Many enterprises talk a good game when it comes to decarbonisation and emissions scopes, but credibility is key. For investors and asset managers, it is not enough to take a company’s claims about emissions reduction at face value; they have to dig into the data and examine the actions taken. They also have to walk the talk and align the expectations they have of potential investment targets with their own behaviour.
“Climate change is a strategic priority for us and tracking greenhouse gas emissions plays a key role in that,” says Eva Cairns, abrdn’s head of sustainability insights & climate strategy. abrdn became a signatory to the Task Force on Climate-Related Financial Disclosures (TCFD) in 2017 and published its third TCFD report in 2022 – which includes abrdn’s own emissions.
”There are two sides to our reporting,” Cairns explains. “Firstly, what we do as a corporate in terms of managing our own operational emissions scopes. The biggest challenge there is emissions related to business travel. Secondly, as investors, we need to integrate climate change risks and opportunities into our investment process; understanding how carbon risk is managed by the companies and assets we invest in, but also, the impact our investments have on emissions levels.”
abrdn has set itself a target to reduce corporate carbon emissions by 50% by 2025 (from a 2018 baseline) and to be net zero by 2040. The company is also committed to reducing the carbon intensity of investment assets in scope by 50% by 2030. abrdn is engaging with its highest financed emitters to obtain clarity on their decarbonisation plans and track progress against milestones and industry benchmarks such as Climate Action 100+.
Climate scenario analysis: A rigorous framework for managing climate financial risks and opportunities
By abrdnEmissions scopes: the targets
Currently managing £542bn of assets for its clients, abrdn’s commitment is to take a forward-looking view on carbon when making investments. The challenge is that carbon emissions data is backwards-looking, often two years behind by the time it is available via data providers.
“We are looking at where we think the companies will be in ten years, not where they were two years ago,” Cairns explains. “How do they compare with their peers? Even if they look carbon-intensive, they may be the most carbon-efficient companies in their sector and we want to support transition leaders in carbon-intensive industries that need to be transformed.”
Investors must incorporate carbon emissions scopes into their decision-making, but formulating a full picture is a challenge. Scope 1 is relatively straightforward to disclose, as it covers a company’s direct emissions. Scope 2 reflects emissions from the sourcing of energy, electricity and heat, which are also simple to track. Scope 3, however, covers upstream emissions along the supply chain, and downstream emissions arising from the use of products and services.
“Scope 3 is obviously a lot more difficult to measure because there are so many different components and uncertainties,” notes Cairns. “At the same time, however, it is one of the most material ones for many companies. If you look at the oil and gas industry, 85% of the emissions it is responsible for are downstream because they don’t burn the oil themselves, the customers do.
“That’s why Scope 3 is important, particularly when assessing carbon at the individual asset level,” she adds. “But Scope 1 and 2 are the things you can measure more easily, have good control over and better disclosure rates. So, you want to start with Scope 1 and 2 where disclosures are more reliable, particularly when considering portfolio level emissions. However, even for Scope 1 and 2 there are still many gaps when you try to understand the carbon footprint of your portfolio depending on the asset class or region.
“Disclosures are highest for large public companies in developed markets, but it’s more challenging when you look at emerging markets, smaller companies and private companies that issue debt.”
Scope 3 – important but not sufficiently reliable
It is important to obtain an understanding of the investment-related emissions scopes and how related risks are being managed and try to plug the gaps where possible.
“If a company has high carbon emissions and isn’t doing anything about it, and carbon prices are going up, this poses a clear financial risk for the company that they need to address,” says Cairns. “So looking at the emissions data helps you identify carbon risk and ask companies how they are managing it, and how they plan to transition their business to support net-zero goals.
“But for Scope 3, when we look at the data we receive from our provider, we see that over 90% is estimated,” she adds. “So, once companies start reporting on Scope 3 and you get the actual numbers, they may be completely different.”
A recent report by FTSE Russell highlighted that Scope 3 emissions have much poorer rates of disclosure than Scope 1 and 2, relying as they do on patchy supply chain information. As a result, their use in investment processes is less mature despite the growing pressure to consider full emissions profiles, particularly for sectors where Scope 3 is most material, such as oil and gas, automobile manufacturing and mining.
Currently, abrdn considers Scope 3 emissions for companies and sectors where these are material, and reports on Scope 3 at the portfolio level for information. But for assessing portfolio decarbonisation and investment decision-making, the focus is on Scope 1 and 2 due to data gaps and inconsistencies related to Scope 3. Its approach is to track and report on Scope 3 where possible, but not to include it in the measurement of its carbon intensity target for now.
“If you were to include Scope 3 at this stage in, for example, carbon targets at the portfolio level, it could just really distort the numbers and baseline, and that’s the challenge,” Cairns explains.
“At an individual company level, you want them to address the impact they have on climate change, to engage with their suppliers and to understand how they can reduce emissions related to their products and services,” she adds. ”But at an overall portfolio level, looking at Scope 1 and 2 gives you a more reliable and consistent starting point – for now.”
Active ownership: partners in climate action
For abrdn, active ownership and working with portfolio companies is key, and it does so through active engagement to understand how climate risks and opportunities are managed and incorporated. For example, it looks at whether company targets are sufficiently ambitious and credible using externally available data, translating this into their own assessment of credibility and net-zero alignment.
“We actively engage with our highest emitters and set specific milestones, and if we are not seeing sufficient progress, we will consider escalating to a vote against the company or ultimately divesting,” Cairns adds.
In addition, abrdn conducts climate scenario analysis, looking at various different scenarios of how the climate situation could evolve and the implications of different temperature change trajectories on asset values. This also provides the carbon trajectory of companies as an output and is complemented with an assessment of company targets and their credibility.
“As investors, we need to take that forward-looking view and understand the trajectory we are currently on,” says Cairns. “The reality is that we are not currently on a trajectory that is net zero 2050-aligned and emissions are still increasing – by 6% in 2021 – despite all the net-zero pledges. The policy environment does not provide the right incentives for companies to decarbonise at the pace required for net zero 2050 and this needs to change urgently – Cop27 in November is another opportunity to see updated, stronger commitments from countries.
“We have created tools around carbon to help fund managers understand the carbon picture at a portfolio level and its main drives and have a carbon-related discussion with clients who may want to set decarbonisation targets,” she adds. “We’re helping them understand what the climate-related risks and also opportunities are in their portfolio.”
Data and active company research enable abrdn to look through any greenwashing to understand as fully as possible the emissions scopes profile of portfolio companies and credible actions they take to address this. Then it works with companies themselves to ensure they are on the right trajectory. In doing so, it provides a tangible example of how investors are influencing the future of sustainability.
