Greenhouse gas emissions: Less may create more

Climate change remains a growing catalyst for businesses, largely because it’s a growing concern for their customers and other stakeholders. As companies push to reduce greenhouse gas (GHG) emissions in their own operations, cuts in one area can lead to increases elsewhere, according to Professor of Supply Chain Management Craig Carter and his co-authors: Supply Chain Management PhD student Sining Song, Professor of Supply Chain Management Tom Kull, Associate Professor of Management Science Yan Dong of the University of South Carolina, and Associate Professor of Management Science and Statistics Kefung Xu of the College of Business at the University of Texas. 

The research also shows this phenomenon can produce improved financial results for firms that go on the emission-slashing spree. But, that’s likely to change, he says, as firms will increasingly be held accountable for emissions within and beyond their own operations.

Not as easy as 1, 2, 3

At the heart of Carter’s analysis is a threefold method of tracking GHG emissions. Scope one emissions are those from sources owned and operated by a company. Plumes from a firm’s plant count in that category. Scope two emissions stem from sources owned and operated by another company, but they reflect activities conducted by the organization that is reporting them. “A lot of scope two emissions are the result of electricity used by a firm,” Carter explains.

Scope three emissions occur “upstream with suppliers but also downstream with the actual product,” he explains. Downstream emissions include those created in distribution channels, as well as those resulting from energy efficiency — or lack of it — in the product itself.

Carter says firms have increasingly been reporting on scope one and two emissions for several years and, very recently, there’s been an uptick in reporting of scope three emissions. What’s more, that’s likely to increase, in part due to the rapidly growing popularity of the Science Based Targets initiative, a partnership between several nongovernment organizations and the United Nations Global Compact.

To date, 333 corporations have joined this movement in an effort to keep the rise in global temperatures below 2 degrees Celsius, a threshold recommended by scientists to avoid widespread ecological problems. Companies in the initiative span a wide range of sectors and are responsible for 750 million metric tons of carbon dioxide emissions per year, the equivalent of 158 million cars being driven for a year. To be part of this initiative, companies pledge to track emissions in compliance with strict criteria that includes reductions throughout the supply chain.

The whack-a-mole effect

Here’s the problem: “As firms focus on their own emission reduction programs, those efforts increase scope three emissions,” Carter says. That doesn’t help the environment, but it does help firm performance.

How does this occur? A common way firms reduce emissions is by outsourcing production to another organization, Carter explains. But, maybe that other firm uses inefficient processes. Perhaps it’s located in a “pollution haven” where environmental regulation is lax. And, of course, the more the supplier produces, the more pollution that supplier emits. So, a company may slap down its own emissions, but others pop up in the supply chain.

“Even if the supplier is equal in terms of output, you’ve increased your supply chain footprint in terms of moving materials and product,” Carter notes. That means scope three emissions rise.

Still, outsourcing has positive results for a firm. “Wall Street loves to focus on return on assets,” Carter explains. “If you have fewer assets because you’ve outsourced production, your ROA goes up. That has an impact on other financial measures, so performance improves. You’ll be rewarded in the short run. In the long run, maybe not.”

As if they care

Just 25 percent of people surveyed by Gallup in 2011 said they were concerned about global warming. In 2017, that number nearly doubled. At the same time, 62 percent of people believe the effects of climate change are already underway, and 68 percent attribute it to pollution from human activity.

Climate fears are also trickling down into buying behavior. A 2017 study conducted by Unilever found that one-third of consumers are now choosing brands based on social and environmental responsibility. In 2015, the Nielsen Company found that 72 percent of millennials were willing to spend more for environmentally friendly products, up from 55 percent a year earlier.

Companies are responding to that increase in environmental angst. “Far more companies voluntarily agreed to participate in the Science Based Targets initiative than what was originally anticipated,” Carter says. The number is more than double original estimates. “The thought is that companies are doing this because they realize they need to self-govern because there will be less federal oversight in the near future and watchdog groups may fill this void.”

Such watchdogs will be scrutinizing all of a firm’s emissions, not just those coming from activities conducted within a firm’s own facilities, Carter says.  “Scope three emissions are no longer going to be invisible. If you’re not reporting them, at some point, stakeholders will call you on this.”

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By Betsy Loeff