Carbon Credits and Financial Statements / Valuation

The Kyoto meeting of 1997 deemed that as each country produces Carbon Dioxide, it must also be able to contain that CO2. This eventually led to countries looking at the companies on their soil to uphold the Kyoto protocol. A company has two ways to reduce emissions.

• It can reduce the GHG (greenhouse gases) by adopting new technology or improving upon the existing technology to attain the new norms for emission of gases.
• It can purchase "absorption ability" from another nation, thereby helping developing country or its companies "earn" credits

The Carbon Credit is this new currency and one Carbon Credit is equal to one Tonne of CO2 and is called a CO2e (CO2 equivalent). Costs are between US $10 - 40 per credit. Thirty-six industrial countries (but not the U.S.) have agreed to reduce greenhouse gas emissions over time; they can do so, in part, by financing "clean development" projects in the developing world.

What are carbon credits for companies?

Typically, buyers of carbon credits are companies in the United States or the European Union who want to reduce their greenhouse gas emissions, either voluntarily (in the United States) or because their emissions are regulated (in the European Union). Instead of directly cutting their own emissions, these companies choose to buy credits, usually from a bank, a company or a nonprofit. These are usually located in the developing world - usually a country that has come up with a less expensive way to check the manufacture and spread greenhouse gases. So, for instance, big brands in the U.S. or industrial companies in the European Union offset their emissions by financing the capture of methane gas at chicken farms in India or landfills in Mexico, by underwriting wind farms in Sri Lanka, or by paying refrigerant and fertilizer plants in China to trap their industrial gases.

carbon Finance - Big Money Involved

Last year traders bought and sold about $60 billion worth of emissions allowances, mostly in Europe and Japan, where governments regulate greenhouse gases. If, as expected, regulation comes to the U.S., the country's carbon-trading market is expected to be worth $1 trillion annually by 2020. No wonder the major investment banks, utilities, industrials, and hedge funds - among them GE, Goldman Sachs, J.P. Morgan Chase, and AES - are rushing into the business of carbon finance. India, along with other developing nations, is at an advantage as it can implement approved clean development mechanism (CDM) projects for the purposes of trading Certified Emission Reductions (CERs). It is not surprising that one third of the total CDM projects registered with UNFCCC are from India. In 2007, a total of 160 new projects were registered with UNFCCC. India's carbon credits' trading is expected to reach $100 billion by 2010. As a result, Indian industry managed to generate over 27 million carbon credits till date. Indian projects receive further impetus by way of investments and finance from developed nations who are potential buyers of CERs.

Carbon Credits and Finance Statements

Carbon credits inclusion on financial statements is guided by regulations of the Chartered Accounting bodies and varies in every country - in certain countries it is not mandatory to include such earning in the accounting statements. The United States is still not under the Kyoto agreement and hence the buying is voluntary. That leaves doors to carbon credits spending open to debate as of now. However, the United States Senate is trying to pass the Lieberman-Warner Senate Bill 2191 which is called America's Climate Security Act of 2007. If it is enacted into law it will establish a carbon credit system in the United States that will give the Environmental Protection Agency (EPA) extraordinary enforcement powers over this system. The accounting and valuation scenario will also be reviewed and updated depending on the way carbon credits spending is seen and worked into the bill. In India, being the "seller" country, the situation is different. The Institute of Chartered Accountants of India (ICAI) is currently working on accounting norms for carbon credits. According to ICAI, companies who earn revenue by selling carbon credits will have to make their financial statements under the new norms from April 1. However, the new accounting norm on this issue is yet to be notified by ICAI. It, thus, has to be seen whether CERs are classified as a tradable commodity under the accounting norm.