Let’s use traceability for carbon accounting!

Now is the time to think about CARBON-NEUTRAL World. There are multiple aspects to this global challenge, and there is no one size fit all solution. In this article, we will focus on the field called “carbon accounting” and see what we can contribute using the technology called “blockchain”.

What is carbon accounting?

When we hear the word “accounting”, we always think, numbers, profit & loss or financial statement, right? Carbon accounting is no different. Financial accounting is a set of rules putting together figures to produce financial statements. In carbon accounting, disclosure documents such as, Annual Activity Reports, Sustainability Papers and ESG data books are used as decision making tools. Environmental and climate change scenario analysis, human rights and development, risk management, compliance policies and various quantitative data, that have a particular impact on climate change, are all taken into consideration.

So, this is not a field for a happy-go-lucky impulsive decision maker, saying “let’s do carbon accounting! Disclosures in accordance with the rules and regulations (in future) are insanely challenging than saying “let’s generate one more financial statement”.

A general overview of the process up to the present

First, we need to understand the overall picture that led us to the current situation where carbon neutrality is the norm.

It all starts with the Paris Agreement (COP21, The twenty-first session of the Conference of the Parties) held last December 2015. The Paris Agreement proposed and adopted the goal of limiting the rise in global temperature to within 2 degrees Celsius above pre-industrial levels. However, in October 2018, the Intergovernmental Panel on Climate Change (IPCC) released a Special Report, which unfortunately found that a temperature rise of 2 degrees Celsius is insufficient. 99% of coral reefs will disappear and Arctic ice and permafrost won’t stop melting if we failed to keep the temperature increasing within 1.5 degrees Celsius. There was a shared sense of crisis that if the temperature rise was not kept within 1.5 degrees, it would be irreversible. As a result, more than120 countries around the world have announced the commitment to be carbon neutral (as of April 2021).

In June 2017, the Task Force on Climate-Related Financial Disclosures (TCFD), established by the Financial Stability Board (FSB), published its final report . TCFD, called for companies to understand the financial impacts of climate change and disclose GHG emissions and related risks in their reports (e.g., annual reports). GHG emissions are required to be disclosed not only for the company’s own emissions (Scope 1), but also for indirect emissions from the company’s consumption of electricity and steam (Scope 2), as well as for the entire emissions by the supply chain to which the company belongs (Scope 3).

Against this backdrop, the companies that constitute a supply chain have begun to move toward carbon neutrality for the sake of disclosing their GHG emissions. However, since this involves a long-term investment, they are seeking to sublimate the series of work required for disclosure into an initiative that will lead to competitive advantage, rather than seeing it as a mere expense.

What’s challenging about carbon accounting?

Now, when it comes to calculating GHG emissions, Scope 1 and Scope 2 seem to be manageable for corporations through their voluntary efforts. The problem is Scope 3. In the construction, automobile, food, fashion, and daily necessities industries, it is reported that more than 80% of GHG emissions come from Scope 3. How can we collect those Scope 3 GHG emissions of other companies across the board, which are not covered under our own governance?

The operation envisioned at present is, in a word, an “Excel” accumulation method (or estimation).

It is the same as a parent company distributing Excel financial statement templates to its subsidiaries for consolidated accounting. The buyer distributes the Excel report format to the tier1 suppliers, who in turn distribute it to the tier 2 suppliers, and the bucket relay continues. Other buyers do the same. As a result, suppliers are supposed to receive a myriad of Excel formats in waves. Naturally, this operation poses a variety of challenges.

The challenge for suppliers

• The calculation of GHG emissions is enormous, and we cannot be sure that it is being done in a uniform manner.
• As long as the calculation of GHG emissions is done in Excel, human error cannot be avoided.
• Collecting GHG emissions data is just reporting for reporting’s sake, which does not lead to increased value for the company’s products.

Challenges for Buyers.

• Receiving large amounts of data from suppliers and not being able to be sure that the data is really up to date
• Unable to verify that suppliers are accurately calculating their GHG emissions
• It takes a lot of time and effort to sum up the figures reported by suppliers, and there is room for counting errors.

What suppliers and buyers have in common.

• Insufficient evidence to withstand future audits

So, while we may be able to make it through the immediate voluntary disclosure and reporting, but it is very likely to happen “GHG emissions data fabrication scandal” in the future, when we move to more rigorous disclosure.

One day you won’t be able to trade

Regardless of whether you disclose your GHG emissions or not, it will be essential to indicate the emission data of your products and services. This is because these numbers are used as a decision criterion for customers to choose YOU. If you cannot achieve the standards required by buyers, you may be replaced by another supplier. Thus, moving toward carbon neutral will not only require more work for disclosure, but will also influence the existing long-term, fixed business relationships themselves.

With this sense of urgency, some leaders in the supply chain will go a step further. For example, if a supplier’s product emits too much GHG emissions, they will interfere in confidential areas such as the manufacturing process from the design stage, or propose vertical integration of the supply chain to avoid GHG emissions from logistics. They are also likely to set out initiatives that will bring about changes in the supply chain, such as leading the formation of an ecosystem that enables green loans and sustainable finance involving banks.

Blockchain has the answer

In fact, a technology that can help in this supply chain reform is blockchain. It is a technology for sharing information between companies in a secure manner. Companies can share SENSITIVE carbon neutral data from the source to the chain securely.

However, it is a bit too much to use blockchain just for calculating GHG emissions. Alternatively, we can use the concept to leverage traceability initiatives, that have been attracting attention in recent years.

Use of traceability data

In many cases, traceability can only be proven by self-reporting of data that has been gathered manually. The reliability of the collected data is equal to the credibility of the owner of the data. This is not sustainable at all. Therefore, by using blockchain for traceability, we can give reliability the data itself, not the owner of the data (this is the beauty of blockchain). This data will not be written by only one company, but will continue to be recorded with agreements by multiple parties involved in the supply chain. As a result, the data can walk on its own to prove traceability.

This traceability data can be used not only for its original purpose, but also as source data for calculating GHG emissions. In other words, companies in the supply chain will share data on raw materials and processing, which are the sources of Scope 1 and Scope 2, with buyers. Buyers can then calculate their own GHG emissions based on these data, which leads to the calculation of Scope 3 emissions.

Are the benefits more than just cost savings?

By using traceability data in this way, it will be possible to calculate GHG emissions across companies in real time and accurately. Consequently, the work of collecting and analyzing the necessary data for disclosure will be shortened, which will end up to a reduction in operational costs.

But it doesn’t stop there. This cross-company initiative has the potential to take the buyer-supplier collaboration to a new height. You can say “we report because we care about our customers” or “we contribute to the entire ecosystem for the competitive advantage, maximizing the benefits of the digital age”. The future of choice lies in your hands.

Munetoshi Yamada