Climate change: building resilience in infrastructure assets

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The actions of governments are the usual focus of attention when the issue of climate change comes up.  

Rather than putting a spotlight on governments’ doings, this paper’s emphasis is different.

As infrastructure practitioners, we want to focus on the real-world actions that our industry can take to adapt to and manage climate related risks. Our thinking is informed by the rising number of severe climate events. They suggest that now, not decades into the distant future, is the time for infrastructure industry participants to develop frameworks to address the issue of climate resilience.

  

Climate change defined

But first things first. Climate change refers to any significant change in the measures of climate lasting for an extended period of time. In other words, climate change includes major changes in temperature, precipitation, or wind patterns, amongst others, that occur over several decades or longer.

Going further, the physical consequences of the changing climate are expected to include rising sea levels to extreme rainfall as well as drought, bushfires and prolonged extreme temperatures. Rising incidents of such phenomena will have physical impacts requiring infrastructure investors and operators to develop adaptation risk approaches to assess and improve resiliency to changing climatic conditions.

Climate change risk also presents financial risks associated with moves towards a low carbon economy including systemic risk, transition risk and stranded asset risk. These broad risks cover a range of considerations including exposure to carbon emissions, carbon policy and pricing mechanisms, commodity prices, the price of renewable energy and clean technology processes and products. Important as they are, those issues are not within this paper’s scope.

 

Already observable climate change

Taking the initiative now is necessary as it is noticeable that the climate is changing, the world is warming. The CSIRO’s latest State of the Climate report[1] notes that Australia’s climate over the past century has warmed by around 1 °C since 1910 and the duration, frequency and intensity of extreme heat periods have increased. 

Rainfall patterns are also exhibiting change with May–July rainfall having reduced by around 19 per cent since 1970 in the southwest of Australia (Figure 1). There has also been a decline of around 11 per cent since the mid-1990s in the April–October growing season rainfall in Australia’s southeast. By contrast, rainfall has increased across parts of northern Australia since the 1970s.

 

Sea levels around Australia have risen with the rising average sea level amplifying the effects of high tides and storm surges. Finally, oceans around Australia have warmed and ocean acidity levels have increased (Figure 2).

 

The Bureau of Meteorology and CSIRO, with other Australian research institutions, recently completed Climate Change in Australia projecting likely changes to our climate over the coming century (Figure 3)

The world at large has been experiencing the changes observable in Australia with 2015 standing out as the warmest year on record since reliable global surface air temperature records began in 1880. Moreover, the last 15 years were among the 16 warmest years on record. At the same time, globally-averaged ocean temperatures and heat content are increasing and the globally-averaged sea level has risen over 20 centimetres since the late 19th century.

 

More extreme climate pressuring infrastructure assets

As the climate changes and becomes less hospitable, the number of severe events has been climbing. Insurer Swiss Re’s catastrophe count (Figure 4), including major storms, floods and droughts, for instance, has increased nearly four times from 1975 to 2014.

 

Behind such figures lie many incidents. In the past five years, there have been the recent severe storms in South Australia, Cyclone Yasi in Queensland, Hurricane Sandy in New York, Typhoo Haiyan in the Philippines, multiple wildfires and droughts in the western United States. At another time, a Polar Vortex sent the north-east US into a deep freeze while floods inundated parts of India.

Increasing numbers of natural disasters are likely to have impacts on the lifespans of infrastructure assets. Ageing infrastructure that is not designed for such extremes and higher density urban environments are especially vulnerable to increasing natural stresses.

The rise in the number of severe climate events suggests that developing frameworks to understand climate change risk and building resilience now, rather than decades into the future, is a prudent course of action for infrastructure investors.

Owing to the rise in number of these events, the size of the global natural catastrophe property protection gap has risen steadily. Over the last 10 years, 70 per cent of economic losses (or US$1.3 trillion) were uninsured.[2]   

Total economic losses from extreme weather events have been increasing relatively steeply, based on Swiss Re’s 10-year moving average (Figure 5). Insured losses have also increased, but not at the same rate as total economic losses. Effectively, this places a greater financial burden on asset owners, governments and individuals.

See Parametric insurance for an explanation of new extreme weather-related products from insurance companies.

 

 

 

Consequences for infrastructure owners

The impact of climate change to date, as well as those to come, has vast implications across societal, economic and environmental realms.

Infrastructure operators and owners have unique responsibilities as stewards of essential economic and social assets. The well-being of communities and economies significantly depends on efficient, reliable infrastructure.  Consequently, planning for and adapting to climate change is prudent.

Looking through a pure investment lens, the key reasons for integrating climate resilience in infrastructure asset management and investment decision-making are:

  • Increasingly reliable and secure performance: infrastructure assets providing services capable of operating during climate crises will exhibit greater return predictability over longer time horizons. Reliability of service performance is particularly critical for essential services such as water, electricity and gas both from regulatory licence and reputational perspectives.

  • Maintaining and increasing asset value: assets that are not significantly affected operationally by climate-related events, or that do not need significant capital expenditure after such events, will have increased value during crises (when other assets may be experiencing downtime), and retain that value after crises.  There may also be opportunities for operational cost reductions through efficiency and resiliency gains.

  • Identification of future opportunities: Demand for resilient infrastructure is likely to increase. Local governments are exhibiting increasing interest in building climate resilient infrastructure, particularly in areas already hit by disasters.  Cities are mindful of the economic consequences of disruptions and emphasising reliability and resilience is central to their requirements.

  • Increasing customer value: Many regulations of critical infrastructure are designed to provide services at times of peak demand/need. Assets that operate most effectively during times of crisis are therefore likely to generate increased trust from regulators and other key stakeholders and thus retain financial, economic and societal value over the long term. 

  • Increasing influence: investors who lead the evaluation and adaptation of critical infrastructure assets and demonstrate the thoughtful performance of fiduciary duties are likely to have a more respected voice at policy discussions where regulators are most concerned with providing essential services to communities during times of climate crisis.

While infrastructure asset owners may intellectually recognise the importance of ensuring that their assets are resilient to climate risks, there also appears to be some barriers to taking action. These include a perception of high costs of adaptation, concerns that actions may place them at a competitive disadvantage, and modelling complexities and timeline uncertainties.

While each of these arguments is legitimate, they are also insufficient rationales for inaction. Prudent and responsible infrastructure owners, managers and investors have to understand, assess and price risks, not ignore them.

See Brisbane Airport’s preparation for climate change on how the owners and managers of a major asset are addressing issues.  

 

 

Building climate change resiliency:  a portfolio risk framework

Consistent with our belief that investors need to deal with the risks of climate change as a practical issue now, rather than put it off into the distant future, we have developed an analytical framework that assists us with the assessment of vulnerability of assets to climate risk.

To date, many top-down, global analyses have been made, but few have publicly proposed a comprehensive, detailed review of asset-specific climate risks.  Our analytical framework and Vulnerability/Criticality Matrix (Figure 6) synthesises much of the publicly available literature on how climate risks can be addressed in the infrastructure context. 

We believe this framework will enable us to identify risks, assess their materiality and provide guidance to investing in risk mitigations in our business plans for both existing assets and future ones entering our client’s portfolios.   The framework has a four-step process (Figure 7) for evaluating climate risks. 

 

 

 

The Vulnerability and Criticality Matrix provides a framework for assessing risks to infrastructure at the portfolio level and can be equally effective as a guide for future investments.  Naturally, investors are likely to gravitate towards the low vulnerability/high criticality quadrant where the risk/reward trade-off appears most attractive.

That said, higher-vulnerability infrastructure categories need not be ruled out.  However, by definition, investing in the more vulnerable assets would mean assuming greater risks, expenses and dealing with increased complications.

With effort, it is possible to reduce vulnerabilities, but justifying investments in more vulnerable assets over relatively less vulnerable, needs careful management.   This can be demonstrated through the Thames Water case study.

 

 

Investment opportunities from climate change

We believe demand for resilient infrastructure is only going to grow. Local governments are exhibiting increasing interest in climate resilient infrastructure, particularly in areas already hit by disasters. 

Cities are mindful of the economic consequences of disruptions, emphasising reliability and in rebuilds and new builds of infrastructure requiring increased resilience.

We used the Vulnerability and Criticality Matrix to guide our thinking and landed on a number of subsectors  presenting investment opportunities including distributed energy, distributed water and distributed web infrastructure (Figure 9).

Distributed energy and water

Distributed energy is a subject we covered in detail in previous Red Papers Reimagining infrastructure amid transformative change and Technology disruptions affecting infrastructure (Part 1).

Distributed energy resources (smaller power sources such as advanced battery technologies that can be aggregated to provide power necessary to meet regular demand) are developing at a speed that promises to make them complementary with traditional centralised power generation assets in the not too distant future.  

According to Navigant, distributed generation (defined as projects that will generate less than one megawatt of power) is expected to displace the need for 300-350 gigawatts (GW) of new large-scale power plants globally.[5] One benefit of distributed energy is that industrial companies with such capabilities should enjoy greater energy security. 

Another significant benefit of distributed energy is that it avoids the need for significant expenditure on distribution and transmission networks because the distributed energy is co-located with the demand source. In the context of climate change, the benefit of distributed energy is that in most circumstances it is modular. This allows for replacement of equipment should it be damaged by climate events, and often dual-fuel allowing it to alternate between different sources of fuel supply.

Water resources and supply are already being affected by climate change.  We think deregulation in the water space can foster more innovation and help to address some pressing issues.

On this score lessons can be learned from Great Britain where the governing board of UK water utilities will allow consumers and businesses to purchase water services from qualified providers, much like independent power producers, while sharing in the transmission and distribution infrastructure. 

In anticipation of more droughts and storms, distributed water represents a partial response to the water shortage challenge. In essence, it will mean converting varying grades of waste water to water suitable for a range of users ranging from industrial to households.  

It also means that the decision to increase water storage and/or production becomes a distributed decision and avoids the delay and resistance often encountered with large-scale projects.  Finally, as with distributed energy, distributed water models reduce the need for expenditure on distribution and transmission networks due to co-location.

  

Distributed web infrastructure

The digitisation of the global economy has gone well past the tipping point. Global internet and mobile traffic continues to grow at rapid rates, even without the full dawn of new demand horizons such as the Internet of Things, cloud computing, virtual reality and big data analytics. These growing demand drivers continue to magnify the extent to which enterprises (and consumers) depend on technology infrastructure.

The decentralised technology delivery model, which utilises highly distributed yet intricately interconnected networks of computing infrastructure to provide traditional IT services, represents a major antidote to the risk of major system interruptions. Such a distributed network, where individual parts appear indistinct within the larger technology organism, has even adopted the ‘cloud’ title to underscore its resilience to physical damage.

In such a system, data storage can be so broadly distributed that the probability of information loss can for all practical purposes be completely eliminated. Computing resources can also be scalable, meaning resources can be reallocated as demand from individual users varies and as components within the system experience outage.

The opportunity presented by distributed web infrastructure also extends to the ability to create value by enhancing efficiency in an increasingly climate conscious world. With each Google search using 3 watt-hours of energy and emitting the equivalent of 0.2 grams of carbon dioxide[6], digitisation contributes to  climate change. To counter this, investors will need to transform web infrastructure from being a source of energy consumption to one of energy generation by integrating renewable energy sources and leveraging new designs that maximise efficiency.

 

Creating value in existing assets: transport and ‘natural infrastructure’

Minor rainfall and moderate temperature increases do not present a high risk to transportation infrastructure generally owing to the design standards and quality of materials used for road, railway, bridge and tunnel construction.  Long life-spans and robustness are hallmarks of such infrastructure. On this basis, we place transportation infrastructure in quadrants 1 and 3 (low vulnerability/high criticality and high vulnerability/high criticality) of the Vulnerability and Criticality Matrix.

However, like everything else, the story is different in extreme conditions. With the likelihood of severe weather becoming more frequent, there are significant implications for transportation infrastructure. Recent Australian experience attests to this.

The 2011 Queensland floods cut through roads that had not been elevated, destroyed bridges and parts of northern Queensland were isolated as the key link to the Bruce Highway became unusable. The floods also highlighted the criticality of key highways and vulnerability of city tunnels, particularly rail tunnels when lighting, electrical and communications systems were disrupted. 

Rather than deal with the cost of after-the-fact fixes, investors can pre-empt problems by systematically strengthening the operational resilience of essential service assets. Solutions can be understated and relatively inexpensive.

‘Natural infrastructure,’ in the form of wetlands and vegetation ranging from forests to grasslands  alongside roadways supports the absorption capacity of land as it does to land adjacent to rail and road infrastructure. 

Adding such natural barriers to projects may also increase the attractiveness of a given project for the government procurement agency, due to reduced operating downtime, reduced erosion of soil beneath roadways and contribute to asset life extension.   

 

Water retention partnerships

Levees, dams, and diversions have historically been publicly funded due to governments’ ability to access low-cost debt.  However, new P3 projects are being proposed, such as the Fargo-Moorhead Area Diversion Project in the US (North Dakota and Minnesota), which includes a 12-mile dam and a 30-mile diversion channel. The P3 developer would receive and distribute floodwater through the Diversion Channel, which they would operate and maintain.   

Water retention partnerships are a new kind of partnership.  One created between The Nature Conservancy’s NatureVest, Murray Darling Wetlands Working Group (a community organisation) and supported by A$20 million from JPMorgan Chase & Co aims to acquire and hold a portfolio of permanent water rights.  The partnership and asset owners intend to lease the majority of the water rights back to the agricultural community while donating an allotment to the environment (from the excess during high rainfall years).

The current structure utilises private lands and Aboriginal communities, though partnership models with local governments could also be created.  Such a project combines an extremely low vulnerability asset (water rights) with high critical needs (water for farmers), while targeting core infrastructure returns.

 

Time to act now

The words of H. Jackson Brown Jr., author of an inspirational book, Life's Little Instruction Book, come to mind when thinking about the best way for infrastructure investors to respond to climate change:

“The best preparation for tomorrow is doing your best today.”

Climate risk is making existing infrastructure more vulnerable as inhospitable weather becomes both more frequent and severe, and temperatures and sea levels gradually rise. Infrastructure asset managers and owners have an opportunity to embrace a more specific risk management approach and start taking action now.

The cost difference between being pro-active now compared to acting at a future could be significant. Early actions have the potential to reduce losses in the near term as well as create significant value by enhancing the resilience of assets in the long term.

New opportunities are emerging owing to climate change with distributed energy and distributed water being two especially promising areas.  Others, like natural barriers, will require innovative financing approaches and a patience and willingness to work with multiple, perhaps atypical counterparties such as non-governmental organisations including environmental groups. 

Forward thinking infrastructure operators and investors alert to the implications of climate change can adapt and integrate adaptive strategies.  This will avoid being caught off guard by climate shocks and incurring large remedial works severely disrupting investment returns. 

We believe a systematic approach through a risk-management lens is the prudent way to approach the issue. Doing so will help to achieve a balance between good financial outcomes and the development of long-term asset resilience. 



[1] CSIRO and the Australian Government Bureau of Meteorology, State of the Climate 2016.

[2] Sigma No 5/2015: Underinsurance of property risks: closing the gap. Zurich: Swiss Re Economic Research & Consulting, 2015.

[3] Heatwaves London Climate Change Partnership. Climatelondon.org.uk. http://climatelondon.org.uk/climate-change/heatwaves.

[4] https://www.gov.uk/government/news/thames-tideway-tunnel-to-bring-benefits-worth-up-to-almost-13bn.

[5] Vrins, Jan, Navigant Energy. Distributed Energy Resources: Lead or Follow. July 2015.

[6] http://inhabitat.com/infographic-how-much-energy-does-google-use/.

 

 

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