European Union Carbon Market Glossary
Accounting for emission allowances
- Category: European Union Carbon Market Glossary
ESMA Report of 25 October 2023 on Disclosures of Climate Related Matters in the Financial Statements (ESMA32-1283113657-1041) observes that "there is a lack of specific guidance under IFRS for how to account for carbon dioxide (CO2) emission allowances under an emissions trading scheme or renewable energy certificates, whether allocated for free, or traded. In the last ECEP Statement, ESMA has called for transparency in the accounting treatment applied regarding carbon and greenhouse gas emission trading schemes”.
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25 October 2023 ESMA Report, Disclosures of Climate Related Matters in the Financial Statements, ESMA32-1283113657-1041 - accounting examples from selected issuers |
The EU ETS Directive (2003/87/EC) set up a greenhouse gas emission quota system for the European Union. This system was incorporated into national laws. Among other things it requires obligated actors to surrender to the State a number of greenhouse gas emission credits each year, corresponding to their emissions for the year. Issuers are required to provide information on the accounting policies used for the recognition, measurement and presentation of emission trading schemes (including information on the main terms and nature of such schemes). Disclosures should explain how these schemes impact their financial performance and financial position, indicating which line items in the financial statements are affected and, where applicable, any differences and impacts across different jurisdictions. For example, issuers should provide quantitative disclosures on the amount of GHG credits or renewable energy certificates owned and/or owed, consumed or sold.
Where applicable, issuers may need to recognise provisions (and provide disclosures) when local legal arrangements on GHG emissions give rise to obligations to purchase GHG emission rights exceeding any rights that the issuer currently holds.
ESMA Public Statement of 25 October 2023 (European common enforcement priorities for 2023 annual financial reports, ESMA32-193237008-1793)
Accounting for emission trading schemes
ESMA reiterates that issuers should provide information on the accounting policies used for the recognition, measurement and presentation of emission trading schemes (including information on the main terms and nature of such schemes) - see paragraph 112 of IAS 1 and Paragraph 10 of IAS 8 Accounting Policies, Changes in Accounting Estimates and Errors. Disclosures should explain how these schemes impact their financial performance and financial position, indicating which line items in the financial statements are affected and, where applicable, any differences and impacts across different jurisdictions. For example, issuers should provide quantitative disclosures on the amount of GHG credits or renewable energy certificates owned and/or owed, consumed or sold. Moreover, ESMA highlights that, where applicable, issuers may need to recognise provisions (and provide disclosures) when local legal arrangements on GHG emissions give rise to obligations to purchase GHG emission rights exceeding any rights that the issuer currently holds (paragraphs 14, 84-92 of IAS 37 Provisions, Contingent Liabilities and Contingent Assets). |
CO2 Emissions Trading Schemes: relevant examples from selected issuers
EdF
EdF Consolidated Financial Statement at 31 December 2021 indicates that the accounting treatment of emission rights in the group depends on the holding intention. Two economic models coexist in this regard in the group:
- rights held under the “Trading” model are included in “Other inventories” at fair value, the change in fair value observed over the year is recorded in the income statement;
- rights held to comply with regulatory requirements on greenhouse gas emissions (the “Generation” model) are recorded in intangible assets as “Greenhouse gas emission rights – green certificates”:
- at acquisition cost when purchased on the market;
- at nil value when allocated free of charge (in countries that still have a free allocation system).
A provision is established at the year-end when the estimated annual emissions by an entity are higher than the rights held or purchased on the forward market, less any rights sold on the forward market. This provision is equal to the acquisition cost up to the amount of rights acquired on the spot or forward markets, and to market prices for the balance. It is cancelled when the rights are surrendered to the State.
At the closing date, the portfolio of emission rights and the obligation to surrender rights for the emissions of the year are presented gross, without netting. If the number of emission rights at the end of the year and not subject to forward sale is higher than the number ofrights to be surrendered to the State for the year’s emissions, an impairment test must be applied to the excess. If the realisable value is lower than the net book value, impairment is booked.
Equinor ASA
ESMA Report of 25 October 2023 on Disclosures of Climate Related Matters in the Financial Statements (ESMA32-1283113657-1041) refers to example of Equinor ASA, an energy company, which described its accounting policies related to EU ETS allowances and disclosed the assessment underpinning how it had considered the impact of the allowances on its 2022 financial statements. Information regarding which line items in the Equinor’s balance sheet and statement of profit or loss (P&L) are affected by the accounting of CO2 costs. Purchased CO₂ quotas under the EU ETS are reflected at cost in Operating expenses as incurred in line with emissions. Accruals for CO₂ quotas required to cover emissions to date are valued at market price and reflected as a current liability within Trade, other payables and provisions.
Quotas owned, but exceeding the emissions incurred to date, are carried in the balance sheet at cost price, classified as Other current receivables, as long as such purchased quotas are acquired in order to cover own emissions and may be kept to cover subsequent years’ emissions. Quotas purchased and held for trading purposes are carried in the balance sheet at fair value, and the changes in fair value are reflected in the Consolidated statement of income on the line-item Other income.
Solvay SA
ESMA Report of 25 October 2023 on Disclosures of Climate Related Matters in the Financial Statements (ESMA32-1283113657-1041) also refers to Solvay SA, a chemicals company, which described its accounting policies regarding to the treatment of CO2 emission rights, presenting these as inventories or derivatives depending on its use. Cost of inventories includes the purchase, conversion and other costs incurred in bringing the inventories to their present location and condition. The cost of inventories is determined by using the weighted average cost method. With respect to the mechanism set up by the European Union to encourage manufacturers to reduce their greenhouse gas emissions, carbon dioxide (CO2) emission rights are granted to the Group for free. The Group is also involved in Clean Development Mechanism (CDM) under the Kyoto protocol. Under these projects, the Group has deployed facilities in order to reduce greenhouse gas emissions at the relevant sites in return for Certified Emission Reductions (CER).
In the absence of any IFRS regulating the accounting treatment of CO2 emission rights, the Group applies the Trade/Production model, according to which CO2 emission rights are presented as inventories if they will be consumed in the production process within the next 12 months, or as derivatives if they are held for trading. Energy Services is involved in CO2 emission rights’ trading, arbitrage and hedging activities.
The net income or expense from these activities is recognized in “other operating gains and losses”:
(a) for the industrial component, where Energy Services sells the excess CO2 emission rights generated by Solvay or where a Group deficit is recognized, as well as
(b) for the trading component, where Energy Services acts as a trader/broker with respect to those CO2 emission rights.
In light of its centralized CO2 emission rights’ portfolio management, for emission rights that are substitutable between subsidiaries, the Group’s financial statements reflect the Group’s net position. If this net position is negative, a provision is recognized, measured based on the market price of the CO2 emission rights at reporting date. Inventory write-downs are included in cost of goods sold in the consolidated income statement.
Regulatory chronicle
25 October 2023
ESMA Report, Disclosures of Climate Related Matters in the Financial Statements, ESMA32-1283113657-1041 - accounting examples from selected issuers
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