August 24, 2020
In Part 1 of this blog series, we provided an overview of what carbon pricing is and how carbon pricing manifests at the market level when implemented by governments. This blog will focus on carbon pricing for individual companies and how it is being used for managing costs related to emissions reductions.
The impacts of the patchwork of jurisdictional carbon prices described in our previous blog have already had major impacts on hundreds of organizations around the world. As of 2019, “about 1600 companies disclosed that they currently use internal carbon pricing or that they anticipate doing so within two years”. Internal carbon pricing is the process of implementing a carbon price at an organization in order to operationalize and incorporate the cost of carbon into business decisions. Here is a summary of five methodologies that an organization could use to establish its internal carbon price:
This is a notional value that is chosen to be attached to carbon emissions from business activities and used as an internal management tool to support decision making. Attaching a shadow price to business decisions around CAPEX and OPEX can help an organization to assess its climate risk exposure as well as understand how external/jurisdictional carbon pricing could potentially impact its operations and supply chain. One way to implement a shadow price is to add an expense line item on projected income statements, so potential investments that have a big carbon footprint will show a reduced net income projection as compared to low-carbon investments, and thus guide internal decision making. The key to success in shadow pricing is to influence strategic planning, risk management, and capital investment decisions, and surface the otherwise invisible long-term impact of carbon emissions. Two examples of organizations that have been using a shadow price for over a decade now are oil and gas company, Shell, and mining company, BHP.
This method is based on an organization’s existing efficiency and/or emissions reduction initiatives because these projects have associated costs and are an implicit price for emissions reduction. Therefore, any organization that has public or private emissions reduction targets, or other organizational goals to continuously improve operational efficiency, is already using an implicit price for its carbon emissions. In fact, organizations that are already implementing emissions reduction projects, but not with an explicitly stated internal carbon price, likely have several different implicit carbon prices because the cost of different projects varies drastically. An organization should compile a list of emissions reduction projects and their associated costs, and build marginal abatement cost curves to help prioritize high impact projects. By explicitly stating an implicit carbon price, all emissions reduction opportunities can be systematically evaluated based on a threshold cost-effectiveness per unit of carbon emissions, or be implemented at a stated average ‘blended’ cost. Perhaps the most well-known organization using this approach is Microsoft.
Organizations should pursue mitigating transition risks associated with climate change similar to other competitive issues in their industry/industries. An individual organization can stay ahead of the competition by using an internal carbon price that is higher than its peers, and thus improve the business case for developing new innovative products and services. The internal price on carbon can also help an organization to future-proof its assets and investments against climate regulation.
As of May 2020, the World Bank counted over 60 carbon pricing initiatives implemented and scheduled for implementation around the world. Many other jurisdictions are monitoring the existing carbon tax and ETS programs to assess their effectiveness and consider their own options to implement carbon pricing. Organizations should consider adding new or updated jurisdictional carbon pricing to their regulatory policy tracking and use data analytics to support these efforts.
While this is not the primary methodology that any individual company has followed to establish its own internal price on carbon, we would be remiss to not mention this carbon pricing methodology. The social cost of carbon is a measure of the economic harm to society from climate impacts, expressed as the net present dollar value of the total damages from emitting one ton of carbon dioxide into the atmosphere. The current central estimate of the social cost of carbon is over $50 per ton in today's dollars. However, the full range of social costs of carbon can vary drastically from one dollar to over $200 per ton of carbon dioxide depending on model inputs and social costs included. This methodology has been used by some government agencies as an internal tool for calculating the impacts and costs of their initiatives.
Regardless of which methodology is used to facilitate internal carbon pricing at an organization, it is worth noting that the stated carbon price can be shifted over time as organizations internalize the costs associated with carbon emissions. The most appropriate methodology for an individual organization will depend on its business objective(s) for establishing and operationalizing an internal price on carbon. Table 1 below shows a list of business objectives to navigate climate risks on the path to achieving a low carbon economy and the associated pricing mechanisms.
Table 1. An organization’s goal for internal carbon pricing can include one or more of the mechanisms listed below. The corresponding pricing mechanism is meant to give greater definition to how each objective is manifested.
Take a moment now to think about which of the business objectives above resonates most with your organization and how your company will benefit most from getting started on its internal carbon pricing initiative. Can you tell which approach is the most suitable for your company? Our team at Sinai Technologies is eager to discuss the best approach to starting your organization’s internal carbon pricing dialogue, as well as share with you how our platform can support your emissions and price modeling, and help you adapt your decarbonization potential by uncovering insights from your carbon data.
Sinai Technologies Inc. is helping companies to mitigate climate change by enabling more intelligent carbon emission measurement, monitoring and trading. We are building the world’s first platform-as-a-service to measure, price and evaluate carbon risk, using science-based methodologies and artificial intelligence. For more information and to schedule a demo, visit https://www.sinaitechnologies.com/request-a-demo.
1. CDP. “CDP Disclosure 2019”. Retrieved from https://www.cdp.net/en/climate/carbon-pricing/carbon-pricing-connect.
2. Partnership for Market Readiness. (January 2015). “Preparing for Carbon Pricing: Case Studies from Company Experience: Royal Dutch Shell, Rio Tinto, and Pacific Gas and Electric Company”. Retrieved from https://openknowledge.worldbank.org/bitstream/handle/10986/21358/PCP.pdf?sequence=4.
3. Ahluwalia, Majyot Bhan. (September 12, 2017). “Companies set their own price on carbon”. Center for Climate and Energy Solutions. Retrieved from https://www.c2es.org/2017/09/companies-set-their-own-price-on-carbon/.
4. Smith, Brad. (January 16, 2020). “Microsoft will be carbon negative by 2030”. Microsoft. Retrieved from https://blogs.microsoft.com/blog/2020/01/16/microsoft-will-be-carbon-negative-by-2030/.