Going Carbon Neutral - What is motivating the service sector and what are the implications for energy

policy?

Hanoch Ilsar Assessed essay for Energy Policy Option Dr. Nick Eyre MSc. Environmental Change and Management, ECI Oxford University March 21, 2008 Word count: 4033

Index:
I - Introduction........................................................................................................................3 II - Why voluntarily going Carbon Neutral?........................................................................5 1. Theoretical background: beyond compliance, environmental proactivity, CSR, and political economy......................................................................................................5 2. Business rationale for GHG reduction ......................................................................7 2.1 Operational improvement and energy efficiency: ....................................................7 2.2 Anticipating and influencing climate change regulations........................................8 2.3 Accessing new sources of capital..............................................................................8 2.4 Improving risk management......................................................................................9 2.5 Elevating corporate reputation...................................................................................9 2.6 Identifying new market opportunities......................................................................10 2.7 Enhancing human resource management and employee morale............................10 2.8 Altruism ?.................................................................................................................10 Going Carbon Neutral issues, dilemmas & controversies .............................................12 3. Defining boundaries for inventory, reporting and reduction responsibility............13 4. Calculating carbon footprint.....................................................................................14 5. Reducing organizations emissions to become carbon neutral................................14 6. The contested role of Carbon Offsetting:.................................................................15 III - What might be the implications for energy policy?......................................................18 1. Caution first Can the voluntarism of the private sector be trusted?...................18 2. Support its innovation after all!............................................................................19 3. Should the government respond?.............................................................................20 IV - Conclusions....................................................................................................................21 Appendices:
Appendix A Who is going Carbon Neutral?..............................................................................26 Appendix B The Carbon Neutral Concept..............................................................................28 Appendix C - Schematic frameworks to manage companys commitment to reduce GHG emission towards carbon neutrality...............................................................................................29 Appendix D prevailing standards...............................................................................................33

Tables and Figures: Figures: Table 1: Compiled business examples to reduce GHG emissions (source: Waage and Stewart 2006).........................................................................................................................15 Table 2: Associated sources of controversies and uncertainties in the Carbon Neutral concept 17 Figure 1: scenarios for corporate strategic response to new institutional constraints (Pinkse and Kolk 2007).........................................................................................................................7 Figure 2: Setting operational boundaries: the GHG protocol three scopes for companys direct and indirect emissions (NZBCSD 2002).....................................................................14

Figure 3: BSRs three pronged approach to Corporate Climate Strategy (Waage and Stewart 2006).........................................................................................................................14

I - Introduction
Global warming has finally drawn the attention of the private sector. Last June, Google Inc., the Web searcher leader, had pledged that it would go Carbon Neutral by the end of 2007 (Gardner 2007), following HSBC (Wright 2006) and quiet a few others (BSR 2007, see Appendix A for a list). Sixty percent of global executives regard climate change as strategically important (McKinsey & Company 2008). Last year, over three quarters of the FT500 companies reported a GHG emission reduction programme, compared to less than half in the previous year (Innovest 2007). Yet, very few, it appears, are translating these views into concrete action (Kolk and Hoffmann 2007). According to The Carbon Trust, only fraction (1%) of UK firms have measured their carbon output, a key first step in any carbon reduction strategy (BusinessGreen 2007). Carbon Neutral (or Climate Neutral and other synonyms) is a highly contested concept (see Appendix B), especially in regard to defining its boundaries, timeframe and stages (Keay-Bright 2007). In Simplified terms, and for the purpose of this paper, a carbon neutral organisation is one which is in the process of effectively reducing its net emissions to zero. Many enterprises which challenge the traditional civil societyprivate sector dichotomy are emerging, advocating carbon neutrality services. Many of these voluntary schemes are originated from and aimed at the service sector. Admittedly, the service sector has minimal direct emissions. Less likely to become subject to regulation, the service sector is nevertheless a crucial constituent in the new carbon economy (Gorina 2007), having a significant impact on upstream and downstream activities (Putt del pino et al.

2006). Thus, it is interesting to witness how these businesses are proactively leading what the media has already termed the carbon neutrality hip (Revkin 2007). Business has become a key part in the fabric of global climate change governance (Levy 2005). Currently though, there is no research evidence as for why businesses are voluntarily adopting carbon neutrality (EAC 2007). Yet, innovative business strategy to address climate change might have the potential to trigger a shift towards low-carbon economy, thus it is significant to energy policy. Energy policy is traditionally concerned with the government role within the energy system, and its multiple objectives are: economic efficiency; environmental protection; fuel-poverty reduction; and energy security (PIU 2002). Since some 80% of all GHGs are directly the result of energy use, energy policy is the prominent government tool to tackle the challenge of climate change. There are potentially two market failures associated with carbon neutrality in the service sector which can be addressed by energy policy: 1) information failure in which lack of transparency and standardization might result in market confusion and under-performance; 2) seizing the full potential of businesss innovation towards a low carbon economy. This paper attempts to shed light on why businesses are voluntarily going carbon neutral and what might be the implications for energy policy. The business motivations, explored in section two, are underpinned by various theoretical perspectives: business management, Corporate Social Responsibility, legal policy, and environmental governance. In section three, I overview some prevailing frameworks which provide guidance for businesses towards carbon neutrality. This endeavour reveals many uncertainties which call for the attention of policy makers. Better understanding the business motivations, strategies,

practices and uncertainties that are involved in carbon neutrality is crucial for energy policy. Drawing from transition and innovation theory I address, in section four, some of the reasons for the governments facilitating support and the need for standardizations. I conclude by suggesting further research into this emerging trend.

II - Why voluntarily going Carbon Neutral?

Voluntarily engaging in reducing GHG emissions seems contradictory to business logic. The traditional business logic suggests that the competitive marketplace will not allow significant voluntary action (Kleiner 2007). Since the benefits are shared with the public at large, it can even conceived as a reverse tragedy of the common. Nevertheless, a clear business case can be made in the context of business strategy to address climate change, which can prove useful to energy policy.

1.

Theoretical background: beyond compliance, environmental proactivity, CSR, and political economy

Understanding why businesses choose to go beyond compliance and engage in voluntary environmental initiatives is a source of prolific academic writing. Generally, it is suggested that companies environmental voluntary practices are shaped by the interplay between their social license to operate, regulatory framework and economic constraints (Gunnigham et al. 2003, 2004). Simultaneously, internal factors - sometimes refer to as ecological responsiveness (Bansal and Roth 2000) - influence how managers interpret these external conditions and act upon them. These factors include: managerial incentives, organizational culture and identity, self-monitoring (or propensity to engage with

outsiders), and personal commitment and affiliations (Howard-Grenville et al. 2008). In addition, environmentally proactive company is believed to be paid off in terms of social reputation, customer preferences and generation of organizational capabilities (Benito and Benito 2006, Aragon-Correa and Rubio-lopez 2007). Embedded within this framework is the idea of Corporate Social Responsibility (CSR). It covers three dimensions of corporate action (the triple bottom lines): its economic performance, social accountability and environmental management. Currently contested for its value creation, it is nonetheless argued that CSR will become a prominent component of corporate competitive advantage (Wilenius 2005). Neutralizing GHG emissions is a powerful proactive way to show stakeholders (e.g., customers, shareholders, community, NGOs) that a company is taking responsibility for emissions and addressing climate change (ICF 2007). Examining the political economy of climate change governance can deepen the understanding of business voluntarism. Currently, it is argued, companies perceive the varying institutional forms of the carbon regime as fragmented, fungible and weak. Moreover, they also sustain this fragmented governance regime, both through their political advocacy, and through the legitimacy conferred by their voluntary initiatives (Pinkse and Kolk 2007, Jones and Levy 2007). Company might choose to respond to this fragmented policy regime in four ways: as conformist, evader, entrepreneur or as arbitrageur (Figure 1). These choices varied according to anticipated institutional constraints and opportunities for influencing the institution. Nonetheless, companies are currently placing greater emphasis on management processes, policy influence, and market image than on major

investments in low-emission technologies. Similarly, they engage in building capacity for emissions trading infrastructure over actual emissions reductions (Jones and Levy 2007).

Figure 1: scenarios for corporate strategic response to new institutional constraints (Pinkse and Kolk 2007)

In this context, climate change is becoming a strategic issue for companies. It represents a market transition with great financial, regulatory and CSR opportunities vis a vis grave implications.

2.

Business rationale for GHG reduction

Business strategy towards GHG reduction is context dependant. Following Hoffman (2005), the following paragraphs suggest eight clustered categories to encompass how companies have presently sought strategic benefits from voluntary GHG reduction: 2.1 Operational improvement and energy efficiency:

Tracking GHG sources of emissions can reveal inefficiencies in the supply chain, distribution and use of resources. Uncovering such inefficiencies is financially good business, especially when energy prices are going up (Putt del pino et al. 2006). Implementing energy efficiency and conservation measures can reduce energy consumption and costs. Examples are numerous (Hoffman 2006).

2.2

Anticipating and influencing climate change regulations

More than 80% of global executives expect climate change regulation within five years, mostly in form of technical rules and standards. Five in ten anticipate either a carbon capand-trade system or carbon tax (McKinsey & Company 2008). Currently though, regulatory risks are highly uncertain (Innovest 2007). By voluntarily measuring and assigning costs to carbon emissions, a company can prepare for a future carbon-constrained economy in which GHG emissions are regulated, taxed and/or traded. Moreover, a proactive strategy that seeks to influence policies and future regulations can benefit companys particular climate change positioning. Those that are most prepared in advance can lobby the government to adopt certain GHG requirements, methods and protocols which they are already familiar with. BP and Shell, for example, had already gained an advisory role in the development of UK and EU emission trading schemes respectively (Hoffman 2005). 2.3 Accessing new sources of capital

Both the voluntary and the compliance carbon markets are growing rapidly. The World
Bank estimated the value of carbon trading at almost $30 billion in 2006, three times greater than the previous year (World Bank 2007). Considerable profits are likely to be made from trading in carbon reductions, which have already gained the title accumulation by decarbonisation (Bumpus and Liverman, forthcoming). Benefits were obtained, for example, by European companies who were given generous permits to emit CO2 in the EU-ETS and were able to sell any excess over required reductions.

Furthermore, governments are introducing financial incentives to reduce GHGs, which represent an availability of capital to be appropriated (Hoffman 2005). 2.4 Improving risk management

Climate change poses new risks on companies whose exposure differs within sectors, locations and operations. In addition to a company's carbon constraint profile (Busch and Hoffmann 2007), these risks are associated with the following: costs of climate-related natural consequences; supply chain risks (for retailers); legal liability risk; brand risk (Carbon Trust 2005); and regulatory/market changes risks (Lash and Wellington 2007). Some industries are more vulnerable than others to the physical impacts of climate change. Insurance, financial, tourism and real estate companies are prone to losses due to such impacts, especially in vulnerable areas (Putt del pino et al. 2006, Busch and Hoffmann 2007, Lash and Wellington 2007). Investors are particularly interested in the climate-related risk positioning of companies. The Carbon Disclosure Project, for example, on behalf of 315 institutional investors representing $41 trillion in assets, is tracking the 500 global largest publicly traded companies to gain investor-relevant information on their responses to climate change, focusing on commercial risks and opportunities (Innovest 2007). 2.5 Elevating corporate reputation

There are opportunities in improving reputation through voluntary GHG initiatives, when these are communicated to the relevant constituencies (Wright 2006). The Carbon Trust forecasts that climate change could become a mainstream consumer issue by 2010 (Carbon Trust 2005). The Mckinsey Global Survey revealed that corporate reputation

(54%), customer preferences (35%) and media attention (34%) are influencing companies the most to take climate change into considerations (Mckinsey & Company 2008). 2.6 Identifying new market opportunities

Opportunities that stem from new markets for low carbon products and services are prevailing. These opportunities can diversify companies portfolio of products/services and reach wider constituencies. First movers in the area of carbon neutrality are likely to gain an edge over business-as-usual competitors (ICF 2007). Such opportunities range from energy efficient mortgage, to preferential insurance rate for efficient vehicles (TCG 2007). Banks are offering new carbon management services and investment products, and adding carbon offsetting features to their suite of retail products (Gorina 2007). Engaging in carbon measuring implies remaining alert to changes in consumer preferences, media attention, community concerns, and regulatory and policy trends (Hoffman 2005). Staying attuned to this dynamic market is crucial for businesss competitiveness. 2.7 Enhancing human resource management and employee morale

Companies are engaging their workers as partners in identifying and carrying out strategies to reduce their GHG emissions. It can motivate employees and drive innovation within companies, becoming an opportunity to increase workplace productivity as well as enhance good employee recruitment and retention efforts (Hoffman 2005). 2.8 Altruism ?

Finally, in the case of non-residential green power, at least, it has been demonstrated that also altruism is taking an important role in customers motivations (Wiser et al. 2001).

To conclude this section, we should bear in mind that: 10

[Companies] are searching for ways to be prepared for the long term, should GHG emission reduction become mandatory, while at the same time attempting to reap near-term economic and strategic benefits should that future not emerged or be delayed (Hoffman 2005). But there is more to it. To gain competitive advantage, businesses need to do better in reducing exposure to climate-related risks and in finding business opportunities within those risks (Lash and Wellington 2007). In such a vibrant atmosphere, there is a strong case to suggest that at least some of the carbon neutral initiatives are a demonstration of real business leadership in face of market transition and governance uncertainties. For such companies, Carbon Neutral is not only an ecological or ethical imperative. It is also an indicator of an organizations health, innovation and social responsibility (Boiral 2006).

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Going Carbon Neutral issues, dilemmas & controversies

Drawing from experience and best practice of large corporations, few organizations (non profit, governmental and for-profit) have developed a comprehensive business manual to address such carbon neutral strategy. These how to manuals differ in their approach and emphasis which can probably be explained by the providers concerns, interests and constituencies (Climate Neutral Network 2003, Hoffman 2006, Putt del pino et al. 2006, Carbon Trust 2006, Waage and Stewart 2006, TCNC 2007, ICF 2007, Lash and Wellington 2007). See Appendix C for some chosen schematic examples. Nevertheless, an emergent framework for carbon management towards carbon neutrality can be distinguished and delineated. The constituents of such a framework include: Preliminary planning and boundaries setting; Designing and developing GHG inventory; Calculating carbon footprint; Evaluating opportunities/risks for carbon reductions; Setting goals and targets; Implementing carbon reduction program for direct and indirect Engaging in carbon offsetting; and Reporting.

emission;

Since a full description of these components is outside the scope of this paper, the following is focused on the main contested issues that call for energy policy attention and presumably intervention.

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3.

Defining boundaries for inventory, reporting and reduction responsibility

Setting boundaries is a clearly important if perplexing and contested question. What does carbon neutrality apply to (e.g. organization, product, service, operation)? What are the respective methodologies, data-sets and perspectives? (TCNC 2007) What is the scope of emissions to be calculated and neutralized? What is the extent to which both upstream and downstream emissions are covered? (TCG 2007) What are the emissions, which are under full control of the organization and how to engage with indirect sources of emissions? (Carbon Trust 2006) How to account for emissions from joint ventures, subsidiaries, outsourcing and other partially owned entities and operations? (Sundin and Ranganathan 2002) The GHG Protocol is offering some answers to these questions (WRI/WBCSD 2004). Figure 2 is demonstrating different scopes of emissions. This protocol is one of the most recommended and commonly used formats for accounting and reporting GHG emissions (e.g. Carbon Trust 2006, UN EMG 2007, Innovest 2007, TCNC 2007). Nevertheless, offset providers may have developed their own proprietary standards and there is still no internationally accepted procedure for assessing and reporting GHG emissions and emissions reductions (TCG 2007, Carbon Trust 2006). Some discrepancies and gaps are salient when comparing the aforementioned guides.

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Figure 2: Setting operational boundaries: the GHG protocol three scopes for companys direct and indirect emissions (NZBCSD 2002)

4.

Calculating carbon footprint

Several calculation tools for GHG emission are prevailing. There is still debate concerning some of the science behind calculating carbon emissions, e.g. from aviation. Apparently, different tools varying in their emission assessment (POST 2007), which brought DEFRA to release a standard emission calculator on its website.

5.

Reducing organizations emissions to become carbon neutral

Figure 3: BSRs three pronged approach to Corporate Climate Strategy (Waage and Stewart 2006)

There are numerous ways to reducing GHG emissions. Generally speaking, a threepronged approach include: improving efficiency of energy use, procurement of green

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energy and offsetting the remaining emissions. There is also a real gain to be made through integrated strategic planning and synergies throughout all aspects of the business (Waage and Stewart 2006). Some examples of business practices are presented in Table 1.
Table 1: Compiled business examples to reduce GHG emissions (source: Waage and Stewart 2006)

6.

The contested role of Carbon Offsetting:

Based on the principle that GHG emissions reduction achieved elsewhere has the same positive effect as a reduction made locally, a company can effectively neutralize its global warming impact by purchasing carbon offsets (ICF 2007), though it is more palatable when considered a last resort (Keay-Bright 2007). It is further argued that the voluntary carbon market can complement the regulated market, compensating for its deficiencies, and hedging policy risks through institutional diversity (Hepburn 2007). Carbon offset market helps in establishing price for carbon, speeds investments in low carbon technologies, and

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can raise awareness to individual and organizational carbon footprint (TCNC 2007). Further, it can support diversity of project types that are effectively excluded from the CDM such as small projects, those that bring additional sustainable development benefits and those that are based in under-represented countries as in Africa (EAC 2007). Nevertheless, offsets have been extensively criticized by NGOs (Smith 2007) and the media (Revkin 2007, Harvey 2007), and advised to be considered cautiously (Carbon Trust 2006, POST 2007). The quality and credibility of the offset are a recurrent theme of concern. To address these, questions of verification, additionality, leakages,

impermanency, and double counting must be addressed (Carbon Trust 2006). Yet, the main concern is that the availability of offsetting options may well hinder behavioural change to a low carbon economy. While reducing a tonne of carbon, wherever the source might be, have the same atmospheric impact, different reductions have varying long-term impacts in terms of technological innovation, market transformation, and infrastructural transition (WWF 2008).

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Table 2: Associated sources of controversies and uncertainties in the Carbon Neutral concept

To sum up this section, it is important to concede that the concept of carbon neutral might be a source of confusion and perplexities (see Table 2 for a summery). Public confusion might deter the bulk of mainstream organizations from voluntarily taking any action before standards and regulations are established, subsequently raising the question of government intervention.

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III -

What might be the implications for energy policy?

Carbon Neutrality, a voluntary initiative by the service sector, does not simply fall into a classical market failure which justify governments intervention in energy systems (PIU 2002). Given its innovative and leadership potential coupled with the involved uncertainties, I would suggest that policy makers should approach the carbon neutral business from a supportive if cautious stance.

1.

Caution first Can the voluntarism of the private sector be trusted?

Adopting carbon neutrality by the service sector, well beyond current policies, may be seen as a panacea to policy makers worried about mitigating climate change. If these pioneers drag the current economy towards de-carbonization, the government would be left out of job. Nonetheless, such a bright scenario is probably far from realization. Past evidence demonstrates that policy makers can not rely on the voluntary programs, pledges or even agreements made by the private sector. Studies have shown that participant firms in voluntary programs - especially those with no performance based standards, no independent certification, and no sanctions - showed no better environmental performance than non-participants (Rivera and DeLeon 2008, Darnall and Sides 2008). In the case of ISO 14001, for example, an ambiguous effect on environmental performance was apparent - counter to the managerial rhetoric (Boiral 2007). A notorious example for not trusting voluntary pledges is the agreement between the European Commission and the European Car Manufacture Association (ACEA), signed in 1998. The motor industry has currently failed to meet its voluntary target for reducing CO2 emissions (FOE 2007).

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Furthermore, these high media-profile carbon neutral initiatives are posing three-folded danger in face of policy makers: (1) an entrenched public misconception that the private sector is on the right track to achieving carbon neutrality might blunt the climate change message which sense of urgency is crucial; (2) carbon neutral claims without long-term structural change might undermine the scope of the challenge (its easy, my bank is doing it!); (3) the much-needed strong international regime is enervated by the private sector compelling advocacy for voluntary measures over regulations (Jones and Levy 2007). Consequently, public support for what is really needed might be at stake. Further, policy makers might miss the train and become laggards. When trying to bring on new policies or enforce new standards policy makers might not only face stronger objections from a wide coalition of NGOs and private sector, but also be committed to already prevailing practices and measures of these actors, e.g. Defras Code of Best Practice (DEFRA 2008, WWF 2008).

2.

Support its innovation after all!

Notwithstanding these caveats, it can be argued that high-profile initiatives in a high-stakes competitive market generate a vibrant atmosphere of climate change transition and innovation. Can carbon neutrality be effectively seen as an innovation? Innovation has a major rule in enabling the transition needed to tackle the climate change challenge of decarbonizing the economy (Foxton 2003, Stern 2006, Shackley and Green 2007). It is broadly defined as a successful exploitation of new ideas, and is understood as an interactive process engaging network of actors, in which new products, new processes and new forms of organization are brought into economic use (Mytelka 2000, Beerepoot

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2007). Central to innovation policy is the facilitation of rapid diffusion of these new ideas into the larger market place (Stern 2006, Egmond et al. 2006). The carbon neutral companies are demonstrating leadership in a new environment. Although differ in their profile to technological innovators or early market adopters, mainly in size and risk aversion (Egmond et al. 2006) they do feature some of the early adopters qualities. Further, they are in a position to explore novel perception and ideas within their large organizations. Carbon management on the way to neutralize business emissions is a novel idea which involves many new practices. Leading the way, they have an important role to play in a time of a much-desired transition.

3.

Should the government respond?

Policy makers can diminish many of the aforementioned concerns by enhancing standardization in the market, while seizing the opportunity to support and facilitate the market momentum. Conceiving the carbon neutrality trend akin to innovation policy may reason for the government to consider incentives and support scheme for such activities. Furthermore, since transition cannot be steered by a central actor and there is probably no blue-print for innovation policy (Foxton 2003, Shackley and Green 2007), the role of the government is to facilitate and challenge the innovation network through knowledge transfer, stimulating communication, and demonstrations challenge (Egmond et al. 2006). Standards, on the other hand, can help bring on the mainstream market actors. Standards have many advantages that are directly link to the business of carbon neutrality (See Appendix D for carbon neutral relevant standards). Standardization contributes to increase

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clarity and confidence of the companies wanting to make a voluntary commitment to reduce their climate impact (TCG 2007, Hepburn 2007). Recent EC communication suggested that it has an important role in support of innovation (EU CEC 2008) and it is a prerequisite to any governmental incentive scheme. Standardisation helps in developing disclosure rules for carbon reporting. It also ensures compatibility with the legal framework (e.g. corporate managers legal liability). Even in the case of CSR, stringent regulations were suggested not only for stakeholders certainty sake but for increased shareholders value as well (Unerman and ODwyer 2007). Finally, it serves to protect less informed consumers from making undesirable choices and can help in climate change education (DEFRA 2008).

IV - Conclusions
It is probably too early to tell what are the full implications of the service sectors proactive Carbon Neutral enterprises. Yet, two points need to be made clear. First, the potential impact of these initiatives on low carbon economy can not be dismissed. Therefore, a supportive yet cautious attitude need be adopted by policy makers, rather than wait-and-see. Second, a consensus definition of what carbon neutral means plus respective standards should be developed to allow for audit and verification to bring legitimacy to this claim (EAC 2007). I have argued that energy policy should support, facilitate and challenge these enterprises while simultaneously improving the rigour of credible standards to ensure broad market diffusion.

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Further research is important to gain better comprehension of the carbon neutrality business and respective implications for energy policy. It can address the following questions: What is the effect of offsetting initiatives on business carbon abatement performance? What are the motivations and reasons for businesses going carbon neutral? What is the market impact of leading firms achieving carbon neutrality? And, what policies can be developed to facilitate and challenge this positive trend towards low carbon business environment?

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