The UK Government has set ambitious decarbonisation targets for UK industry to enable the UK economy to reach net-zero carbon emissions by 2050. While some multinational businesses are engaging in trials of new technologies and processes to reduce their emissions, many are yet to formulate a clear plan to get to net zero – and many more have not yet begun to seriously consider the problem.
For some, it would seem there is not yet a compelling financial reason to act. Many businesses are reluctant to implement carbon reduction measures until the cost of doing nothing outweighs the cost of doing something. For other businesses, there may be no obvious ready-made solutions to their decarbonisation challenges today, but a sense that future technologies will provide the answers.
There is also the sheer difficulty of the task. Many businesses don’t know where to start, how to start, or what options are available to them to decarbonise their operations.
Large carbon emitters will find their compliance costs dramatically increasing this year as a result of the change from EU Emissions Trading Scheme (ETS) to UK ETS. And while there may be less of a financial imperative for smaller industrials to cut carbon right now, over the next three to five years many more businesses will start to see increased costs from inaction. The longer they wait, the more they will pay in direct costs such as higher energy bills and carbon taxes, and indirect costs, including reputation and lost business.
Ultimately, the cost of doing nothing could be very high indeed.
Investors are more demanding of what action businesses are taking to address climate change. For example, there has been a tremendous growth in expectations concerning environmental and social governance (ESG). A recent podcast hosted by McKinsey & Company highlighted emerging evidence that a better ESG score translates to about a 10% lower cost of capital, as implementing ESG measures reduces business risks.
Often, the easiest way to reduce Scope 1 emissions, or direct emissions from the business’s activities, is to implement energy efficiency measures, which in itself will save money. Scope 2 emissions from the generation of purchased energy can be avoided by procuring from renewable sources.
Businesses with a clear plan to lower emissions are becoming more attractive to their customers, who are on their own sustainability journeys and seeking to minimise the impact of Scope 3 emissions – the indirect emissions that occur in a company’s value chain.
Such stakeholder benefits alone should be motivation enough for many businesses to begin to act on their carbon emissions today. However, for heavy industries, decarbonisation will require significant investment in new processes and weighing up these investment decisions is far from straightforward, especially in the context of a regulatory environment that is still evolving.
In incurring additional costs, businesses must look at their competitiveness: can they pass these costs onto customers, or will their customers look to switch suppliers and effectively ‘offshore’ their Scope 3 emissions? Climate change is a global emergency; an effective carbon border adjustment mechanism is required to prevent supply chains from simply exporting their Scope 3 emissions by buying goods from businesses operating in countries with less strict regulatory frameworks.
For companies looking at the cost levers that will provide the financial imperative to decarbonise, carbon taxes and energy price volatility represent the two biggest risk factors.
By adopting the Committee on Climate Change’s (CCC) advice on the Sixth Carbon Budget, the Government has committed to reduce the UK’s net emissions by 78% by 2035, against a 1990 baseline, and it has made it clear that it wants carbon pricing to be one of the levers to drive net zero. Under the UK ETS, power plants and other high emitting corporates will be charged for every tonne of CO2e they emit over a specified limit. Companies can trade emissions by selling excess reductions to other companies that have failed to meet their limits. In time, many more companies will fall under the UK ETS as outlined in the Government’s Hydrogen strategy as the Government is committed to expanding the reach of the scheme.
With carbon prices increasing, businesses with high emissions must decide whether to buy permits now or defer for a later date. The third option is to invest in carbon reduction and net-zero measures and reduce the risks associated with rising carbon taxes.
There are several factors affecting UK energy prices. Wholesale electricity costs are driven by LNG costs, and with economies across Asia picking up post-Covid, demand for gas is outstripping supply. As a result, wholesale summertime energy costs are at their highest for 20 years or so. Non-wholesale costs are also increasing as energy users are required to contribute to network upgrades and subsidy schemes that support the continued transition to renewable energy. Both trends are set to continue, resulting in high – and volatile – energy prices for the foreseeable future.
Companies have different motives to decarbonise. In practice, a combination of trigger points will force businesses to act. Supply chain expectations, increasing carbon costs, capital market and investor requirements, volatile energy prices and the emergence of low-regrets solutions will nudge businesses towards action. Increasingly though, businesses will change because of the overriding moral imperative to reduce their impact on the environment.
About the author
Ian Hibbitt is Business Development Manager for Industrial Decarbonisation & Applications at BOC UK & Ireland.