Companies May Soon Have to Reveal a Hidden Risk: Carbon Emissions

In 2020, Microsoft decided to be “carbon negative” by the end of the decade. The goal was to remove more greenhouse gases than are produced from the atmosphere. In that first year, it started on the right foot: Emissions decreased by 6%. But in 2021, the pandemic had some strange side effects. The company’s Xbox One X was sold in large numbers, and stuck-at-home gamers played much more than usual. This impacted Microsoft’s carbon bottom line. The company estimates that consoles emit approximately $2090 of CO2 emissions over their entire lifespan. Some of it comes from the machine’s manufacturing process, but most simply comes from the player connecting to a dirty power grid. Thousands of hours of Call of Duty: Warzone, coupled with factors such as data center construction and equipment manufacturing, were the main reason Microsoft’s overall emissions have increased by more than 20% over the past year.

It has always been difficult to calculate corporate responsibility for emissions. Companies consume energy and, of course, produce greenhouse gases directly — by running office and data centers, manufacturing products, and turning carbon-absorbing wilderness into wastelands. There is no arguing with that. But on the other hand, there’s everything else. A supplier that manufactures product devices and builds new buildings, raw materials extracted from mines, and a vast global transportation network—they all emit carbon. Companies also have customers who consume more energy when they buy a new computer or turn on their Xbox. Some companies, such as Microsoft, count all these emissions and voluntarily publish their results. Despite the bold goal of reducing emissions, most people, despite splashy goals to cut emissions, don’t.

The US Securities and Exchange Commission wants to change that. Last week, the commissioner proposed a new rule requiring public companies to disclose not only what they emit themselves, but all the carbon they need to keep their business going. For the first time in the United States, this will create a standardized disclosure of carbon dioxide emissions for all public companies and regularly make it available to investors. The rules are not final yet. There are still two months of public comments, and we can expect a lot of backlash about where to draw the line, the emissions the company is responsible for, and the standards it uses. But the SEC wants to go broad. Its rationale, in a word, is a risk.

Climate risk is often considered a physical risk. The factory may be near a broken embankment or wildfire area, or it may be due to rising seas or rising temperatures. Not surprisingly, the SEC wants companies to disclose these types of risks. However, there is a second type of risk that arises from the very act of emitting carbon. In its purest form, this type of business risk can manifest itself as a carbon tax. But as the tide shifts to tackle climate change, there are all sorts of other factors that put oil-burning companies at risk, from regulatory challenges and emission restrictions to changes in technology and customer preferences. This is called “migration risk”.

Many of these measurements are now made through a set of guidelines called the Greenhouse Gas Protocol. So-called Scope 1 emissions include emissions that a company produces in-house, and Scope 2 emissions count emissions from the production of the energy used; an integral part of the company. Scope 3 covers everything from highly complex supply chains to customer energy demands to emissions from cars driven by employees. For most companies, “Scope 3 is by far the biggest stakeholder,” said David Rich, senior associate at the World Resources Institute, the nonprofit organization that developed the protocol.

Large companies can draw their ranges 1 and 2 emissions in a relatively light solar panel on the headquarters. Maybe many energy buyers are in a position to pass the center of fossil fuel power charges to renewable energy. It is not so difficult if you have a lot of money and influence. But Scope 3 emissions sprawl beyond the grasp of those companies—they may depend on customers they don’t control or be hidden at the periphery of their supply chain where relationships are more tenuous.

From pharmaceutical companies to technology companies, this is a pattern. There have been significant advances in the first two categories, and steady progress has been seen in Scope 3. This happens to obscure others. However, most companies do not report Scope 3 emissions at all. One of the major reasons is that it’s hard to count and the results do not look good. Consider the supply chain of relatively complex things like laptops. First, go to a trusted supplier and ask about their carbon account. It’s a Chinese company that manufactures screens, cases, and electronic devices, such as chips and processors. It’s not that difficult. But what are the Scope 3 emissions from these manufacturers? And what about their suppliers? And who will supply these suppliers? “This is an exponential explosion problem,” says Shrimali. “At some point, I hit a brick wall.” At this point, the only option is to guess. Maybe you can’t get good numbers from mines that extract boron for shatterproof screens. In other words, we are looking at the average boron removal. But that’s not a satisfactory solution. What if your business relies on a particularly dirty boron source? Those assumptions may appear small, but they go a long way.

There’s a term called “carbon washing”. There are choices for complexity, and you have the option of choosing data or using conservative estimates to reduce emissions. Take a company like Amazon as an example. As Reveal’s Will Evans reported earlier this month, the company’s voluntary report includes all Scope 3 emissions of Amazon-branded products it sells. It accounts for about 1% of the company’s sales but does not include other products sold on the platform. As a result, carbon dioxide emissions are lower than Target. Target is a much smaller retailer that makes up all the products sold in its annual environmental report. In a statement, spokesman Luis Davila hopes that major brands will “consider the carbon of these products in the same way they consider the footprint of their branded products throughout their lifecycle.”

Opponents of the SEC’s proposal reject it, pointing out this complexity and saying that the requirements are tedious and probably not very informative. Corporate groups such as the US Chamber of Commerce and the US Oil and Gas Association are lined up to control the rules, the latter accusing the SEC of “mission creep” by declaring financial risk to investors. Others are focusing on Scope 3 emissions. The American Flexible Packaging Association states that supply chain emissions “completely exceed corporate control and certification capabilities.” Hester Perth, the only SEC member who opposed the proposed rule, called it a “gift to the climate industrial complex.” And it’s probably true that the requirements weigh heavily on some small public companies, Shrimari says. They do not have an army of consultants at their disposal to scrutinize the supply chain.

If the goal is to reduce these burdens, SEC requirements may be the right move, Shrimali says. In the current proposal, Scope 3 applies only to large enterprises after 2025, one year after reporting starts on Scope 1 and 2. The smallest companies do not need to report them at all. And many large companies are already doing this complete analysis, even if they don’t share the results publicly or completely. Companies need to explain why they exclude certain parts from their emission calculations and how they reach estimates. The burden of proof should rest with the company.

Collective action should facilitate the carbon accounting process. Finally, a company’s Scope 3 emissions depend on the direct emissions of the company with which it is trading. Therefore, once everyone starts reporting emissions, it’s easier to get the big picture. “It’s a networking problem,” Shrimali says. “You could write it as simple code.” (Several startups are already lining up to do it with artificial intelligence.) Right now, there are huge chunks of information missing, including emissions data from suppliers in China and India—and, of course, most companies in the US. The SEC’s move will be an important step toward filling in that gap. “This rule is not going to solve the climate crisis,” says Thornton. “But it’s a starting point.”