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The gravity of the problem of climate change is rapidly coming into focus.  On November 23, 2018 thirteen federal agencies under the leadership of the National Oceanic and Atmospheric Administration, including among others the National Science Foundation, the U.S. Environmental Protection Agency and the Department of Defense, issued Volume II of the Fourth National Climate Assessment.  This report, which was peer-reviewed by more than 300 scientists and the National Academies of Science, Engineering and Medicine, warns that there is “significant, clear, and compelling evidence that global average temperature is much higher, and is rising more rapidly, than anything modern civilization has experienced, with widespread and growing impacts.”  According to the report, those impacts – which include intensifying droughts, more frequent wildfires, increasingly heavy downpours, reduced snowpack, coastal flooding and declines in surface water quality – will “damage infrastructure, ecosystems, and social systems” in the U.S. and around the world.

Regardless of the political climate in Washington, D.C., companies are well advised to heed this most recent alarm bell.  Those who have not yet done so should assess the physical, regulatory and financial risks that climate change may pose to their existing assets, operations, work force stability and supply chains.  In addition, companies should consider such risks in the due diligence that they perform prior to entering into major transactions.  This client alert addresses climate-related transactional due diligence for a company considering the acquisition of another company or its assets.

Environmental due diligence in corporate transactions is now  commonplace.  Such investigations focus primarily on the risks posed by (a) hazardous wastes that may historically have been generated or disposed of by the target company or its predecessors; and (b) whether the target has been and is operating in accordance with applicable environmental regulations.  As the impacts of climate change take hold, environmental diligence should be expanded to include diligence focusing on all of the topics relevant to climate planning – such as facility integrity, operational resiliency, fuel costs, emissions-related liabilities and supply chain risks, any one of which could be a more material risk to the target enterprise than legacy hazardous waste or compliance issues.

Such risks include the potential for acute physical losses at the facilities of a target company (or those of its suppliers) as a result of storm-related flooding or wildfires associated with climate change.  The havoc caused to the pharmaceutical industry’s supply chain in Puerto Rico by Hurricane Maria well illustrates the extent of the risks that increasingly violent storms pose to coastal and island facilities1; and one need look no further than the wildfires that have raged in the western U.S. to understand the risks faced by facilities located in certain areas of the suburban/forest interface.2  Five recent hurricanes – Katrina (2005), Sandy (2012), Irma (2017), Maria (2017) and Harvey (2017) – collectively caused approximately $495 billion of property damage in the United States.3 The potential for such catastrophic damage – and the adequacy, availability and present and future cost of insurance protection to address such damage (including business interruption risk) – should be examined carefully before acquiring a company with assets potentially exposed to climate-related flooding or fires.

But some physical effects of climate change may not be so immediately apparent.  Certain impacts will emerge gradually as rainfall patterns and hydrological conditions change around the world.  There is a potential for such impacts to disrupt a target company’s operations or supply chain by reducing agricultural production, the availability of raw materials or access to water.  As a result, even if climate risk to a target company is not immediately apparent, acquisition diligence should address resilience issues like the ability of the target company to source raw material from different regions or to manufacture or receive supplies from different sources to hedge against climate risk.

And physical impacts are only part of the story.  Climate change also poses intangible risks, such as the legal risks associated with government regulation aimed at reducing the emission of carbon from the burning of fossil fuels.  Such regulations exist today in many jurisdictions, and are likely to be adopted universally – and with increasing stringency – over the mid- and long-term.  Operating costs for companies in the energy sector, or those engaged in energy-intensive activities, are now, or soon may be, significantly affected by such requirements.  Less obvious intangible risks include disruption associated with advances in technology driven by the need for energy efficiency (for example, the market disruption resulting from the emergence of LED technologies to companies in the lighting industry), market/economic shifts (like the impacts suffered by coal-fired power generators from the declining price of renewable energy) and reputational factors (negatively affecting those companies viewed as “bad actors” from a climate perspective).4

Unlike traditional environmental due diligence which has specific regulations regarding what constitutes “all appropriate inquiry,”5 climate risk due diligence can be daunting, given the absence of a commonly accepted standard.  While the physical, regulatory and intangible risks a company may face as a result of climate change are sometimes addressed in a target company’s “sustainability” or “corporate governance” reports, the quality of such reports varies widely.  

The lack of a common regulatory standard for evaluating climate risk has resulted in private efforts to fill the void.  A task force organized by the Financial Stability Board has made progress in addressing this issue by developing a detailed protocol for companies to follow in disclosing the financial risks that climate change poses to them.6  In addition, both the Sustainability Accounting Standards Board and the Climate Disclosure Standards Board, two non-profit organizations, have developed complementary guidelines about the disclosure of climate change-related information.  The World Resources Institute and United Nations Environment Programme – Finance Initiative have worked with more than 150 representatives of the financial industry to prepare a report that provides risk managers with a conceptual framework to “think more consistently and systematically about [non-tangible] climate risk.”  ASTM also has issued guidance for financial disclosures related to climate change for audited and unaudited financial statements.  Although these protocols are largely designed to guide companies in their disclosure of climate change-related financial risks to investors, they can provide a useful framework for identifying the sorts of climate risks that also are relevant to transactional due diligence.

Because there is no standard protocol for assessing the risks climate change may pose to an M&A target, the due diligence to be performed  needs to be individually tailored to the specific characteristics of the target company.  Nevertheless, the following general principles may be applied in developing a specific climate diligence strategy for each acquisition:

(i)  A preliminary screening analysis generally should be performed that considers the nature of the target company’s  business, the location of its facilities, the extent of its greenhouse gas emissions, its reliance on fossil fuels, its other energy supply needs, its need for water, its need for agricultural raw materials and its supply chain for essential materials.

(ii)  Where critical facilities are determined to be located in areas vulnerable to rising sea levels, storm surges, wildfires or other climate-related impacts, a site-specific review of the risks posed to such facilities, and any measures that have been taken to protect against them (including both engineering measures and insurance) should be conducted.

(iii)  An analysis should be performed with respect to regulatory risks, litigation risks, and risks associated with investor relations and reputational issues where a target company is in the fossil fuel business, has significant greenhouse gas emissions, or relies heavily on the burning of fossil fuels for production or electricity.

(iv)  An assessment of climatological risks (such as droughts or temperature extremes) should be performed for regions where essential raw materials are grown for companies that rely heavily on agriculture for their business.

(v)  Special care should be taken with respect to businesses – such as those in the winter tourism industry or insurance companies – whose profits or losses are directly related to climate.

(vi)  The accuracy of claims appearing in publicly-issued documents of “climate friendly” target companies should be confirmed.

(vii)  The scope of the review should not be confined to climate risks.  Companies also should be alert to the climate-related opportunities that may be identified for target companies including business operations that would benefit from new greenhouse gas regulations and any synergies or best practices that could improve the combined company’s overall climate risk profile.

In the course of their due diligence, acquiring companies should not just rely on reports and data prepared by the target company.  In many cases they also should interview management to understand the approach that has been followed to identify and manage climate risks, and any steps that have been planned or taken to address them.  In appropriate cases identified in the preliminary screening analysis, these efforts should be augmented by engineering, environmental, actuarial and/or legal experts.


1. “Hurricane Damage in Puerto Rico Leads to Fears of Drug Shortages Nationwide,” New York Times (Oct. 4, 2017).

2. “California’s Wildfires Have Become Bigger, Deadlier, and More Costly. Here’s Why,” Time (Nov. 13, 2018).

3. https://www.washingtonpost.com/news/capital-weather-gang/wp/2018/01/30/harvey-irma-and-maria-now-in-the-top-5-costliest-hurricanes-on-record-noaa-says/?noredirect=on&utm_term=.b9668d7e25b9.

4. See World Resources Institute, Carbon Asset Risk: Discussion Framework, WRI and UNEP-FI Portfolio Carbon Initiative (2015) (http://www.unepfi.org/fileadmin/documents/carbon_asset_risk.pdf).

5. 40 C.F.R. Part 312 (incorporating by reference ASTM E 1527-13, “Standard Practice for Environmental Site Assessments: Phase I Environmental Site Assessment Process”).

6. Final Report: Recommendations of the Task Force on Climate-related Financial Disclosures (June 2017) (https://www.fsb-tcfd.org/publications/final-recommendations-report/).

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