This blog post originally appeared in wri.org.
The Indian government has adopted some of the world’s most ambitious renewable energy targets, which are a centerpiece of its strategy to address climate change. Now, 40 Indian companies are joining the national effort by setting a price on their internal carbon emissions, which can facilitate greener decision-making.
For these companies, setting an internal carbon price is a significant departure from business as usual, but it reflects a global trend. According to CDP, 1,389 firms around the world were pricing or planning to price carbon internally across their operations or value chains last year.
WRI India recently surveyed 27 Indian companies that are developing plans to implement an internal carbon price. We compiled our findings in a new working paper, Reducing Risk, Addressing Climate Change Through Internal Carbon Pricing: A Primer for Indian Business.
4 Ways for Businesses to Price Carbon
Our research reveals a variety of approaches that helped companies assign a value to their carbon emissions:
Shadow pricing: Companies attach a notional value to carbon emissions in order to assess the risks of business investments under anticipated government policies that increase emissions-related costs. This may be expensed on projected income statements, so investments that have a big carbon footprint will reduce projected net income—which is watched closely by investors—more than greener ones. We found that companies tend to favor shadow pricing at the start of their journey and use it as a management tool to support decision-making. The key to success in shadow pricing is anticipating how it will influence strategic planning, risk management and capital investment decisions. Arvind Textiles, for example, focused on electricity use, which accounts for half of its carbon emissions. It set a shadow price that reflected the highest rates it paid for electricity, making energy efficiency and renewable energy investments more viable.
Internal carbon tax or fee: A company charges itself a fee for each ton of carbon emissions that it generates, creating an internal fund that can be applied to emissions reduction projects with long-term payback periods. The difference between a shadow price and a carbon tax is that the shadow price is applied to projected emissions of future investments, while a carbon tax is applied on current emissions. Dalmia Bharat Cement, a leading cement company, used an internal carbon price pilot to generate funds for investing in low-carbon technology. The company installed a 10 MW waste heat recovery power plant in one of its Indian subsidiaries, which is expected to reduce 80,000 tonnes of carbon emissions annually.
Internal cap and trade: This approach sets an upper limit on total emissions from all business activities. The company creates an allowance for each ton of carbon emitted, and business units can buy, sell or trade any excess allowances amongst each other. This results in a value or price being attached to GHG emissions. An internal cap and trade is a good choice for conglomerates and other corporations with diverse operations because it gives carbon-intensive business units added flexibility while reducing emissions company-wide.
Implicit carbon price: This is calculated based on how much it costs a company to implement emissions reduction projects, such as renewable energy purchases or energy-efficiency upgrades. An implicit price is calculated retroactively, after a company achieves its desired emissions cuts. Therefore, any company with climate- or energy- related targets has an implicit price, and in fact, several implicit carbon prices may co-exist within the same company. They can be used as a benchmark for calculating and setting an internal carbon price. Mahindra & Mahindra, a utility vehicle and farm solutions conglomerate, used an implicit carbon price to determine its internal carbon price and shift investments toward lower carbon initiatives.
Some companies may choose a hybrid tactic—for example, using both an internal carbon fee and a shadow price.
Preparing for a Low-Carbon Future
Under the 2015 Paris Agreement, India committed to generating at least 40 percent of its electricity from non-fossil sources and decreasing the emissions intensity of its GDP by 33 to 35 percent by 2030. It has set ambitious renewable energy targets and has promoted energy efficiency. But India has also prioritized socioeconomic development, so it is likely that absolute emissions will rise despite these commitments.
Private companies can be key players in helping to curb India’s GHG emissions, and they have demonstrated their interest in helping the Indian government move toward climate action. Adopting an internal price on carbon is one way to advance this goal, and a promising place to start.
EDITOR'S NOTE, 4/17/18: A previous version of this blog post indicated that these four lessons can work anywhere. We have since amended the post to clarify that WRI's research only examined these strategies in Indian businesses.