Internal Carbon Pricing

➢  The number of listed Indian companies disclosing ICP in annual reports or CDP survey has increased from 29 in FY22 to 40 in FY23.

➢  The prices across the sample ranges from 2.5 USD to 157 USD. This wide range is exhibited by the Consumer Discretionary sector.

➢  More than half of the companies are using shadow pricing method for ICP evaluations. Around two-thirds of the companies cover scope 1 and scope 2.

➢  The use of ICP in company strategies is independent of the type of industry in which it operates. In other words, a company in easy to abate sector may put a higher price on emissions based on other company specific factors and vice-versa.

➢  Intuitively, in emission intensive businesses like steel and cement, revenue generation hasn’t yet decoupled from emission levels. This can be concluded from weak but negative relationship found between carbon productivity and size of the company.

➢  Less emission intensive sectors can increase revenue and simultaneously reduce emissions as observed from a strong relationship between carbon productivity and size of the company.

Internal Carbon Pricing (ICP) is a mechanism used by companies, organizations, or governments to incorporate the cost of carbon emissions into their decision-making processes. It is a way of internalizing the external costs associated with greenhouse gas emissions and can play a significant role in incentivizing emissions reduction.

The three common methods of implementing ICP are:

1. Shadow Price:

By attaching a hypothetical price to each tonne of carbon, businesses can evaluate the potential costs and benefits of investing in low-carbon technologies, renewable energy sources, or other emission reduction measures. Using a shadow price can help companies assess the financial implications of their emissions and evaluate the economic feasibility of transitioning to cleaner technologies or implementing energy-efficient practices.

2. Implicit Price:

Many Indian corporates have set emission reduction targets as part of their sustainability initiatives. Calculating the per unit cost incurred for emissions abatement enables these companies to assess the cost-effectiveness of various emission reduction measures. This estimation helps the company prioritize investments and allocate resources effectively to achieve its emission reduction targets.

3. Internal Fee:

It is a monetary value placed on each tonne of carbon. Implementing an internal fee on carbon emissions can generate a dedicated revenue or investment stream to fund emission reduction projects or other climate change-related initiatives.

The number of listed Indian companies disclosing ICP in annual reports or CDP survey has increased from 29 in FY22 to 40 in FY23. These companies have reported using ICP for driving low-carbon investment, energy-efficient projects, to identify and seize low carbon opportunities, manage stakeholder expectations and to stress test investments.

The prices across the sample ranges from 2.5 USD to 157 USD. This wide variation in prices is observed in the consumer discretionary sector. Companies in the IT sector, except Wipro, implement an ICP ranging from 10 USD to 30 USD. Meanwhile, Wipro accounts for its costs of emissions at 108.8 USD. Consumer Staples sector displays the narrowest price range starting from 9 USD to 10 USD.

Materials, an emission intensive industry, is implementing ICP proactively with 12 companies out of the 40 belonging to this sector. Ambuja Cement Limited, Shree Cement Limited and UltraTech Cement Limited had been using ICP in their investment decisions since 2014, 2018 and 2019 respectively.

Referring to Communication Services, Energy, Industrials, Materials and Utilities as hard to abate sectors, it may seem intuitive that they will adopt a higher ICP. However, this couldn’t be concluded from the data.  Wipro, an IT sector company, increased their ICP from 50.1 USD in FY22 to 108.9 USD in FY23. Meanwhile in the energy sector, there was no company found to be disclosing quantitative information on ICP.

This suggests that usage of carbon pricing in company strategies is independent of the type of industry in which it operates. In other words, a company in easy to abate sector may put a higher price on emissions based on other company specific factors and vice-versa.

More than half of the companies in the sample use shadow pricing method to calculate their cost of emissions. Around two-thirds of the companies cover scope 1 and scope 2 with the highest price used by Mahindra Lifespace Developers Ltd. at 104 USD. Meanwhile, 11 companies assess emissions across all three scopes (1, 2, and 3) in their ICP evaluations. The highest price among these 11 companies is 157 USD implemented by Amara Raja Batteries Ltd.

Carbon productivity is assessed for companies that have disclosed ICP in FY23. It is calculated by dividing the total revenue in FY23 by the Scope 1 and Scope 2 emissions for the same period. Expressed in Million INR per metric ton of CO2 equivalent (tCO2e), this metric indicates the revenue generated from each unit of emissions. Higher carbon productivity reflects greater revenue generation relative to emissions output, suggesting a more efficient utilization of resources and a lower carbon intensity.

Carbon productivity is compared with revenue as proxy for size of operations. The correlation between them was observed to be -0.05 in hard to abate sectors.

Intuitively, in emission intensive businesses like steel and cement, revenue generation hasn’t yet decoupled from emission levels. It can be concluded from weak but negative relationship between carbon productivity and revenue.

Information Technology, Consumer Staples, Consumer Staples, Real Estate and Healthcare are referred to as easy to abate sectors. For companies in these sectors, a strong positive relationship between carbon productivity and revenue was found. It means that revenue per unit emissions increases as the size of the company increases.

The observed correlation coefficient of +0.65 suggests that companies in less intensive sectors have been able to capitalize on economies of scale to increase revenue and simultaneously reduce carbon emissions.

The above analysis underscores the importance of sector-specific approaches and tailored strategies to address the relationship between revenue generation and carbon emissions. This further strengthens the case for the use of Internal Carbon Prices to assess investments in achieving their sustainability initiatives.

The information on ICP of various companies has been captured primarily through their annual reports and their response to CDP survey. The information on Scope 1 and Scope 2 emissions has been captured from BRSR disclosures. To access and download the dataset for ICP, visit Data Hub| ICCAD or connect on iccad@ckinetics.com