Accounting for carbon in the EU-ETS - hot air or real value?
On 8 February 2011, Philippe Lamberts, green MEP, hosted a multi stakeholder roundtable entitled ‘Hot air or real value: accounting for carbon in the EU ETS’ in the European Parliament in Brussels, which was organised by ACCA, IETA and Hanover Communications. The roundtable concluded that the success of the EU-Emissions Trading Scheme (ETS) depends on accountants, large emitters and standard setters all working together towards harmonising carbon accounting practices.The discussion also revealed that a long term framework is needed urgently to deal with disparities between how emissions allowances are treated. It was attended by over 120 participants.
Europe is the largest carbon market in the world - and a world leader when it comes to developing a carbon emissions trading scheme- but a Carbon Study commissioned by the ACCA (the Association of Chartered Certified Accountants) and IETA (International Trading Scheme Association) has highlighted that no-one is entirely sure how to account for carbon. This study served as a basis for the roundtable discussion. Henning Drager,from ACCA moderated the debate which was attended by:
- Mr Peter Olajos, speaking on behalf of the Hungarian Presidency,
- Pr Carlos Larrinaga from the University of Burgos,
- Yvon Slingenberg, head of the Unit in charge of the implementation of the EU-ETS at the European Commission,
- Alan McGill, Partner in PwC’s Sustainability and Climate Change practice,
- Chris Lenon, Group Strategic Advisor, Tax Policy at Rio Tinto,
- Louis Redshaw , Head of Environmental Markets, Barclays Capital, and
- Henry Derwent, President and CEO of IETA.
Belgian Green MEP Philippe Lamberts, who hosted the event, said: “A more transparent treatment of emission allowances would guide investors’ decisions and would be a step towards sustainability accounting”. “We have a real bottleneck. The climate crisis has been crowded out by the financial crisis, adding to the workload of European Commission officials in charge of taxation, financial regulation and the internal market. So, we are relying on accounting and auditing bodies to make proposals. They are the ones measuring things in a credible way and have the expertise to put forward solutions which we can work with,” MEP Lamberts concluded.
MEP Philippe Lamberts opened the event by emphasizing that accounting of carbon matters for low-carbon investments. What gets measured gets done. He sees carbon accounting as the first step towards measuring the sustainability of companies. This will help the market assess the environmental liabilities of an organisation and provide a fuller picture of its long-term prospects. If we don’t start measuring emissions in a serious way they basically don’t count in commercial decisions. Emissions trading must appear on the radar screen of business decision makers. This is what accounting for the ETS is all about: making sure that business leaders take account of carbon. Market discipline can help steer industry onto a low-carbon path but the market must be regulated by "elected politicians acting in the public good". His instinct is to eschew self-regulation, blaming the economic crisis on laissez faire financial watchdogs, but he is also a realist. The climate crisis has been crowded out by the financial crisis, adding to the workload of European Commission officials in charge of taxation, financial regulation and the internal market. So, we are relying on accounting bodies to make proposals. They have the expertise to put forward solutions which we can work with. Despite being an advocate of emissions trading, he is concerned that the market could be distorted by speculators and he wants strict rules to guard against speculators. He urges accounting standards setters to design a model which incentivises long-term thinking rather than the short-term approach which contributed to the present financial crisis. At the latest by 2013 we need credible standards that both investors and regulators have a clear picture on what is at stake.
In his keynote speech, Peter Olajos , Deputy State Secretary for Climate Change from the Hungarian Presidency, raised the question of what will happen if a major carbon market player becomes insolvent, stressing that accounting bodies can help us prepare for these events before they arise. The public won’t take any notice of carbon trading until there is a major accounting mess which causes serious damage. We all have a strong interest in making sure that doesn’t happen. He made the point that accounting of allowances and credits may not grab headlines but it is part of the bedrock of the ETS – invisible but crucial. For the Hungarian Presidency, the EU ETS is one of the most important instruments in pricing emissions. But it is also a rather complex instrument. Most trading relationships are transboundary, which makes it difficult to know which law to apply. Many issues that were not an issue 5 years ago, are no appearing on the map of policy makers: security of infrastructure, bankruptcy, financial legislation, etc. The need for greater harmonization for accounting of units is now evident. There is now a daily routine to how things are working, so accounting should have become easier and companies should be able to agree. With the EU ETS being the most advanced trading scheme in the world, accounting rules set here, will give directions to the rest of the world. The child has grown and now has different needs. Policy makers need to think ahead and anticipate different problems.
Professor Carlos Larrinaga, from the University of Burgos in Spain, then presented the main results of the carbon accounting study commissioned by IETA and ACCA that he co-authored. Carbon accounting in the EU ETS is characterized by a high degree of non-disclosure -most companies do not disclose any information on depreciation or revaluation of emissions allowances- and where information is provided, accounting practices diverge significantly.The single most common characteristic is that allowances allocated free of charge are accounted for at zero-value. Given that one can sell these allowances at a current market price of around euro 15, this is not giving the right price signal taking investment decisions or managing risk exposure. Yet, progress is patchy at best, as previous international accounting guidelines were withdrawn and a new exposure draft is being delayed since 2 years. IASB-FASB are expected to come forward with a new draft later this year. Large emitters should work together and with auditors to try to harmonise accounting practices by the end of this year.
In the subsequent panel discussion the following key points were made:
For Henning Drager, ACCA, a progressive, transparent and ultimately successful EU carbon market is likely to be emulated by other global regions with the hope of a single carbon market in a not too distant future. Effective and uniform corporate carbon accounting rules are at the heart of efficient carbon markets such as the 'Accounting for Carbon' report demonstrates. All involved parties should speed up the process in order to arrive at a carbon accounting framework which reflects the urgency demanded by dangerous climate change. ACCA will continue to lead the profession's efforts in the carbon accounting space and work with progressive stakeholders to turn the carbon challenge into an opportunity for business, governments and wider society to take advantage of a low carbon world.
For Alan McGill, Partner in PwC’s Sustainability and Climate Change practice, the financial impact of carbon accounting is obvious. Companies need to be able to communicate on financial implications of carbon compliance obligations. The EU now needs to play a strategic role and take a lead. Corporate reporting in the future will change substantially and will incorporate much broader non-financial information. CFO is dead, long live the CIO – chief information officer. He warned that organisations are not keen on adding more pages to their annual reports and financial statements but said there are 106 ways of counting for carbon worldwide and this is clearly impractical. We need to see a new form of reporting evolving as part of the holistic performance of an organisation in terms of sustainability. It should allow comparability so that companies can be benchmarked against one another. Organisations will have to invest in systems and training for financial staff to ensure they are prepared for this new wave in carbon accounting.
For Louis Redshaw , Head of Environmental Markets, Barclays Capital, the carbon market is simpler than other commodity markets: compliance is annual, zero cost of storage, allocation takes place before surrender and there is no seasonality to the EUA price. Yet, people do not arbitrage on the related financial opportunities and this distorts the price signal. Without shareholder pressure to manage carbon, the carbon market itself is inefficient. Complexities around whether allowances should be marked to market or valued at their purchase price are leading some firms to shy away from opportunities in emissions trading. The carbon emissions market is expected to grow every year, beyond 2020, and clarity on accounting standards would help firms capitalise on this growth.
For Chris Lenon Group Strategic Advisor, Tax Policy, Rio Tinto who spoke in his personal capacity, business is recognizing its responsibility to prevent global warming. Rio Tinto has a price for carbon and most major emitters do – this is used to evaluate investments. But for investment purposes, a long term roadmap is desirable to achieve a common price. If Europe wants to meet emission reduction targets – that requires the decarbonisation of electricity . A clear long-term framework is needed. Given that life of a power station is 30 years, you have to stop building carbon power stations in 8 years to avoid having them operating in 2050 . What is needed now is a robust regulatory framework for carbon to make investments which is solid and reliable, including financial and fiscal aspects of the market. There are 4-5 different tax treatments for emission allowances across the EU. For markets to work efficiently we need to establish a tax and VAT framework built on accounting by 2013 when Phase 3 starts . It needs good political will to achieve this framework and business wants it prioritized.
For Yvon Slingenberg, head of the European Commission unit charged with implementing the ETS in the European Commission, accounting of emission allowances was not yet identified as an important issue during the revision of the EU ETS Directive in 2008 . There is now a lot of work ahead for the Commission on ensuring good implementation of all changes ahead of phase 3 of the EU ETS (starting in 2013), which will be much more centralized. This covers common rules for monitoring, reporting & verification of emissions , auctioning, free allocation (benchmarks), registry infrastructure, market oversight, cap setting, quantities of offset credits, etc. The call for immediate action on the set up of a regulatory accounting framework is clashing with the limited and already stretched capacities at DG CLIMA (...) . Albeit interesting and maybe possible to advance on a voluntary basis this year, framework development for carbon accounting is not a priority issue for the time being. She took the point that if emission allowances are not included in the books, the impact of the ETS is less visible. She called on accounting bodies to agree a set of common voluntary standards for how carbon is accounted for . She was a bit puzzled by how some companies account for carbon at present. Even allowances received for free clearly have a value as otherwise they would need to be bought and she was quite surprised to see some of these accounted for as nil.
Henry Derwent, CEO& President of IETA, gave the concluding remarks:
IETA has promoted for 10 years the need for a global price of carbon to inject in the current transformation we see some aspect of accounting and measurement to change behaviours. Markets can provide incentives to drive companies into direction that they would otherwise be unwilling to do. In response to MEP Lamberts, he explained that he cannot think of a market that would benefit not benefit from the liquidity provided by financial actors. He gave the example of the need for an intermediary to sale farm produce, rather than for the farmer to directly look for the best offer price among several interested consumers. Referencing to the recent hacker attacks on EU ETS registries and the theft of allowances, he thought that this is a lesson from creating a market with a whole lot of different guardians. He conceded that blame is to be shared by those of us who did not realize how important it was to create a harmonized system earlier in advance. In his view, the system does not work if analysts and shareholders looking into ETS companies cannot see their exposure. This is a material obstacle to the purpose of the EU ETS and EU climate policy. The Carbon Disclosure Standard Board, of which he is a member, will soon come forward with a report commissioned by the UK’s environment ministry that shows that no single investment institutions has a systematic approach for sustainability. The focus is on what can be measured.A plea needs to be placed in direction of the accounting profession in his view. Over 10 years, the accounting profession has looked at this. But the availability of information today removes any excuses to take this further. CFOs and auditors need to worry about this.
Podcasts of the speakers and pictures from the event are available on the Hanover website.
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