Grasping the nettle on ‘Scope 3’

It’s time to get real on the world’s hardest-to-reach emissions, writes Mauro Cozzi

By Mauro Cozzi

October 31, 2021

As we approach COP26, many of us hold out hope that a silver bullet – like the COVID-19 vaccine – will break throughin time to save us from climate breakdown. In reality, the solution is more prosaic: to realise Net Zero we need a transformation in how we account for carbon.

The UN’s landmark ‘Code Red’ report[1] confirmed that we are indeed choking the planet, but the subsequent UN Synthesis report, which revealed that, instead of halving emissions by 2030, we’re heading for a 16% rise[2], is a deafening alarm that we’re losing the race. We need a step change in how carbon is measured, managed and reduced to stand a chance of achieving Net Zero.    

Strengthening the credibility of net-zero targets

The mission to reach Net Zero, or completely negate the greenhouse gases produced by human activity, has come a long way fast. The Net Zero Tracker (NZT)[3], which provides an overview of the 2,000 largest publicly traded companies in the world by revenue, finds that over 80% of global GDP (measured via purchasing power parity) and 77% of global greenhouse gases are now covered by a national Net Zero target, up from 68% and 61% last year, respectively.

In the corporate space, the NZT finds that one in three of the largest listed companies in G20 countries now have Net Zero targets, up from one in five last year. Firms with Net Zero pledges account for 47% of the annual revenue of the largest companies in the G20.

But not all targets are created equal. Firms with Net Zero targets that qualify as ‘robust’ only account for 19%.  Reportedly, the quality of target-setting is rising, but more than 20% of major G20 firms must urgently shift their targets from intent to integrity to avoid reputational risk, and the other two thirds of them—nearly 1,000 firms—must quickly get on board with this transition.

To be effective, net zero pledges must include a published plan, immediate emission-cutting measures and an annual reporting mechanism, and plans must not depend hugely on offsetting.

With tools like the Net Zero Tracker bringing increased transparency to Net Zero target-setting, there is a key role for policymakers to provide the policy frameworks to operationalise net zero targets into countries, regions, cities and businesses. 

The dirty secret of carbon accounting

A core reason that emissions are rising is that the current system of voluntary disclosure and reporting on emissions leaves too much scope for creative accounting. A large and growing number of companies accurately measure their direct emissions (Scope 1), plus the indirect emissions from the power they buy (Scope 2). However, the largest proportion of carbon footprints – up to 95% – often comes from supply chains, plus everything that happens after a product or service is sold, including ongoing processing, further transport, use and disposal (Scope 3 emissions).     

À la carte or set menu?

Reporting against Scope 3 is less certain as indirect emissions are released outside of companies’ control. The inherent uncertainty means most companies are unprepared to measure Scope 3, or even to know what data they need to begin the process. Since no company can reasonably argue they are ‘Paris-aligned’ if they do not calculate Scope 3 emissions, most corporates are therefore not Paris-aligned.

Given Scope 3 reporting is hard and it’s voluntary, most firms do not face up to the challenge. Most firms take the ‘à la carte’ approach to carbon reporting – selectively choosing to disclose and tackle the lowest hanging fruit, while often ignoring the largest emissions sources. Unless tracking and disclosure of Scope 3 emissions improves, companies cannot realistically plan and realise science-based transitions to Net Zero emissions.

To realise Net Zero, we all need to take the set menu on carbon measurement – including Scope 3 emissions, where the broadest opportunities for carbon reduction lie.

Every corporate can address Scope 3

The good news is that managing Scope 3 is achievable. Over 85% of the emissions that we track for our customers are in Scope 3, and according to investor sustainability leader Ceres, over 3,000 companies report Scope 3 emissions under the CDP. So, how can companies embrace the unknown to address Scope 3?

To prevent perfection being an enemy of progress, measurement of Scope 3 emissions demands that a large number of assumptions are made up-front, which can then be refined over time. Michelangelo believed every block of marble contained a work of art waiting to be released. Similarly, with the right focus, every corporate can chip away at areas of uncertainty surrounding their Scope 3 measurement, until their emissions profile comes into sharp relief. 

Data is the secret weapon of Scope 3

The secret lies in data, which are increasingly collected by sensor networks across supply chains and volunteered by customers. Machine learning can absorb the vast complexity of labyrinthine supply chains and use algorithms to analyse data on procurement, logistics, and products – before zeroing-in on key hotspots. When companies are equipped to collect emissions data on an almost real-time basis, AI can set controls and steer decision-making to drive efficiencies, cutting costs and carbon, while staying ahead of investor expectations and regulations, such as the Taskforce for Climate-related Financial Disclosure (TCFD). In this way, carbon accounting can play a strategic role as a point of engagement with suppliers, customers and industry peers.

This data then fuels engagement with suppliers, investors and customers alike – enabling businesses to tackle the carbon hotspots of their product or service. The upside is that engagement on Scope 3 makes supplier relationships less transactional and more of a partnership . With the system change and shift in capital that’s coming with the transition to Net Zero, such strong networks and information exchange are vital. Whether it’s spotting supply shortages or revealing collaboration opportunities, such as sharing logistics resources, such as fleets across networks – accurate, transparent data is the key to resilience.

Big business wants a level playing field

The chicken-and-egg situation that currently prevents mainstream business from ‘grasping the nettle’ of Scope 3 is that not all companies will set Net Zero targets until all the data is available, and all the data cannot be obtained until more companies disclose. This is an area where smart policy making can have a massive impact by introducing robust carbon accounting standards.

As we approach COP26 a wave of corporate coalitions have called for greater regulatory stringency on climate. For example, in October, Chancellor Rishi Sunak received a letter from 30 companies with over $4.5 trillion in assets, including Aviva, BT and Tesco, calling for mandatory Net Zero reporting.

It may seem unusual for multinationals to call for tighter governance, but many firms around the world are already on the path to Net Zero. They have addressed their direct emissions and have publicly committed to net zero targets. Now, they want to go all in, by fully embedding these plans into their workforces and supply chains, and to see their competitors take the same measures in pursuit of a fairer market

The climate disclosure imperative

Clear, unified regulatory frameworks for mandatory carbon disclosure would actually cut the cost and workload involved in reporting to multiple stakeholders, from investors to partners and customers, on climate. There has reportedly been a 35% year-on-year rise in companies disclosing their carbon exposure under the CDP framework, including most European and US multinationals. For these companies and many others, investor pressure to meet ESG metrics already effectively makes their reporting mandatory, though the metrics vary. Now, by legislating firms to publish credible Net Zero transition plans, policymakers can increase demand both for green solutions and the capital needed to finance them.

One of our own investors, Schroders CEO Peter Harrison, has called the current climate disclosure imperative, “a 1929 moment, a once-a-century shift in the way companies are valued. Before the Wall Street crash, a company could report whatever level of profits it chose. In the aftermath, and amid the Great Depression, robust accounting standards were introduced and remain with us today.”

I would agree. Only through full disclosure can we fully face up to the challenge of reconfiguring our societies around Net Zero – and only through policy change can markets shift away from unsustainable practices – towards climate-positive solutions.

Accounting for carbon as currency

In his bestselling book, ‘Sapiens: A Brief History of Mankind’, Yuval Noah Harari states that:

“Cowry shells and dollars have value only in our common imagination. Their worth is not inherent in the chemical structure of the shells and paper, or their colour, or their shape. In other words, money isn’t a material reality — it is a psychological construct.”

Now that we know the survival of the human species is dependent on our ability to balance a rapidly shrinking carbon budget, it’s time we accounted properly for that. It’s time we consciously built the same universal construct around carbon as we do for currency. It’s time we disclosed on carbon with the same accuracy that earnings are disclosed in standard accounting practices.

Notes

[1] https://news.un.org/en/story/2021/08/1097362.

[2] Full NDC Synthesis Report: Some Progress, but Still a Big Concern | UNFCCC

[3] https://www.zerotracker.net/