PARTNER CONTENT
By Steve Cain
Senior Manager, Novata Services
In private markets, carbon considerations have quickly become a critical aspect of investment decisions. With demand for regulatory disclosures on the rise, there is a growing need for investors and financial institutions to understand the impact of their financed emissions, or the greenhouse gas (GHG) emissions associated with their investments. Steve Cain, Senior Manager of Services at Novata, breaks down how investors can benefit from tracking financed emissions, challenges with calculation, and advice for getting started.
Why are financed emissions important for investors to track?
Financed emissions are a category of Scope 3 emissions associated with a GP’s investments and are, arguably, the most important category of Scope 3 emissions for investors to measure, analyze, and disclose. A 2021 report found that the 18 largest US banks and asset managers financed the equivalent of 2 billion tons of CO2 equivalent in 2020. That’s about a third of the US national greenhouse gas (GHG) inventory for the same time period, which is significant. Financed emissions represent the largest source of emissions for GPs and, by extension, risk.
By tracking these emissions, investors and asset managers can better understand where carbon intensity is concentrated across their portfolios, identify hidden climate risks, and get more visibility into how portfolio companies are performing on carbon.
What are the key methods for measuring and reporting financed emissions accurately?
A firm’s financed emissions include Scope 1 and 2 emissions from an investee company scaled by the level of investment in each company. Fundamentally, there are two types of data investors need: GHG emissions from the companies they invest in and detailed information about their stake in these companies. The GHG Protocol offers some guidance related to financed emissions, although it doesn’t fully address all the nuances of capital market transactions. The Partnership for Carbon Accounting Financials (PCAF) expands on the GHG Protocol’s guidance and is a leading resource for calculating emissions from investments. Those are two key resources that work quite nicely together. There is also some interoperability with other standards and frameworks, such as with PCAF and the TCFD, which was subsumed by IFRS S1 and S2, but the landscape can get a bit complicated in a global context.
How have sustainability regulations impacted the disclosure of financed emissions?
In many ways, reporting is still largely voluntary. PCAF is a voluntary standard. However, we’re seeing a move toward greater demand for Scope 3 emissions data from regulators. Under the EU’s Sustainable Finance Disclosure Regulation (SFDR), financial institutions in-scope will be required to report on their financed emissions. It’s worth noting that reporting financed emissions in compliance with SFDR does differ from PCAF’s guidance — they have two different data processes, so it’s important for investors to keep that in mind as they move forward. I mentioned the interoperability between PCAF and IFRS. That’s important to note as jurisdictions around the world are increasingly adopting these standards into legal or regulatory frameworks.
What are some of the challenges with calculating financed emissions?
You can’t have meaningful financed emissions without bottoms-up, company-provided data. However, obtaining accurate emissions data from portfolio companies can be challenging. Understanding how to merge financial data with GHG emissions data, navigate PCAF guidance, and analyze the calculations also adds another layer of complexity for firms without in-house expertise. This is where engaging a third-party subject matter expert can be helpful. At Novata, my team works with investors to make the process of collecting data from portfolio companies more streamlined as well as calculating financed emissions that are aligned with PCAF standards and support reporting needs.
Additionally, the existing methodologies for measuring and reducing financed emissions require further development. For instance, PCAF’s guidance covers many asset classes, but it does not apply to all investment strategies. There’s also concern that the current focus on lowering the emissions intensity of investment portfolios doesn’t guarantee a reduction in absolute emissions overall. But as the space continues to mature, we’re expecting to see refinement in these areas.
What advice do you have for private market investors getting started?
Financed emissions are a crucial component of an investor’s emissions footprint. If you’re not already calculating them, it’s important to get started, particularly as the private markets face increased scrutiny of sustainability information. Collecting the data from portfolio companies is a critical first step as is ensuring that the information is accurate. This data is foundational to not only your calculations but emissions reduction strategies. It is a complex space, so seeking help when needed is also advisable to ensure you’re reporting in alignment with standards and complying with any regulatory requirements.
Steve Cain, Senior Manager, Novata Services – Steve works directly with investors and private companies to provide guidance on carbon management and ESG data collection. He collaborates with product teams, standard setters, and partners to develop new support modules on the Novata platform and leads the delivery of carbon support services.
