Download The Role of Carbon Accounting in Corporate

The Role of Carbon Accounting in Corporate Carbon
Management Systems: a Holistic Approach
Qingliang Tang*
Western Sydney University
Working Paper
*Contact details: Dr. Qingliang Tang, School of Business, Western Sydney University, Locked Bag 1797, Penrith,
NSW 2751, Australia, E-mail: [email protected], Tele: 61 2 9685 9465
I thank the participants of the workshop at the University of Sydney, Western Sydney University, Tsinghua
University, Shanghai University of Finance and Economics, Honk Kong Baptist University, University of Hu Chi
Ming City, Annual Conference of The Accounting Society of China in 2014, Annual Conference of The
Environmental Accounting of the Accounting Society of China in 2014, Shanghai Maritime University, Nanjing
University of Finance and Economics, Western and Eastern University of Finance and Economics, for their
useful comments for an early version of the paper. The financial support from the School of Business, Western
Sydney University for the research project is gratefully acknowledged.
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The Role of Carbon Accounting in Corporate Carbon
Management Systems: a Holistic Approach
Abstract
Climate change is a complex phenomenon and a serious challenge but the role of
accounting for global warming is not made clear. The paper proposes a broad concept of
carbon accounting which refers to a system that uses accounting methods to record and
analyse climate change information, and account and report for carbon related assets,
liabilities, expenses and income for the decision-making of users. In addition, the paper
adopts a holistic approach to describe the functions of carbon accounting and shows how it
can play a role for the construction of carbon management systems and how carbon
information may be used for evaluation of energy efficiency, carbon productivity and
disclosure of carbon reduction activities. Carbon accounting is conceived of multidimension subject and we need innovative and creative approaches to develop carbon
accounting framework, methodology and workable programs. Carbon accounting should be
built based on knowledge and techniques from all aspects of accounting, including financial
and management accounting and auditing. Finally, the paper concludes that carbon
accounting is in its early stage and elaborates future research opportunities.
Key words: carbon accounting, climate change, carbon management systems,
I.
INTRODUCTION
There is growing unequivocal scientific evidence on the effects of human activity in general,
and of GHG emissions in particular, on global warming that would worsen the already
deteriorating ecological environment (IPCC 2013). The negative impact of climate change on
economy, social activities and people’s health has already been emerging and the trend
toward a low carbon economy has been beginning. Carbon reduction initiatives and
corporate emissions reporting have expanded rapidly across firms in response to
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institutional demands and value creation considerations. The regulatory and market-driven
changes are expected to have a major impact across a wide variety of industries (Tang and
Luo 2014). Aside from mandatory compliance, firms need to cope with rising investor
demands for transparent and credible exposure to carbon levels and associated abatement
costs (PriceWaterhouseCoopers, 2012) and have to incorporate the assets, liabilities and
risks associated with managing GHG emissions into traditional accounting, governance and
control mechanisms (Deloitte, 2009; CIMA, 2010; Ernst & Young, 2010, Hartmann, et al,
2013). Although there is some anecdotal evidence that suggests an increasing effort to
incorporate carbon accounting into traditional decision and reporting processes (Hartmann
2013), research with a carbon accounting focus is lacking. Given the paucity of current
(academic) studies the concept of carbon accounting is not clear. There is a dearth of
knowledge (Ratnatunga and Balachandran, 2009) and scant evidence of the due technical
process required and the effort that is expended by accountants in that regard (Hartmann
2013). This article attempts to review the extant literature and identify key theoretical and
empirical shortcomings and then outline some essential elements of carbon accounting. The
paper specifies the main empirical and theoretical challenges underlying this novel
accounting area which are likely to be the directions for future studies. Most specifically the
article focuses on a number of questions that emerge from accounting for implementation
of carbon management system and emission trading scheme. A case can be made that
calculation, including that of new forms of accounting, is likely to be a significant feature of
a world not only conscious of environmental issues and constraints but also committed to
achieving a more harmonious relationship between the human and natural worlds
(Hopwood 2009).
Accounting for sustainable development necessitates the broadening of these short-term
economically-oriented accounting practices to incorporate not just direct short-term
economic interactions and impacts but also to incorporate the direct interactions and
impacts between the organization, the society in which it operates and the natural
environment. Carbon accounting therefore plays a key role for this end. The purpose of the
paper is to discuss the objectives and contents of carbon accounting (CA). First, the paper
offers an operational definition of CA:
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Carbon accounting is a system that uses accounting methods and procedures to collect,
record, and analyse climate change related information, and account and report for carbon
related assets, liabilities, expenses and income for the decision-making of internal managers
and external stakeholders.
The aim of this approach is to distinguish carbon accounting more clearly from any putative
accounting for sustainable development in general and for environmental accounting in
particular. Carbon accounting is expected to address problems that are driven by a
particular confluence (interaction) of aspects in particular settings (such as ETS). Various
motifs that characterise a carbon management science approach have been outlined and
constellations of governing activities of a typical carbon management system have been
identified. The paper then elaborates the importance and objectives of CA for the carbon
management for firms that want to control its emissions, and particularly those that
participate in a carbon emission right trading market. The paper then provides detailed
methodology that can be applied for firms to improve its climate change strategy and
carbon management system to achieve carbon reduction targets.
Climate policy is an extremely broad issue, thus the need to substantially reduce GHG
emissions not only mobilises governments and private sectors, but also requires that
millions of organizations and individuals change their production procedure, consumption
patterns and life style, which implies changing an economic system to meet a threat that lies
at present and in the future (Giddens, 2009; Levy & Egan, 2003). The issue is both wider and
deeper than other national and international issues, touching all areas of human life and
fundamental human beliefs and values (Hoffman, 2011a, 2011b). To achieve this goal will
require the efforts of the entire society, and accountants and auditors are expected to
position themselves as managers of carbon control and implementation of climate change
strategy (Lovell & MacKenzie 2011). For that purpose, there are many challenges. For
example, a mix of theories about the role of calculation, measurement and expertise in
governance needs to be developed to explain the situation about accountancy and society,
epistemic communities, and governmentality.
The research for the role of accounting for climate change is still in its early stage. The main
purpose of the paper is to identify the key areas in which accounting can make contribution.
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The paper critically discussed and reviewed the theoretical frameworks in previous studies
judged to be most relevant and illuminating in relation to exploring the response of
accountants to global warming centre on issues of measurement, calculation, expertise, and
disclosure from various accounting, management and economics literatures. These diverse
literatures are especially helpful in thinking about how the application of accounting
principles and techniques can be used for carbon accounting purpose. The paper suggests
traditional accounting methods such as double entry book keeping, financial reporting in
quantitative and narrative formats, disclosure and discourse (e.g. the discursive positioning
of climate activities of carbon intensive entities) should be useful. But new approaches and
theories need to be developed.
In recent years, the role of carbon accounting for corporate carbon management systems is
becoming central. There are, at least, two implications: first, innovation in our modes of
thinking is required to address more intractable problems of measurement and disclosure of
carbon related assets and activity. Second, the academy has explored how knowledge is
created, validated and translated alongside policy and practice settings and a stream of
work (carbon management systems) has emerged which investigates how disciplines might
develop knowledge that progresses carbon control for sustainable development. The aim of
this paper is to explore what opportunities emerge for accounting in light of a carbon
management approach. To achieve this end the paper starts with an examination of the
frustrations expressed in the existing literature over the perceived lack of progress made by
environmental accounting towards addressing carbon control in particular and sustainability
in general. The paper then discusses how an accounting for carbon management can
emerge with some illustrations of how a holistic approach can be adopted to develop
carbon accounting for carbon mitigation.
As carbon control has been an exigency for business sustainability, it seems entirely
apposite to consider a need to develop an accounting system specifically for the operation
of carbon management system. From the overlap between the management accounting
(e.g., Atkinson, Waterhouse, & Wells, 1997; Henri, 2006a; Henri, 2006b) and the
environmental literature, the paper proposes the carbon accounting concept and
methodology and provides insight of how to consolidate into the roles of accounting in a
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context of ecologic sustainability and foster transparency and accountability of carbon
control activity. The focus on the various aspects of carbon accounting creates the
opportunity for a more nuanced appreciation of the association between carbon accounting
and dimensions of carbon management systems. In particular, using a holistic perspective,
the paper emphasises the interplay of many elements of accounting makes up a functioning
whole of carbon accounting.
The paper is structured as follows. The next session summarise the current literature on
holistic research approach with a focus on why carbon accounting should be studied
separately. Section III describes carbon accounting elements for carbon management
systems at firm level. This section explains how carbon accounting can strengthen corporate
carbon management systems and what are the potential challenges and difficulties facing
professional accountants. Section IV is a conclusion.
II LITERATURE REVIEW
Holistic research approach
Holism in science, or Holistic science, is an approach that emphasizes the study of complex
systems. This methodology is in contrast to a purely analytic tradition (sometimes
called reductionism). The traditional analytic methodology aims to gain understanding of
systems by dividing them into smaller composing elements and acquiring knowledge of the
system through understanding their elemental properties. Instead, the way of doing science
under holism, is sometimes called "whole to parts," which focuses on observation of the
specimen within its ecosystem first before breaking down to study any part of the specimen
(Goethe 1772).
The term holistic science has been used as a category encompassing a number of scientific
research fields (e.g. climate change science). This approach has several distinct features.
First, they are multidisciplinary. Second, they are concerned with the behaviour of complex
systems. Third, they recognize feedback within systems as a crucial element for
understanding their behaviour. The Nature Institute, a research institute in holistic science,
describes the necessity for Holism in science as follows: “Modern science has increasingly
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moved out of nature and into the laboratory, driven by a desire to find an underlying
mechanistic basis of life. Despite all its success, this approach is one-sided and urgently calls
for a counterbalancing movement toward nature. Only if we find ways of transforming our
propensity to view and control nature in terms of parts and mechanisms, will we be able to
see, value, and protect the integrity of nature and the interconnectedness of all things. This
demands a contextual way of seeing." "About the Nature Institute". Archived from the
original on November 23, 2010. Retrieved May, 2015.
The Santa Fe Institute (SFI), a centre of holistic scientific research in the United States,
expresses it in this way: “The two dominant characteristics of the SFI research style are
commitment to a multidisciplinary approach and an emphasis on the study of problems that
involve complex interactions among their constituent parts. "Santa Fe Institute's Research
Topics". Archived from the original on January 15, 2006. Retrieved May, 2015. This approach
has been adopted in a number of areas. For example, researchers in Ecology ( or ecological
science) study the ecology at levels ranging from populations, communities, and ecosystems
up to the biosphere as a whole. Also the study of climate change in the wider context
of Earth science (and Earth system science in particular) can be considered holistic science,
as the climate (and the Earth itself) constitutes a complex system to which the scientific
method cannot be applied using current technology (James Lovelock 2000).
Holism in science emphasizes two central aspects. First, the way of doing science is from
"whole to parts". Second, the researcher is not a passive observer of an external universe
and there is no 'objective truth'. Rather the individual is in a reciprocal, participatory
relationship with nature, and that the observer's contribution to the process is valuable.
Goethe developed a holistic methodology outlines (Goethe 1772) and Rudolf Steiner
presents Goethe's approach to science and lays the groundwork for a holistic epistemology
(Rudolf Steiner 1978). Alternative to reductionism approach, the holistic premise is that
there is a possible qualitative difference between an entire system and its parts, so that
modularisation may fail. Bohm pointed out: "ultimately, the entire universe (with all its
'particles,' including those constituting human beings, their laboratories, observing
instruments, etc) has to be understood as a single undivided whole, in which analysis into
separately and independently existent parts has no fundamental status." (Bohm, 2002).
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Holistic science sometimes asks different questions than a strictly analytic science. For
example, Goethe contends “we conceive of the individual animal as a small world, existing
for its own sake, by its own means. Every creature is its own reason to be. All its parts have a
direct effect on one another, a relationship to one another, thereby constantly renewing the
circle of life; thus we are justified in considering every animal physiologically perfect.
Viewed from within, no part of the animal is a useless or arbitrary product of the formative
impulse (as so often thought)” (Goethe,J. Scientific Studies, Suhrkamp ed., vol 12, p. 121;
trans. Douglas Miller).
Implication for carbon accounting study
The paper pursued holistic approach (HA) to carbon management system (CMS) that is
sensitive to and illuminates its complexity. The HA is pluralistic in that it recognises diverse
sources, flavours and types of elements. HA engages in a reasoned weighing of a brand
variety of factors, including the circumstance. The results tend to be more nuanced and
flexible. HA yields more careful, balanced and complex view of these issues. HA balanced
CMS elements and that should inform our thinking about the pressing issues as legitimacy
versus signalling.
This holistic framework contains four inter-related dimensions that collectively can be used
to gain insights into how carbon accounting framework is built from existing accounting
literature. These four dimensions are: how each element of carbon accounting constructs
their own relevant programmatic discourses; how organisations select and/or construct
mediating instruments to channel the low carbon programmatic into their local
organisational accounting processes and practices; how entities construct and embed
hybrids of accounting and auditing into their governing processes for carbon mitigation
management; and finally, how effectively these accounting- carbon management hybrids
translate the low programmatic into organisational governing processes.
Adopting our holistic framework enables the researcher to observe sequences of interconnected transformations. The holistic framework developed in this paper provides
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additional insights into our theoretical understanding of how to facilitate the development
of more effective assemblages of accounting-auditing-carbon management hybrids and how
to analyse their emergence in practice.
Under a holist approach an individual part of the whole system can be defined by its own
substance plus its relationship with other parts. For example, finance reporting is one of the
elements of the entire accounting system. Financial reporting is intended to communicate
with the people inside and out of the reporting entity. The reporting function is inherent
within the accounting system, but the reporting is not for the entity’s accounting system
itself. Thus, the reporting function is therefore depends on the relationship between the
entity and other stakeholders and it is the relationship that determines the nature, extent
and contents of the financial reporting. In other words, the relationship with external parts
will affect the definition of the financial reporting element of accounting system.
A holistic approach of carbon accounting system is conceived of a comprehensive and
integrated mechanism. First, all the parts of carbon accounting systems are correlated with
each other. Second, the communication, interaction, interrelatedness, interdependence,
interconnectedness and feedback between components and parts of the system are crucial.
Third, the nature of each component of the carbon accounting system and the relationship
between a particular component with other component determines the function of
component (element).
This holistic framework contains inter-related dimensions and perspectives that can be used
to gain understanding of how carbon accounting can help improve carbon management
systems individually and collectively. That means the interplay of many elements of carbon
management system and carbon accounting make up a functioning whole.
The attention paid to carbon-related issues in the carbon management literature is limited
(Epstein, 2008, Ahrens and Dent, 1998). There is, however, an increasing interest in this
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area 1 concerning various aspects of carbon accounting for climate change (e.g. Milne, and
Grubnic 2011, Engels 2009). This literature may be classified into two main broad streamsalbeit with some overlapping studies and blurring between these streams. The first stream
concerns the philosophy of accounting for sustainability and the second stream considers
the operational aspects of accounting for carbon control. Regarding the first stream, Burritt
and Schaltegger (2010) show that there are two opposing perspectives regarding
sustainability accounting and reporting. The first view is the ‘critical approach’, which
maintains that sustainability accounting and reporting is a ‘fad’ that will fade over time.
Proponents of this approach (e.g. Gray 2010) contend that the very notion of being able to
account for the biosphere and its sustainability is at odds with the objectives corporations
that ‘thrive’ in a capitalist market system. The second approach suggests sustainability
accounting provides tools to measure and manage areas outside traditional financial
accounting and assist decision-making by internal and external stakeholders (Young 2011).
Proponents of this perspective attempt to demonstrate relationships between social and
environmental performance and economic performance (including stock market valuations)
suggesting elements of sustainability can be highlighted and/or addressed through existing
market mechanisms. In sharp distinction, opponents of this philosophy argue that social and
environmental unsustainability is largely a consequence of the capitalist system and thus,
sustainability cannot be achieved unless a radical or fundamental reform for capitalism
takes place. Therefore, some authors contend that accounting probably has little to do to
protect the environment. This is because accounting is under the control of companies and
profit maximising companies are held to be responsible for the damage of environment. So
any attempt to offer some alternative account would be doomed to create more harm than
good (Gray 2010). Such a pursuit is suggested in the clear recognition that so much of
accounting is under the control of those whom it purports to hold to account, accounting, as
an element of the market system is unlikely to play a role for environmental protection.
However, most of the authors appear to seek to constructively but critically engage with
businesses and other organizations to help them identify a range of social and
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See recent special issues on carbon accounting in Critical Perspectives in Accounting Vol. 19, No. 4, 2008; the
European Accounting Review , Vol. 17, No. 4, 2008; Accounting, Organizations and Society , Vol. 34, Nos 3–4, 2009, and
Accounting, Auditing &Accountability Journal Vol. 24, No. 8, 2011. Note Accounting, Organizations and Society Vol. 39,
2014 is devoted to sustainability accounting which is also related to carbon accounting.
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environmental sustainability risks and opportunities and make changes to the way they
operate in a direction intended to result in less unsustainable operations. (Editorial,
Academic contributions to enhancing accounting for sustainable development. Accounting,
Organizations and Society 39 (2014) 385–394). More specifically, this argument implies
researchers should critically engage corporations to participate in carbon abatement
programs (Hopwood, 2009, Bebbington and Larrinaga, 2014). We thus argue that given the
changes in government policy, customer preference and societal expectation, we are
moving to a low carbon economy. That means firms will operate in an entirely new
environment that requires new management philosophy, policy and operating system. Then
companies do have incentives or under pressure to alter their behaviour to improve their
carbon management system and to minimise their exposure to carbon risk and liability.
This paper is largely concerned with the operation of carbon accounting at firm level. Many
studies consider the impact of global warming, carbon market and carbon regulations on
corporate accounting practices (Bebbington and Larrinage-Gonzalez, 2008, CIMA 2010,
Harmann, et al 2013, MacKenzie, 2013; IETA 2007, Cook 2009). For example, authors
address the issues such as the market effects of carbon emissions (Matsumura, et al 2014,
Chapple et al 2013), carbon assurance and auditing (Simnett et al 2009, Olson 2010,
McKinnon 2010), carbon cost accounting and carbon management accounting (Broome
1992, Ratnatunga 2007, 2008; Ratnatunga and Balachandran 2009; Ratnatunga et al 2011),
carbon disclosure, (Reid et al 2009), etc. The generally accepted view is that GHG accounting
is a huge challenge to accountants and accounting academics (Young 2010). Ratnatunga
(2007; 2008) and Ratnatunga and Balachandran (2009) describe how carbon-related
information could affect and control in various organizational areas (new product
development, supply chain management, marketing and so forth). Basically, Ratnatunga and
Balachandran (2009) point to strategic cost management and strategic management
accounting practices that may be affected by carbon accounting. Carbon costing consists of
a combination of advanced cost allocation techniques (like activity-based management and
life-cycle costing) that improve the identification and assignments of carbon-related
expenses and overheads to such objects as products, services, customers and organizational
processes (Ratnatunga and Balachandran, 2009, p. 343). In strategic management
accounting, issues are organized under general headings such as ‘business policy’, ‘human
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resource management’ and ‘marketing strategy’ (Ratnatunga and Balachandran, 2009, pp.
345–7).
In addition, the Chartered Institute for Management Accountants (CIMA) and Accounting for
Sustainability (CIMA, 2010) conducted an international survey among sustainability
professionals to investigate the role that climate change is having in shaping the
management accounting profession. The survey highlights the potential beneficial effects of
integrating carbon management in carbon accounting systems. The survey provides the
various reasons for, and obstacles against, the integration or even merging of environmental
accounting and traditional accounting. The study documents that management accountants
could have a role in areas such as carbon footprint calculation, tracking climate change
performance measures/KPIs, preparing the business case for climate change initiatives and
carbon accounting/budgeting. The CIMA (2010) study also documents that management
accounting has potential to support environmental management with its traditional
portfolio of tools (e.g., cost-benefit analysis, investment appraisal, Balanced Scorecard).
Overall, while such a research stream provides a promising area for theory testing, this type
of empirical research necessarily must rely on reliable and valid information about GHG
disclosures. From several commentaries (Bebbington and Larrinaga-Gonzalez, 2008; Ertimur
et al., 2010; Young, 2010), this seems not to be the case. Hartmann et al (2013) argue that
there is a need to establish some solid foundations, starting from a more thorough
understanding of internal mechanisms of carbon accounting and it seems appropriate to
examine how carbon accounting is deployed internally and how it relates to externally
oriented accounting systems. Currently, there is no theory, let alone empirical evidence, to
explain the extent to which environmental management goals and traditional firm goals are
both supported via one integrated management accounting system (Perego and Hartmann,
2009).
In sum, increased GHG emissions disclosure represents an emerging imperative for many
companies; however, there is a dearth of knowledge about their transition towards carbon
management and their attempt to align it with management accounting and performance
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measurement systems (Ratnatunga and Balachandran, 2009). Moreover, there is scant
evidence of the due technical process required and the effort that is expended by
accountants and financial managers in that regard. Although the aforementioned
practitioner surveys suggest a large (potential) impact of carbon accounting in accounting
practices, the magnitude and direction of the impact is less obvious and provides a relevant
and timely avenue for academic research.
Carbon accounting (CA) versus environmental accounting (EA)
While the importance of carbon accounting is gradually recognised, the distinction in the
concept and contents between carbon accounting and general environmental accounting is
not clear. We argue that carbon accounting refers to a set of accounting methods and
procedure that can be used to address climate change related issues, and account for
carbon related assets, liabilities and disclosure. The first question is: given the large body of
environmental accounting literature why carbon accounting study is necessary?
Theoretically, EA and CA are inherently correlated. This is because EA is a broad, generic and
multiple-dimension concept, whereas CA is a constitutive component. EA refers to the
principles of environment protection that guides practice. If managers are not interested in,
or do not understand the importance of, environmental protection, firms will not have
carbon reduction target. However, different companies may face different environmental
issues. Thus, for a particular firm, the EA is always intended to address specific
environmental issue (s). For example, firms with heavy emissions may consider GHG is the
most serious environmental threat and the firms will have a carbon management system
(CMS). Other firms that have water pollution problem may have a water management
system (WMS) instead of CMS. Water management system and CMS are regulated by
different laws. Thus, the incentives or pressure for water management and carbon
management should be different, at least theoretically. For example, ETS and carbon
exposure may drive the quality of CMS, but have nothing to do with water management
system. Similarly, what affects water management practice may be totally different from
that for CMS. Thus, a separate study for specific EMS, should advance our knowledge about
overall environmental protection practice.
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Despite the research in accounting journals on carbon mitigation accounting is emerging,
many issues are not adequately discussed and debated. Meanwhile, the market for carbon
accounting and assurance is burgeoning. Thus, Tang and Luo (2014) argued that GHG
emission differs from other types of pollutions and it has a unique effect on global warming
(Lash & Wellington, 2007, IPCC, 2013). In addition, corporate carbon strategy is guided by a
different set of regulations with its own requirements and criteria (Luo, et al., 2013) 2. In
response to these increasingly stringent carbon regulations and standards, firms are
expected to commit financial resource , acquire specific capability and adopt a carbon
management system (Walls, Phan, & Berrone, 2011). Finally, CA can be employed by
overwhelming majority of organisations because carbon emissions are ubiquitous across all
firms, sectors and countries, as climate change and the related legislations can affect all the
businesses and organisations, directly or indirectly. As our society moves to a low carbon
economy, a dissemination of CA knowledge is complementary to the environmental
literature rather than redundant. The study on CMS can help not only managers of firms
with heavy emissions, but also other firms that are not immediately affected, but still intend
to take proactive, forward looking policy.
Therefore the question is how accounting can help? The paper argues accounting can
provide some technical support for company’s carbon policy with traditional and new
approaches and methods to reduce its operational carbon emissions. Particularly the study
is the first attempt in the literature to examine the association between the link between
elements of CMS and the function of carbon accounting.
III CARBON ACCOUNTING AND CARBON MANAGEMENT SYSTEMS
Objectives of carbon accounting
The major objectives of carbon accounting is to assist managers to formalise climate change
strategy, identify and control climate change risks and opportunities, improve carbon
management system and achieve carbon reduction targets (Tang and Luo 2014). All aspects
2
For example, ISAE3410 prescribes detailed standards on an independent GHG statement assurance. According to IAASB,
ISAE 3410 provides requirements and guidance specific to engagements on GHG Statements assurance. ISAE 3410 was not
effective until September 30, 2013.
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of traditional accounting knowledge and techniques can be utilised to make contribution:
financial accounting (e.g. accounting for carbon assets and liabilities, carbon disclosure etc.
Luo and Tang 2013), management accounting (e.g. carbon reduction cost control, carbon
project budget, evaluation of carbon investment, etc, Tang & Luo 2014), and auditing (e.g.
GHG statement assurance, Datt, et al, 2015, Tang 2015). However, there are inevitably
challenges to traditional accounting methodology because carbon accounting also covers
non-financial (so-called ‘narrative’) disclosure of corporate climate impact (Luo et al 2012)
and carbon benchmarking (Aldersgate Group 2007).
It is our contention that there is a consilience between the ambit of carbon management
mechanism and scope of carbon accounting. Firms must adopt certain type of carbon
management system if they have carbon mitigation target. We argue that the
implementation of the carbon management systems largely depends on the function of
carbon accounting. However, these is scant discussion of how accounting can help
implementation of carbon management systems in a systematic way. This is largely because
there is lack of study on carbon management systems and firms do not adopt standard CMS.
So our discussion is based on a theoretic model of CMS which represent the practice of the
largest companies in the world that participated in CDP (Tang and Luo 2014).
The paper considers the major objective of carbon accounting is to help improve firm level
carbon management system (CMS). But what is carbon management system? Tang and Luo
(2014) conducted the first study that identified what constitutes an efficient CMS and
empirically evaluated its effect. CMS is defined by Tang and Luo (2014) as “a way to
implement a firm’s carbon strategy or policy to enhance the efficiency of input-use, mitigate
emissions and risks and avoid compliance costs or to gain a competitive advantage”. Their
theoretical model of carbon management system contains 10 basic elements within 4
perspectives, (i.e. carbon Governance, Operation, Emission Tracking and Reporting,
Engagement and disclosure). The current paper suggests that carbon accounting can play a
key role in designing, implementing and evaluating a CMS. In the following section, the
paper elaborates the details of the methodology of carbon accounting for CMS.
1: Overall carbon governance and board function
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The first element of the CMS proposed by Tang and Luo (2014) is the establishment of a
board function for carbon governance to ensure a sound carbon policy and provide
oversight for its implementation. Board of directors has the ultimate responsibility and the
power to develop an overall climate change strategy, set mitigation targets, establish
stimulation and incentive policies, deploy resources and to prioritise actions for mitigation
purposes. Counsel such as this might suggest that plurality of truly divergent components of
carbon management system can only remain coherent in a solid corporate governance
mechanism.
However, the carbon policy is likely to be a difficult decision due to inherent uncertainty
and conflict of interest of variety of stakeholders involved in the process of the decisionmaking (Lin et al 2014). For example, Reid and Toffel (2009) show private and public
political pressures can affect corporations’ carbon decision and it appears public politics
may moderates private politics in the decision-making process regarding carbon activity. It
cannot assume that organisational carbon legitimization and carbon accountability are
always consistent with organisational objectives, and there can be a constant tension
between carbon management and existing organizational culture or managerial priorities.
So when carbon management is seen as constraining to business activity or profit-making,
operational managers will bias towards their prime objective and the responsibility of
navigating this tension falls to the environmental manager. Previous studies document that
in some organization, there seems to be multiple norms at play, with top management
prioritizing profit making and operational levels concerned with the environment, or vise
versa. Some managers may have negative views or are ambivalent about carbon controls
because they are skeptical about climate change. Staff perception is often contingent upon
top management commitment and the amount of resources dedicated to carbon mitigation.
It has been well established accounting information is essential for the decision-making of
managers. It is now extended to the decision-making of board of directors for none financial
aspects such as sustainability and carbon control. Communication of climate information
and energy consumption data at all levels of the organisation is crucial for a long term and
overarching climate strategy. Carbon accountants can play a key role to provide the board
and its committee with sufficient and well-organised carbon accounting data to help an
informed debate and so an impartial opinion and final decision can be made. Carbon
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accounting can help in two ways. First, it can help to formulate a sound proactive carbon
strategy. Second, it can provide assistance for the implementation of the carbon policy. It
can be argue that carbon accounting should more actively participate in the process of
formulation of carbon policy and the provision of the quality and quantity of carbon
information by carbon accounting system can affect the decision-making of board of
directors. Thus, carbon accounting is expected to be a part of the overall carbon governance
mechanism. In addition, carbon accounting should help the board to enforce the policy via
providing feedback information in a timely manner to evaluate the effectiveness of the GHG
strategy. Participation of carbon accounting at the top level of decision-making is particularly
useful in situations with high degree of uncertainty and the interest of stakeholders are not
congruent.
2 Carbon risk assessment
Tang and Luo (2014) identify carbon risk assessment as the second element for a wellfunctioning CMS. This is a formal procedure to identify and assess carbon-related risks and
opportunities and the significance of their impacts on products and financial results. CDP
indicates entities often face three categories of such risks, i.e. regulatory, physical and other
risks (CDP 2013). Changes in government climate policy are often the main source of carbon
risk but also create business opportunities. Risks/opportunities can typically be evaluated
through regular review of climate-change science and its application to existing assets and
properties. Some firm has an integrated risk-management approach that is consistent with
ISO 31000 (risk-management standards), the Enterprise Risk Management-Integrated
Framework (COSO). They measure the materiality of risk exposure in accordance with the
following consequence categories: financial; business interruption; customer impact;
reputation; regulatory/legal; environmental and health and safety. An escalation process is
followed that will determine the level and urgency of board attention based on the assessed
degree of materiality (Tang and Luo 2014).
Accountants are needed to involve in the process. The risk analysis methods frequently
advocated in financial accounting and management accounting literature should be very
relevant for the analysis of climate change related risks and its financial impact. These
methods can be applied through the development of a scenario analysis that models the
17
financial and monetary effects of government policies and public sentiment such as the
voluntary switching to renewable energy and, or to low carbon products. Although
traditional management accounting methods are ready for execution of the task, they are
often inadequate. For example, the introduction of ETS may have direct or indirect, long
term or short term impact so a new set of analytical methods may be necessary to carry out
meaningful analysis.
3 Staff involvement in carbon reduction initiatives
Firms often adopt an incentive mechanism to encourage staff engagement and
participation in carbon reduction initiatives. Having managers with a personal predisposition
towards carbon control complements firms’ efforts to achieve emission targets. Thus, this
element of CMS develops employee commitment by clearly assigning accountability and
responsibility, and providing stronger motivations. Increasing managerial awareness may
lead to improved individual performance (Etzion, 2007), intensive and broad staff
participation (Cole, 1991; Hart, 1995) and team production (Willig, 1994). Rewards for
outstanding performance steer reduction by acting as an ex ante signal about what
outcomes are desired that will unlock the potential of employees and allow optimal
behaviours to arise and continue (Brammer and Pavelin, 2006). Such a CMS may embed
climate-change considerations into remuneration and promotion package, which incentivise
responsible officers to achieve or exceed expectations.
Incentives refer to the integration of environmental criteria in the evaluation process to
direct managerial effort towards carbon reduction activities, and eco-control is used to
guard against undesirable behaviour and to encourage desirable actions (Merchant, 1982).
Carbon accounting can use management accounting methods to evaluate staff carbon
performance. Typical examples include staff performance management by expectation,
balanced score card, integration of standard energy cost with production process, analysis
of variances between actual and planed energy cost and consumption. These methods are
designed to precisely measure performance by providing rewards and feedback, permitting
18
staff to take corrective actions when the indicators show a discrepancy between actual and
desired results.
However, carbon reduction benefits are often long term and the mitigation initiatives may
not generate direct financial results (Tang and Luo 2014). Luft (2009) discusses challenges in
using combinations of accounting/financial and nonfinancial indicators, namely the accuracy
of measuring nonfinancial performance and the appropriate weighting required to ensure
balance across financial and nonfinancial measures. Carbon accounting faces the similar
challenges. In order to capture the relation between a firm’s carbon usage and its
underlying business activities and motivate continuous improvement, Hoffmann and Busch
(2008) and Busch (2010) propose four corporate carbon performance indicators that include
the physical (nonfinancial) and monetary (financial) dimension of performance, as well as
current and future performance. For example, on the financial side, they derive monetary
implications of carbon intensity from a static perspective (labelled as carbon exposure) and
a dynamic, long-term perspective (carbon risk).
Thus, the purpose of the accounting mechanism is to shift the attention of short-horizon
managers towards the long-horizon interests of the firm in alignment with climate strategies.
However, even it may be appropriate to make salaries or compensation vary with the
observed reduction of environmental risk, it may not always allow the change on
environmental performance measure to covary with the change in financial performance
measures (Baker, 2002, p. 736). Best known as the ‘Balanced Scorecard Philosophy’,
nonfinancial indicators are argued to be an effective antidote against managerial myopia,
which means managers are dysfunctionally inclined to pay attention to only the immediate
rather than the distant future effects of his decisions. Clearly, the area of environmental
performance in general and carbon accounting in particular is one area in which myopia
may be prominent. Thus, future studies can examine the cause-and-effect relationships and
the complex lead–lag relationships between carbon performance indicators and financial
performance measures (e.g. Dikolli and Sedatole, 2007). Since carbon emissions become a
tradable commodity and thus carbon market internalizes carbon performance of the firm, it
helps to understand the trade-off between non-financial and financial performance (Luft,
19
2009). But much needs to be done on how such performance indicators impact the decisionmaking of managers, which is an empirical issue of prime importance in future research.
4 Emission target setting
Setting carbon targets is an essential step towards to emissions control. A firm signals its
commitment by setting reduction targets for the staff and stakeholders. These targets are
necessary for framing and motivating effective actions (Pershing and Tudela, 2003). And the
targeted emissions will directly determine the level of committed investment and personnel.
The proper design of such targets can lead to measurable progress and trigger innovation
and technology development. This is a decision that has long term and significant impact on
firm’s future operation and profitability.
However, this is not an easy job. Prior studies suggest that carbon management
commitment is affected by many external and internal factors (Luo et al 2012, and 2013).
Management must make sure the carbon target is comparable to firm’s overall objective,
taking into account all relevant factors such as availability of resource and low carbon
technology. For those organisations that are required to participate an ETS, government
climate policy will have direct effect on target setting.
Organisations can have two major types of carbon reduction targets. The first category
refers to absolute targets as opposed to intensity targets. Absolute targets are set up to
reduce the absolute amount of emission from a basement year, while intensity target
considers the relative carbon emissions to its underlying business activities. For example, a
calculation of an intensity of carbon emissions is the total quantity of scope 1 and 2 divided
by total sales, income or the number of employees. Both absolute and intensity carbon
emissions and the related targets are used widely in practice and each has its advantages
and limitations. The ultimate objective of carbon activity is to reduce the absolute carbon
emissions so as to decrease in the degree of Co2 concentration in the atmosphere. However,
the intensity target is still a useful indicator which takes into account the output with a
certain amount of energy consumption and carbon emissions. Also a target is linked to some
benchmark such as previous year emissions, or the average emissions level in the industry
or in the nation where the company operates, so comparison in energy efficiency and
20
carbon productivity can be made. Carbon reduction targets should be reasonable, because
this is the standards for staff and department evaluation of the carbon performance. The
target that is too ambitious or too low would not achieve its objective of improvement.
Carbon accounting is expected to be involved in the process of carbon reduction target
setting. Carbon accounting must provide adequate historical data regarding firm’s energy
structure, cost and efficiency, carbon footprint. What is more, carbon accounting can give
careful calculation about the required financial commitment for the implementation of the
proposed reduction targets and what is the impact of the target for future operating cost
and profitability, etc. In sum, without sufficient, relevant and adequate carbon accounting
information, it is impossible to set up reasonable carbon reduction targets.
5 Carbon reduction actions and carbon policy implementation
Carbon actions refer to various types of carbon initiatives such as energy-saving projects,
development of low-carbon products, the use of degradable materials and consumption of
renewable energy, or other green projects that could offset carbon and promote efficiency
of energy utilisation. Note that carbon activity demands implementation capability at all
stages of operation, involving all layers of employees and management and the actions
taken reflect the level of expenditure and investment for mitigation purposes. Thus, one of
the key goals of carbon management system is for management of carbon reduction actions.
The entire procedure of any emission mitigation project (action) will normally go through
several stages: feasible study, implementation, completion and evaluation of the
performance of the investment. In each of these stages, carbon accounting should be
involved by providing necessary information and calculations for project manager. For
example, in feasible study stage, carbon accountant provides data regarding project
financing and employs analytical tool for cost-benefit analysis. At the implementation stage,
carbon accountant needs to monitor the progress and control the expenditure. At the
completion stage carbon accountant will evaluate the effectiveness of the project. In sum,
variety of accounting methods particularly proposed in management accounting (e.g.
Jiambalvo, 2001, Managerial Accounting, John Wiley & Sons Inc.) should be used in order to
successfully execute and complete a carbon project. These methods include job-order
21
costing system, process costing system, multiproduct analysis, activity-based costing, capital
budgeting decisions, budgetary planning and control, standard cost and variance analysis.
The selection and adoption of appropriate methods requires a combination of engineering
experience, energy expertise, as well as project management and accounting knowledge.
6 Supply-chain emission control
A comprehensive, cradle-to-grave analysis of the emissions of a commodity is important to
achieve overall mitigation (Butner et al., 2008), because the bulk of emissions often are
generated throughout manufacturing, use and disposal of products and the direct emissions
of a firm may account for only a small portion of the entire emissions. Therefore, in order to
design low-carbon or carbon-neutral products, some companies reach beyond their
boundaries to interact with others. Integrated supplier relationships enhance carbon
performance via the sharing of process and product innovations (Florida, 1996; Geffen and
Rothenberg, 2000). Thus, Dutta and Lawson (2008) describe a framework for incorporating
carbon footprint into decision-making that emphasizes the role of value chain analysis. The
Carbon Trust (2006) observed that many companies (even traditionally inward-focused)
have gradually embarked on initiatives involving upstream suppliers and downstream
customers to build influence, create knowledge, reduce emissions and generate financial
returns. These companies control emissions along a complex nexus of relationships with its
business partners and adopt techniques developed within the field of life cycle analysis to
collect energy and emissions data to ensure that all raw materials, waste, energy and
emissions are accounted for, so as to calculate the carbon footprint of a product supply
chain.
From GHG accounting perspective, the main problem refers to the allocation of carbon
emissions (and related costs) across the various supply chain stages. The GHG protocol
differentiates three ‘scopes’ : i.e. Scope 1, 2 and 3 3. This effectively draws three boundaries
around an entity for carbon accounting and auditing purposes. Companies are often
required to quantify and report their Scopes 1 and 2 emissions but can exercise discretion
3
Scope 1 emissions arise from activities for which the entity is directly responsible, Scope 2 are those indirect emissions
associated with the purchase of electricity, heat and steam, while Scope 3 covers all other indirect emissions, such as thirdparty logistics, working on the company’s behalf,etc. (WBCSD/World Resources Institute, 2004).
22
over the inclusion of Scope 3 emissions. Organisations may reduce emissions by outsourcing
logistics activities if scope 3 is excluded. However, the inclusion of scope 3 emissions for all
the supply chain partners will result in double or multiple counting, artificially inflating the
total emissions allocated to a particular product (Hoffmann and Busch, 2008).
In addition, deciding upon the start and end points for carbon measurement within the
vertical supply chain is a controversial choice. Carbon emissions would be traced back to
raw material sources and the supply chain ends at the shop shelf. As an increasing
proportion of retail purchases are being made online and delivered to the home, including
carbon emissions from these post-purchase activities in the footprint calculation would be
fraught with difficulty given the variability of consumer travel behaviour, product usage and
reverse logistics options (McKinnon, 2010, Hartmann 2013).
Another problem concerns the allocation of common and joint energy costs and emissions
among different activities (transport, warehousing, consumption) along the various stages
of a supply chain (McDonough and Braungart, 2002). The allocation could be determined by
product weight, dimensions, handling characteristics or a combination of these criteria as
appropriate (Bastianoni et al., 2004; Archel et al., 2008; Young, 2010).
Carbon accounting can help resolve the boundary and allocation problems and to support
carbon management with its traditional portfolio of tools. For example, the firm can apply
cost-benefit analysis method to a carbon reduction project which must extend to an
external business partner. Also cost-volume-profit analysis can be extended to whole supply
chain of a product. Note supply chain carbon accounting is a cross cutting theme
(Spangenberg, 2011). The concept of supply chain carbon cost considers the impact of all
the aspects of activities of a group of entities on carbon emissions. However, this is at odd
with traditional accounting concept. For instance, conventional ‘accounting entity concept’
dictates that accounting should be only concerned with some costs that are borne by the
reporting entity. In contrast, external cost is one of the central themes in supply chain
carbon control and accounting and hence it is an approach that addresses the interlinkages
between supply chain ecologic sustainability, emissions control and an entity.
23
Generally, we conclude that the environmental arena (and specifically GHG emissions) has
rapidly become one of the most prominent arenas in which external, institutional settings
have a potential effect on an organization’s carbon treatments. Management accounting
research on carbon accounting is extremely limited, thus, research opportunities seem
abundant. This suggests three avenues for future research in terms of constructing supply
chain carbon accounting. First, the entity should provide room for the participation of
upstream and downstream business partners in supply chain carbon accounting. This raises
challenges such as, the representativeness of participants, inclusiveness, and how to attain a
fair deliberation, etc. Second, methods need to be devised to communicate the uncertainty
about different processes in the ecological and supply chain subsystems (Funtowicz &
Ravetz, 1993, p. 743). Third, multiple approaches need to be adopted that allow the
possibility of different forms of valuation, including monetary and none monetary
evaluation. Note carbon accounting does not always assume a monetization of values as
that is perhaps at odds with the foundation of supply chain carbon accounting.
7 GHG emissions recording and accounting
Accounting for carbon is scientifically complex (for a succinct summary of this science refer
to Bebbington and Larrinaga-Gonza´lez, 2008, p. 711), particularly there are substantial
technical complications in defining and measuring GHG emissions (e.g., Milne and Grubnic,
2011). There are issues inherently associated with the underlying data capture systems and
the interpretation of the government requirements that present the professional
community and academic researchers with both challenges and opportunities in a local,
national and global context. Insofar as carbon crediting militated against fundamental social
and technological changes, each carbon credit carried long-term carbon costs, accounting
for which was recognized to be beyond the current scope of the discipline, due both to
creativity’s unpredictability (Malloy, 2000) and to its unquantifiable precursors and effects
(Larry Lohmann. 2009. Toward a different debate in environmental accounting: The cases of
carbon and cost–benefit. Accounting, Organizations and Society 34 (2009) 499–534).
On a more theoretical level, the apportionment and GHG accounting can be considered as
an issue of producer versus consumer responsibility. Bastianoni et al. (2004) have explored
24
three approaches to the problem of assigning ownership of GHG emissions between
producers and consumers including an approach that allows sharing of the responsibilities
among all the interested subjects in an effective and fairer way as consumers are taken as
responsible for most of the emissions and producers are subject to a minor but precise
imputation of responsibility (Bastianoni et al., 2004, pp. 253-57).
Thus, Tang and Luo (2014) proposed an CMS element from an emission tracking and
(internal) reporting perspective. An essential step towards carbon management is to
calculate carbon emissions and account for GHG footprint, in which carbon accounting plays
an indispensable role. A CMS must collect, summarise and measure the GHG emission data
and Co2 inventory. Such data recording and presentation should enable comparisons across
reporting periods and facilitate independent reviews for compliance and data accuracy. In
addition, sophisticated GHG accounting system can provide managers with real-time
visibility into project-, department and firm-level physical emissions flow. Thus, climate
committee can trace energy transactions and benchmark emissions levels with goals and
industry standards. At the moment, scientists and engineers still debate on technical
methods, so international recognised GHG standards are still yet to develop and different
countries use different GHG accounting protocols4. For example, Goldsmith and Basak (2001)
identify several limitations in the measurement of environmental performance indicators
that apply to the measurement of GHG. First, since pollution is a dynamic problem, products,
production processes and their associated pollutants change continuously, requiring metrics
that can adapt to these changes. Second, the cumulative effects of carbon dioxide may
persist and build up over long periods of time. In addition to the less observability of GHG
emissions, there is a problem of data aggregation. That is, energy and Co2 data are
collected over time, which tends to be aggregated into a single index or score. Finally,
pollution output may be stochastic in nature and not entirely the result of preventive
strategies applied.
4
With regard to technical GHG accounting methodology and protocol, Tang and Luo (2014) found that most
local Australian firms use the method prescribed in the Australian National Greenhouse and Energy Reporting
Act (NGER). Multinational companies, such as BHP, also use The Greenhouse Gas Protocol which is a widely
used international accounting tool to quantify and manage GHG emissions.
25
Additionally, carbon accounting must not only consider the quantification of physical GHG
but also the emission cost or carbon price that is the financial impact of emissions. For
example, carbon allowances could be used to hedge against financial risks or even to
achieve extra gains through arbitrage. Carbon accounting and financial reporting methods
for carbon assets and liabilities created from cap-and-trade scheme (i.e. ETS) are
controversial. Unresolved questions include: what is the definition of carbon asset (liability)?
Is a free allocated emission right an asset? If yes, when the firm should recognise it in its
financial statement and how to measure the asset? What is the nature of the carbon assets?
Is this an intangible or tangible asset? These questions are important, because how to
recognise and measure them can significantly impact financial results. If carbon assets and
liabilities are completely and inherently different from traditional assets and liabilities, do
we need brand new approach and techniques to measure and report these carbon items?
In this regard, Cook (2009) outlines how the International Accounting Standards Board
tackled the issue of recognition of emission rights as carbon assets that provokes an
intractable conundrum of measurement of the assets. Cook (2009) shows and explains how
the initial attempt to promulgate a standard on GHG disclosure (IFRIC3) eventually failed
due to the potential volatility arising from recognizing changes in the value of revalued
emission rights allowances (intangible assets) in equity and income. Although there is a
growing amount of regulations and guidelines produced by government institutions that
attempt to help operationalize and solve the technical challenges (e.g. the Australian federal
government National Greenhouse Energy and Reporting Act, Australian government, 2007,
2008a, 2008b, 2009), in many cases, it will fall to the accountant to adjudicate whether the
method adopted is appropriate.
A variety of practice in carbon accounting has been observed and evidence shows carbon
accounting impact decision-making of managers. For example, the Chartered Institute for
Management Accountants (CIMA) and Accounting for Sustainability (CIMA, 2010) conducted
an international survey among sustainability professionals to investigate the role that
climate change is having in shaping the management accounting profession. Without much
theoretical explanation, the study documents that management accountants could have a
role in areas such as carbon footprint calculation, tracking climate change performance
26
measures/KPIs, preparing the business case for climate change initiatives and carbon
accounting/budgeting.
Ratnatunga and Balachandran (2009) and Ratnatunga (2007, 2008) suggest that, based on
the idea of ‘different costs for different purposes’, the carbon agenda could impact costing
principles, costing techniques and traditional costing problems and carbon-related
information could affect and control in various organizational areas (new product
development, supply chain management, marketing and so forth). Based on the opinions
collected from participants to 31 international environmental research symposia from 2003
to 2007 on the impact of the Kyoto Protocol on management accounting control,
Ratnatunga and Balachandran (2009) find that carbon accounting affected strategic cost
management and strategic management accounting practices. In strategic cost
management, carbon costing consists of a combination of advanced cost allocation
techniques (like activity-based management and life-cycle costing) that improve the
identification and assignments of carbon-related expenses and overheads to such objects as
products, services, customers and organizational processes (Ratnatunga and Balachandran,
2009, p. 343). In strategic management accounting, carbon accounting plays a role that is
recognised under general headings such as ‘business policy’, ‘human resource management’
and ‘marketing strategy’ (Ratnatunga and Balachandran, 2009, pp. 345–7).
8 Greenhouse Gas statement assurance
Independent GHG statement assurance is an important element of CMS (Tang and Luo
2014). Carbon auditing is a broad concept which includes GHG assurance, compliance audit
of carbon activities and climate change auditing which is an evaluation of climate change
policies and strategies of private and public organisations. The International Organization of
Supreme Audit Institutions (INTOSAI) emphasized the need for this type of auditing:
“Climate change involves a wide range of risks that make it particularly relevant to auditors,
for example, risks related to goal attainment, policy instruments and transparency”
(INTOSAI Working Group on Environmental Auditing 2010, page 10). Also, the complexity of
GHG emissions and their impacts on the economy, society, and the environment, as well as
27
on cross-sector organisational structures and policy instruments, make climate change
auditing vital (The Guide, page 10) 5. All businesses should be conducted in a carbonconstrained way, and an auditor may help managers identify and reduce carbon-intensive
activity, products, and services and prioritise ways to achieve mitigation targets (e.g., Tang
and Luo 2014; Ratnatunga, and Jones 2012).
GHG assurance is necessary because there is inherent uncertainty and incomplete
scientific knowledge in the measurement of GHG emissions. For instance, the rate of GHG
sequestration in biological sinks, and the “global warming potential” values used to combine
emissions of different gases and report them as carbon dioxide equivalents, are
inadequately understood. The external assurance aims to increase carbon and energy data
creditability and the level of stakeholder confidence in the use of carbon information and
assist managerial planning and encourage control of emissions (Sinclair-Desgagné and Gabel,
1997). So far GHG assurance is largely voluntary (Datta et al 2014), and the practices vary
widely in terms of level of assurance, scope, criteria and materiality. The adoption of new
assurance standards issued by the International Auditing and Assurance Standards Board
(IAASB, June 2012 ISAE 3410, Assurance Engagements on Greenhouse Gas Statements, with
assurance reports covering periods ending on or after September 30, 2013) should facilitate
this fast-growing and highly demanded service. According to ISAE 3410, the objectives of
the assurance practitioner are to obtain reasonable assurance that the GHG statement is
free from material misstatement, whether due to fraud or error, and that the GHG
statement has been prepared, in all material respects, in accordance with the applicable
criteria (ISAE 3410, IAASB). While the purpose of GHG statement assurance is similar to
traditional financial statement assurance, a review of the literature suggests some
significant differences exist.
GHG statement assurance practice
5
The International Organization of Supreme Audit Institutions (INTOSAI) is the professional organization of supreme audit
institutions countries that belong to the United Nations or its specialized agencies. The Working Group on Environmental
Auditing (WGEA), under INTOSAI, aims to improve the use of audit mandates and audit instruments in the field of
environmental protection policies and sustainable development. WGEA published “Auditing the Government Response to
Climate Change: Guidance for Supreme Audit Institutions” (INTOSAI WGEA 2010). The Guide distinguishes between
audit of adaptation and audit of mitigation policies. Climate change mitigation involves taking actions to reduce GHG
emissions and to enhance sinks aimed at reducing the extent of global warming while climate change adaptation focuses on
actions to moderate the harm or exploit benefits caused by the actual or expected effects of global warming (The Guide, page
6).
28
GHG statement assurance is a new category of assurance that is characterised by factors
different from financial assurance, so it is important to understand the difference between
GHG assurance and traditional financial assurance. For example, GHG engagements are
ordinarily expected to be undertaken by a multidisciplinary team of experts who possess, in
addition to assurance skills; GHG competencies, such as an understanding of laws and
regulations related to emissions reporting, GHG quantification and measurement
methodologies. And chemical and engineering expertise are often required or desirable.
Moreover, investigation methods adopted may be different in GHG assurance from a
financial statement assurance perspective. For example, a large part of carbon emissions.
Thus, ISAE 3410 emphasises the importance of performing procedures on “site visits” to
identify emissions in individual geographical locations or facilities within an organisation.
Furthermore, while financial audit covers all financial statements, GHG assurance may only
cover part of carbon emissions of the entity, e.g. it may cover scope 1 and 2, but not scope 3
emissions. In addition, a firm may have less than 100% emissions to be externally verified.
Finally, risks of misstatement in a GHG statement are associated with very different factors
from those relevant to a financial statement. The accuracy of the measurement of the
carbon footprint is dependent on the development of scientific, regulatory and physical
mechanisms. It also depends on the firm’s internal control system, the degree of complexity
of its operations and the nature of the business (ISAE 3410, 23). The strength and weakness
of the systems and institutions may affect the application of the applicable criteria to the
entity’s circumstances and change the susceptibility of the entity’s GHG statement to
material misstatement. These risks can affect the GHG statement as a whole. Thus,
techniques of the assessment of the risk in GHG assurance can be different from financial
statement assurance (ISAE 3410, Para. A52–A53, A70).
9 Carbon Disclosure
Global warming and planetary degradation is an issue exigencies and this parlous situation
reinforces the need for corporate reporting of their environmental performance. Hence,
External carbon disclosure is another essential element of carbon management (Tang and
Luo 2014) and also a function of carbon accounting. Carbon disclosure is largely optional in
most parts of the world albeit the recent trend toward mandatory requirement. While many
companies keep their carbon footprints hidden, some pioneer entities voluntarily disclose
29
their carbon information. In addition, some firms may just comply with minimum
institutional requirement, while others adopt more proactive strategy and attempt to
achieve more aggressive reduction target. A high degree of carbon-information
transparency reveals a firm’s climate change strategy, carbon footprint, and managerial
carbon accountability, which allows external stakeholders to monitor and seek
improvement in the entity’s operations and CMS (Sroufe, 2003, p.428; Kolk et al., 2008,
Tang and Luo 2014). Carbon disclosure can be made in a firm’s annual report, CSR report,
sustainability report, or as a stand-alone GHG statement. The channel, format and content
of carbon disclosure reflect the perceived importance of carbon emissions and activity by
managers and stakeholders.
Carbon accounting concerns what and how carbon information should be disclosed to
external users. Unresolved specific carbon accounting questions include whether GHG
emissions disclosures should be mandated rather than remaining a firm’s voluntary choice
(Cowen and Deegan 2011), whether GHG statement should be a separate, stand-alone
report or should it be combined with, or treated as a component in other social and
environmental disclosure, as well as the various accounting dilemmas around the broader
issue of reporting, assurance and valuation of nonfinancial information (Olson, 2010). As
there is no a set of internationally recognised carbon disclosure standards, the above issues
are still under debate and remain unresolved.
Regarding the content of carbon information to be disclosed, this is still a controversial issue.
A lot of research needs to be done regarding the information needs of various users and
stakeholders. For example, like financial reporting, a GHG statement is supposed to meet
the information needs of users to make decisions. Thus, who are the users? Are they just
shareholders, or there are other users and stakeholders who are interested in carbon
information? What kind of decisions they will make and what is the information the users
need for the decision-making? Should a statement disclose the trend and historical
emissions data? Most of the carbon information is none financial, should carbon report also
includes financial information such as carbon cost, energy consumption expenses etc.?
Should both quantitative and qualitative information be included? In addition, are mere
emission data sufficient for an understanding of the effect of business operation on
30
environment and the impact of climate change law on business, without detailed
information about firm’s financial commitment, carbon strategy and actions?
Table 1 is a summary of the roles of carbon accounting for CMS. Firms are likely to develop a
CMS step by step. So Figure one is a summary of the major steps a firm would take to build
a CMS. Figure two then shows the role of carbon accounting in the 5 steps of development
of CMS. Figure 3 visuralizes a carbon accounting system using holistic approach.
Table 1: A summary of the roles of carbon accounting for carbon management systems
Major CMS
Purpose
The role of carbon accounting
elements*
Board function
To develop an overall
Carbon accounting provides
climate change
adequate information for
strategy and policy
formalisation of carbon policy to
address climate change issues.
Carbon Risk and
To identify and assess
Carbon accounting is needed to
opportunity
carbon risk and
design
assessment
opportunity
climate
the
risk
particularly
procedure
and
about
to
assess
opportunity,
its
financial
implications for firm operation and
profitability.
Staff
To motivate staff and
Carbon accounting method should be
involvement and enhance awareness
used to design specific measure
carbon
of climate change
required to incentivise them to
performance
issues
participate in carbon reduction and
evaluation
energy saving projects.
31
Emission target
To create a mitigation
Carbon accounting should provide
target that is
sufficient information for managers to
consistent with the
set up measurable and quantifiable
carbon strategy
emission reduction target.
Carbon actions
To enforce the carbon
Carbon accounting should evaluate
and policy
policy by prioritising
low carbon projects, energy efficiency
implementation
reduction actions and
project, clean energy initiatives.
allocating resources
Carbon project needs specific funding,
to achieve targets
specific objectives so feasible study is
needed.
Supply chain
To reduce supply
emission control chain emissions
Carbon accounting is needed to
develop specific measures to control
supply chain emissions.
GHG emissions
To keep track of
Carbon accounting has specific and
recording,
carbon inventory and
distinct protocol and standards and
accounting and
emission footprint
norms to account for emission
internal
including scope 1,2, 3. What is more,
reporting
is the need to account for emission
rights and its economic values of
carbon assets and liabilities.
Carbon accounting should prepare
this report for the decision making of
managers who is responsible to
achieve carbon target.
External carbon
To increase the
External and internal GHG emission
assurance
reliability of carbon
assurance and verification is also
data
needed to check carbon recording and
energy consumption.
32
External
To increase the
Carbon accounting should specify the
disclosure
transparency of
contents, format and frequency of
mitigation activities
carbon disclosure to external
and outcomes,
stakeholders groups who care about
To strengthen the link
emissions.
with stakeholders
Adapted from Tang and Luo (2014).
33
Figure one: The five steps of the development of Carbon management system
Step 1:
Carbon strategy
Step 2:
Carbon Risk
assessment
Step 3:
Reduction Target
Setting
Step 4:
Program
Implementation
Step 5
Carbon
performance
evaluation,
reporting and
Assurance
Feedback
34
Figure 2: The role of carbon accounting for the development of CMS
The role of carbon accounting in the step 1 of the development of carbon management
system
Analysis of
impact of
government
climate
policy
Review of low
carbon
technology
and market
Step 1a:
Carbon
Strategy
Development
Assessment of
internal
management
and institutional
capacity
35
The role of carbon accounting in the step 1b of the development of carbon management
system
Assessment of
product and
process risk
Assessment of
regulatory and
physical risks of
global warming
Step 1b:
Carbon Risk
Assessment
and financial
impact
Assessment
of supply
chain risk
Assessment of
market risk
and consumer
preference
36
The role of carbon accounting in the step 2 of the development of carbon management
system
Assessment of
product and
process risk
Assessment
of regulatory
and physical
risks
Step 2:
Carbon Risk
Assessment
Assessment of
supply chain
risk
Assessment
of market risk
37
The role of carbon accounting in the step 3 of the development of carbon management
system
Review of
national target
and industry
level
emissions
Analysis of
Historical
data of
energy
consumption
Step 3:
Carbon
target setting
Financial
commitment
of reduction
targets
38
The role of carbon accounting in the step 4 of the development of carbon management
system
Budget
Feasibility
Study
Step 4:
Carbon program
implementation
Cost
Control
techniques
39
The role of carbon accounting in the step 5 of the development of carbon management
system
Measure of carbon
performance at
firm level,
department and
individual staff level
Internal and
External Carbon
reporting and
disclosure
Step 5:
Carbon
performance
evaluation and
reporting
Carbon
assurance
40
Figure 3 A comprehensive and integrated view of carbon accounting system: Holistic
approach
Functional module 1:
Functional module 2:
Energy data collection
Carbon emission footprint
tracking
Carbon accounting
framework:
Basis concepts, principles
and objectives
Functional module 3
Functional module 4:
Carbon operation
management
Carbon performance measure
and reporting
IV Conclusion
A review of literature suggests the role of accounting in climate change is still controversial.
Following the literature that suggests accounting should critically engage with business for
sustainability, the first conclusion of the paper is carbon accounting has the potential to
help even for profit-seeking entity reduce carbon emissions as firms cannot make profit if it
continues to manufacture carbon intensity products. The second inclusion is a holistic
41
approach should be adopted so accounting methods can be used for improvement of
carbon management systems in an interactive way. The third conclusion is the traditional
accounting methods/approaches are inadequate, so more innovative methodology should
be considered in a carbon accounting system.
42
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