Finding net zero

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Removing fossil fuels from the global economy has become increasingly imperative as the world battles to tackle climate change. But how realistic are carbon reduction targets and what makes a good net zero commitment from a company?

Russia’s invasion of Ukraine and the cost of living crisis have thrust global energy security into the spotlight. Spiking energy prices threaten to derail efforts to meet Paris Agreement targets on climate change, ramping up pressure on corporates and asset managers to fully prepare for net zero transition.

The energy crisis has illustrated the magnitude of countries’ reliance on fossil fuels, particularly developing nations, complicating the picture for governments, companies and investors over their own climate change commitments. Are corporates on the right path and what role can asset managers play in the net zero transition?

Alan Lander, investment manager and co-head of research at Walter Scott, welcomes the steps global corporations have taken to address climate change in recent years, but he says it is important for investors to cut through any bluster by scrutinising net zero claims with the same rigour they would any other long-term corporate strategy.

Not all climate claims and targets stack up and we are wary of the potentially overly ambitious use of the ‘net zero’ label and other tactics that can be used to make a business seem greener than the facts might indicate,” Lander says. “Too many net zero claims are vague, lacking both detail and strategy and too often the details we do see are not stretching enough for the company in question to be on the right trajectory.”

In isolation, a net zero target brings no obligation for a company to change its behaviour in the short term, Lander notes, while the long-term time horizon involved – often stretching decades into the future – means the management team that announces the target will rarely be around to carry the can if it is missed.

Understanding transition

To better understand the transition, Lander says it is important to establish what scope of emissions are included in a net zero target and to what extent carbon offsetting mechanisms will be used in achieving that goal. Lander believes a company’s net zero target should cover a broad scope of emissions, including the full gamut of so-called scope 3 emissions under the widely respected Greenhouse Gas Protocol (see box), and incorporate only high-quality offsets for emissions that are hard to abate with today’s technologies.

When appropriate and when properly structured, a net zero target should form part of a company’s overall climate strategy,” he adds.

In a portfolio context, Walter Scott believes all companies should be relevant in a ‘global energy system’ compatible with limiting global warming to 1.5 degrees. This means looking at a company’s contributions through its influence on the system as a whole, not just its own consumption and production of energy.

System-wide emissions are the most important factor, argues Walter Scott, because “a company that is contributing to system-wide emissions reduction (net of its direct emissions) can form part of an equation that solves for lower global temperature rise (irrespective of those direct emissions)”.

The global energy system is too complex to adopt a one-size-fits-all solution to emissions reduction,” it adds.

Avoiding divestment

Divestment is not the right way to approach net zero says Newton Investment Management, which advocated engaging with companies and allocating to those that are doing their utmost to create credible and effective transition plans.

But ultimately Newton global head of sustainable investment Therese Niklasson says when companies are not committed to and planning for their transition there must come a time when a line is drawn in the sand. Companies that ignore their externalities would not present the best investment opportunities over the long term, she says.

While investment managers must make sure we strive to make investment as ‘just’ as possible there will be winners and losers from this,” she adds.

Insight Investment also believes engagement is likely to be more impactful than divestment and that investment professionals can work with issuers wherever possible to ensure better outcomes for them, for investors and for broader society.

Greenhouse Gas Protocol emissions scopes

According to the United Nations Net zero means cutting greenhouse gas emissions to as close to zero as possible, with any remaining emissions reabsorbed from the atmosphere by forests and oceans.

Source: Deloitte. Scope 1, 2 and 3 emissions. What you need to know.

Important information

GE1045396 Exp: 14 October 2022

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