Integrated Reporting:

The Future: A Complete Carbon Accounting System

To move these ideas from conceptual to actionable, leading academics in accounting and policy have been laying out a double-entry carbon and environmental reporting system. Financial accounting has already studied and resolved key issues that affect sustainability reporting: how to allocate costs over time (depreciation); how to allocate costs to a product (cost accounting); and how to use double-entry bookkeeping to force data reconciliation and error removal each month. Why reinvent the wheel?

One initiative, from Bob Kaplan of Harvard Business School and Karthik Ramanna of Oxford University, extends the norms of financial accounting to carbon accounting in the global supply chain, and to carbon offsets. Learn more about the E-liability Institute 

A second body of work by Stefan Reichelstein of Stanford University and the University of Mannheim has focused on preparing corporate carbon statements that mirror images of the financial balance sheet and income statements. He has also extended cost accounting methods to the calculation of product carbon footprints. In other work, Reichelstein and his co-authors have addressed the accounting requirements for multi-year carbon reduction projects. Learn more at the University of Mannheim  

A third initiative is from Stephen Penman of Columbia University, who builds on Reichelstein’s work to lay out the rules and formats for carbon balance sheets and income statements. These rules can be applied to other environmental assets as well. As Penman points out, the IFRS and EU’s CSRD describe the rules for disclosures, not the full accounting system of how these disclosures are prepared. To close the gap, he provides a method to be used “if the accountant has reliable, verifiable, and auditable measures for the carbon statement elements.” (3). In other words, double-entry carbon accounting requires great data! Learn more at SSRN 

Using Accounting Records to Increase Data Quality and to Reduce Disclosure Risk

In practice, GLYNT.AI has found that connecting to accounting transactions makes sustainability reporting easier and more reliable.

Simplify the Search for Source Files.

Companies that have never done sustainability reporting before or that have been doing it for years benefit from the simplicity of a focus on how water, waste, energy and other relevant Scope 1 expenses are paid. GLYNT.AI works with customers to form a query of the accounting or ERP system that pulls a “blob” of files. Our AI will quickly sift and sort, identifying the relevant invoices for sustainability reporting.

For example, GLYNT.AI will find the 12 monthly invoices for location X from vendor Y. We match the transaction IDs to other file data, and verify that we have processed all the applicable files. Or perhaps vendor Y issued 13 invoices during the year, one is a correction. This common situation is now fully tracked and addressed.

Gain Consistency in Data Sets.

When sustainability teams don’t use accounting records as a source of truth and boundary setting, there are fluctuations in the amount of sustainability data produced each period. It is easy to drop a record (incomplete data) or to allow duplicate data in the system. Duplicate data is a particularly common occurrence and GLYNT.AI has seen emissions overreported by 10 – 18% from duplicate data.

The Reliability Index for Sustainability Data developed by GLYNT.AI shows that reporting accurate data is not enough. Without consistent data sets, potentially embarrassing fluctuations in baselines and KPIs are introduced. Learn more about GLYNT.AI’s Reliability Index

Materiality Tests.

Regulatory and financial reporting of sustainability is intended to be comprehensive, so that readers of the report are informed in an unbiased manner of the full picture of performance and risk. Materiality tests are a quantitative method to set the boundary of reporting, as changes in data that have a small impact on the report – below the materiality threshold can be omitted. For financial reporting the 5% rule is often used; the US SEC has proposed a 2% threshold. (5)

With the connection to accounting records, the alignment and differences in materiality can be clearly evaluated. A transaction can be financially material, and not material for sustainability. One example is backup generators on cell towers. The sum of payments for equipment and servicing may be material, while the very limited energy use is not. The opposite is more common, in that an inexpensive item has a large environmental consequence. This is often seen in supply chain (Scope 3 emissions reporting), in which a vendor with a small annual cost provides a product with a large carbon footprint. Reliance on accounting transactions aligns these materiality tests and leads to more informed decision making.

Minimize Disclosure Risk.

As mentioned above, incomplete data and duplicate data pervades sustainability reporting. This is eliminated when accounting records are used as a source of truth. In a recent article in Forbes, GLYNT.AI’s CEO laid out these ESG Disclosure Risks. One of the five noted is migration risk.

As companies update their sustainability data preparation systems, they can change the reporting boundaries. For example, improved systems may be more comprehensive, including data items not seen before. This can lead to substantial annual changes in reported emissions or environmental aspects, causing some confusion and doubt with investors and other stakeholders. Aligning with accounting records and re-producing historical reporting with the same method can quickly resolve these issues.

Make Verifiable Tradeoffs.

Every project that requires upfront investment and takes years to complete also requires a project plan and a business case. Projects that reduce energy, water, waste or emissions are no different. The cost of change and the impact of change must be measured on an apples-to-apples basis. Only when sustainability reporting is fully aligned with financial reporting at the transaction level can finance teams be assured that the full impacts are being evaluated. This moment is when sustainability goes beyond a disclosure function to a business center, and the benefit of a solid Integrated Reporting system is realized.

Validated PCFs.

Key supply chains, such as automotive, steel, pharmaceuticals and fashion, are moving quickly to sharing product carbon footprint (PCF) data with customers, so that Scope 3 emissions can be reported consistently at every level. While there are a number of companies that provide PCF calculations, and sum them up to corporate totals, without anchoring back to accounting transactions it is easy for these calculations to be different than those provided by the corporate sustainability team.

As CFOs well know, there can be only one set of numbers publicly available, and if they don’t reconcile, investor questions will ensue. Laying the foundation for PCF reporting with accounting transactions enables the principles of cost accounting to be applied to PCF calculations, as has been proposed by Prof. Reichelstein. It is only within these frameworks will the sum of emissions from products equal the sum of emissions from sites, and the corporate total.