Why businesses must apply the rigour of financial accounting to sustainability - Carbon Responsible
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Why businesses must apply the rigour of financial accounting to sustainability

Beyond carbon measurement: our COO explains why businesses must apply the rigour of financial accounting to sustainability

Matt from Carbon Responsible's Team

Matt Paver

COO

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In the corporate world, terms like ‘carbon measurement’, carbon management’, ‘carbon reporting’ and ‘carbon accounting’ are often used interchangeably. Companies with net zero targets, or those which report emissions for regulatory or voluntary reasons, might use any of these terms to describe their efforts.

As I recently reported for New Energy World, imprecise vocabulary around net zero practices isn’t necessarily a problem in itself, but it has obscured the fact that not all approaches to emissions reporting and analysis are created equal.

We are seeing this play out already in the corporate sphere. The business community globally has generally understood the urgency to significantly reduce carbon emissions by 2030, on route to net zero by 2050. Companies across all sectors are taking their responsibility seriously, often going beyond regulatory obligations to set ambitious decarbonisation goals and voluntarily disclose carbon emissions.

As of November 2023, Net Zero Tracker data finds that two-thirds of the world’s largest publicly listed companies have set emissions reductions targets, with this number increasing by 40% in just 16 months. Nonetheless, analysis has shown that the corporate world’s ambition is not grounded in realistic and reasonable emissions reductions strategies; research by Accenture suggests that most corporate net zero targets will be missed without doubling the pace of decarbonisation by 2030.

For the most part, it is not the case that companies are simply pulling net zero targets out of thin air. Most, if not all, will be at least measuring if not reporting their carbon emissions and using that to inform reduction plans and timelines. What’s going wrong is that, by assuming carbon measurement tools are as effective as true carbon accounting, companies are using inaccurate, vague or incomplete information in their net zero action plans.

Carbon measurement versus carbon accounting

In order to set appropriate emissions reduction targets, companies must understand their emissions baseline at the very least. On the surface, carbon measurement seems fit for this purpose.

But the term ‘carbon measurement’ is something of a misnomer, since in practice the process involves estimating a company’s carbon emissions rather than directly measuring them. Whether a company tackles carbon measurement in-house, uses tools and calculators, or outsources to a third party, emissions are calculated using conversion factors applied to top-level data like office-level energy consumption and distance travelled for business journeys.

For some calculations, financial expenditure – for example on fuel – is used as an input. The conversion factors provided by the UK government, for example, are well-informed and researched average values, updated annually and as additional relevant information is sourced. For Scope 1 and 2 emissions, calculations using averages are accurate enough to generate meaningful and useful insights which can inform net zero targets and strategies.

But for Scope 3 emissions – those indirectly produced by purchasing products, services and in a company’s supply chain – using average values can result in inaccurate reports which fail to account for relevant details.

For example, using publicly available conversion factors for business travel will estimate the environmental impact of journeys taken by employees, but it won’t account for nuances like a specific airline’s environmental performance or more precise rail track distances for a specific train route.

Not only does this approach run the risk of a company producing inaccurate emissions reports and therefore setting inappropriate reduction targets based on inaccurate baselines, but it also fails to identify and motivate the shorterterm changes a company can make to reduce emissions. These include choosing airlines and routes which produce lower emissions, for example.

This is precisely why companies which are serious about going beyond ‘measurement’ and reporting to take practical steps towards net zero targets require a more rigorous approach.

In contrast with carbon measurement, carbon accounting by its nature provides the level of detail, accuracy and categorisation needed to identify specific areas where emissions could be reduced, in the short-term and the long-term.

The same principles of financial accounting apply to carbon accounting: standardised calculations and reporting frameworks, data validation and thirdparty verification, and categorising emissions by sources.

Carbon accounting almost always requires finer-grained research and data collection. For Scope 3 emissions, granular assessment on service providers and supply chains, like emissions performance by airline, alongside better input capture, like actual rail track distances or car types by registration, support more accurate measurement. The additional research, investigation, analysis and data validation also enables companies to correctly identify the nature of control and ownership over emissions sources and categorise the emissions appropriately.

Using simple and often automated carbon measurement tools, companies are prone to categorisation errors, which are particularly problematic for companies with regulatory obligations on emissions reporting and companies which have publicly set scope-specific net zero targets. For example, an international company recently reviewed by Carbon Responsible had included gas impacts in Scope 2 rather than Scope 1. In such a case, while the measurement itself was accurate, the approach nonetheless produced an accounting error which called into question the validity of the company’s reporting and its net zero targets.

The need for corporate carbon accounting is only increasing, particularly given the direction of environmental regulation which has begun to mandate standardised and independently verified emissions reporting.

In the US, the Security and Exchange Commission’s (SEC) climate disclosure rule, and the Corporate Sustainability Reporting Directive (CSRD) in Europe, both require emissions data disclosed alongside financial statements, treated with the same level of rigour. Companies will soon have to ensure their sustainability reports can pass a third-party audit – using at least limited assurance (which tests a sample of the data).

Carbon accounting is the most appropriate way to meet these requirements. By avoiding estimations and proxy data, carbon accounting creates an accurate and actionable emissions report. Just as importantly, the robust methodology allows for a transparent emissions data trail which can be reliably verified by external observers.

In the US, the Security and Exchange Commission’s (SEC) climate disclosure rule, and the Corporate Sustainability Reporting Directive (CSRD) in Europe, both require emissions data disclosed alongside financial statements, treated with the same level of rigour. Companies will soon have to ensure their sustainability reports can pass a third-party audit – using at least limited assurance (which tests a sample of the data).

Carbon accounting in practice

Detailed, verified information from corporate carbon accounting can drive emissions-reducing decisions and policies, particularly on Scope 3 sources like suppliers, office buildings, electricity providers and corporate travel bookings.

For example, a granular understanding of emissions produced by office usage has motivated companies to install smart energy meters in office buildings which reduce consumption simply through better awareness and mindful behaviour, as opposed to changing energy provider. Similarly, understanding the impact of office behaviour can help justify the cost of switching to more energy-efficient equipment, or demonstrate the benefit of installing automated lighting and temperature systems to passively reduce energy consumption.

Committing to a rigorous carbon accounting approach has also incentivised companies to impose supply chain tender requirements around the level of information that suppliers must provide on their own emissions-relevant activities. This itself augments reporting veracity, generates a more accurate picture of indirect emissions, and helps move the needle on Scope 3 emissions reductions targets.

A case in point

In 2022, British medical research charity LifeArc began working with Carbon Responsible to progress from carbon measurement to full-scale, accounting-level decarbonisation analysis.

With a team of around 250 employees, the charity wanted to ensure its strategic decisions were based on rigorous methodology and high quality, accurate data.

Carbon Responsible’s research and analysis was able to identify the level of materiality and the degree of control LifeArc has over each of its emissions sources, and then assess the suitability for decarbonisation in each category.

This work informed a report proposing reduction pathways for LifeArc, presenting several possible emissions trajectories which varied by budget and timelines to reach net zero. For emissions sources identified as outside the direct control of LifeArc – suppliers and investments – Carbon Responsible was able to provide specific guidance on how LifeArc could engage with the relevant parties to monitor emissions and incentivise reductions.

Using LifeArc’s activity-based data, the analysis produced specific recommendations for emissions reduction actions, which were modelled to demonstrate the reductions which could be achieved, and the extent of finance required.

Alex Didcock, Senior Carbon Accounting Manager at Carbon Responsible, says: ‘Within the roadmap, several cost-based scenarios were modelled to provide LifeArc with various routes to net zero depending on timeframe, ambition and budget. This roadmap is being used to inform decision-making for investment into decarbonisation initiatives and to direct key stakeholder engagement.’

The ability to do scenario-planning, forecasting and identify where a company has control over impact is essentially facilitated by the rigour of accounting standards and analysis. Given that all businesses operate in a complex environment, balancing business priorities with external conditions, it’s no surprise that effective net zero planning and action relies on carbon accounting.

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