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The risk of a changing climate on supply chains

Michael Beaumont, Group Manager, Account Engineering at FM Global presents the risks and challenges of a changing climate on global supply chains.

Supply chains have long hidden layers of risk which can come back to bite, no more than during COVID-19. As businesses look to diversify their supply chains it’s critical that they take into account a risk factor that may represent a greater long-term threat: the impact of the changing climate.

A changing climate not only creates a riskier and more challenging environment for humans to live in, it also means a risker and more challenging business climate.

A recent report by Deloitte Access Economics provides a glimpse of what’s at stake. ‘A new choice: Australia’s climate for growth’, notes that without taking action to address climate change, the economy will be six per cent smaller by 2070 – a $3.4 trillion lost opportunity over the next half a century. On the other hand, a $680 billion dividend awaits if Australia can rise to the challenge, along with 250,000 more jobs.

The report’s lead author, the Head of Deloitte Access Economics, Pradeep Phillip, described it as comparable to a pandemic happening year-on-year. “Climate change is no longer a possibility. It is a reality. Doing nothing is now a policy choice, and it is costly…there isn’t a ‘no cost’ option,” Phillips says.

Strengthening supply chains for a changing climate

A large part of the forecast business disruption associated with a changing climate relates to supply chain disruption. With more frequent and severe natural disasters as a result of global warming and sea level rise, comes a significant increase in the risk for interrupted production, shipping, and increased costs throughout the supply chain.

A recent study by McKinsey and Company found that by 2040, a company using leading-edge chips such as an automotive Original Equipment Manufacturer (OEM), sourcing from geographies in Korea, Japan, Taiwan, or other hubs in the western Pacific, can expect that typhoons sufficient to disrupt their suppliers will become two to four times more likely. Similarly, heavy rare earth production in southeastern China is predicted to experience extreme precipitation events twice as often by 2030, according to the report.

Vietnam, recently touted as one of the “low-cost manufacturing environments” that could benefit from a shift in supply chains in the wake of COVID-19, suffered some of the worst flooding in decades this year, as seven consecutive tropical storms and torrential rainfall affected more than five million people.

Michael Beaumont, Group Manager, Account Engineering at FM Global.

Building knowledge, prioritising, diversifying

As a global insurance company providing risk mitigation advice to thousands of companies worldwide, including a third of the Fortune 500, FM Global recommends that businesses increase their knowledge about climate risks and how they are managed throughout their supply chain to improve resilience in the face of a changing climate. Armed with this information, they can make informed decisions about diversifying their most important suppliers or working with them on risk improvement.

Start with a supplier impact analysis

Make sure to identify all suppliers that your business is highly dependent on – in a climate-related event such as flood, fire or high wind, no suppliers would be spared. Steps to analyse these impacts include:

  1. Identify your key products and services and how much profit each generates for your business.
  2. Determine how much each product or service depends on an individual supplier.
  3. Convert the information from step one and two into profit supported by the supplier.
  4. Add up all the profits supported by a supplier to get the total profit supported by that particular supplier.

With this, you will be able to develop a list of suppliers, prioritised by the degree to which the organisation is dependent upon them.

Assess specific locational risks

The next step is to assess the specific risks at these high priority locations. Data-driven risk assessment tools like the FM Global Resilience Index provide invaluable insights to business executives on which regions, sites and business partners are most vulnerable.

Amalgamating data gathered by FM Global’s risk engineers who visit and assess risk factors at more than 100,000 client locations worldwide each year, with information gathered from sources such as the World Bank and International Monetary Fund, the Resilience Index assesses countries’ resilience by twelve core drivers, across three areas – Economic, Risk Quality, and Supply Chain.

The index’s Risk Quality factors are especially relevant for organisations looking to assess and fortify their supply chain in the face of potential climate vulnerabilities. These risk quality factors cover variables including a country’s exposure to natural hazards, natural hazard risk quality (largely linked to building standards) and fire risk quality.

Supply Chain factors, a category of risk which addresses elements such as quality of infrastructure, is another key set of data points to consider when making evaluations of potential suppliers. Lower quality infrastructure may be more susceptible to destruction and disruption in the event of a major natural hazard such as a bushfire, flooding or typhoon.

Climate risk assessments of your supply chain should also include national and international standards maps, local jurisdiction flood maps, consultants and insurer maps, to name a few. FM Global offers its own natural hazard maps for free on our website, including a Global Flood Map  which allows organisations to assess the risk of flood – a key climate-risk related challenge – at any location worldwide.

Armed with these details, organisations can drill down to discover how much of an overlap there is between suppliers they are most dependent upon, and those who are most at risk. If risk levels are deemed too high, tools such as the Resilience Index or Flood Maps can help you determine locations and suppliers that might work as alternatives.

Doing a thorough review of a supplier’s business continuity plan (BCP) can also be an important way to get a better grasp of just how much risk you are subjecting your business to and whether your suppliers are taking adequate steps to mitigate it in the event of a natural disaster. As COVID-19 highlighted, whether or not a supplier has a BCP in place is not enough to ensure that the supplier will be able to deliver through a major disruption. You need to actively seek to determine how effective their BCP is.

 

Engaging risk consultants to conduct an on-the-ground risk assessment is one important way to get a better grasp of just how much climate-related risk you are subjecting your business to, as well as whether key suppliers are taking adequate steps to mitigate it in the event of a natural disaster.

 

FM Global will often send engineers on-site at suppliers’ facilities to do an in-depth analysis of each exposed location. These take into account local flood studies, location topography, suitability of construction to resist common natural hazards such as winds, flooding, bushfire and more and may be used to make a final call on whether you cut ties with a supplier, or work with them to strengthen their resilience.

 

Climate risk may have the potential to cause disruption on the scale of a pandemic but building knowledge and resilience through data-driven tools can help vaccinate your business against avoidable risk.

 

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