Indirect emissions

What Is Indirect Emissions?

Indirect emissions are greenhouse gas (GHG) emissions that occur as a consequence of a company's activities but are not directly owned or controlled by the company. These are broadly categorized into Scope 2 and Scope 3 emissions within the framework of sustainability reporting. While direct emissions originate from sources a company owns or controls, indirect emissions encompass those generated upstream and downstream in its value chain. Understanding and managing indirect emissions is a critical component of effective ESG investing and broader environmental impact assessments in modern corporate governance practices.

History and Origin

The concept of categorizing greenhouse gas emissions, including indirect emissions, gained significant traction with the establishment of the Greenhouse Gas Protocol (GHG Protocol). This initiative was launched in 1998 by the World Resources Institute (WRI) and the World Business Council for Sustainable Development (WBCSD) in response to a growing need for standardized methods for corporate GHG accounting and reporting²¹, ²², ²³. The first edition of the Corporate Standard, which introduced the three "scopes" of emissions, was published in 2001 and updated in 2004¹⁹, ²⁰. This framework provided a consistent, credible, and flexible approach for businesses and governments to measure and reduce their carbon footprint¹⁸. The Corporate Value Chain (Scope 3) and Product Life Cycle Standards, which specifically address a wide range of indirect emissions, were later published in 2011, further expanding the scope of emissions reporting¹⁶, ¹⁷.

Key Takeaways

• Indirect emissions are greenhouse gases resulting from a company's operations but not directly produced by its owned or controlled sources.
• They are categorized as Scope 2 (from purchased energy) and Scope 3 (from the broader value chain).
• Measuring indirect emissions helps companies understand their full environmental impact and associated risks.
• Increasing regulatory and investor focus on indirect emissions drives improved data collection and transparency.
• Accurate accounting of these emissions is crucial for setting effective emissions reduction targets and contributing to global climate goals.

Formula and Calculation

Unlike direct emissions, which might involve straightforward measurement of fuel consumption or industrial processes, indirect emissions often require estimation and calculation based on activity data and emission factors. There isn't a single, universal formula for all indirect emissions, as they encompass a wide array of sources. Instead, methodologies are applied based on the specific category of indirect emission.

For Scope 2 indirect emissions, the calculation typically involves:

Where:

• Purchased Electricity (MWh) refers to the total amount of electricity purchased and consumed by the company in megawatt-hours.
• Electricity Emission Factor (tCO₂e/MWh) represents the amount of carbon dioxide equivalent (tCO₂e) emitted per megawatt-hour of electricity generated in a specific grid or from a specific energy provider. This factor accounts for the mix of energy sources (e.g., coal, natural gas, renewable energy) used to produce the electricity.

For Scope 3 indirect emissions, the calculations are far more complex and varied, often relying on methodologies specific to each of the 15 categories defined by the GHG Protocol (e.g., purchased goods and services, business travel, waste generated). These calculations often involve:

Where:

• Activity Data could include monetary spend on goods, distance traveled by employees, weight of waste, or number of products sold.
• Relevant Emission Factor is a coefficient that translates the activity data into GHG emissions (e.g., kg CO₂e per dollar spent, per mile traveled, or per kg of waste).

Companies often use specialized software or consultants to apply these methodologies and compile their indirect emissions data.

Interpreting Indirect Emissions

Interpreting indirect emissions involves understanding their magnitude relative to a company's total carbon footprint and identifying the most significant sources within the value chain. For many businesses, particularly those in service or consumer goods industries, indirect emissions, especially Scope 3, represent the largest portion of their total greenhouse gas emissions. A high volume of indirect emissions signals a substantial environmental impact that is largely outside the company's direct operational control, necessitating collaboration with suppliers, customers, and other stakeholders.

Effective interpretation also involves assessing the associated risk management implications, such as supply chain disruptions due to climate events, regulatory changes impacting suppliers, or reputational damage from unsustainable practices. Companies often use this data to set ambitious emissions reduction targets, engage with their supply chain partners, and inform their overall sustainability strategy.

Hypothetical Example

Consider "GreenBuild Inc.," a construction company aiming to assess its indirect emissions.

1. Scope 2 Emissions: GreenBuild Inc. purchases 10,000 MWh of electricity annually for its offices and project sites. If the regional electricity grid has an average emission factor of 0.3 metric tons of CO₂e per MWh, GreenBuild's Scope 2 emissions would be:

   $$10,000 \text{ MWh} \times 0.3 \text{ tCO}_2\text{e/MWh} = 3,000 \text{ tCO}_2\text{e}$$

   This calculation helps GreenBuild quantify emissions from its purchased power.

2. Scope 3 Emissions (Purchased Materials): GreenBuild Inc. spends $5 million annually on concrete. If the emission factor for concrete production is estimated at 0.05 metric tons of CO₂e per dollar spent, the Scope 3 emissions from concrete would be:

   $$\$5,000,000 \times 0.05 \text{ tCO}_2\text{e/\$} = 250,000 \text{ tCO}_2\text{e}$$

   This example illustrates how indirect emissions from essential building materials contribute significantly to the company's overall carbon footprint. By understanding these figures, GreenBuild can explore options like using low-carbon concrete or engaging with suppliers on more sustainable practices.

Practical Applications

Indirect emissions play a crucial role in modern finance and business operations, particularly in the realm of corporate compliance and sustainability.

• Corporate Reporting: Publicly traded companies are increasingly expected to disclose their indirect emissions as part of sustainability reporting. For instance, the U.S. Environmental Protection Agency (EPA) operates the Greenhouse Gas Reporting Program (GHGRP), which requires large GHG emission sources and certain fuel and industrial gas suppliers to report their emissions annually. While pr¹⁴, ¹⁵imarily focused on direct emissions, such programs build the infrastructure and data transparency that can inform indirect emissions calculations.
• Regulatory Scrutiny: Regulatory bodies, like the U.S. Securities and Exchange Commission (SEC), have proposed rules to enhance and standardize climate-related disclosures for public companies, including, in some cases, material Scope 1 and Scope 2 indirect emissions, and considering supply chain risks related to Scope 3. Although¹¹, ¹², ¹³ the SEC's climate rules have faced legal challenges and a voluntary stay, the global trend towards mandatory climate disclosure continues, often incorporating aspects of indirect emissions.
• In⁹, ¹⁰vestor Due Diligence: Investors are increasingly using indirect emissions data to assess a company's overall ESG investing performance, climate-related risks, and long-term viability. This information influences investment decisions, as companies with higher indirect emissions may face greater exposure to future carbon pricing, regulatory penalties, or consumer backlash.
• Supply Chain Management: Companies analyze their indirect emissions to identify emission hotspots within their supply chain. This enables them to collaborate with suppliers to implement efficiency improvements, switch to lower-carbon materials, or encourage the adoption of renewable energy sources.

Limitations and Criticisms

Measuring and reporting indirect emissions, especially Scope 3, presents significant challenges. One of the primary limitations is the inherent difficulty in collecting accurate and comprehensive data. These emissions occur outside a company's direct control, making it reliant on data from numerous third parties, many of whom may lack the tools, expertise, or infrastructure to measure their own emissions accurately. This oft⁷, ⁸en leads to incomplete data, inconsistencies, or a heavy reliance on estimates and industry averages rather than primary data.

Critics⁵, ⁶ also point to the complexity and resource intensiveness of tracking Scope 3 emissions across an entire value chain, which can span multiple tiers of suppliers and customers. This can⁴ be particularly burdensome for smaller businesses with limited financial and human resources. Furtherm³ore, the methodologies for measuring Scope 3 emissions are less mature and standardized compared to those for Scope 1 and 2, leading to potential variations in reported figures and challenges in comparability across companies and industries. Despite ²the recognized importance of addressing all emissions, the practical difficulties associated with robust indirect emissions accounting remain a significant point of discussion and ongoing development in sustainability reporting efforts.

Indi¹rect Emissions vs. Direct Emissions

The distinction between indirect emissions and direct emissions is fundamental in greenhouse gas accounting. Direct emissions (Scope 1) are those that come from sources that are owned or controlled by the reporting company. This includes emissions from company-owned vehicles, on-site fuel combustion for heating or power generation, and chemical processes within the company's facilities. For example, the exhaust from a company's delivery truck or the emissions from a factory's boiler are direct emissions.

In contrast, indirect emissions (Scope 2 and Scope 3) are a consequence of the company's activities but originate from sources not owned or controlled by the company. Scope 2 emissions are those generated from the production of purchased electricity, heat, or steam consumed by the company. Scope 3 emissions are all other indirect emissions that occur in a company's value chain, both upstream (e.g., purchased goods, business travel, waste) and downstream (e.g., use of sold products, end-of-life treatment of products). The key difference lies in the operational control and ownership: direct emissions are "in-house," while indirect emissions occur throughout the broader economic ecosystem connected to the company.

FAQs

What are the main categories of indirect emissions?

Indirect emissions are primarily categorized into Scope 2 and Scope 3. Scope 2 emissions result from the generation of purchased electricity, heating, or cooling. Scope 3 emissions cover all other indirect emissions across a company's entire value chain, encompassing everything from the extraction of raw materials for goods purchased to the end-of-life treatment of products sold.

Why are indirect emissions important for businesses?

Understanding and managing indirect emissions is crucial because they often represent the largest portion of a company's total carbon footprint. Addressing these emissions demonstrates a company's commitment to environmental responsibility, helps identify significant climate-related risk management opportunities, and can enhance its reputation among customers, investors, and other stakeholders.

Is it mandatory for companies to report indirect emissions?

The mandatory nature of reporting indirect emissions varies by jurisdiction and type of emission. While many regulatory frameworks, like the U.S. EPA's Greenhouse Gas Reporting Program, primarily focus on direct emissions, there is a growing global trend toward requiring disclosure of Scope 2 and, in some cases, material Scope 3 emissions, particularly for public companies. Investor and market pressures also increasingly drive voluntary sustainability reporting that includes these categories.

How do companies reduce their indirect emissions?

Companies can reduce indirect emissions in several ways. For Scope 2, this often involves purchasing renewable energy or investing in on-site renewable generation. For Scope 3, strategies include engaging with supply chain partners to promote sustainable practices, designing products for efficiency and recyclability, optimizing logistics, encouraging employee commuting alternatives, and reducing waste.