The Carbon Reduction Commitment (CRC) is a new mandatory UK emissions trading scheme that will start in April 2010. Participants in the scheme will be large non-energy-intensive public and private sector organisations that have more than 6,000 MWh half-hourly metered (HHM) electricity usage in 2008 (an electricity bill of approximately £500,000 per year).
However, the CRC will also impact on all organisations with half-hourly electricity meters. They will have to respond to a registration pack to be sent out by the Environment Agency (EA) and will have to report their total HHM electricity usage where this is more than 3,000 MWh in 2008, but less than 6,000 MWh.
Organisations that meet the scheme’s electricity inclusion threshold could have significant CRC costs each year, arising from their obligations to calculate and monitor their emissions from static energy usage (including electricity, gas and other fuels), purchase and subsequently surrender allowances each year corresponding to their total energy use emissions and fulfil various reporting requirements.
For organisations that are likely to be covered by the CRC it will be important over the coming months to understand the potential implications of the scheme, budget and make preparations for it, and ensure that systems and processes have been put in place to collate the information required for compliance. CRC implications will also need to be taken into account in transactions, and in relation to existing and new tenancy agreements and service contracts.
This article provides a brief outline of the scheme, examines the changes and key areas where further clarity has been provided by publication of the draft legislation, and looks at actions that organisations will need to take now to prepare for the CRC.
WHICH SECTORS ARE BEING TARGETED?
The CRC will target emissions from energy use of approximately 5,000 non-energy-intensive public and private organisations and there will be exclusions for emissions already covered by other carbon reduction schemes. The range of CRC organisations will include large businesses, retailers, banks, landlords, supermarkets, hotel chains, restaurant chains, water and telecommunications companies, government departments, large local authorities and universities.
WILL THE CRC AFFECT YOUR COMPANY?
In September 2009 the EA (who will administer the CRC) will contact all UK billing addresses with half-hourly electricity meters and provide them with registration packs.1 Most reasonable sized office buildings and shopping centres have half-hourly meters, and they are required for any organisation with more than 100kW peak load of electricity usage.
The CRC will begin in April 2010 and between then and September 2010, with assistance from their electricity supplier, all organisations with half-hourly meters (regardless of whether the inclusion threshold is met) will need to provide information to the EA in relation to their half-hourly meters.
All public and private sector organisations whose metered half-hourly electricity usage for the 2008 calendar year was more than 6,000 MWh will be required to participate in the CRC and fulfil various obligations.
BASIC REQUIREMENTS OF CRC
A draft order on the CRC, consultation on the order and a step-by-step user guide for the CRC were released by the Department of Energy and Climate Change (DECC) on 12 March 2009 and public consultation on the order will be open until 4 June 2009. This means that the requirements set out in this article could potentially change in due course, although our understanding from DECC is that the fundamental principles are likely to remain the same, especially given how close we are to the scheme commencing.
DECC has confirmed that the CRC will begin in April 2010, with scheme years running April to March, although information gathering will need to occur prior to this to assess 2008 electricity usage against the inclusion threshold and consider preparations for the CRC.
Organisations that pass the threshold for metered electricity usage will have to:
- Register by September 2010 as a scheme participant for the introductory phase and register by the last working
- day of each phase’s footprint year for subsequent phases (30 March 2012 for the second phase).
- Calculate their emissions from static energy use, which includes electricity, gas and other fuels such as coal, diesel and LPG but excludes transport-related emissions, to estimate their energy use in compliance years.
- Purchase allowances (each allowance corresponds to one tonne of carbon dioxide emissions) from the government at the beginning of each compliance year (in April) based on their expected energy use for the relevant year.
- Monitor their energy usage, purchase or sell allowances on the secondary market as necessary and report their energy use emissions to the EA in July each year.
- Surrender allowances in July equal to their total energy use emissions during each compliance year.
- Receive a recycling payment from the government in October each year.
The first three years of the scheme will be the ‘introductory phase’ where there will be no cap on the number of allowances that can be purchased during the phase, and the price for allowances will be set at £12. One of the key announcements accompanying the draft order is that the following phases will each last for seven years and the first two years of these phases are preparatory and will overlap with the previous phase. As expected, the availability of allowances in the subsequent phases will be capped and the purchase of allowances will be through an auction with the price set by the market.
EMISSIONS COVERED BY THE CRC
Organisations will have to purchase and surrender allowances in respect of emissions from core sources, no matter what percentage of total emissions this amounts to.2 Emissions from residual sources, such as fuels, will need to be reported until the whole organisation’s combined percentage of emissions from these sources, and emissions covered by the EU Emissions Trading Scheme (EU ETS) and Climate Change Agreements (CCA), is above the 90% threshold. If core sources already cover 90% or more of an organisations’ emissions, residual sources will not need to be reported.
EMISSIONS TO BE EXCLUDED FROM THE CRC
DECC has confirmed that emissions covered by the EU ETS and CCAs will be excluded from the scheme. Single entity organisations (ie those that have no subsidiaries) that have more than 25% of their emissions covered by a CCA will be exempt. Members of organisational groups that have at least 25% of their emissions covered by a CCA will be treated as exempt when working out footprint emissions. A clarification on how the scheme will work has also been added in the draft order, namely that if after removal of these members’ energy use the remaining organisation has less than 1,000 MWh of half-hourly electricity remaining in the CRC, the entire organisation will be exempt.
In terms of treatment of electricity generation, organisations that operate an electricity generation process that exports electricity to the grid or other users will be entitled to claim an electricity credit for electricity exported to the grid. Unsurprising exceptions proposed by DECC are that electricity credits will not be provided to installations that are hydroelectric pumped storage facilities, large hydroelectric plants exempt from the Renewables Obligation, nuclear plants or generation facilities covered by EU ETS.
COMPLIANCE BY ORGANISATIONS
The proposal is that responsibility for emissions will be assigned to the organisation that is the customer of the energy supplier; this is usually the organisation who pays the electricity bill. Government will aggregate organisations together using group structures based on the tests in the Companies Act (CA) 2006 to constitute an organisation that pays the energy bill.
The definition of organisation in the draft order follows the proposed ‘top-down’ approach and aims to capture whole company groups through use of the CA 2006 definitions of ‘subsidiaries’ and ‘undertakings’. This means the highest UK parent organisation will have to assume compliance on behalf of the whole group, along with the associated costs and potential civil and criminal liabilities, as there will be joint and several liability. For organisations with overseas parent companies, a UK-based member of that organisation must be nominated to fulfil obligations on behalf of the group.
The emissions of subsidiaries, or joint ventures where a majority shareholding is held by one organisation, will be aggregated with those of their parent/majority shareholding company. 50:50 joint ventures will participate in the CRC in their own right if they pass the inclusion threshold of 6,000 MWh of metered electricity usage in 2008. The scheme will also cover private equity houses, franchises, partnerships and charities, where they pass the inclusion threshold.
The CRC is one of the first schemes to take this top-down approach from parent organisation level and this raises several logistical issues. For example, subsidiaries of CRC organisations that are used to operating independently will find themselves grouped with other subsidiaries of their parent organisation, when they are not normally linked in any other way, or for any other purpose. This may particularly be the case with foreign-parent companies that operate UK subsidiaries that do not act together for any other purpose.
Budgeting for the purchase of allowances, and how these costs will be allocated or passed through in a corporate structure is another logistical problem for organisations. How to apportion the costs of the CRC for each subsidiary (including administrative costs), and how recycling payments can be passed back through, will also need to be considered by organisations covered by the CRC.
FINANCIAL IMPLICATIONS
Although the CRC will be revenue neutral for the Exchequer, a performance table will rank organisations and allocate bonus or penalty percentages that are then applied to determine the amount of the revenue that is to be recycled to a particular organisation. This means that organisations that perform well and rank in the top half of the table could receive more in the revenue recycling process than they had paid for their allowances, while poor performers would receive less.
For some organisations the initial cost of purchasing allowances will run into millions of pounds, even with the allowances in the introductory phase set at the price of £12 per allowance. The money spent on allowances will be held by the government for six months in each scheme year, before revenue recycling occurs.
The complexities surrounding the calculation of the amount of revenue that may be recycled to a particular organisation, as this calculation will be a function of the proportion an organisation’s emissions bears to all emissions covered by the CRC, make it difficult for organisations to estimate what the actual cost of the CRC will be at this stage.
Three league table metrics will determine where an organisation sits in the performance table. These metrics will be weighted differently in the introductory and second phases, as noted:
- The absolute metric: measuring changes in an organisation's emissions between the current year and the preceding five-year average (or, at the start of the scheme, the preceding years until the scheme has run for five years). Weighting for this metric will be 0% in year one, 60% in years two and three, and 75% in the second phase.
- The early action metric: based on the amount of voluntarily installed automatic meters (referred to as AMR meters or smart meters), and whether the organisation has achieved the Carbon Trust Standard. Weighting for this metric will be 100% in year one, 20% in years two and three and 0% in the second phase.
- The growth metric: this will be based on the change in emissions per unit of turnover for the organisation, over a five-year rolling average. Weighting for this metric will be 0% in year one, 20% in years two and three and 25% in the second phase.
In terms of other financial implications, we anticipate that these could arise from administration costs (such as identification of energy sources that will be covered by the scheme, introduction of systems for reporting of data, and self certification) and the introduction of energy-efficiency measures.
ENFORCEMENT AND PENALTIES
The CRC will be run on a self-certification basis, with no third-party verification required. A risk-based audit will be conducted by the EA, with 20% of participants audited each year. The CRC order sets out a range of criminal offences and associated penalties for non-compliance, falsification of documentation and obstruction of regulators. Furthermore, if an offence is committed with the consent, connivance or neglect of an officer of that body corporate, both the officer and the organisation are guilty of an offence and can be prosecuted.
DECC has announced that the fine per tonne of carbon dioxide for which allowances are not surrendered at the end of a scheme year will be £40. In addition to this amount, the other penalties under the scheme could amount to significant sums because although the initial amounts of the penalties for different offences are often in the region of £5,000, there are ongoing daily penalties that will be added to this amount and which, in some circumstances, involve a calculation of a fine per tonne of carbon dioxide for the relevant period.
REPUTATIONAL IMPACTS
Many companies are concerned about potential reputational impacts of the performance table as it will be publicly available. It is likely that, once published, the league table will be used in several publications to highlight the best and worst performers, both overall and by sector. For some companies the potential reputational impacts far outweigh the financial impacts, and careful management in relation to these impacts will need to be considered.
DECC has also announced that it intends to publish the results of large subsidiaries of organisations (known as principal subsidiaries) who pass the 6,000 MWh threshold in their own right alongside the main league table so reputational impacts could occur at subsidiary, as well as parent organisation level.
LANDLORDS AND TENANTS
In relation to tenanted properties, the organisation that pays the half-hourly metered electricity bill will have that amount of electricity count towards the eligibility threshold to see whether that organisation qualifies under the CRC. If both the tenant and the landlord are CRC organisations, it was proposed that the legal obligation for CRC could be handed over from the highest UK parent of the landlord to the highest UK parent of the tenant, if appropriate sub-metering is in place and both tenant and landlord agree at the start of each phase. However, this suggestion is now under review and landlords may retain all CRC liabilities in any event.
Generally speaking, tenants of whole buildings or large units will have their own supply contract, but for many multi-let buildings, the landlord has the energy supply contract and recharges the cost of energy to the tenants, either through sub-metering or under the service charge. The result is likely to be that landlords are, in many cases, going to have to fulfil CRC obligations in respect of their tenants’ energy use. We know from some companies that simply identifying the properties for which they will have CRC responsibilities or locating half-hourly meters will also be a task in itself.
The drafting of lease provisions, the potential to pass on administrative costs of the CRC and costs of purchasing allowances will need to be considered, as well as how recycling payments may be handled.
STEPS TO PREPARE FOR THE CRC
Although the scheme will not begin until April 2010 there are numerous important preparatory steps that organisations covered by the CRC will need to take to reduce any negative financial and reputational impacts that the scheme may have. The key steps that such organisations should now take are detailed below.
Defining the organisation and nominating UK subsidiaries
Although this task will be very easy for the majority of organisations, those with complicated structures will need to consider how their organisation will be defined for CRC purposes and what reporting structures need to be put in place. Organisations with overseas parent companies will also have to nominate a lead UK subsidiary to fulfil obligations on behalf of the group.
Preparing an accurate list of half-hourly electricity meters
Once the organisation is defined, a list of all half-hourly electricity meters for which the organisation is counterparty to the energy supply contract will need to be created. With assistance from energy providers, the amount of electricity used through the listed half-hourly meters for the 2008 calendar year can be calculated and then supplied online to the EA as part of the registration pack to be submitted in the period April-September 2010.
Calculating total organisation-wide energy use emissions
Current guidance from DECC recommends starting to measure energy use emissions across all sources in the year prior to the start of a new CRC phase to practice and prepare for the scheme. Early action will also help in budgeting for the CRC and ensuring consistency and accuracy of data collations. This will mean identifying relevant emissions sources and starting to measure/calculate emissions in April 2009, to prepare a source list for the first year of the CRC in April 2010.
To create a source list, all emissions from static energy sources will need to be calculated. As mentioned above, this list will report on all ‘core’ emission sources, and must show that at least 90% of the organisation’s emissions are covered in the CRC, the EU ETS or a CCA. If the 90% threshold is not met by core emissions, residual sources will need to be included.
Planning for early action metric
Prior to the start of the scheme, organisations should consider taking action to achieve a good score on the early action metric. The early action metric will be the sole determinant of organisations’ ranking in the performance league table for the first year of the scheme and the double recycling payment in that year. This metric will relate to the number of AMR/voluntary/smart meters installed and achievement of the Carbon Trust Standard or Energy Efficiency Accreditation Scheme, and action taken in relation to these measures will help to maximise an organisation’s position in the performance table for the introductory phase of the scheme.
Considering CRC implications in transactions, project pitches, future lease arrangements and service contracts
The CRC will have implications for several commercial arrangements and it will be important to consider these implications in both existing arrangements and those that may be entered into in the future. Examples of these could include:
- where part of a CRC organisation is purchased by another organisation, considering how to deal with the transfer of allowances held in relation to the emissions from that part of the organisation;
- estimating and including CRC-related costs in prices provided in project pitches;
- including specific provision for the pass-on of CRC costs, and how revenue recycling payments will be dealt with, in new lease agreements; and
- where services are provided that affect energy use, including efficiency requirements in contracts.
CONCLUSION
The CRC is due to commence in April 2010 and is aimed at helping the UK meet the targets set under the Climate Change Act 2008. Although draft legislation has been released and consultation is underway (responses are due in by 4 July 2009), sceptics have raised questions about whether further burdens will be introduced in the current economic climate. DECC have answered this by pointing to the revenue recycling provisions and emphasising that as a proportion of revenue recycling payments depend on performance, this will encourage essential energy reductions. In fact, DECC has stated that the CRC should generate savings for participants of about £1bn by 2020.
The scheme will have many implications for participating organisations, for those non-participants with half-hourly meters who need to reply to registration packs, and for those affected by costs of the scheme being passed on to them (such as tenants). For organisations likely to be captured by the CRC, taking action now to prepare for the scheme will be key, as substantial costs could arise for participating organisations. On top of on-going participation and compliance with the CRC, implications for existing and future transactions, lease arrangements, project proposals and service contracts will also need to be considered.
FURTHER INFORMATION
Burges Salmon’s environment unit has been advising DECC and a wide range of public and private sector organisations on the CRC. The CRC is a complex scheme and we have not been able to cover some of the more detailed provisions in this article. If you require further information, please contact Georgie Messent or Lucie Drummond.
By Georgie Messent, partner, and Lucie Drummond, solicitor (admitted New Zealand), environmental law unit, Burges Salmon. E-mail: This e-mail address is being protected from spambots. You need JavaScript enabled to view it ; This e-mail address is being protected from spambots. You need JavaScript enabled to view it .
Notes
- Or Scottish Environmental Protection Agency or Northern Ireland Environment Agency in Scotland and Northern Ireland respectively.
- Core sources include all electricity consumed through half-hourly meters (HHM), automatic meter reading (AMR) meters or profile class 5-8 meters, all gas consumed through daily-read gas meters and AMR meters and all non-daily metered gas consumption of more than 73,200 kWh per annum.