On 1 April 2010, the Carbon Reduction Commitment (CRC) Energy Efficiency Scheme comes into force. Some 4,000-5,000 public and private sector organisations that must participate in the scheme are grappling with its fiendish complexity. How well prepared are they?
Charles Allison, energy and climate change partner at consultants ERM, says it is a "mixed bag". There are organisations like high-street retailers who have always known they were going to be affected and have been preparing for the past two years. And there are private equity firms who delayed until there was absolute clarity on their inclusion in the CRC.
Another ERM consultant Jaideep Das says larger companies for whom energy is a large cost are likely to have energy management teams in place already. They are also likely to have taken significant action to improve energy efficiency. Larger firms may also voluntarily report greenhouse gas emissions data as part of a corporate responsibility programme, and are much better placed to cope with communicating performance under the CRC.
"In terms of compliance they’re pretty well sorted," Mr Das says. ERM has only had to provide assurance that nothing has been missed.
Smaller companies and those for whom energy is a lesser cost are less likely to have these resources and experience. For them, consultants such as ERM are offering to take on day-to-day responsibility for the CRC to ensure compliance, including coordinating data collection, preparing submissions to the Environment Agency, and introducing energy efficiency programmes.
Emma Wild, principal policy adviser at the Confederation of British Industry (CBI), says: "Many businesses have only realised that the CRC is happening relatively recently so it’s hard to expect them to be fully prepared." One reason is that the energy and climate department (DECC) has been slow to finalise the regulations, which has delayed agency guidance, she adds.
A survey carried out last summer of 285 members of the manufacturers’ trade association EEF found that 20% did not know whether they were covered by the CRC.
DECC, the Environment Agency, and several other organisations such as the Practical Law Company have published guidance on how to prepare for the CRC (see box on left for main points).1,2,3
The first challenge is working out how the CRC applies to the organisation. This may be tricky with complex corporate structures in the private sector.
The basic rule is that any organisation with at least one half-hourly electricity meter and a total usage through it of 6,000 megawatt hours during 2008 qualifies as a full CRC participant. For a single company the rule is simple. But many companies are subsidiaries of a group. To maximise the CRC’s coverage, the regulations specify that if one subsidiary meets the basic rule, all other subsidiaries in the group are caught.
To identify the legal parent and subsidiaries, company lawyers may have to trawl through the Companies Act 2006, which sets out several tests based on whether the parent has a right to exercise control over the subsidiary. The main one is whether the parent company has a majority shareholding in the subsidiary. If it does, in many cases, the subsidiary is part of the group and covered by the CRC. However, other control tests must also be considered.
Raising the stakes is the fact that each subsidiary has joint and several liability for CRC compliance. This means any subsidiary could be held responsible for penalties arising from non-compliance in any of the other subsidiaries in the group.
The same control tests also apply to joint ventures, private finance initiatives and public-private partnerships. Under the CRC, franchisors - in effect the owners of the brand - are responsible for the energy supply of all their franchisees even if these are owned by another organisation.
In today’s globalised economy, many UK subsidiaries are owned by foreign parent companies. The experience of EDF Energy, which has multiple interests in the CRC, shows how challenging group structure issues can be. The French power giant is not only covered by the CRC but is strongly promoting its energy efficiency and advice services to help its larger customers comply with the new scheme. Yet it is struggling with its own registration, says Jonathan Foot, EDF Energy’s chief environment officer.
For as well as having 82 UK subsidiaries under EDF Energy Holdings, its French parent has several companies operating in Britain which the UK group has no relationship with - these cover renewables, energy trading and energy finance. Their energy use must be gathered in with the others.
The UK group has had to spend a lot of time explaining the CRC scheme to headquarters in Paris, and why these subsidiaries’ energy data must be obtained.
The final version of the CRC regulations, published in February, allows groups to disaggregate significant subsidiaries that meet the basic 6,000MWh per year threshold rule.
This raises further considerations for companies. It may be simpler for subsidiaries with no relationship to other parts of the group to go it alone. However, if the subsidiary is a high-profile brand that is likely to perform badly in the CRC league table, disaggregating it from a relatively anonymous parent company may not be a good idea. It will also avoid a separate set of regulatory fees being charged by the Environment Agency.
Groups such as Alliance Boots and the John Lewis Partnership have considered disaggregation and rejected the idea. Toby Marlow, engineering manager for the John Lewis Partnership, says it is likely to enter the CRC as a single participant rather than disaggregate department store chain John Lewis and supermarket chain Waitrose, although it has yet to make a final decision. It is still considering how the two divisions cooperate on financial issues such as buying allowances and recycling payments. But he says this is not a big issue; they already work together on other environmental improvement programmes.
The Alliance Boots group was created by the merger of the UK’s high-street health and beauty retailer Boots with the Alliance Unichem pharmaceutical wholesale retailer in 2006. In 2009, optician Dollond and Aitchison merged with Alliance Boots.
Jean Waring-Thomas, Boots’ energy manager, says disaggregating Alliance Boots into separate subsidiaries for CRC compliance did not make sense because it would duplicate effort. Only groups with subsidiaries that carry out very different business activities have anything to gain.
Louise Moore, a partner with law firm Herbert Smith, says: "So much resource is being - and will continue to be - applied to group company issues that resource is being diverted from the task of focusing on improving energy efficiency."
Working out how private equity is caught by the CRC is a "nightmare" according to Sue Woodman, partnership counsel at private equity house Alchemy and chair of the legal and technical committee at the British Venture Capital Association (BVCA).
Private equity is medium- to long-term finance provided in return for a stake in potentially high-growth companies not publicly listed on a stock exchange. Private equity firms themselves are often general partnerships, although some are listed companies. The finance they provide comes from forming limited partnerships with other institutional investors such as pension funds.
Some private equity houses buy companies for a period of about five years, develop the business and sell it for a profit. Others provide venture capital for small firms in return for a minority stake.
The CRC treats private equity firms as parent companies and the firms in their investment portfolios as subsidiaries.
Ms Woodman says the BVCA supports measures to encourage large companies to improve energy efficiency, but is opposed to the way the CRC catches many smaller firms because they are owned by the same private equity house. Other small companies do not face the same burden because they are not owned by private equity.
For the BVCA, the CRC creates the unwelcome precedent of private equity houses becoming responsible for the legal compliance of their portfolio companies, something normally left up to the individual companies’ management.
Portfolio companies are completely independent of each other, unlike subsidiaries owned by a parent company, and private equity houses frequently buy and sell firms in their portfolios, causing further administrative headaches.
The situation is still more complicated for funds based offshore. Some may nominate one of the companies to be responsible for the CRC, others may set up a UK organisation to manage it.
ERM’s Jaideep Das is working with private equity on the CRC. A number of private equity firms are behind the curve in preparing for it, but the more progressive ones are providing support to their portfolios and taking steps to manage reputational or compliance risks, he says. Official guidance currently provides little help for private equity, he adds.
Adam Black, head of sustainability at Doughty Hanson private equity, says most private equity firms have little or no direct experience of environmental or energy management and have chosen to use consultants to take responsibility for CRC compliance.
Doughty Hanson is almost unique in employing an environmental specialist; it meant the firm was aware of the CRC from an early stage. Mr Black says he conducted an initial assessment of its CRC exposure more than a year ago. This suggested five portfolio companies could be caught: one in its own right and four through aggregation. However, a detailed assessment commissioned from consultants Inenco found only one was captured.
Property companies are mainly concerned with how the costs of the CRC should be apportioned between landlords and tenants. In drafting the CRC regulations, the government did not want to interfere in contractual matters and so left the issue to be agreed between both parties.
Responsibility for CRC compliance falls on the organisation paying the bill for electricity supplies, often the landlord. Landlords may be able to pass on utility bill costs to clients but most existing leases will not allow them to do the same with CRC costs. The British Property Federation is considering the possibility of a series of standard lease provisions apportioning costs, to save both parties time and money.
Richard Foulerton, corporate responsibility manager at German insurance company Allianz, says it has 22 UK offices, but the CRC only applies to the half of these it owns. In the other half, it is the tenant and responsibility falls on the landlord. Allianz is also responsible for one of the 21 buildings in its property investment portfolio, with the others solely occupied by a tenant who is responsible for the CRC. It expects to spend some £70,000 a year on CRC allowances.
Marie Sigsworth, group corporate responsibility director at insurer Aviva, says its global operational emissions, including buildings and business travel, were 104,000tCO2 in 2009. However, its total emissions under the CRC, including the buildings-related emissions of the properties held in its investment funds, will be some 580,000t.
The problems with identifying and managing CRC emissions across several discrete entities can be a problem for the public sector too. Government departments, however small, are mandated participants and some have complex estates. HM Revenue and Customs (HMRC) has about 600 buildings, but 1,000 sites under the CRC once the portions of ports and airports it occupies are taken into account. Sometimes these are just corridors, but HMRC pays the utility bills, says Jamie Sullivan, environment manager in its estates support service.
Councils, NHS trusts and universities only have to participate if they qualify in the normal way. Most schools pay their own energy bills but will be bundled under their local councils for the CRC. This is proving hard to manage for many councils, which have little say over how schools are run.
Leicester City Council includes a schools representative alongside staff from the energy services team and finance department in its regular carbon management meetings, says head of energy services Nick Morris. But the council is still struggling with apportioning the costs of CRC compliance.
For now, allowances will be bought centrally, but Mr Morris is thinking about devolving responsibility for CRC compliance to schools and other departments. This might see them contribute to allowance costs in return for a share of any bonus repayments.
Once organisations have worked out what is in the CRC, they need to gather emissions data. Getting sufficiently reliable data will be a challenge, says Ben Wielgus, lead CRC adviser at KPMG. In the past, most CRC participants would only have needed carbon figures accurate to within 10%. The CRC calls for a shift to the kind of accounting systems usually found in finance departments.
Mock CRC audits carried out by KPMG for about 30 clients showed two thirds had problems getting their data accurate to within the 5% required by the CRC.
The most common errors arose from misunderstanding organisational boundaries - the estate manager not being aware of a company’s other holdings, for instance - and inadequate data management systems. In finance, the person entering data is not usually the person who checks and reports it, but in the case of energy or carbon data it may well be, says Mr Wielgus.
Some firms have also had problems with the quality of data from third parties, he adds. They take it on faith that the data contractors give them is correct and may have no legal redress if there are mistakes that cost them under the CRC. In one case, KPMG found a third-party firm, paid to read meters, was 30% out. The fine under the CRC could have been over £300,000.
Fitting automatic meter reading (AMR) devices is an important way companies can gather accurate energy data. Early action to fit AMRs is also rewarded in the CRC league table provided they are fitted by March 2011, the end of the scheme’s first year.
Delvin Lane, manager of British Gas’ energy efficiency business Energy 360, says it has installed about 60,000 AMRs for its business customers in the past year and expects to install a further 110,000 in the next 12 months. He says the surge in uptake has been especially noticeable in the public sector and among retailers with multiple sites. Many of these will be in the CRC.
Matt Davis, business manager at IM Serv, the largest independent supplier of AMRs, says he has seen a huge rise in demand. The firm has installed "tens of thousands" of AMRs, many in the last 18 months. This is likely to include some overlap with British Gas’ figure as the two work in partnership in some cases.
IM Serv’s AMRs cost about £300 to install. Some smaller companies question whether it is worth this expense given the CRC reward only lasts two years. But Mr Davies says organisations should think about the longer-term cost savings. Organisations can cut energy use by 10-15% by using AMRs to identify areas of waste such as equipment needlessly left on over the weekend, he says. Mr Lane agrees: "You can’t take sensible commercial action unless you understand where energy is being used."
The John Lewis Partnership’s Toby Marlow says it was already committed to fitting AMRs to improve energy efficiency under the group’s corporate responsibility programme, but CRC has brought these investments forward. It plans to fit up to 50 extra AMRs - an increase of about 70%. In December, the partnership improved energy management by consolidating it into a single bureau run by energy services company Utilyx.
Once organisations have accurate data, the next major step is to consider how to improve efficiency. Many smaller firms have not looked comprehensively at energy efficiency before, says ERM’s Charles Allison. Five or ten years ago there was not the business case for putting resources into energy programmes, but the CRC is making energy efficiency a regulatory and reputational issue. "The CRC is a great springboard for the energy manager who now has a piece of government legislation that mandates companies to consider energy efficiency," he says.
The public sector is, in general, slightly behind private organisations in managing energy use. But government departments and councils often have much longer-term carbon emissions targets than private companies.
Leicester City Council is going through a comprehensive assessment of its estate and prioritising the most energy-intensive buildings for refurbishment. HMRC has already made some improvements to meet its wider carbon targets, but is also working through a programme of carbon surveys, says Mr Sullivan.
It audited two buildings last year, is currently doing ten and has another 20 surveys planned for next year, he says. The first are being done on key buildings or where they are expected to be replicable to other sites. "We are doing surveys now so we have a whole list of measure that we can assess in that first year [of the CRC]. It gives us a means to continually improve," he explains.
HMRC has also run a "big switch off" campaign aimed at staff since November and will repeat it each year. The aim is to reduce energy use by 3% and comments logged by staff have generated a list of further efficiency improvements, says Mr Sullivan.
Organisations’ CRC performance will be published in an annual league table. Their position in the table will also decide what proportion of the revenue from the government’s annual allowance sales is recycled back to them. There is a fair amount of competition developing with many organisations saying they hope to be in the top half of the table.
One myth about the CRC is that it is worth putting off early emissions cuts to leave more room to improve, and stay high in the league table, in later years. This makes no sense financially: the cost savings an organisation can make by cutting energy use earlier far outweigh any league table benefits.
Energy cuts are also irrelevant in the scheme’s first year when league table performance is based on early action, by fitting AMRs and achieving the Carbon Trust’s emissions reduction standard.
The standard is awarded to organisations that measure, manage and reduce their carbon emissions. To qualify, they must be able to show a cut in emissions over one to three years, depending on their size, and commit to achieving year-on-year reductions.
The trust recently announced Manchester United Football Club had become the 250th organisation to be certified to the standard.
Harry Morrison, Carbon Trust Standard manager, says: "Until recently most organisations have primarily been concerned about CRC compliance, but a growing number are starting to look at going beyond compliance by making sure they do well in the first phase and by developing a long-term strategy to reduce emissions."
The total carbon footprint of organisations under the standard is nearly 28MtCO2 equivalent - almost 8% of the footprint of UK business and transport. Since the standard’s launch in 2008, the Carbon Trust says it has saved over 2MtCO2e. The average reduction made by certified companies over two years is 7%, which is ahead of the trajectory needed to meet the UK’s carbon targets. Organisations with the standard have saved £62m.
The number of organisations with the standard is a significant increase from just 100 certified by last summer, but still only accounts for 6% of the 4,000-odd CRC participants. Mr Morrison expects to double the number of certified organisations and achieve about 10-15% coverage of CRC participants by March 2011.
Not all certified companies are caught by the CRC. About 20% are either large energy-intensive businesses regulated under the EU emissions trading scheme, or small organisations under the CRC threshold. These organisations have decided to get the standard to endorse their wider carbon reduction strategies.
ERM consultant Oliver Parish says getting the carbon reduction data together to achieve the standard is a labour-intensive process and may not be worth it considering the benefit is only half of the first year’s potential league table score and 20% in the second year. He says a bigger motivation is the reputational benefits of having an organisation’s emissions reduction efforts officially recognised.
The British Standards Institute (BSI) is to launch a rival to the Carbon Trust Standard in April. The Energy Reduction Verification Kitemark builds on the existing BS EN 16001 Energy Management System. Like the Carbon Trust Standard, the kitemark will only be awarded to those that can show emissions cuts.
But the kitemark only applies to emissions from energy use regulated under the CRC. This may make it less attractive than the Carbon Trust Standard, which can cover an organisation’s total carbon emissions.
Boots is a good example of a company that appears well-prepared for the CRC because of its track record of environmental management. The main challenge will be in extending good practice at the chemist to other parts of the group with less experience.
Between 2004/05 and 2007/08 Boots invested almost £5m in energy efficiency measures at its stores, producing savings of 19 gigawatt hours annually, equivalent to about £1.5m.
Richard Foulerton says Allianz has introduced more energy efficient lighting and office equipment, and solar film on windows to reduce solar heat gain and the need for cooling. It will also fit voltage optimisation to reduce energy use by 5% and is in the process of centralising the company’s computer mainframe in Germany which will be more energy efficient. It expects to achieve the Carbon Trust Standard in April.
The John Lewis Partnership also expects to achieve the standard. Toby Marlow says improvements have included fitting water-cooled refrigeration systems in six stores. These are integrated with the store heating and cooling systems, yielding a 20-25% energy reduction. It has also nominated energy efficiency champions in all stores.
How will all these improvements play out in league table performance? ERM’s Charles Allison says there is a lot of uncertainty about this, in part because DECC has yet to finalise how it will present the information (see pp 3-5), but also because it is difficult for organisations to work out how well they will do relative to other participants. It is clear though that companies reliant on their brand reputation or those in highly competitive sectors with a small number of players, like supermarkets and mobile phone operators, should be more concerned.
Boots’ Jean Waring-Thomas agrees it is impossible to work out where your company will come in the league table: "All you can do is try your best."