by Lily Branstrom
Environmental Risk Analyst, Environmental Risk Innovations (ERI)


and Hailey McQuaid
ESG Project Manager, The EI Group

Welcome back to our Banks, Borrowers, and Climate Change series! In case you missed our introduction to the series, you can read it here. Our first blog in the series, “Banks, Borrowers and Climate Change: How Disclosure of GHG Emissions Will Impact the Lending Process for Public Corporations” and our second blog “Climate Action in Financial Institutions Initiative” are also available.

The bottom line: The SEC will require public companies, including banks, to disclose annual carbon emissions from their operations in their annual report.

In the pursuit of a sustainable future, the financial industry plays a crucial role in mitigating climate change by aligning its practices with environmentally conscious standards. The Partnership for Carbon Accounting Financials (PCAF) has emerged as a key player in this space, introducing the Global GHG Accounting and Reporting Standard specifically tailored for the financial sector. This groundbreaking standard is designed to measure and disclose the greenhouse gas (GHG) emissions related to business sectors associated with financial activities, providing transparency and accountability in the fight against climate change. While the SEC’s proposed Climate Disclosure Rule awaits its verdict, that doesn’t mean financial institutions are off the hook. The nonprofit organization Ceres, that works with investors and companies to address environmental challenges, found that 65% of the letters submitted to the SEC by investment firms called for companies to be required to include scope 3 emissions. While required reporting will at first focus on large, public companies, there will undoubtedly be a trickle-down effect. The PCAF standard provides financial institutions a high-level roadmap to calculate emissions, but institutions will still need to build in-house expertise regarding carbon accounting or search for a third-party company to assist them.

PCAF’s goal is to encourage transparency and accountability in the financial sector regarding the climate impact of investments and lending activities. PCAF provides a framework for financial institutions to measure and report the carbon footprint of operations associated with their investments, loans, and other financial products. By doing so, the initiative aims to support the alignment of financial flows with the goals of the Paris Agreement and the global efforts to address climate change.

Key Features of the PCAF Global Accounting and Reporting Standard

Scope of Emissions: The standard encompasses three scopes of emissions:

     

      • Scope 1: Direct emissions from owned or controlled sources.

      • Scope 2: Indirect emissions from the generation of purchased energy.

      • Scope 3: Indirect emissions from value chain activities, including investments, loans, and other financial services.

    Comprehensive Reporting: PCAF provides a comprehensive framework for reporting GHG emissions, taking into account both financed emissions (related to investments and loans) and operational emissions (related to the financial institution’s activities).

    Data Quality and Accuracy: The standard emphasizes the importance of data quality and accuracy, urging financial institutions to use credible emission factors and data sources. This ensures that the reported information reflects the true environmental impact of financial activities.

    Consistency and Comparability: PCAF promotes consistency and comparability in reporting by establishing a common methodology. This allows for meaningful benchmarking and analysis across different financial institutions, fostering healthy competition in reducing carbon footprints.

    Scenario Analysis: Financial institutions are encouraged to conduct scenario analyses to assess the potential impact of different climate scenarios on their portfolios. This forward-looking approach helps institutions understand and manage climate-related risks and opportunities.

    Disclosure: Transparency is a key element of the standard. Financial institutions are expected to disclose their emission data in a clear and accessible manner, enabling stakeholders, including investors and the public, to make informed decisions.

    Benefits of Adopting the PCAF Standard

    Risk Management: By measuring and disclosing emissions, financial institutions can identify and manage climate-related risks in their portfolios, ensuring long-term financial stability.
    Investor Confidence: Transparent reporting enhances investor confidence, attracting capital from environmentally conscious investors who prioritize sustainable and responsible financial practices.
    Regulatory Compliance: As climate-related regulations become more prevalent, adopting the PCAF standard positions financial institutions to stay ahead of regulatory requirements and contribute to global sustainability goals.

    Asset Classes Identified in the Standard

    PCAF has identified the following seven asset classes that are affected by carbon footprint disclosure:

    1)     Listed Equity and Corporate Bonds
    2)     Business Loans and Unlisted Equity
    3)     Project Finance
    4)     Commercial Real Estate
    5)     Mortgages
    6)     Motor Vehicle Loans
    7)     Sovereign Bonds

    Each asset class uses a slightly different methodology to calculate, disclose, and report the associated carbon footprints. The only measured financial products are the ones on the balance sheet of the financial institution or managed by an asset manager at the fiscal year-end. Revolving credit facilities, bridge loans, and letters of credit are only considered if there is outstanding finance on the balance sheet at the fiscal year end. However, assets held for a short duration or designated as for sale are not included, resulting in PCAF deliberating on how to best capture these assets in the carbon footprint. A general overview of the GHG Accounting methodology for each asset class includes the following:

    Scope Definitions:
    Identify and define the scope of the assessment, including the emission sources and activities to be considered.

    Distinguish between direct (Scope 1), indirect (Scope 2), and certain categories of indirect emissions (Scope 3) associated with financed activities.
    Data Collection:
    Collect data on the financial institution’s investments, loans, and other relevant financial activities.

    Gather data on the emissions associated with the underlying assets or activities financed by the institution.
    Emission Factors:
    Use established emission factors to estimate GHG emissions associated with the specific asset class or type of financial activity. This information can be obtained from PCAF.
    Calculation:
    Calculate the total GHG emissions associated with the financial institution’s portfolio based on the gathered data and emission factors.
    Reporting:
    Report the calculated GHG emissions in a transparent and standardized manner.

    Disclose the methodology, data sources, and any assumptions made during the assessment.
    Risk and Opportunities Analysis:
    Analyze and assess the climate-related risks and opportunities associated with the institution’s portfolio.

    Consider the potential impacts of climate change on the financial performance of investments.
    Targets and Mitigation Strategies:
    Set emission reduction targets, if applicable, and develop strategies to mitigate the carbon footprint of the portfolio.

    Consider opportunities for low-carbon or sustainable investments.
    Verification:
    Consider third-party verification or assurance processes to enhance the credibility of the reported data.

    Conclusion

    The PCAF Global GHG Accounting and Reporting Standard is a pivotal tool in the financial industry’s journey towards sustainability. By providing a common framework for measuring and disclosing emissions, PCAF empowers financial institutions to align their activities with climate goals, foster transparency, and contribute meaningfully to the global effort to combat climate change. As more institutions embrace this standard, the financial industry is poised to play a leading role in building a greener economy. Businesses will be pushed by financial institutions to provide climate data (that might have never been captured before), changing the way businesses interact with financial institutions. 

    For the latest and most accurate information, it is recommended you refer to the most recently published PCAF documentation and guidelines. Be on the lookout for more information from EI and ERI which dives deeper into each asset class and additional GHG Accounting initiatives and standards.

    Next: If the “Banks, Borrowers and Climate Change: An Overview of the PCAF Global Accounting and Reporting Standard” article interested you, join us for our next blog:  

    “PCAF’s Part C Standard: A milestone for Climate Action I the RE/Insurance Sector,” where we will look at PCAF’s standards related to GHG emissions associated with underwriting insurance and reinsurance company portfolios.

    The EI Group, a multidisciplinary environmental engineering, occupational safety and health consulting firm whose primary focus is aimed at supporting Fortune 1000 corporations involved in manufacturing, energy production and transportation services, and Environmental Risk Innovations (ERI), a consulting firm which manages environmental risk for banks, have formed an alliance to address the needs of publicly traded commercial lenders and those corporate borrowers targeted for commercial loans to assist their customers, both banks and corporations, in meeting the pending SEC rule requirements. As part of this initiative, The EI Group and ERI has launched a joint blog series which outlines the SEC rule in detail.