In the last part, the concept of Net Zero and related terms were touched upon (read here). This part will share a broad overview of setting emission reduction targets (including Net Zero) and achieving those targets. The means to finance the initiatives to achieve the emission targets will be covered in part 3 of the series.
Why Net Zero for corporates?
Before making Net Zero commitments, one must examine why such pledges are needed and whether one has the financial capability to achieve them. Emission reduction is not easy, and making unachievable emission reduction commitments can backfire on financial performance and reputation.
Two significant forces drive emission reductions – governmental regulations and investor demands. On the former, regulations from the US and EU play a crucial role. In the US, the Securities Exchange Commission (SEC) has proposed reporting not only the Scope emissions of companies but also climate related-targets and transition plans as appropriate. On the other side of the Atlantic, the European Union (EU) ‘s Corporate Sustainability Reporting Directive(CSRD) is proposing similar transition plans and time-bound targets in line with the Paris Climate Agreement targets of 1.5 Deg C. Reporting on “Absolute Green House Gas(GHG) targets” in the short term(2030) and long term(2050) are also on the anvil(read here). These regulations do not require firms to make net-zero commitments but need them to make concrete, science-based verifiable emission reduction targets.
The second driver is investor requirement, especially from the big institutional investors like BlackRock, which committed in early 2021 to support the goal of Net-Zero GHG emissions by 2050 or earlier(read here). More recently, the investors’ alliance Glasgow Financial Alliance for Net Zero(GFANZ) pledged to restrict investments to sustainable companies that have decarbonisation plans. GFANZ also released a draft Net-zero Transition Plan(NZTP) framework for the financial sector, including science-based target setting.
Is Net-zero commitment for everyone?
We believe that it is not. While tech giants like Apple or Microsoft are in the relatively low carbon footprint industries and are also sitting on mountains of cash have the wherewithal to make carbon-neutral(Apple) or even carbon negative(Microsoft) commitments(read our Part 1 here for more details), such obligations are extremely difficult for companies in the “hard-to-abate” sectors like fossil fuels, power generation, mobility, steel and cement industries, among others. While making net-zero commitments may not be feasible for everyone, the expectation is that corporates make a solid commitment to achieving the Paris climate agreement target of limiting global warming to 1.5 Degree Celsius.
Setting emission reduction targets, including Net-Zero.
While companies can make emission reduction pledges in a way they choose, more and more companies are using the Science Based Targets initiative (SBTi) platform to commit to their emission reduction targets voluntarily. At the end of June 2022, almost 3300 companies had made their commitments on the SBTi platform, and about half of their targets had been independently validated and approved by SBTi (read more here). An example of the target setting is Astra Zeneca, which has committed to a 1.5 Deg C goal by FY2026 and Net Zero by FY2045.
There have been some criticisms about SBTi’s target validation process, which the SBTi says it is addressing (read here). This article will discuss the guidelines provided by SBTi for setting emission reduction targets.
SBTi guidelines to emissions reduction target setting
The SBTi Net-Zero Standard defines corporate net-zero as:
- Reducing scope 1, 2, and 3 emissions to zero or to a residual level that is consistent with reaching net-zero emissions at the global or sector level in eligible 1.5°C-aligned pathways
- Neutralising any residual emissions at the net-zero target year and any GHG emissions released into the atmosphere afterwards.
At its heart, SBTi requires firms to declare their emission targets “How Much” and “How Quickly” over the years.
The Net-Zero Standard highlights four key elements that are necessary for corporate net-zero targets
- Short Term (5-10 Year emission reduction targets in line with 1.5 Deg Pathways)
- Long Term (Target to reduce emissions to a residual level in line with 1.5 Deg Pathways by no later than 2050)
- Neutralisation of residual emissions (permanent removal and storage of CO2)
- Beyond Value chain mitigation
Science-based targets have three components of target setting – Carbon budget, Emissions Scenario and Allocation Approach. Firms can then use either method to develop a target Absolute Emissions Contraction or Sectoral Decarbonization Approach (SDA) (read more here).
The SBTi recommends a Five-step Approach to Setting Science-based targets
- Select a Base Year
- Calculate Your Company’s Emissions
- Set Target Boundaries
- Choose a Target Year
- Calculate Targets
Once these targets are communicated to the SBTi, the organization will independently validate these targets.
Setting emission reduction targets, including Net-Zero, is an involved process requiring tremendous upfront effort in terms of matching a firm’s willingness to reduce emissions and its capabilities to arrive at ambitious, achievable targets. This includes knowledge capabilities and the ability to finance these emission reduction initiatives. In the third and final part of this series(read here), we explore some available financing instruments that could help a firm achieve its emission reduction targets. The Part 1 of the series can be accessed here.
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