Water in finance: a matter of risk and value

Water risk consistently appears close to the top of the WEF’s list of global risks, yet there is still a widespread misperception that water is cheap and plentiful. Nothing could be further from the truth and we call on standard setters and businesses to mobilise and provide the information investors require to allocate capital appropriately to contribute to solving our water challenges. We see six distinct areas requiring attention as they relate to water.

1. Water is a scarce resource. Water use has increased by a factor of six over the past 100 years and is growing at 1% per year despite only 1% of water on the planet able to sustain terrestrial life.
2. (Untreated) water is a problem for climate change. A recent study estimates[1] that 80% of the world’s wastewater is returned to the environment untreated[2]. Untreated sewage is a source of methane and the polluters undermine the ability of rivers and oceans to offset CO2 emissions
3. Virtual Water. The developed world approach to water scarcity is “out of sight, out of mind”. Studies show that that 40% of the water needed to produce what is consumed in Europe, is used outside the EU[3] and often in countries with their own water risks, such as the cotton T-shirt manufactured using 2,700 litres in countries with high water stress.
4. Deal with more frequent extreme weather events. The recent cold spell in Texas is an unfortunate case study that climate change is a major risk to water infrastructure which has been built on a ‘normally’ distributed range of events over the past 100 years not what lies ahead. Grey infrastructure will suffer if not properly integrated with blue and green, enabling systems to become more ‘spongey’ like[4].
5. Make the framework for water-related investments more attractive. Water-related infrastructure is both a solution and a cause of problems as the operational characteristics can be problematic from an investment perspective given long asset lives, low cash returns and high capital intensity.
6. The price of water. Water is a human right, which means that the price for access to water should be minimal, but this means that many companies have access to water at subsidized rates, and may also have preferential access to water. This is because local councils may find it easier to provide water to a single plant with the certainty of the associated tax revenues. Subsidized water may boost profitability for companies, but this is a risk if a company loses the preferential access.

The importance of such issues for a scarce resource essential to human life demonstrates why we need to change the mind-set of water, and move away from a linear model of access that uses and disposes of water with little regard for the environmental impact to a circular life-cycle approach where the local- and context specific full costs through the cycle are taken into account. Still, the pre-requisite for properly addressing the matter is disclosure.

If owning equities is equivalent to owning a small piece of a company, shouldn’t the ultimate owner have better disclosure about a specific company’s water usage and its environmental impact? Shouldn’t this be disclosed in a company’s accounts and then certified by a chartered accountant, to ensure disclosures are free from conflicts of interest? Shouldn’t consumer products disclose water usage and a rating about the level of sustainability relating to water?

This is why the work of standards setters such as the Climate Disclosure Standards Board and the IFRS Foundation are so important. But more often than not these standard setters are merely looking at climate-related disclosures as a risk management tool. If this persists, it will likely condemn water and possible other ESG factors to risks that investors simply try to avoid even though these risks are likely to become a major challenge for humanity by as early as the end of this decade.

The risk approach needs to evolve to a value approach, where water challenges are also considered an opportunity to grow businesses while simultaneously improving the well-being of communities and the environment. The concept of double materiality offers a useful point of departure for reporting on water beyond the reduction of company water footprints.

In order to guide the private/financial sector to solve for water challenges we need to leverage their capabilities with standard setters, who incorporate the knowledge of NGOs, academic institutions, civil society and the public sector in developing standards, including not only the company risk, but also the even more important value of water to society. This will allow investors to not only have more meaningful engagement with companies and projects, but also to make more grounded and balanced investment decisions.

We therefore call on standard setters to move with a matter of urgency and deliver a credible set of sustainability reporting standards which incorporate double materiality, and go beyond simply climate-related financial risks to broader sustainability issues such as water risks but also inequality, human rights and biodiversity loss. In our view, the Science Based Targets Initiative appears to provide the optimal blend of accounting for financial analysis, backed by scientific verification.

We will soon know their approach since this September the IFRS Foundation will provide its proposal, with the possibility of announcing the creation of a sustainability standards board at the COP26 meeting in November. We hope water will be given the attention it deserves and we move a step closer to investors having a more complete picture of the risks and opportunities with information they can trust.

Expert session on water

This article was written in the run-up to the Expert session Water risk among asset classes, which will take place on June 10.

Sources

This article was previously published on Financial Investigator. 

[1] CDP (April 2020). Cleaning up their act

[2]  The estimates are 50% of US rivers and 60% of European surface water polluted and a third of the rivers in Asia, Africa and Latin America severely polluted by pathogens.

[3] Tukker et al (2016). Environmental and resource footprints in a global context: Europe’s structural deficit in resource endowments

[4] GSDRC (June 2020). Nature-based solutions and water security https://gsdrc.org/publications/nature-based-solutions-and-water-security/