Stranded assets are an emerging risk management teams should be exploring to ensure they are making the most effective use of their investments.
A stranded asset is an investment that has become useless or worthless. It’s a concept that has currency at the moment due to emerging climate change risks.
In fact, it’s a particularly live topic given the debate around AGL’s potential closure of its Liddell coal-fired power station in the Hunter Valley.
As a recent report by insurer Lloyd’s, Stranded assets: the transition to a low carbon economy, explains, “Stranded assets are defined as assets that have suffered from unanticipated or premature write-downs, devaluation or conversion to liabilities.
“In recent years, the issue of stranded assets caused by environmental factors, such as climate change and society’s attitudes towards it, has become increasingly high profile.”
The Paris Agreement on Climate Change is the main driver for this. This is an accord between nations, and signatories such as Australia and many other countries, have committed to maintaining global temperatures at no more than two-degrees Celsius higher than pre-industrial era temperatures.
The consequences of being a signatory generally require countries to reduce reliance on fossil fuel energy sources such as coal.
This has caused businesses and commentators to question whether certain energy assets might effectively be stranded.
According to the Institute for New Economic Thinking, “If the 2°C target is to be taken seriously, then current and future assets will have to be written off before the end of their economically useful life and become stranded assets.”
There are other proponents of this dire forecast. The International Energy Agency suggests that to meet the two-degree target, fossil fuel power generating infrastructure equal to the current fleets of China, the US, Japan, Germany and Poland would need to close. It estimates plant closures would lose US$3.7 trillion in revenue out to 2060 from the electricity these generators would otherwise have produced.
Stranded assets and the great debate
The genesis for the stranded asset debate is in non-government organisation (NGO) lobbying campaigns.
As professional services firm Ernst & Young’s report, “Stranded assets”: from fact to fiction notes, NGOs have been trying to demonstrate that a commitment from governments around the world to prevent catastrophic climate change could lead to substantial coal, oil and gas assets to be stranded, as a result of changes to public policy that would lead these assets to be non-commercial.
NGOs want energy businesses to disclose that their fossil fuel assets are stranded, or acknowledge they don’t have an effective climate change policy.
But as EY’s report notes, “While these campaigns captured a few headlines they did not initially inspire much concern within the financial mainstream.”
While climate change has prompted recent discussion of stranded assets, it’s not the only reason why assets become worthless.
Changing legislation, new technologies and disruptive market forces can also result in assets being stranded.
Given the substantial public policy work being done on climate change that could prompt some assets to be stranded, it pays to keep across this topic to manage any potential risks. Yes, our current landscape is continuously changing, but if you don’t change with it, it will change your business, and for the worse.