THE MATERIALITY OF NATURAL CAPITAL
What is Natural Capital?
The Natural Capital Finance Alliance (NCFA) defines natural capital as the stock of renewable natural resources (e.g. forests, plants, animals, air, water, soils) that combine to yield a flow of benefits to people.
From the perspective of the financial sector, companies in which they have a financial interest – through investment, lending or insurance – are reliant on natural capital for a range of essential functions, from raw materials through to flood protection and water security.
Is Natural Capital financially material?
The term “material” is often used to refer to the financial significance of an issue and how important a consideration it is in economic decisions. For industries dependent on natural capital, continued erosion of the global resource base constitutes a material risk if the ability of a business to access the necessary inputs from natural capital becomes impossible or significantly increases costs.
This may be due to physical factors, such as drought or extreme weather events, or due to changing legislation and regulations, such as water permitting, greenhouse gas emissions schemes or a change in subsidies.
For example, the EU Environmental Liability Directive makes companies directly liable for impacts on water resources, fauna, flora, and natural habitats. Operators of risky or potentially damaging activities can therefore be held liable for the preventative and remedial costs of environmental damage and these costs can then affect their financial returns.
Conversely, businesses that identify ways to conserve, protect, or renew natural capital may offer and enjoy new opportunities for prosperity and innovation. Since 2011, companies have spent more than $84 billion worldwide on conserving, managing, and obtaining water – a number that is projected to rise as climate change and demographic pressures affect water supply and demand. Companies that provide products and services to improve water conservation or access – such as drip irrigation systems, sensors or solar-power desalination plants – thus become more favourable investment opportunities. The creation and sale of conservation easements, water credits and carbon offsets also provide new opportunities for businesses.
Whether looking at increasing input costs, business opportunities related to efficiency or stewardship of natural capital, or the regulatory risks of fines or changes in policy, it is clear that natural capital can be a material consideration for a company, and therefore can also be material to the financial institutions that allocate capital through loans, investments, or insurance.
- ^ Global Water Intelligence