Market participants are currently confronted with the challenge of facing adverse impacts caused by greenwashing events. These events can potentially have harmful effects on an entity's financial situation, thus exposing them to various financial risks. The Report identifies various risks, including reputational, operational, strategic, business, liquidity and funding, credit, and market risks.
Among these, reputational and operational risks are considered particularly significant by both the stakeholders and competent authorities.
Reputational risk represents one of the most prominent hazards associated with greenwashing, given the growing attention towards environmental concerns that stakeholders must increasingly contend with.
A bank or a financial institution can face a risk to its reputation as a result of consumer associations' initiatives that contribute to a degradation in the public eye or reputation of an institution when it is discovered or perceived to be engaged in greenwashing. Reputational risks may also arise from published customers complaints or media information revealing that an entity is engaged in financing activities harmful to the environment or to social factors.
Reputational risk could be deemed the core financial risk caused by greenwashing, as it very well may result in the increasing of other financial risks. For instance, if a company's reputation is at risk, it can also result in difficulties in retaining customers, difficulties in attracting customers to new sustainable product offerings, loss of key employees, business partners or investors.
Operational risks, litigation, and liability
With regards to operational risk, (such as potential losses or harm arising from insufficient or failed internal processes), stakeholders are encountering growing challenges in aligning themselves with environmental and social principles. These challenges pertain to both internally established code of conduct guidelines and stakeholder's claims of sustainability alignment communicated to the market and its customers.
Operational risks can take the form of liability claims towards a company arising from a mis-selling of products marketed as green or sustainable. It could also arise from litigation cases against institutions due to misalignment between their internal ESG-policies and some of the institution's activities.
Materialized operational risks encompass a variety of adverse impacts, including financial losses in terms of fines or penalties imposed through judicial or regulatory proceedings, compensation to third parties as mandated by courts or regulators, withdrawal or reclassification of financial products, temporary prohibition to operate and/or to issue the product on the market, as well as associated legal fees.