Another climate change bill that would have placed a cap on greenhouse gas emissions died in Congress earlier this month. But most political and environmental activists say it is only a matter of time before some sort of cap-and-trade rule becomes law.
Likewise, it’s only a matter of time before companies have a host of related compliance issues to worry about, too.
The move toward a cap on carbon emissions could potentially happen this year, or “definitely next year at the latest,” according to Donald Kirshbaum, principal investment officer of policy for the Connecticut State Treasury.
Kirshbaum and others discussed the future of climate-related disclosures at a recent conference of investors who push environmental causes. Kirshbaum argued that once Congress does impose new carbon emission regulations—whenever that may be—companies would need to assess how they plan to operate in such an environment.
McGeveran
Elizabeth McGeveran, vice president for governance and socially responsible investment at F&C Management, who spoke on the panel, said more often than not, a corporation already has the data it needs to make strategic choices; that information just doesn’t reach the decision makers of the company. High-quality dialogue is really about “access to board members, access to real decision makers at a company, not just implementers,” she said.
“We’re in a global situation where companies don’t have the regulatory information they need to make proper, long-term investments that will really pay dividends down the road.”
— Elizabeth McGeveran,
Vice President for Governance,
F&C Management
Kirshbaum said that companies really would need to assess “how you are going to integrate what you say here in your marketing, in your financials, in your investments, in your engineering house. What’s your plan of really implementing this?”
Those questions, in turn, will necessitate more guidance from regulators to give companies a clear definition of materiality relating to environmental issues, the panelists said.
On one side, McGeveran said, companies are being pressured by investors who say climate risk poses material dangers to corporations, “whether it’s asset-based or whether it’s to their own business model.” On the other hand the Securities and Exchange Commission’s definition of materiality is, “a much more narrow, legalese definition” of what companies must disclose to investors, she said.
Conflict of Interest
In some cases, what may be beneficial to some sectors may not necessarily be beneficial to society at large—say, leaving the utility industry free to pump out as many greenhouse gasses as it wants. That disincentive might then weaken electric utilities’ willingness and ability to promote energy efficiency.
Greater corporate disclosure can help overcome that challenge, Kirshbaum argued. He gave the example of “decoupling,” where utilities receive a predetermined profit annually, which eliminated the incentive for power companies to sell more electricity. Under current rate-making practices, the vast majority of an electric company’s revenues are tied to its sales.
LEAN AND MEAN
Impacts of Aggressive Energy Efficiency Programs on Shareholders and Customers
Energy efficiency programs targeting larger energy reductions create customer issues and
regulatory issues that need to be addressed. If investments in energy efficiency are to be
successful, they need to benefit both customers and utility shareholders. Customers need to see a positive benefit from lower bills or lower prices as a result of the programs.
Programs targeting large energy reductions are likely to force electricity prices to rise
faster than they would have under a traditional supply-side generation strategy. Those
customers who are able to take advantage of these energy efficiency programs may see
lower electricity bills even though their prices rise. This is because the reductions in their
energy consumption are sufficient to overcome the increase in price. However,
customers who are unable to take advantage of these programs see higher prices and
higher electricity bills. If all customers are able to take advantage of the energy
efficiency programs offered by the utility, then all customers would benefit. But that is
typically not the case. Therefore, there must be an effective balancing of the total
“average bill” reductions that can result from energy efficiency programs with the
potential for higher bills and higher prices for customers who are unable to participate.
A significant contribution to the increase in prices occurs because energy efficiency
programs tend to lower energy sales and revenues in a greater proportion than the cost
avoided by not producing the energy. This creates the potential negative impact on non-
participating customers that is mentioned in the previous paragraph. Since the reduction
in revenues is larger than the reduction in cost, there is the potential for under recovery of
the company’s fixed costs unless prices can be adjusted in a timely manner. Under
conventional regulation, such a price adjustment would occur during a utility “rate case.”
Between rate cases, utilities rely on growth in revenues (driven by growth in energy
sales) to support earnings as additional investments are made to serve growth and to
maintain reliability. Significant investments in energy efficiency are likely to reduce this
growth in energy sales and therefore revenue growth between rate cases. If the time
between adjustments in prices is significant, the utility will see erosion in returns and an
under-recovery of its costs.
Also, under conventional utility regulatory structures, utility earnings and earnings per
share growth are related to the return on assets that are invested to serve existing and new
customers. When a utility shifts its strategy from one of investing in capital supply-side
resources, to one that focuses more on large energy efficiency expenditures, then earnings
growth and earnings per share growth slows. Since a utility’s stock value is heavily
influenced by its earnings per share growth, this shift in strategy has the potential to
reduce the value of a shareholder’s investment in the utility.
Source
Southern Company’s Report to Shareholders (April 2008).
Greater disclosure would allow utility companies to report to shareholders on what decoupling might mean for their investors: “what the advantage to the company would be, what the risks would be, what type of protections they would meet,” Kirshbaum said. “This type of information is crucial not only for shareholders, but it’s also crucial for customers to understand it, it’s crucial for regulators to understand it, and it’s critical to state policy makers.”
Currently, California is the only state that uses decoupling for investor-owned electric utilities. But Connecticut may not be far behind. As a first step, state officials there have asked Atlanta-based electric utility Southern Co. to provide similar information to their shareholders.
“It’s a financial implication disclosure, basically to bring the information to the policy debate that needs to take place, because without this information, policy debate is going to be uninformed,” Kirshbaum said.
SEC No Help
But the SEC, said Richard Ferlauto, director of pension and benefit policy for the American Federation of State, County, and Municipal Employees, has created a large loophole under the guise of “disclosure and ordinary business.” Anything related to risk, he said, including disclosure-related risk, falls under the category of “ordinary business.” That means a company can exclude such shareholder resolutions from the proxy statement. As a result, Ferlauto said, the more that investors want to discuss long-term policy issues about the way risk is handled internally, “the more pushback we’re getting at the SEC level.”
Kirshbaum added that, because of the SEC’s hands-off approach, shareholders often change their strategies and introduce resolutions that don’t specifically address the real issue, just to open the dialogue. As a result, they’re making progress with only those companies that are willing to talk, he added.
Ferlauto
“We figured through the SEC, shareholders would be empowered and have a new set of tools that would be available to them to have voice in corporate governance in a way that we thought would drive shareholder value,” Ferlauto said. Instead, with no action on broker voting and a significant increase in the acceptance in no-actions— agreements by the SEC to take no civil or criminal action related to a specific activity—just the opposite has occurred, he said.
McGeveran added that Europe’s state of environmental disclosure is a little better. “It’s not all peaches and cream in Europe just because they’ve released the Kyoto Protocol,” she said. The Kyoto standards only extend out to 2012, which still doesn’t give European, lower-carbon economies enough information to make long-term decisions. Investors need to know what’s going to happen 20 years in the future to make the right investment choices, she said.
“So I think right now, we’re in a global situation where companies don’t have the regulatory information they need to make proper, long-term investments that will really pay dividends down the road,” McGeveran said.
She added: There’s a lot of initiative in the U.K., to lower carbon emissions, for example, “but not necessarily a game plan with how to go from here to there, so while the companies in other markets may have an idea of where this is going, if you don’t have a sense of the regulatory methods you’re going to use to get there, you still can’t plan.”
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