A pioneering study from the University of Florida has quantified corporations' exposure to climate change risks like hurricanes, wildfires, and climate-related regulations and the extent to which climate risks are priced into their market valuations. The research also exposes a costly divide – companies that proactively manage climate risks fare much better than those that ignore the threats.
Using textual analysis of earnings call transcripts from almost 5,000 U.S. public companies, researchers developed novel measures of firms' physical climate risk exposure from weather extremes as well as the 'transition risks' that firms face from the global shift to a low-carbon economy, like shifting to renewable energy and reduced carbon emissions. They found companies facing high transition risks from things like emissions regulations tended to be valued at a discount by investors.
"In recent years, overall investor attention to climate change has increased," explained Qing Li, Clinical Assistant Professor at the University of Florida Warrington College of Business. "As our research shows, companies that have high exposure to transition risk seem to be punished by markets."
However, the valuation discount didn't apply to companies actively working to adapt their business models and reduce climate impacts through strategies like increasing sustainable investments and green technologies. These 'proactive' firms tend to ramp up sustainable innovations and avoid cuts to research spending as transition risks intensify.
In contrast, companies that discuss transition risks but take a passive stance tend to slash R&D budgets and jobs when facing higher climate exposure – a potential impediment to their long-term competitiveness.
"The divide in strategies and outcomes between proactive and nonproactive firms is quite stark," noted researcher Yuehua Tang, Emerson-Merrill Lynch Associate Professor. "Companies being transparent about their climate vulnerabilities but also demonstrating tangible responses to mitigate those risks seem to be rewarded by markets."
The findings come amid increasing pressure from investors, regulators and activists for companies to publicly disclose climate risks. In 2024, the SEC implemented new rules that require public corporations to report risks from climate change impacts and in some cases their greenhouse gas emissions.
While there are costs for businesses that adapt to both physical and transitional climate risks, the study by Li, Tang, China Europe International Business School's Hongyu Shan (Ph.D. '19) and Georgia State University's Vincent Yao suggests proactive efforts could actually boost valuations and preparedness as investors increasingly consider climate threats when making informed investment decisions.
"Corporate Climate Risk: Measurements and Responses" is published in The Review of Financial Studies. The research team also shares their climate risk measures at www.corporateclimaterisk.com.
