Quantifying climate financial effects is genuinely difficult. IFRS S2 acknowledges this with two specific exemptions that allow qualitative disclosure when quantification is not feasible or useful. This lesson examines when those exemptions apply, what they require, and how they are expected to be used over time.
Why Exemptions Are Necessary
Climate financial effects are harder to quantify than most financial risks for several reasons:
- Non-linear impacts: Physical risks often manifest as tail events (extreme floods, once-in-a-century storms) that are difficult to model at company level
- Long time horizons: Anticipated effects over 20 to 30 years involve compounding uncertainty about future climate conditions, technologies, policies, and markets
- Interdependencies: Climate effects interact with many other business drivers (economic cycles, competition, technology change), making attribution difficult
- Data limitations: Many entities lack the supply chain data, physical asset geolocation data, or financial modelling tools needed for quantification
The ISSB recognised these constraints in the Basis for Conclusions (BC53 to BC56) and created two specific exemptions while maintaining an expectation that capabilities will improve.
Exemption 1: Information Not Useful (Para 19)
Paragraph 19 permits an entity to omit quantitative information about anticipated financial effects if:
- (a) Effects are not separately identifiable. Climate is one of many factors affecting a financial measure, and the climate-related portion cannot be reliably separated. For example, an automotive company's revenue decline may be due to a combination of climate policy changes, supply chain disruptions, and macroeconomic factors. Attributing a specific dollar amount to climate may not be meaningful.
- (b) Measurement uncertainty is too high. The range of plausible outcomes is so wide that providing a number would give false precision and could mislead users more than a qualitative description would.
Consider a construction company trying to quantify the financial impact of climate change on its materials costs over the next 30 years. Concrete, steel, and timber prices will all be affected by climate policy, transition costs, and physical impacts on supply, but they are also affected by global trade, commodity cycles, and technology change. Attributing a specific portion to climate alone may produce a number that is precise but misleading. The exemption allows a qualitative description of the mechanism of impact instead.
Exemption 2: Capability Gap (Para 20)
Paragraph 20 provides a second exemption: if an entity lacks the skills, capabilities, or resources to produce quantitative estimates, it may provide qualitative information instead.
This is explicitly a transitional accommodation. The ISSB's expectation is that entities will build their capabilities over time. Using the Para 20 exemption year after year without demonstrated progress would undermine the credibility of the disclosure.
Key points about the capability gap exemption:
- It applies to anticipated financial effects, not current ones (current effects in audited financial statements require quantification)
- It requires explanation of why the capability gap exists
- It requires description of efforts being made to build the relevant capabilities
What Must Be Provided When Exemptions Are Used (Para 21)
Using an exemption does not mean providing nothing. Paragraph 21 imposes three requirements:
- 21(a) Explanation: The entity must explain why quantitative information is not being provided. "We lack the capability" or "the effects are not separately identifiable," but with enough specificity that the explanation is meaningful.
- 21(b) Qualitative information: The entity must identify which specific line items, totals, or subtotals in the financial statements are affected by climate risks and opportunities. This connects the qualitative narrative to the financial statements, even without providing a number.
- 21(c) Combined quantitative information: Unless this too is not useful, the entity should still provide the combined financial effects, a single figure or range representing the aggregate impact of all climate risks on the financial statements.
| Element | Required Even When Exemption Used? | Purpose |
|---|---|---|
| Explanation of why quantitative info omitted | Yes, always | Allows investors to understand and evaluate the limitation |
| Qualitative description of mechanism | Yes, always | Shows understanding of how climate affects financials |
| Specific financial statement line items affected | Yes, always | Connects sustainability disclosure to financial statements |
| Combined quantitative impact | Yes, unless combined impact is also not useful | Aggregate financial materiality even without attribution |
The Direction of Travel
The ISSB expects the exemptions to be transitional. Entities using the Para 20 capability gap exemption should be actively building their financial modelling capabilities. Over successive reporting periods, investors will expect to see:
- Year 1: Qualitative disclosure with explanation of capability limitations
- Year 2 to 3: Partial quantification, perhaps some scenarios or some risks quantified
- Year 4+: Full or substantially complete quantitative disclosure
The Basis for Conclusions (BC56) notes that the ISSB will monitor whether the exemptions are being used appropriately and whether further guidance is needed.
Example of a well-executed exemption disclosure (Para 20):
"We have not provided quantitative estimates of the anticipated financial effects of physical climate risks on our operations because we currently lack the geospatial risk modelling capabilities to map our 340 facilities to climate hazard scenarios at the required granularity. We have engaged a specialist climate risk consulting firm to complete this analysis in 2025. The exercise will be complete in time for our 2025 annual report.
The financial statement line items we expect to be affected include: (a) property, plant and equipment (impairment risk from flood and storm damage); (b) insurance costs within operating expenses; and (c) capital expenditure (facility resilience upgrades).
Our current best estimate of combined anticipated financial impact from physical risks over the medium term is a range of 20 to 60 million GBP in additional capital expenditure requirements, based on preliminary analysis of our coastal and riverside site exposure."
Key Takeaways
- 1Para 19 exemption applies when climate effects cannot be reliably separated from other factors or when measurement uncertainty is so high that a number would mislead
- 2Para 20 capability gap exemption is explicitly transitional - using it year after year without demonstrated progress undermines disclosure credibility
- 3Even when exemptions are used, three things are always required: explanation of why, identification of affected financial statement line items, and combined quantitative information where possible
- 4The expected trajectory is qualitative disclosure in year 1, partial quantification in years 2-3, and substantially complete quantitative disclosure from year 4 onward
- 5Non-linear physical risk impacts, long time horizons, interdependencies with other business drivers, and supply chain data gaps are the main reasons quantification is difficult