The regulatory landscape is shifting, with the SEC actively working towards a mandatory risk disclosure rule expected by year’s end. Additionally, the IFRS Foundation is contemplating the establishment of a new board to set international sustainability standards.
While future regulations are uncertain, current requirements for climate risk disclosure in company reports are clear and need to be understood by financial statement users.
The Center for Audit Quality (CAQ), in association with the AICPA, has released a guide outlining the duties of management and auditors regarding climate risk reporting. Dennis McGowan, CPA, vice president of Professional Practice at the CAQ, emphasizes the guide’s role in stimulating discussions on climate-related reporting within the financial reporting community. The guide aims to elucidate how current U.S. accounting and auditing mandates are implemented concerning climate-related risks.
According to U.S. GAAP, management must report any potentially material risks, which implicitly includes climate-related risks. These risks generally fall into two categories: physical risks (like a flood-prone factory) and transitional risks associated with the shift to a greener economy (such as regulatory changes or asset devaluation).
The urgency of these risks can differ based on a company’s specific commitments to climate action. The CAQ provides examples contrasting the financial statement impacts for companies with different timelines for their net-zero carbon goals.
McGowan notes that the impact of climate-related risks on financial statements varies from company to company, contingent on their unique timelines and climate action plans.
Auditors, under PCAOB standards, must assess these risks by understanding the company and its environment, which includes climate-related risks. This assessment is crucial, especially as physical risks and climate commitments become more common and material, influencing risk assessments.
Auditors don’t have to verify disclosures outside the financial statements. However, they must consider the adequacy of management’s evaluation of potential material misstatements, including those related to climate risks.
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