I thought I would post one of my papers from this summer as a foray into environmental valuation and government accounting.  I was curious as to how governments accounted for carbon credits.  Short answer: no standards have been written yet for this type of situation.  I thought this area would be of interest to some because it is a cross between business, environment, carbon trading/clean tech and economics. Enjoy!

This is the best resource to date if anyone is interested in the topic: World Resources Institute and World Business Council for Sustainable Development.  The Greenhouse Gas Protocol: A Corporate Accounting and Reporting Standard (March 2004) http://www.ghgprotocol.org/files/ghg-protocol-revised.pdf

GOVERNMENT AND NOT-FOR-PROFIT GREENHOUSE GAS ACCOUNTING

As awareness increases on climate change, entities are becoming increasingly pressured to act as model corporate social stewards.  As companies make the investments in corporate social responsibility there is an increased official and unofficial pressure to quantify results and pinpoint returns on investments and holdings. There exists emissions legislation on international and multinational levels with the Kyoto Protocol and the European Union Emissions Trading Scheme (EU ETS).  In the United States, emissions trading programs include the California Global Warming Solutions Act (CGWSA), the Regional Greenhouse Gas Initiative (RGGI or “Reggie”), Title IV of the 1990 Clean Air Act, the Chicago Climate Exchange (CCX) and the pending Waxman-Markey Cap-and-Trade legislation.  It is important to know how entities plan to account or already account for carbon and other green house gas (GHG) emissions offsets, an ever increasing tradable asset category for government and non-governmental entities.

According to a 2008 report, generally accepted accounting principles specifically related to GHG emissions cap-and-trade activities do not yet exist in the US.  A preliminary discussion prepared by FASB’s Emerging Issues Task Force (EITF) in 2003 was never issued as a standard because no conclusions were reached , although the EITF did determine emissions are not derivatives.   The International Accounting Standards Board, (IASB) issued a policy called IFRIC 3, Emissions Rights, to address accounting for emissions.  Although the IASB is a young standards board, the issuance was needed because of the international carbon trading scheme which was a by-product of the Kyoto Protocol.  IFRIC 3 was withdrawn in June 2005 due to a mismatch in recognizing a liability at fair value as pollution occurs, without regard to emissions allowances currently held; this created volatility in the income statement, which led to the withdrawal.    Since the United States never signed the Kyoto Protocol had the IFRIC 3 standard passed, these preparation efforts would still not prepare US entities, especially governmental entities, for looming accounting changes.

Currently in the United States we have a voluntary carbon exchange network called the Chicago Climate Exchange (CCX). Under the auspices of this market, voluntary members can register their direct and in-direct GHG emissions .  The purposes of tracking these emissions include: driving policy changes, enhance leadership in climate change mitigation, reduce emissions and to begin to mitigate financial, operational and reputation risks.   The Waxman-Markey Climate bill has passed the House, however there are a number of factors that will determine the passage of the bill in the Senate.  These factors include the economy and jobs, climate change research and discoveries, energy costs, and of course, public opinion and expectations.   Current participants of the CCX voluntary market include such institutions as: the state of Illinois, the state of New Mexico, Michigan State University, University of California San Diego, University of Minnesota, Tufts University, Miami-Dade County, Sacramento County, and numerous non-governmental organizations, utilities and utility regulatory authorities.   If the Waxman-Markey Bill passes through Congress and becomes law, all entities including federal will be mandated to regulate GHG emissions through a nation-wide cap.

Although no standards currently exist to account for a cap-and-trade program, some standards may be interpreted to relate to or house these activities.  GASB 49 requires governments to accrue the cost of pollution remediation as a liability in the basic financial statements, while GASB 18 requires that municipalities account for closure costs of solid waste landfills . An entity would first have to determine if they are a GHG seller or buyer.  If the entity is a buyer it is possible that these liabilities will be accounted for on a program specific basis, and if they are a seller the revenues from selling credits could potentially make GHG activities into a business-type venture.  An interesting standard is GASB 34, which mandates municipalities account for capital assets.  There is increased interest in turning trees or urban forestry into a capital asset, and accounting for these resources as “green infrastructure”.  An interesting study on this idea argues this point, although one of the difficulties determined was that a tree will appreciate over time, unlike other infrastructure entities that depreciate.   A company called Green Community Technologies is incorporating GASB 34 compliance to conduct life-cycle assessments of infrastructure in order to fully account for the cost of the asset, including energy usage and potential efficiencies to reduce carbon and other pollutants.

As there is yet to be a unified policy on GHG emissions, it is difficult to draft accounting standards, however most entities follow the Green House Gas Protocol Initiative developed by the World Resources Institute and World Business Council for Sustainable Development.  The EPA, KPMG and PriceWaterhouseCoopers (PWC) are among the organizations on the working team to develop the standards.  Launched in 1998, the initiative’s mission is to develop internationally accepted GHG accounting and reporting standards for businesses and to promote their board adoption.   Some exchanges use it to monitor their own requirements, including the EPA Climate Leaders, CCX, EU ETS, and the California Climate Action Registry (CCAR).   170 companies and organizations, many of which are under the jurisdiction of FASB, use the Initiative standards as a guide to account for their carbon assets or liabilities, including not-for-profit entities.  PWC recommends that emissions allowances meet the definition of intangible assets as defined by FAS 142, although some entities are accounting for emissions allowances as inventory.

Accounting for emissions as intangibles may make sense under all three accounting standards setting boards as these guidelines already exist.  In 2000 FASAB developed a task force to determine what to do with the amount of federally held natural resources.  The major questions of this task force included: Should a value be reported for natural resources? If so, at what point in time should the value be reported? Should the reporting occur in the financial statements or in an accountability report?  How should revenue generated or costs from the sale of natural resources be accounted for and reported?  The determination of this task force was that natural resources accounting should be placed in the Stewardship Report.  Under this task force, natural resources that were considered included timber, shelf oil and gas, minerals and mineral materials (both liquids and solids), and electromagnetic spectrum. This could be expanded to include gaseous materials.  The task force findings indicate that the in some instances a comparable fair market or commercial value of the resource is sufficient to determine is value, and in other instances a law or regulation can be used to determine the fair market value of a federal natural resource that could be used in reporting .

Another way to investigate how the federal government may account for carbon emissions through a cap-and-trade program is to look at the Environmental Protection Agency’s 2008 Performance and Accountability Report and research the current Sulfur Dioxide (SOx) or “Acid Rain” Cap-and-Trade program. Upon investigating these documents, the EPA reports on outputs of their program to achieve the desired outcome of removing pollutants in the air and governing the Clean Air Act of 1990, quantified through health and other benefits.  A 2005 study estimated the Acid Rain program’s benefits at $122 billion annually in 2010, while cost estimates are around $3 billion annually (in 2000 dollars).    The health savings associated with eliminating a certain risk are a good way to quantify an asset, but there are savings to the long-term and short-term health of the environment, including plant and wildlife quality, that are difficult to capture.

Because of the looming policy changes, there is increased interest to limit risk by adopting the GHG Protocol Initiative, decrease pollutant liabilities or otherwise account for emissions programs through such mechanisms as the Stewardship Report. Unfortunately, it seems that the accounting standards boards, with the exception of IASB, will be in a position where their constituents are already accounting for emissions before the standards are set.  It will be increasingly difficult to set standards as organizations get comfortable with the reporting in this time of transition.  Cap-and-Trade is more advantageous for politicians, but it may be easier in the accounting world to institute a national carbon tax!

END NOTES

“How your company can prepare to mange carbon as an asset” PriceWaterhouseCoopers. June 2008.
Ibid. Page 15.
“How your company can prepare to mange carbon as an asset” PriceWaterhouseCoopers. June 2008. Page 12.
Direct emissions are emitted from the entity, indirect emissions are those emitted from another entity with whom the primary entity does business. This includes claiming emissions equal to the electricity bought from an electric generator, where the electricity was used to support the primary entity.
Chicago Climate Exchange website; Frequently Asked Questions. “What are the benefits of joining?” http://www.chicagoclimatex.com/content.jsf?id=74
A complete list of CCX member organizations can be found here: http://www.chicagoclimatex.com/content.jsf?id=64
Granof, Michael.  Government and Not-For-Profit Accounting. 4th Edition. John Wiley & Sons. 2007
Is the Urban Forest a Natural Resource Public Utility? September 2000. Hudson, Bailey O. Final Report, USDA
Forest Service Grant No: G-5-98-20-076, Vallejo, CA 94591-7009
World Resources Institute and World Business Council for Sustainable Development.  The Greenhouse Gas Protocol: A Corporate Accounting and Reporting Standard (March 2004) http://www.ghgprotocol.org/files/ghg-protocol-revised.pdf
World Resources Institute and World Business Council for Sustainable Development.  The Greenhouse Gas Protocol: A Corporate Accounting and Reporting Standard (March 2004) http://www.ghgprotocol.org/files/ghg-protocol-revised.pdf Page 4.
Federal Accounting Standards Advisory Board. Discussion paper Accounting for the Natural Resources of the Federal Government. Prepared by the FASAB Natural Resources Task Force.  June 2000.
Chestnut, L. G., and Mills, D. M. 2005. A fresh look at the benefits and costs of the U.S. Acid Rain Program. Journal of Environmental Management, 77(3): 252-256.