Over the last day there appears to have been a pile-on of commentators on this blog all saying that my arguments on carbon offsetting implicit in sustainable cost accounting are wrong. Many have offered stereotypically climate-change-denying fare dressed up to look as if there is still an argument to be had on the climate-change issue, and have been deleted as a consequence. But I have posted some of the comments submitted as the offset issue is one that is worth addressing again, which I do here.
The message from these commentators appears to be:
- Business cannot be net-zero carbon: it is technically impossible;
- Offset lets business claim it is net-zero even when it is not, so offset is what is required;
- After offset business is net-zero carbon;
- Unless we allow this pretence then many existing businesses will go bust;
- If those businesses go bust that will be the end of the economy as we know it;
- We neither know or have any other economy, so we must not let the one we have end;
- If we do let it end we are all doomed anyway, so any attempt to tackle climate change mitigation would have been a waste of time;
- Therefore offsetting is good, and I am wrong to oppose it.
I genuinely think the above is a fair summary although I am sure some will suggest otherwise: that is the way of life.
Let me address the obvious first, which is to say that I do not oppose carbon offsetting, per se, even though that is what my critics have suggested when setting up a straw-man argument. Very clearly the ‘net' in net-zero recognises that there will be offsetting. In other words, offsetting will happen and I have always recognised that fact, within constraints.
However, the context of my argument has to be understood. Sustainable cost accounting suggests that a provision is required within the accounts of the large companies to which it would apply for the cost of eliminating carbon from their activities. I stress, that means carbon elimination from their scope 1, 2 and 3 activities, or in other words from their own activities; from their bought-in energy supplies and from their supply and customer chains, however far they reach.
It is important to understand what a provision is in this context. Provisions measure the best estimate, reflecting the risks and uncertainties that exist at a point in time, of the expenditure required to settle a cost that it is known must be settled and which is unavoidable as a result of an event that has already happened. In other words, given that we know business has to be net-zero carbon in the future because it is becoming a legal obligation for countries to be so and it therefore follows that businesses must be as well, the provision in question is that which reflects the current best estimate of the cost of meeting this goal of eliminating carbon from the processes of the business which it has no choice but do if it is to still be a going concern i.e. it wishes to perpetuate the business that it has.
I stress two things from this definition. The first is that the event requiring a provision has happened. All large companies have, without exception, has built their activities on the basis of a business model that is unsustainable. As a result they now have no choice - because governments are not giving them any other option - but change that business model if they want to be a going concern and so operate in the future. Confirming that the business is a going concern is something that they must do when preparing their accounts unless they say that they are planning to cease to trade, when a provision for the cost of doing that is required instead. It, therefore, follows that a provision is going to be required by every business.
Second, the estimate is made in the present and provided in the accounts now. There is nothing unusual about this. As example, if a business decides to close one of its activities because it is no longer viable then, as a consequence of that decision having been taken now the full estimated costs of closure of that activity must be included in the accounts at the time that that decision is made and not at the time when they are incurred. This example is completely apposite. Climate change is demanding that all large companies close down their current business activities, and open new ones that are net-zero carbon compliant. If a provision for closure costs is required in any other case, then it most certainly is in this one.
To estimate this provision a number of things are required:
- Good estimates of the carbon produced in all aspects of scopes 1, 2 and 3, although the material issues to be addressed will in most businesses be glaringly obvious.
- Realistic plans to eliminate these emissions by adapting the existing business model or, where that is not possible, abandoning it;
- A best estimate of the cost of these actions that then comprises the provision;
- A best estimate of the capital required for the replacement business model that is net-zero carbon based as this estimate is required for disclosure purposes if the entity is still to be considered a going concern.
- A viable plan for offset if that is to be part of the model for being a going concern.
What it is important to understand is that this is data to be included in audited financial statements. It has therefore to be verifiable. That need for verifiability will extend to carbon offsetting. In that case what is the data that the auditor might require to include a claim for carbon offset in the accounts? I suggest:
- Evidence that the technology planned for use in offset actually exists;
- Evidence that the technology in question exists at scale i.e. if the company being audited is one of many suggesting this offset will be used that there is the capacity for all to make that claim;
- The offset cost is plausible not just at present but given the likely demand for offset when that is to be claimed;
- The entity can command the resources to pay that offset price;
- The offset is itself sustainable i.e. it has an enduring quality;
- If the supply of offset opportunities is to be rationed by a government to ensure it is used by those with the greatest social as well as economic justification, as I think is likely to happen, then the company that they are looking at is likely to secure a part of that ration.
I could, no doubt, elaborate further. I think the above sufficient conditions at this moment.
Let's then look at an example. Take a low-cost airline. They are major emitters. As it stands we know of no viable alternative fuel on which they can rely. That may happen, but prudence will require any auditor to dismiss that claim for now. Accounts have to be audited on the basis of facts, not make-believe. Offset is, then, their only option.
The low-cost airline could then make two claims. One might be that they could capture the carbon that they emit. Let's be clear though: there is no viable or scaleable carbon capture and storage system anywhere as yet, let alone for airline emissions. No auditor should be agree any such claims by anyone right now in that case, I suggest. It would be straightforward negligence for them to do so, in my opinion.
Then there is the potential for on-the-ground offset. Forests seem to be the favourite for this. But when considering this remember that any claim to offset has to create additional forest. It's my suggestion that until the world stops deforestation - and there may be hope for that today - no such claims for additional forest can easily be made. Climate change is a macro and not a micro issue. The capacity to offset is not proven as yet.
Then there is the timing issue. Buying up existing forest to prevent it being cut down is not offset if there is no threat to cut it down. So, the offset has to come from new planting. But remember the offset has to be available in relatively short order. How is that possible when saplings are what are planted? I do not despite that saplings are required - by the trillion - but for offset they may not be great for a while, especially if the offset need is in the short term. So how can an auditor verify the offset exists in that situation? I suggest that they could not.
But in any case, the question has to be asked as t whether there will be enough land for this use? How is an auditor to know that? All they can know is that this supply of land is finite, most especially given both demand and the threat climate change itself imposes to land use as a result of temperature change. Which then gives rise to the reasonable question as to how long offset might be available? It may not be that long. In other words, its own sustainability might be in doubt.
Perhaps as importantly, the question must be asked as to why are low cost flights for second home owners that important, economically? I suggest in the case of rationing priority they might come very close to the bottom when it comes to need. Any auditor would need to consider that.
So, assuming we have a diligent auditor, what can they say about the offset plan? I would suggest that they could at best say it unproven, uncosted and highly likely to be unreliable for offset purposes, let alone for financial ones. So, if the low-cost airline based their claim to be net-zero carbon this basis I suggest that the auditor would have to quality their accounts.
So I come back to my claim that offset is acceptable if:
- The technology is proven;
- The technology is scaleable;
- The resources to do the offset, both financial and physical are already under the control of the organisation, directly or contracted.
This is what I actually say in sustainable cost accounting. All that I am suggesting is that if we are to have prudent, reliable and comparable financial statements from companies then we must have a reliable baseline for estimating carbon impact, and as I see it offsetting cannot deliver that except in the situations I outline.
All this being said, I have not as yet come to the most important aspects of my reasoning. There are three dimensions to this.
First, offsetting is not an acceptable accounting practise. We do not, for example, show the turnover of a company net of the cost of making those sales. We do instead show the total value of those sales, and then the cost of making them, with the consequent gross profit margin being disclosed as the difference between the two. There is good reason for this. We want to separately appraise the company's ability to both price product, and to manage its production process efficiently, which other information in the accounts helps us do. For precisely that reason offsetting is not allowed.
I suggest that we have exactly the same situation when it comes to carbon offsetting. We will always need to know the gross emissions that a company makes, whether by itself or through its bought in energy or through its supply and customer chains. This gross figure is vital. If we are to achieve climate targets we have to know who has responsibility for pumping carbon into the atmosphere, and that is only indicated in the case of a company by its gross emissions. If the company then claims offset, whether its auditors agree with the claim or not, then we do also, in turn, need data to appraise whether that claim is credible, or not. What would always be wholly unacceptable is that one is offset against the other without us ever having the ability to appraise them both. The idea that a net figure is available, which is implicit in many current claims, is as a consequence bad accounting.
Second, the costs of eliminating carbon and the costs of offsets are different. The skills in managing them are also quite different. Eliminating carbon requires product process reengineering. In contrast, carbon offset is simply a purchasing activity when reduced to its basics. We know that product process reengineering is critical to beating the planet change. We do not even know that offset is sustainable in itself. It is in that case vital that the two be separated for disclosure purposes if the activity of a company is To be properly appraised.
Third, this then takes us to the very core purpose of accounting data, which according to the International Financial Reporting Standards Foundation (who on this occasion I will not argue with) is about decision-making on the efficient allocation of available capital. I suspect I define capital rather more broadly than they do, but with that point being noted what any user of a set of financial statements will in in the future, require is the data to appraise whether or not a company is actually capable of becoming net zero carbon without offset given the difficulty that the offset process is are very likely to impose. Put quite simply, the companies to whom capital should be allocated In the future are not in that case those who can fudge this issue by offset, but are instead those who can actually reimagine their business processes to the point that they can eliminate carbon. If we are, as a consequence, to survive, making sure that offset does not complicate or confuse this issue is absolutely vital.
To summarise then, I do not think offset an appropriate basis for claiming that a company might be net-zero carbon because of all the estimates that must be made to achieve that goal this, to me, seems the one that is always most likely to be imprudent, unprovable, and almost certainly unsustainable. What is more, offset could seriously confuse issues with regards to effective capital allocation at the time when making those decisions appropriately is vital. For all these reasons I suggest that the ability to include offset In audited financial statements, whether those accounts use sustainable cost accounting methods or not, should be severely curtailed, because offset always appears to have the chance of material misstatement inherent within it.
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I’ve been following the debate with interest.
What we have above is a shining example of why the various commentators took you to task. No doubt getting blocked for their efforts.
The sheer number of errors, terrible logic and lack of understanding is just unbelievable. I’ll try and deal with them in order.
“Very clearly the ‘net’ in net-zero recognises that there will be offsetting. In other words, offsetting will happen and I have always recognised that fact, within constraints.”
Why should there be constraints? Surely the objective should be for net carbon neutrality, not individual carbon neutrality.
“Sustainable cost accounting suggests that a provision is required within the accounts of the large companies to which it would apply for the cost of eliminating carbon from their activities. I stress, that means carbon elimination from their scope 1, 2 and 3 activities, or in other words from their own activities”
Three things here. Firstly, why only large companies? Accounting has to be fair and equitable across the board. My guess is you only want to deal with large companies because of the backlash you would receive for your rules bankrupting all of the smaller ones. And the inability to explain why your own business can never be carbon neutral. Rules don’t apply to you do they!
Secondly, scope 3 emissions. Defined as the emissions a company is associated with but is INDIRECTLY responsible for. Apart from the fact that it is impossible to measure these remotely accurately, you never answer why a company should be responsible for these rather than the user of that company’s product.
Thirdly, if you include scope 3, you will invariably double count a very large part of total emissions.
“In other words, given that we know business has to be net-zero carbon in the future because it is becoming a legal obligation for countries to be so and it therefore follows that businesses must be as well”
It doesn’t follow at all. It follows that the total of ALL companies, households, government activity etc must be net zero. It does NOT follow that individual companies must be.
“the provision in question is that which reflects the current best estimate of the cost of meeting this goal of eliminating carbon from the processes of the business which it has no choice but do if it is to still be a going concern i.e. it wishes to perpetuate the business that it has.”
More stupidity here. The provision (were it to exist, which I doubt it could given the massive and gross estimates involved) does not have to be of eliminating carbon from the processes of business. It could just s well be from offsetting emissions from the cost of business. The same exact goal is met. At which point no large provision has to be put on the balance sheet – just the ongoing cost of offset.
“as a consequence of that decision having been taken now the full estimated costs of closure of that activity must be included in the accounts at the time that that decision is made and not at the time when they are incurred.”
And again. You don’t put all future profits on the balance sheet. Nor would you need to put a totally unknown future cost of eliminating emissions on the balance sheet either. It is truly laughable. How can you even estimate what a business will look like in 10 years time, or over it’s total lifespan, then add in a near un-quantifiable amount of scope 3 emissions then pretend that the answer you get is in any way relevant?
The only sensible way to deal with emissions is what is currently being done – in a manner akin to a profit and loss account.
“Good estimates of the carbon produced in all aspects of scopes 1, 2 and 3, although the material issues to be addressed will in most businesses be glaringly obvious.”
Much easier said than done, especially for scope 3.
“Realistic plans to eliminate these emissions by adapting the existing business model or, where that is not possible, abandoning it;”
Totally ignoring the point of offset. That and no acknowledgement that many industrial processes simply can never be zero emissions.
“A best estimate of the cost of these actions that then comprises the provision;”
You are layering estimates on estimates. Then are going to bankrupt companies based on the outcome of this guesswork. Sounds like a terribly sound accounting principle.
“It has therefore to be verifiable”
Made me laugh so hard. You now want to verify the guesswork that goes int scope 3. How might you be doing that?
“That need for verifiability will extend to carbon offsetting.”
Like maybe a carbon trading scheme, for example? Like the EU already has?
“Evidence that the technology planned for use in offset actually exists;”
Ah. So you want to put the future (unknown) costs on the balance sheet but no possible future advances?
“The offset cost is plausible not just at present but given the likely demand for offset when that is to be claimed;”
Mind boggling. You want to account for a future unknown amount of emissions and somehow the company has to accurately predict that their offsetting in the future has to offset them.
“If the supply of offset opportunities is to be rationed by a government”
Here we go. More state control.
“I could, no doubt, elaborate further”
Please don’t. What you have said is dumb enough already.
“Let’s be clear though: there is no viable or scaleable carbon capture and storage system anywhere as yet, let alone for airline emissions.”
Airline emissions account for 2% of global emissions. Pretty sure there are scaleable capture and storage systems which can offset that. Like trees for example.
“Forests seem to be the favourite for this. But when considering this remember that any claim to offset has to create additional forest.”
I think the next few paragraphs are some of the funniest I have ever read. You literally don’t have a clue.
All plants consume C02. Not just new ones. You don’t need to plant additional forests unless you need to increase the amount of offsetting. In addition, mature forest offsets far more carbon in steady state than new plantings.
“Buying up existing forest to prevent it being cut down is not offset if there is no threat to cut it down. So, the offset has to come from new planting.”
Really. So. Dumb.
“How is that possible when saplings are what are planted?”
In your mind, trees just stop breathing when they hit a certain age?
“Which then gives rise to the reasonable question as to how long offset might be available?”
As long as trees are.
“I suggest in the case of rationing priority they might come very close to the bottom when it comes to need. Any auditor would need to consider that.”
Why on earth would an auditor need to consider that? You do know what an auditor is, don’t you?
“So, assuming we have a diligent auditor, what can they say about the offset plan? I would suggest that they could at best say it unproven, uncosted and highly likely to be unreliable”
Just as unproven, uncosted and unreliable as any emissions data spanning far into the future. Which blows a huge hole in your idea anyway.
“The resources to do the offset, both financial and physical are already under the control of the organisation, directly or contracted.”
Why do the resources to offset have to be under the control of the organisation? At best it would be highly inefficient. Car companies would have to have forestry divisions for example, rather than companies specializing. It would be far better for a company to buy it’s offset from another company specializing in that area. Or better still, a market of securitized emissions tokens with a liquid market price. Which is exactly what the EU has done.
“First, offsetting is not an acceptable accounting practise.”
It is, you know.
“We do not, for example, show the turnover of a company net of the cost of making those sales. We do instead show the total value of those sales, and then the cost of making them, with the consequent gross profit margin being disclosed as the difference between the two.”
Again with the stupidity. Turnover, cost of sales and gross and net profit are different albeit related things. All are reported separately so we can get to detail like net proft, EBITDA etc.
“What would always be wholly unacceptable is that one is offset against the other without us ever having the ability to appraise them both. The idea that a net figure is available”
You’ve clearly never been anywhere near any real world climate/ESG accounting or reporting. Gross, net and offset emissions are recorded separately.
“Eliminating carbon requires product process reengineering.”
The effect of which is simply to reduce gross emissions.
“require is the data to appraise whether or not a company is actually capable of becoming net zero carbon without offset given the difficulty that the offset process is are very likely to impose.”
Again. No explanation why an individual company need be net zero, and basically dismissing offsetting – which is the only way net zero is possible. Without forcing every company in the world out of business and sending us back to being hunter gatherers.
“To summarise then, I do not think offset an appropriate basis for claiming that a company might be net-zero carbon because of all the estimates that must be made to achieve that goal”
But it’s perfectly acceptable to estimate totally unknown emissions far into the future and place all of them onto the balance sheet. Right? Because estimating emissions in the future is somehow going to be more reliable than estimating offsetting? SO stupid.
Just so, so stupid.
Thank you for writing more than 1600 words, which I very much suspect most people will not read, which is what I would recommend. There are a number of reasons for doing so.
The first is that you very clearly identify yourself as a climate change sceptic. You may not have noticed, but your day is over.
The second is that you also reveal yourself to be familiar with this blog although you claim to have never commented before, providing clear evidence of trolling activity.
Third, it would seem that abuse is your stock in trade. It is deeply unappealing.
Fourth, and this one cannot be avoided, many of the claims you make are very wrong. Let’s start with the simplest, which is that you claim I know nothing of audit. As a Fellow of the Institute of Chartered Accountants in England and Wales who audited for more years than I care to remember, that is most definitely untrue, as are so many of the things that you say.
But, to show respect on this one occasion when you will have access to comment here (because I will be blocking you precisely because that is an editorial freedom that I enjoy) let me answer the first three questions that you asked.
The first was why this should only apply to large companies. I would have thought that the reason is obvious. In the first instance it is because we have very different accounting regimes for large companies from all other concerns, precisely because they have the greatest impact on society. And we also know they create the vast majority of emissions. Therefore, if we deal with them we will have addressed most of our concern. I would suggest that this was not very hard to figure out.
Second, why scope 3 emissions? Precisely because if we do not consider the scope 3 emissions of companies all the activities of consumers are ignored, but the emissions that we all make are only possible because the market provides us with a limited range of choice as to the behaviour that we can follow, which at present all have large scales of carbon emission inherent within them. What you would like is that these are pretended to be an externality to business, for which they are not responsible. However, all serious commentators from Mark Carney onwards now agree that this is an impossible position for business to hold. iI their actions enable the emissions of consumers, and that is indisputable, then their scope 3 emissions must be taken into account, and that requires that all businesses must do so.
Third, you accuse me of double counting. This is such a basic error to make on your part. Of course it would be true that I would double count scope 3 emissions if I was preparing a macroeconomic estimate. You will, however, note that this is not what sustainable cost accounting is all about. It prepares a microeconomic estimate for an individual concern. In that case, your logic is profoundly wrong. If I was to apply your logic to financial accounting then, for example, almost no mining company would ever record turnover because almost none of them ever make a direct sale to an end consumer, which is where their customer chain ends. You would suggest that to avoid double counting their turnover should not be included in their books and records. That is so obviously ridiculous that I cannot imagine why you would wish to propose it, and yet you are with regard to scope 3 emissions. Just as in accounting the output of one company is, in very many cases, the input of another, so is that true with regards to scope 3 emissions, but that does not mean that the company making the emission in the first instance can avoid responsibility for eliminating it from the supply chain that they facilitate: that is exactly what their duty is. So of course every large entity must account for its scope 3 emissions.
Those were the first three questions you asked, and each of them was so ludicrous that I cannot be bothered to address the rest. You came here with a prejudice based upon misinformation, to try to deny that we have a problem in tackling climate change and proposed solutions which are utterly ridiculous, as I have demonstrated. Please do not call again.
And others please note, if you offer similar ridiculous comment you too will be deleted.
because if we do not consider the scope 3 emissions of companies all the activities of consumers are ignored
You have that the wrong way round surely?
If say we put the cost of emissions into prices then consumers cannot ignore them.
And that’s what the science says, or at least those who have won Nobel prizes for their work on this, and whose principles you endorsed in the first Green New Deal report but later abandoned.
I do not follow your logic
But I do note you are advocating carbon taxes
Tell me how you will prevent poverty in that case?
David
It’s not stupid, its just different isn’t it?
Not only are you being derisory but also you seem to be totally satisfied with the contemporary standard of audit and accounting that exists as it is now, despite the fact that we have seen time and time again that we cannot rely on it (Enron, Tesco, Patisserie Valerie etc.,).
And nor can we rely on this faulty accounting logic (faulty because all it is obsessed with is telling the markets that the company is in tip top financial condition) to combat global warming.
We live in a society with a ‘the polluter pays’ principle is applied but how on earth can they pay commensurately if they do not account for what they’ve done? So we get derisory payments for clean ups instead with communities and other companies left holding the bill.
And this is all that existing practice does – it enables polluters to side-step the consequences to the environment of their operations – export the costs out of their company and into the environment, cities, water tables, soil, communities etc.
Maybe if du Pont for example had had resource accounting they would have thought twice about how they dealt with the toxic sludge that was generated by the production of Teflon and avoided the very expensive court actions that they have been subjected to – and quite rightly too.
Your proposal for requiring companies to account for a shift to low carbon makes sense to a non-accountant, except for one thing. The shift to zero net carbon is being talked about with a 20-30 year horizon: how do companies make accounting provision that far ahead?
Trying to fit it to your airline example, I can see that provision could be made on the basis that the next cycle of plane replacement would need to be much more expensive in real terms to get the needed higher fuel efficiency for 10 years into the shift. But beyond that, it would be science fiction, they could have a “plan” to move to a new technology (lighter-than-air dirigibles for example) but any costing would be fantasy.
I am not trying to shoot you down here, just asking how you would address the difficulties with predictions. It would have seemed absurd three decades ago to propose reducing CO2 output by a third by switching a manufacturing energy source from gas to electricity – the majority of electricity came from fossil fuels. But as changes in technology have turned out, electricity generation is heading towards 50% coming from renewable or other non-CO2-producing sources. (To be fair, I don’t know what those numbers would look like with proper end-to-end carbon accounting).
Jonathan
You ask a question that is, in accounting terms, not difficult to answer. The fact is that estimation of liabilities arising at least 30 years hence is entirely normal within accounting. For example, every pension fund includes estimates of liabilities arising much further into the future than that. Despite that, pension fund accounts are customarily incorporated into the accounts of their sponsoring employer.
In addition, from the moment that a nuclear power plant is commissioned a provision is created for the cost of its decommissioning, the liability for which might last for centuries.
And, in another sector, it is normal for the environmental costs of making good the damaged created by mining and other types of mineral extraction to be included in accounts even though, again, these might be incurred a long time in the future.
So, how do we do it? We simply use best estimates based upon current knowledge, current technology, and currently anticipated time scales for the liabilities arising. Is it perfect? No, of course it is not. That, I entirely accept. But what I am proposing is no more likely to be wrong, if best efforts are used, than any of the above noted provisions.
I should add that auditors are also entirely used to expressing opinion on these provisions, so again, nothing that I’m asking them to do is beyond their current experience.
Richard
Thanks Richard, reassuring to know it is feasible.
With the future being unknowable in detail, but it being crucial to the planet that it moves in a low carbon direction, the question is how to steer it that way. Regulatory rules like these will be an important component (along with incentives provided by changes in subsidies and taxation). I just wish I had the confidence it will get there successfully, even though I am not very likely still to be around in 30 years to see.
I have to agree wholeheartedly with you.
Off setting is just laziness in my view – intellectual and effort wise.
It’s for people who just can’t be arsed and is more opportunistic than meaningful – it lacks authenticity.
Carbon offsetting seems to be a bit of a short term fudge prone to fraud of one sort or another. How many trees will be sold as offset time after time?
Another issue at present is the developed world offshoring carbon intensive manufacturing and production.
Maybe we should be accounting for carbon along a similar process as VAT. At each stage a product or material would accrue a carbon value. This would be added to by transporting , distribution and sales. At the end user the carbon account would be settled. Even a relatively small tax would reflect in the end price and therefore encourage suppliers in the chain to minimise carbon value to make their product more price competitive. It would also make it clear to the end user how “sustainable” a product is and would also allow a grossly importing country to be accountable for its true quantity of carbon creation.