Tech-Driven Resilience: Evaluating ESG Impacts and Risks in Infrastructure Investments

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This interview with Rob Arnold, Sustainability Research Director at EDHEC-Risk Climate Impact Institute, was originally published in the July 2024 newsletter of the Institute. To subscribe to this complimentary newsletter, please contact: [email protected].

 

In this interview, Rob Arnold, Sustainability Research Director at EDHEC-Risk Climate Impact Institute, delves into the development of a new body of knowledge on decarbonization and climate resilience strategies in the infrastructure sector. He explains the necessity of this research and its beneficiaries, outlining the structure of the project and its approach to addressing climate risks. Rob also discusses his collaboration with the EDHEC Infrastructure & Private Assets Research Institute on creating sustainable infrastructure taxonomies, the relevance of this work to non-financial companies and investors, and the challenges associated with collecting climate risk data. Drawing on his extensive experience as a senior advisor to the UK Government, he shares insights on supporting global transition and resilience efforts.

 

Rob Arnold, Sustainability Research Director at EDHEC-Risk Climate Impact Institute

 

As Sustainability Research Director at EDHEC-Risk Climate Impact Institute, you are leading the creation of a new body of knowledge on decarbonisation, climate resilience strategies, and alignment with sustainability goals in various infrastructure sectors. Could you explain why this knowledge is needed and whom it will benefit?

Rob ArnoldThis work arose from a discovery made by EDHEC Infrastructure and Private Assets Research Institute, which monitors the financial performance of more than 9,000 infrastructure assets. The Institute realised that most asset owners are unclear about the exposure of their assets to the physical risks of climate change and the consequences these pose, as well as the financial risks that might arise from the need to reduce the greenhouse gas emissions of these assets. Ensuring owners have the information to make the right decisions is key to protecting the value of their investments and making investment decisions, as well as focusing efforts on achieving a successful transition to a low carbon economy.

Infrastructure assets such as roads, railways, airports, buildings and utilities are fundamental to our society and are major direct and indirect contributors to greenhouse gas emissions. We aim to help asset owners assess at a high level which strategies might enable them to protect their investments into infrastructure against climate-related losses and to reduce assets’ greenhouse gas emissions.

Better information on how infrastructure assets may be protected against physical risks and on how to reduce their climate impact and attendant transition risks can help improve investor due diligence and help them plan specific actions and spending. It can also help clarify which measures make a real difference to assets’ sustainability to help asset owners avoid ineffective actions that may result in accusations of them “greenwashing” their sustainability plans.

 

Could you give us an overview of this project? How is the production of this knowledge structured in terms of research lines and staging? Specifically, how does it address the decarbonisation and resilience of infrastructure assets to climate risks such as floods, storms, extreme heat, and extreme cold?

Rob Arnold: We divide infrastructure into eight key sectors in line with their main activity, such as transport, utility networks, renewable power, etc. This is done in accordance with The Infrastructure Companies Classification Scheme (TICCS®). TICCS® is an open-source taxonomy designed to capture the risk characteristics of infrastructure investments to group them in relevant and homogenous categories[1]. 

We identify the key strategies that can be used to decarbonise an asset or improve its resilience to extreme weather events and long-term climate changes – think of energy efficiency or of structural strengthening, for example. 

We then identify the key measures (installing vehicle charging infrastructure, installing wind breaks, etc.), that can be used to deliver these strategies for each asset type and the technologies available to deploy them. Identifying technologies is important, as it enables us to estimate the effectiveness of a measure and its costs. This allows us to assess the cost effectiveness of a risk reduction measure and compare it to the value and running costs of a representative asset. 

The outcome is an estimate of how much it may cost to protect each asset type from physical and transition risks and how that compares to the asset’s value.

 

Your team is currently working jointly with that of Dr Nishtha Manocha to produce taxonomies qualifying the sustainability of infrastructure investments. What, in your opinion, justifies prioritising these investments and what are the main challenges and implications of using these taxonomies for infrastructure investors?

Rob Arnold: Our work suggests that there is relatively little active research on environmental and financial sustainability risk to infrastructure investments, compared with research for other economic sectors, such as manufacturing industry or agriculture. This is both in terms of research into risks to assets’ value and in terms of research into their operational robustness and viability. These asset types tend to provide functions they are critical to the running of society, such as power, transport, drinking water and communications. Understanding the implications of these assets’ vulnerabilities to climate change and ways of reducing these is key to developing investor confidence to finance a successful transition to a resilient and low emissions economy.

The information needed to understand these risks is multidisciplinary in nature: partly financial and partly based on science and engineering. We aim to help overcome the barrier to investors of forming a coherent interpretation of these different types of information in a convenient manner that allows assets risks to be compared easily. We hope that this will help provide confidence in investing in sustainable infrastructure and highlight the types of infrastructure where sustainability investment brings the most impact.

 

What insights have you gained from the work to date and how has it impacted your product offering, if at all?

Rob Arnold: Our research has documented severe shortcomings with standard investment approaches used in ESG and climate indices that are popular among investors. First, in line with a growing body of academic literature, we have documented that ESG information per se is not necessarily a source of outperformance. This implies that ESG investing products, which only account for ESG information and do not consider financial performance in portfolio design, are unlikely to meet investors’ financial objectives in the long term. Second, we have documented that there are important trade-offs between different ESG objectives. For example, climate scores of companies are almost unrelated to scores on other environmental dimensions, such as waste management or water resources. This implies that investors need to choose their priorities carefully. These research insights heavily influence our product design. For example, we offer factor indices that reconcile ESG and financial objectives. We also offer climate indices, which set a clear priority on firm’s climate performance and avoid diluting this objective with an overemphasis on unrelated ESG objectives.

 

How relevant is this knowledge to non-financial companies and to investors who do not primarily focus on infrastructure?

Rob ArnoldThe relative paucity of information on physical and transition risks to infrastructure also suggests that a better understanding of the risks is useful to both public and private sector organisations in planning investments and managing real assets. There is a wide range of non-financial companies and organisations that are likely to find our research useful.

Correctly functioning infrastructure such as power, water, transport, goods delivery and healthcare supports many non-infrastructure businesses and reduces the costs of running society. The failure of this infrastructure failure can lead to a curtailment of these services and will have a negative impact on the companies and organisations that depend on it, potentially causing loss of value or even resulting in them going out of business. Understanding the reliability of supporting infrastructure is therefore a part of understanding risks to non-infrastructure companies. It is also of interest to the public sector, as curtailed infrastructure services can increase costs and challenges to governments of protecting the health and wellbeing of their populations. Information on infrastructure risk can thus be useful in understanding the risks to society and the wider economy. 

 

At the OECD Infrastructure Forum, you discussed the significant challenges involved in collecting data on the exposure of infrastructure assets to climate risks. Could you share some insights on how these challenges can be addressed?

Rob Arnold: One of the key challenges to understanding these types of infrastructure risk exposure is the availability of data. This is often diffuse and hard to access: technical data on the costs and efficacy of the measures and technologies capable of reducing these risks is held across multiple organisations – from site managers, technical consultants and vendors of these technologies to institutional investors and governments. Everybody owns a little, and much of it is often too detailed to publish in publicly available reports. Bringing statistically significant amounts of data together in a form that is useful to investors, owners and strategic planners for infrastructure climate risk assessment may require collaboration and coordination across multiple organisations.

 

You served as a senior engineering, science, and policy advisor to the UK Government for two decades, most recently as the leader of a multi-disciplinary team tasked with evaluating new technology and measures to decarbonise key economic sectors. Based on your extensive experience and recent work, what do you believe are the key levers to support transition and resilience and what are the key issues to address on both sides of the Atlantic and elsewhere?

Rob ArnoldAs mentioned above, a key lever would be facilitating the collection of data that allow investors, planners, and infrastructure managers to understand the costs and effectiveness of actions that reduce risks to infrastructure from physical weather risk and emissions mitigation policies. On both sides of the Atlantic, investors are seeking more transparency on risk assessment and/or actions taken to improve the sustainability of infrastructure, and this is becoming reflected in regulatory requirements – notably in the EU and the UK.

This is a helpful development, but any increased availability of data needs to be complemented by initiatives to compile and interpret this data in easily-comparable ways – both at national and global levels. This can help reveal the measures that asset owners and operators can take right now to protect their investments in a cost-effective manner. It can also reveal where there are absences of available measures that may be assisted by policy incentives or market interventions to accelerate the development of technologies and products that might fill these gaps. We aim to contribute to this effort.

 

 

Footnotes

[1] TICCS® was created in 2018 by EDHEC Infra & Private Assets Research Institute with the support of the industry.  Some of the largest infrastructure investors in the world use it as the default system to organise their portfolio according to four pillars: business risk, industrial activity, geo-economic exposure and corporate structure

 

About Rob Arnold, Sustainability Research Director at EDHEC-Risk Climate Impact Institute

Rob Arnold is Sustainability Research Director at EDHEC-Risk Climate Impact Institute where he is leading in the creation of a new body of knowledge on climate alignment and resilience in different sectors with an initial focus on infrastructure. He is an energy and environment specialist with extensive experience in industry, business, national governments, and international organisations. Rob holds a PhD in Energy and Environment from Imperial College London, an MSc in Environmental Technology from Imperial College London, a BSc (Hons.) in Chemistry from the University of Manchester and is a Member of the Royal Society of Chemistry. He previously worked as an engineering, science and policy advisor to the UK Government for two decades, for departments including the Department of Business, Energy and Industrial Strategy, the Department of Energy and Climate Change, and the Department of Environment, Food and Rural Affairs. Recent projects have included leading cross-disciplinary teams in technical analysis, business strategy, and sustainability assessment of new technology and measures to decarbonise energy, infrastructure, industry, transport and land use, co-chairing a multinational team of experts to compile the research programme for a strand of the EU’s Strategic Energy Technology Plan and establishing the Industrial Energy Transformation Fund, to identify and fund projects that build value for industry through sustainable decarbonisation.