Consideration of a range of environmental, social, and governance (ESG) factors is an important component of any assessment of a company’s ability to sustainably generate shareholder returns.
As investors, we have always insisted on thinking for ourselves, taking a long-term perspective and acting in accordance with our values. Our approach to responsible investing is no different. ESG assessments are integrated in our investment process from the genesis of the investment idea until we sell our last share. We aspire to deliver on behalf of clients who share our belief that investing responsibly is an integral part of investing well. You can learn more about Allan Gray’s approach to responsible investing on our website.
As part of our efforts to ensure our investment decisions remain independently informed, long-term focused, and aligned with our contrarian values, we are undertaking a series of in-depth research projects relating to ESG factors that may materially affect companies’ intrinsic value. The first of these projects has focused on the use of carbon credits and the Australian Carbon Credit Unit (ACCU) scheme.
The use of carbon credits to offset emissions is increasingly common as more companies set targets to reduce their greenhouse gas (GHG) emissions.
What are carbon credits?
Carbon credits are issued to operators of projects that either reduce or abate GHG emissions. There are many carbon credit schemes around the world, and usually one carbon credit is issued per tonne of emissions reduction or abatement brought about by the relevant project. Project types include, for example, planting trees in areas that have previously been deforested, conservation of trees that may otherwise have been cut down, and projects that reduce the amount of methane emitted from landfill sites.
An essential component of carbon credit schemes is the concept of additionality. That is, carbon credit schemes are designed to incentivise the reduction or abatement of GHG emissions that would not have occurred in the absence of the relevant scheme. In other words, if the schemes work properly, carbon credits should not be issued for reduction or abatement activities that were already taking place or would take place even if they did not attract carbon credits. For carbon credit schemes to be effective at bringing about actual reduction in GHG emissions, integrity in this regard is crucial.
Carbon credit schemes are designed to incentivise reduction and abatement activities because of the value that attaches to carbon credits. Project operators make money by selling the carbon credits they generate to companies seeking to offset their actual emissions. Once a given carbon credit is used to offset emissions, it is ‘retired’ or ‘surrendered’. That is, the same carbon credit cannot be used multiple times.
ACCUs are issued by the Australian Government Clean Energy Regulator (CER). Whilst Australian-listed companies can use carbon credits issued under various schemes, including international schemes, to offset their actual emissions, any company required to offset emissions because they have exceeded their baseline under the CER’s Safeguard Mechanism must use ACCUs for that purpose. Because of this, and because many Australian-listed companies use ACCUs to maintain a carbon-neutral status, the effectiveness of the ACCU scheme is vital to Australia’s national climate change targets.
Are ACCUs accurate?
There is a growing body of criticism regarding the integrity of the ACCU scheme. This criticism relates to the possibility that a substantial number of issued ACCUs relate to projects that do not satisfy the additionality requirement. Partly because of this criticism, the Australian Government recently announced that an independent panel will review the integrity of ACCUs, as it wants to “make sure it remains a strong and credible scheme supported by participants, purchasers and the broader community”.
A potential lack of integrity in the ACCU scheme has broad and serious implications. For example, companies using ACCUs to offset their GHG emissions may place reliance on the CER’s ACCUs and expect that the underlying projects have resulted in the actual additional abatement of GHG emissions such that their actual emissions are effectively ‘cancelled out’. In turn, shareholders may be affected as this information impacts companies’ ESG credentials and feeds into share prices.
It is possible that many of the integrity concerns relating to the ACCU scheme could be addressed by increased transparency regarding the emission-reduction potential of underlying projects. It may, however, also be necessary for more stringent registration requirements to be implemented to ensure that those projects bring about additional emissions reduction. Either way, increased transparency and availability of information within the scheme generally would enable buyers (e.g. companies) to better assess the quality of ACCUs and for the market to therefore be better informed about their ESG credentials. Increased transparency and information on project structure would enable buyers to assess ACCU quality more accurately.
Carbon credits and Allan Gray Australia
Allan Gray Australia has previously used carbon credits to offset our own emissions and we plan to do so in future. We are currently investigating ways in which we can better ensure the integrity of the carbon credits on which we rely. We are also considering how we can positively contribute to the formal review into the ACCU scheme, as we believe that the financial services sector is also arguably one of the best placed sectors to agitate for relevant policy changes.
