Net-zero commitments

(updated 21 February 2024)

Many companies have made ‘net-zero’ commitments and questions are emerging on how they impact financial reporting under IFRS^® Accounting Standards – in particular on when they trigger a liability. Assessing its plan to meet these commitments and using a three-step approach will help a company determine the accounting impacts and whether it needs to recognise a liability.

The IFRS Interpretations Committee has recently discussed some of these issues and published a tentative agenda decision that addresses a specific fact pattern. 

When a company makes a commitment to be net zero – e.g. by 2050 – this usually means that by 2050 it will reduce its greenhouse gas emissions to as close to zero as possible and offset its remaining emissions. Offsets are verified removals of carbon (e.g. through growing new forests).

Net-zero commitments typically include all value chain emissions (defined in the GHG Protocol as Scope 1, 2 and 3 greenhouse gas emissions), but sometimes may only include emissions from direct operations (i.e. Scope 1 and 2).

Companies can make many other similar commitments, including the following.

• Carbon neutral: Often used as an interim target towards net zero. Unlike net zero, there is no requirement to reduce gross emissions to the maximum extent possible – i.e. this is primarily a commitment to acquire and retire carbon offsets.
• Carbon negative: A commitment to remove more carbon than a company emits in a given year.
• Climate positive: A commitment to achieve carbon-negative emissions for a company’s total emissions across its entire value chain, similar to net zero.

No specific accounting standard applies to net-zero and similar commitments. To determine the accounting impacts, companies need to assess their detailed net-zero plan. Net-zero plans and their level of detail may vary and evolve over time. Potential accounting impacts of a company’s planned actions include the following.

There are specific requirements in IAS 37 Provisions, Contingent Liabilities and Contingent Assets for determining if a liability exists at the reporting date and if it needs to be recognised in the financial statements.

It is critical that companies understand the nature of their commitment and how they will deliver it. As a company cannot recognise a liability for future operating losses, its commitment needs to create a present obligation at the reporting date as a result of a past event (e.g. ‘damage done’).

There are three steps to consider when assessing whether to recognise a liability at the reporting date (i.e. when a company has a commitment that creates a present obligation). This assessment may require significant judgement, particularly whether a company’s public statements have created a valid expectation in the minds of stakeholders and the general public.

Many net-zero plans include a company’s promise to take a future action – e.g to:

• purchase carbon offsets for any emissions above a specific level in a particular year starting from a target date; and
• change its suppliers for key inputs into the production process from a target date.

These promises relate to future events, not ‘damage done’ in the past. A company does not recognise a liability when publicly sharing its plans to take an action – it only does so when all of the following conditions are met.

• There is a present obligation as a result of a past event (i.e. ‘damage done’).
• It is probable that an outflow of cash or other resources will be required to settle it.
• The company can reliably estimate the related amount.

The IFRS Interpretations Committee has discussed the accounting for climate-related commitments – specifically, how to assess whether a company’s commitment to reduce or offset its greenhouse gas emissions results in a provision in a specific fact pattern. We agree with the Committee’s analysis and conclusion in its tentative agenda decision. Read our comment letter.

The International Accounting Standards Board is also reviewing the liabilities guidance and may consider adding new examples illustrating how to apply IAS 37 to net-zero commitments.

Users of the financial statements, regulators and the general public are paying more attention to companies’ net-zero commitments. They are particularly focusing on how public announcements in different media are reflected in the financial statements – i.e. if a company is telling a connected story.

Therefore, companies need to:

• understand the financial reporting impacts of net-zero commitments, often dependent on the detail in the supporting action plan;
• tell a connected story and explain which planned actions do and do not trigger a liability at the reporting date; and
• monitor standard-setting developments.
  

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