The financial risk to companies in the S&P 500 would vary considerably under a carbon emission cap-and-trade program, an analysis has found. Earnings of most companies would be "relatively unaffected," but some could face costs that could more than offset all their earnings, according to a report by the nonprofit Investor Responsibility Research Center Institute (IRRC) and Trucost, a carbon data analyst.
In "Carbon Risks and Opportunities in the S&P 500," the authors analyzed the potential financial applications of applying a carbon price to global emissions for companies listed on the index. It compared companies and sectors on absolute emissions and carbon intensity, as well as the potential carbon costs relative to revenue and earnings before interest, tax, depreciation and amortization (EBITDA).
"The cost of carbon emissions has been passed to the public and not reflected in the financial statements of companies," said IRRC Program Director Jon Lukomnik. "The analysis makes clear that a cap-and-trade system is a real game changer. A number of companies will have to reform how they think about carbon emissions and the associated costs, or their bottom line will suffer greatly."
The research findings come as legislation moves through Congress to combat climate change by reducing the amount of greenhouse gases (GHG) emitted into the atmosphere from U.S. power plants and industrial processes.
The report "suggests that some companies and investors could be caught off guard," Lukomnik said. "Two-thirds of S&P 500 companies have inadequate GHG emissions disclosures. Investors would be wise to watch closely as the Congress continues its consideration of the American Clean Energy and Security Act of 2009. The legislation is considered highly complex, and could have profound, long-lasting impacts on company balance sheets."
According to the report:
Carbon costs are not reflected in a company's financial statements because there is no charge for emissions, the authors noted. However, the proposed cap-and-trade legislation being considered in Congress "would make new carbon costs explicit," and "adds urgency to the need for investors to consider developing a framework to consider climate change issues" that might include assessing material climate risks to returns; incorporating criteria on carbon disclosure and performance into active ownership practices; and developing the capacity to evaluate carbon exposure in stock selection analysis.
Trucost CEO Simon Thomas said the findings "reveal that there clearly will be winners and losers. Companies that are more carbon efficient than sector peers across their own operations and supply chains stand to gain a competitive advantage. Now is the time for companies to begin measuring and reducing their carbon emissions to ensure they are well positioned to minimize the risk of climate change regulation.
"Already we are seeing increased interest from investors looking to reduce their own risk by positively selecting those companies with lower carbon emissions, and this is set to increase in the future."
The report is available at www.irrcinstitute.org and www.trucost.com. The report also is included in the Social Science Research Network Corporate Governance Network at http://www.ssrn.com/cgn/index.html.
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