Climate risk in fair value measurement

How does climate risk affect fair value?

Through the inputs to valuation: the cash flows a buyer would expect, such as rents, operating and insurance costs and capital spending; the time and cost of bringing an asset up to standard; and the yield or discount rate a buyer would require, reflecting risk and liquidity. Where market participants have started to differentiate, for example between energy-efficient and inefficient offices, between flood-exposed and protected sites, or between companies with high and low carbon costs, those differences belong in fair value. See climate risk in the financial statements.

Whose assumptions count?

Those of market participants: knowledgeable, willing, independent buyers and sellers. A company's own transition plan or views do not change fair value unless buyers would share them. Evidence comes from transactions, valuers' practice, lenders' terms, insurance availability, rent differences between efficient and inefficient buildings, and regulation that any owner would have to meet, such as minimum energy standards. A risk that the market does not yet price is not added, though it may need disclosure as a source of estimation uncertainty. See property valuations under IFRS 13.

Climate risk in fair value in practice: an office building

An investment property owner measures an office building at fair value. Net rent is EUR 2,000 thousand a year and the market yield for comparable buildings meeting energy standards is 5.0%, giving EUR 40,000 thousand. The building is among the worst-performing in its market and, under national rules implementing the recast EPBD, must be upgraded by 2030. Buyers would budget EUR 4,000 thousand of works in two years' time and six months of lost rent during them.

The present value of the works at 5% is EUR 3,628 thousand and the lost rent EUR 900 thousand, so fair value is EUR 35,472 thousand. The valuer does not also raise the yield for the same risk, because the works would bring the building up to the standard of the comparables. In its Level 3 disclosures, the owner shows the yield and the upgrade cost as significant unobservable inputs and explains that a 0.25 percentage point rise in the yield would reduce value by about EUR 1,905 thousand. See investment property: fair value or cost.

Which assets are most affected?

• Investment property: energy performance, flood risk, cooling needs and tenants' net zero commitments.
• Agricultural land and biological assets: changing yields, water availability and extreme weather. See biological assets at fair value.
• Infrastructure and unquoted equity: carbon costs, demand and stranding risk in cash flow models.
• Financial instruments: credit spreads of carbon-intensive issuers and collateral values.
• Business combinations: acquired assets and liabilities measured at fair value under IFRS 3, and fair value less costs of disposal in impairment tests.

How does the fair value hierarchy matter?

Level 1 quoted prices already reflect the market's view of climate risk and are not adjusted. Level 2 valuations use observable inputs, such as yields on comparable properties, which may need adjusting for differences in energy performance or location risk. Level 3 valuations rely on unobservable inputs, where climate assumptions are most visible and most judgemental, and where disclosure requirements are greatest. See the fair value hierarchy.

What should be disclosed?

IFRS 13 requires the valuation techniques and inputs used, and for Level 3 measurements, quantitative information about significant unobservable inputs and a narrative description of the sensitivity to changes in them. Where climate assumptions are significant, companies should name them, and the assumptions should be consistent with those in the sustainability report or the differences explained. The IASB's 2025 illustrative examples show disclosures of climate-related assumptions and estimation uncertainty. See connected information.

How does US GAAP compare?

ASC 820 uses the same market participant framework and fair value hierarchy, so the same questions arise for investment companies, real estate funds and business combinations. Disclosure of Level 3 inputs is also required, and public companies discuss significant estimates in their management's discussion and analysis. See climate risk in impairment testing.

This guide is general information. It is not tax or legal advice for your situation.