (Aviva)-a leading insurer with core operations in the UK, Ireland and Canada,-was preparing for an upcoming presentation before the company's board which included its CEO, Amanda Blanc, featuring the results of Aviva's performance in the Climate Biennial Exploratory Scenario (CBES) exercise mandated by the Bank of England. The CBES required all major banks and insurers in the country to formally assess the financial risks arising from both the physical impacts of climate change and the transition to a net zero economy. As Carr was in the final stages of refining and updating the CBES findings, he and his team were tasked with discerning how potential climate change consequences might influence each element on Aviva's balance sheet. Additionally, the team was charged with not only evaluating the existing assets and liabilities on Aviva's balance sheet, but also pondering the future operations of the business. Carr was aware that assessing climate risk was a complex task, fraught with its unique set of challenges and limitations. He was prepared to further discuss these issues, as he knew the board would be keen to delve deeper into their intricacies.
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