Understanding Capital Market Emission Trading Scheme

Measurement of emission allowance at the beginning and in later stages

Discuss about the Capital Market Emission Trading Scheme.

The increasing problem of carbon emissions is a big problem for the environment around and the main reason is increasing becoming susceptible to pollution. Business organizations both knowingly and unknowingly are part of polluting the environment with their even increasing greed of profit maximization. It is important to understand the companies have separate legal identities in the eyes of law and are responsible for their behavior towards the society. In order to curve the emission of greenhouse gas (GHG) by business organizations different methods have been implemented however, none have been as effective and promising as the concept of imposing emission allowances on business organization in proportion to the respective emissions for their business operations.

In order to recommend an appropriate accounting treatment for the emission allowance to be imposed on the business organizations for their business operations it is essential to have proper understanding about the nature of such allowance. Accordingly, the justification can be given to the accounting treatment to be proposed in this document (Benn et al. 2014).

The allowance which is to be imposed on business organizations as emission allowance the quantum of which will be dependent on the amount of GHG consumption by the relevant organization dependent on the method of business operations and nature of business of different organization, is a type of expenditure. The question why it is expenditure; well the business organization if used effective business operations by investing on pollution free equipment and machinery the GHG emission will be less and subsequently the emission allowance will also be less. In contrast if an organization’s objective is to earn maximum amount of profit by utilizing non-effective business methods and operations and as a result the emission of GHG is more compare to their business organizations then the accordingly, the emission allowance on such organization will be higher as the business organization will consume huge amount of GHG at the expense of the environment and society as a whole. Thus, the business organizations will be rewarded if they use proper methods of business operations by making huge investment on less pollute equipment and machineries to reduce the emission of GHG. Conversely, the business organizations which will contribute to the pollution of the environment by higher emission of GHG will be penalized by imposition of higher amount of emission allowance for their irresponsible behavior towards the society. Thus, it is appropriate to treat the emission allowance as an expenditure and accordingly, the business organizations should make accounting treatment and provision in the books of accounts to give effect to the emission allowances (Chapple et al. 2013).

Consequences of providing for emission allowances in the books of accounts on the financial statements

Justification behind emission allowance is that the companies will be motivated to use efficient and effective business operation methods to conduct their day to day operations knowing that improper business operations will result in imposition of higher amount of emission allowances and on the other hand proper utilization of efficient and effective methods will be rewarding to these organization with least amount of emission allowances. Thus, the concept of emission allowance is an effective way to curve the carbon emission by making the business organizations more responsible for their behavior towards the environment and the society as a whole. The fact that the allowance has been proposed to treat as an expenditures in the books of accounts of the companies is a way to allow the managers to look for better and effective methods of business operations to reduce the overall operating expenses by reducing the emission allowance.

The emission allowance should be measured using two different methods for initial emission and emission at later stages. Initially, i.e. when an organization is established and yet to fully utilize its operational capacity it would be wrong to measure the emission on the basis of its full capacity. Thus, at this stage the emission should be measured by measuring actual utilization of the overall capacity of an organization till the time the organization well established and started to use it operational capacity to the fullest. However, once the organization is well established and have started to utilize its full operational capacity the emission should be measured by taking into consideration the 100% utilization of operational capacity of such organization. The factors that shall be taken into consideration while measuring the emission of GHG by business organizations, both at the time of initial measurement as well as measurement in later stages are:

• The nature of business,
• The process utilized for manufacturing different products of an organization,
• The safety measures used by the organization to reduce the emission of carbon in its operations,
• The equipment and machineries that are being used in business operations and production process (Crane and Matten 2016).

The safety measures are used by the companies that will help to reduce the overall emission of GHG thus, while measuring the actual emission this aspect shall be given due importance to acknowledge the efforts of the management in reducing the emission of GHG. Use of effective and efficient equipment and machineries is another measure that the companies can use to reduce the emission thus, if an organization has invested substantial amount of capital on acquiring such environment friendly equipment and machineries the effort should be recognized by including this aspect in the overall measurement of emission of GHG. All these aspects have to be taken into consideration while measuring the emission of GHG by an organization to calculate the emission allowance of such organization both at the time of initial measurement and measurement at later stages (Liao and Shi 2015).

Date	Particulars	Debit amount ($)	Credit amount ($)
	Emission allowances A/c ———Dr. To, Provision for Emission Allowances (Being the provision for emission allowances made in the books of account)	*****	*****
	Profit and loss A/c ——————Dr. To, Emission allowances (Being the amount of emission allowances adjusted against the profit and loss account)	*****	*****

Impact on statement of financial position

The Financial statements of an organization is an accumulation of following financial information generally provided to the public at large to let them know about the operating and financial condition of such an organization as on  particular date;

1. Statement of financial position as on the last date of a financial year also referred to as a Balance sheet contains the financial information about the assets and liabilities of an organization as on the date of the statement.
2. Income statement also known as profit and loss account which provides financial information about the revenue and expenditures of an organization in relation n to its business. Thus, the operating results of an organization is assessed and understood from the proper verification of this statement.

• Cash flow statement is the statement which shows the cash flows of an organization, i.e. both cash inflows and cash outflows in a financial year to let the users of the document take note of different sources from which the cash have been generated and the items on which the cash have been expended. The cash inflows and outflows are divided in three activities namely, operating, investing and financing activities (Zhang et al. 2017).

1. Notes to accounts to disclose information about the assumptions and methods that have been used to prepare and present the financial statements of an organization.      

From the proposed accounting treatment of emission allowances as recommended by us in this document let us now take assess the impact of it on the financial statements as a whole and on different components of the financial statements (Martin ey al. 2014).

The provision of emission allowances as shown in the journal entries the liabilities of the organization will increase as the provision for emission allowance will have to be shown under the broader head of provision below the current liabilities of an organization. Thus, the liabilities of an organization will increase as a result of creation of provision for emission allowances by the organization. However, in case the organization has made payment for the emission allowance to appropriate authority then the provision will have to be reversed by the following accounting entry in the books of accounts of the organization;

With the payment of provision for emission allowances, the liabilities of the organization will decrease with a subsequent decrease in bank balance, i.e. the assets of the organization.    

According to the proposed accounting, treatment the emission allowance has been considered an expenditure thus, with the provision of such allowance the operating profit of an organization will reduce by the amount of emission allowance. The amount of emission allowance is to be provided for in the profit and loss account of an organization will reduce the amount of profit of such an organization by such amount (H?ebí?ek et al. 2014).

The impact on cash flow statement will only if an organization makes payment of the amount of emission allowance. Thus, till the time the payment is not made there will be no impact of emission allowance on the cash flow statement of such organization. In case the payment is made it will impact the net working capital of the organization and accordingly, the cash flow from operating activities will be reduced.     

Thus, each and every single components of financial statements of an organization will be influenced as a result of the provision and payment of emission allowances if the accounting treatment of this allowance is made in accordance with the recommendation of ours provided in this document (Gallego-Alvarez et al. 2016). The lower the amount of emission allowance the better it would be for an organization as the profit from business operations will be impacted with the increase amount of emission allowance and the financial position of the company will also be influenced with the increase in liabilities of the organization. Thus, the management of an organization should take necessary steps to reduce the amount of emission allowances to be made in the books of accounts of an organization. The organization will be motivated to invest in clean and efficient technology to reduce the carbon emission and subsequently the amount of emission provision to be made will also be reduced.

Conclusion:

Considering the ever increasing global warming and pollution in the society as a result of irresponsible business and human practices the measure of implementing the emission allowance for business organization on the basis of emissions of GHG the society and the environment will be the biggest gainer of it. By proper implementation of the measure it would be possible to reduce the carbon emission by business organizations around the globe thus, it is essential and need of the hour to properly implement the emission allowance measure to reduce the emission of GHG.

References:

Benn, S., Dunphy, D. and Griffiths, A., 2014. Organizational change for corporate sustainability. Routledge.

Chapple, L., Clarkson, P.M. and Gold, D.L., 2013. The cost of carbon: Capital market effects of the proposed emission trading scheme (ETS). Abacus, 49(1), pp.1-33.

Crane, A. and Matten, D., 2016. Business ethics: Managing corporate citizenship and sustainability in the age of globalization. Oxford University Press.

Ertimur, Y., Francis, J., Gonzales, A. and Schipper, K., 2017. Financial Reporting for Pollution Reduction Programs.

Gallego-Alvarez, I., Martínez-Ferrero, J. and Cuadrado-Ballesteros, B., 2016. Accounting Treatment for Carbon Emission Rights. Systems, 4(1), p.12.

H?ebí?ek, J., Soukopová, J., Štencl, M. and Trenz, O., 2014. Corporate key performance indicators for environmental management and reporting. Acta Universitatis Agriculturae et Silviculturae Mendelianae Brunensis, 59(2), pp.99-108.

Liao, Z., Zhu, X. and Shi, J., 2015. Case study on initial allocation of Shanghai carbon emission trading based on Shapley value. Journal of Cleaner Production, 103, pp.338-344.

Martin, R., Muûls, M., De Preux, L.B. and Wagner, U., 2014. Industry compensation under relocation risk: A firm-level analysis of the EU emissions trading scheme. The American Economic Review, 104(8), pp.2482-2508.

Zhang, X., Qi, T.Y., Ou, X.M. and Zhang, X.L., 2017. The role of multi-region integrated emissions trading scheme: a computable general equilibrium analysis. Applied Energy, 185, pp.1860-1868.