“No legacy is so rich as honesty.” – William Shakespeare, All’s Well That Ends Well.
Carbon transparency is about companies and other organisations openly reporting how much greenhouse gas (GHG) emissions they are responsible for and it is now a cornerstone of green finance, ESG, impact investing and sustainable finance. By easily being able to assess a company’s greenhouse gas emissions, investors and analysts will be able to judge whether a company is meeting its climate commitments and promises.
This ‘carbon reporting’ is analogous to financial reporting. In the accounting and finance world, companies submit an array of standardised reports to regulators at regular intervals throughout the year, some of which are audited by external consultants. The carbon reporting world is a miniscule fraction of the size of the financial reporting world, but it is growing, with more and more companies submitting reports detailing their emissions. Furthermore, mandated environmental reporting is increasing around the world.
Defining emissions is no easy task. As we have discussed in previous blogs, the interconnected nature of the global economy means that a company’s emissions are not just related to their factory or office operations but other indirect sources like use of transport and materials.
The most widely used protocol for reporting emissions is the Greenhouse Gas Protocol, which was set up and maintained by the World Resources Institute (WRI) and the World Business Council for Sustainable Development (WBCSD). The Corporate Accounting and Reporting Standard defines the commonly used ‘scopes’ framework to categorise a company’s emissions :
- Scope 1: Direct emissions
- Scope 2: Indirect emissions from the purchase energy
- Scope 3: Other indirect emissions
By following the WRI’s Greenhouse Gas Protocol, companies are able to separate out their emissions into the different scopes and report on each scope individually. It also allows the company to demonstrate which emissions occur within their organisation, and therefore have more control of, and those which occur outside of their organisation.
Scope 1 Emissions
According to the GHG Protocol’s Corporate Accounting and Reporting Standard scope 1 emissions cover:
“Direct GHG emissions occur from sources that are owned or controlled by the company, for example, emissions from combustion in owned or controlled boilers, furnaces, vehicles, etc.; emissions from chemical production in owned or controlled process equipment.” 
Scope 1 therefore refers to any GHG molecules which are given off by assets that are owned by the company or are in their control. This is by far the simplest of the three scopes.
Scope 2 Emissions
Scope 2 covers the emissions generated due to the acquisition and consumption of electricity, heat, steam, or cooling from sources that are not owned by the company . This is an important piece of the puzzle since electricity, heating and cooling are responsible for 40% of emissions globally.
The rules regarding scope 2 have been significantly amended since the inception of the GHG Protocols in 2001. This was to account for the increase in renewables, how to account for their use in the energy mix and how to subtract the emissions saved from a company’s total emissions.
Scope 3 Emissions
The remainder of the emissions associated with a company are covered in scope 3 emissions. Scope 3 is by far the most complicated and contentious of the three, and includes emissions associated with a company’s entire value chain.
Reporting on scope 3 emissions is much less widespread and thorough than scope 1 or 2 emissions, and the activities covered by scope 3 emissions are much broader when compared with the other two.
These activities can be split into two broad categories: Upstream and Downstream :
- Upstream emissions are indirect GHG emissions related to purchased or acquired goods and services.
- Downstream emissions are indirect GHG emissions related to sold goods and services.
The The Corporate Value Chain (Scope 3) Accounting and Reporting Standard produced by GHGP lists the following categories as covered by scope 3 :
Upstream scope 3 emissions
- Purchased goods and services
- Capital goods
- Fuel- and energy-related activities (not included in scope 1 or scope 2)
- Upstream transportation and distribution
- Waste generated in operations
- Business travel
- Employee commuting
- Upstream leased assets
Downstream scope 3 emissions
- Downstream transportation and distribution
- Processing of sold products
- Use of sold products
- End-of-life treatment of sold products
- Downstream leased assets
Scope 3 Challenges
Measuring Scope 3 Emissions
Unlike scope 1 and 2 emissions, scope 3 emissions are not easily ring fenced and are much more difficult for a company to accurately track. With scope 1 and 2 emissions, a company can find fuel receipts, electricity bills etc and convert them into a value of tonnes of GHGs, whereas they do not have the same oversight when it comes to scope 3. The GHG Protocol spends a lot of effort trying to define “organizational boundaries”, which gives rise to the demarcation between scope 1/2 and scope 3 emissions.
Accusations of Double Accounting
The objective of scope 3 emissions is to provide a complete picture of the GHG emissions associated with a company’s activities. However, as touched on above, the interconnected web of multinational companies means that multiple companies will have responsibility for the same emission. E.g. a natural gas extraction company’s scope 3 emissions will be scope 1 emissions for an electricity generator, which will then be scope 2 emissions for a factory.
This can lead to accusations of double accounting since the same emissions are reported on by multiple companies. Although arguably if every company just reported on their scope 1 emissions then we could get a complete picture of industrial emissions.
Unfortunately, life is never so simple. Firstly, carbon reporting only applies to medium to large businesses. Therefore, a large section of the economy is excluded: small business and consumers. Secondly, if we are to get a true idea of a company’s climate impact we need to have an accurate idea about the interplay between companies and the true effect of their demand for products, as companies do not exist in isolation.
As a quick thought experiment, if a given company were to disappear off the face of the earth suddenly then the drop in total emissions would exceed their scope 1 and 2 emissions, since their demand for materials, travel, logistics etc would suddenly disappear as well. Therefore we need to break the emissions down into separate tranches/scopes to get an accurate picture of a total emissions associated with the existence of a company.
Mandating Scope 3 Emissions
Due to the wide ranging nature of scope 3 categories, there has been considerable push back to the inclusion of some of them in any official/regulatory carbon reporting. In the UK, for example, scope 1 and 2 emissions are mandated for quoted and unquoted companies, but when it comes to scope 3 only business travel in rental cars and employee commuting is mandated (for large unquoted companies only) [5,6]. Some companies voluntarily report on their scope 3 emissions, but whether they report on all sub-categories is not always clear.
Note – scope 3 is a big headache for fossil fuel producers, because when customers use their products they turn in the GHGs (scope 3, category 11, use of sold products) .
Above is a brief overview of the three emissions categories which companies and organisations can use to report on their carbon emissions.
Scope 1 and 2 are relatively simple concepts and are well defined: direct emissions from assets controlled or owned by the company and indirect emissions from the acquisition of energy.
Scope 3 emissions, however, are more complicated but potentially more powerful. They complete the picture of a company or organisation’s total emissions.
Taken as a whole, scope 1, 2, and 3 emissions are a powerful tool to help combat climate change. The next challenge is collating that data and communicating it to a wider audience of politicians, investors, and consumers.
- Unquoted companies or LLPs are defined as ‘large’ if they meet at least two of the following three criteria in a reporting year, a turnover of £36 million or more; a balance sheet of £18 million or more; or 250 employees or more – https://www.carbontrust.com/news-and-events/insights/secr-explained-streamlined-energy-carbon-reporting-framework-for-uk.