Environmental Cost Management [1 ed.] 9781617284076, 9781607418153

Citation preview

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved. Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved. Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Environmental Research Advances Series

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

ENVIRONMENTAL COST MANAGEMENT

No part of this digital document may be reproduced, stored in a retrieval system or transmitted in any form or by any means. The publisher has taken reasonable care in the preparation of this digital document, but makes no expressed or implied warranty of any kind and assumes no responsibility for any errors or omissions. No liability is assumed for incidental or consequential damages in connection with or arising out of information contained herein. This digital document is sold with the clear understanding that the publisher is not engaged in rendering legal, medical or any other professional services.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

ENVIRONMENTAL RESEARCH ADVANCES SERIES Environmental Research Advances. Volume 1 Harold J. Benson (Editor) 2008 ISBN 978-1-60456-314-6 Bioengineering for Pollution Prevention Dianne Ahmann and John R. Dorgan (Editors) 2009 ISBN: 978-1-60692-900-1 Estimating Future Recreational Demand Peter T. Yao (Editor) 2009. ISBN 978-1-60692-472-3 Handbook on Environmental Quality Evan K. Drury and Tylor S. Pridgen (Editors) 2009. ISBN: 978-1-60741-420-9

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Sorbents: Properties, Materials and Applications Thomas P. Willis (Editor) 2009. ISBN: 978-1-60741-851-1 Bioengineering for Pollution Prevention Dianne Ahmann and John R. Dorgan 2009. ISBN: 978-1-60876-574-4 Environmental Cost Management Randi Taylor Mancuso (Editor) 2009. ISBN: 978-1-60741-815-3

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Environmental Research Advances Series

ENVIRONMENTAL COST MANAGEMENT

RANDI TAYLOR MANCUSO

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

EDITOR

Nova Science Publishers, Inc. New York

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Copyright © 2009 by Nova Science Publishers, Inc. All rights reserved. No part of this book may be reproduced, stored in a retrieval system or transmitted in any form or by any means: electronic, electrostatic, magnetic, tape, mechanical photocopying, recording or otherwise without the written permission of the Publisher. For permission to use material from this book please contact us: Telephone 631-231-7269; Fax 631-231-8175 Web Site: http://www.novapublishers.com NOTICE TO THE READER The Publisher has taken reasonable care in the preparation of this book, but makes no expressed or implied warranty of any kind and assumes no responsibility for any errors or omissions. No liability is assumed for incidental or consequential damages in connection with or arising out of information contained in this book. The Publisher shall not be liable for any special, consequential, or exemplary damages resulting, in whole or in part, from the readers’ use of, or reliance upon, this material. Any parts of this book based on government reports are so indicated and copyright is claimed for those parts to the extent applicable to compilations of such works.

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Independent verification should be sought for any data, advice or recommendations contained in this book. In addition, no responsibility is assumed by the publisher for any injury and/or damage to persons or property arising from any methods, products, instructions, ideas or otherwise contained in this publication. This publication is designed to provide accurate and authoritative information with regard to the subject matter covered herein. It is sold with the clear understanding that the Publisher is not engaged in rendering legal or any other professional services. If legal or any other expert assistance is required, the services of a competent person should be sought. FROM A DECLARATION OF PARTICIPANTS JOINTLY ADOPTED BY A COMMITTEE OF THE AMERICAN BAR ASSOCIATION AND A COMMITTEE OF PUBLISHERS. LIBRARY OF CONGRESS CATALOGING-IN-PUBLICATION DATA Environmental cost management / editor, Randi Taylor Mancuso. p. cm. Includes index. ISBN 978-1-61728-407-6 (E-Book) 1. Environmental management. I. Mancuso, Randi Taylor. GE300.E569 2009 333.7--dc22 2009024672

Published by Nova Science Publishers, Inc.    New York

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

CONTENTS Preface Chapter 1

Environmental Investing Practices in Europe: A Harbinger of Future U.S. Best Practices? Peter Soyka, Mark Bateman and Ira Feldman

1

Chapter 2

The Environmental Management System Macarena Lozano-Oyola

Chapter 3

Energy Use, Environment and Sustainable Development Abdeen Mustafa Omer

Chapter 4

A Game-theoretic Analysis of Environmental Behaviour at the Corporate and Global Level Richard Fairchild and Baris Yalabik

167

Sustainable Energy: Challenges of Implementing New Technologies Abdeen Mustafa Omer

203

Market Valuation of the Long-Run Effects of Adoption of Effective Environmental Cost Strategies Charlotte J. Wright, Royce D. Burnett and Charlene Sinkin

235

Chapter 5 Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

vii

Chapter 6

Chapter 7

Biophysical Terrain Analysis George Ch. Miliaresis

Chapter 8

Organizing Effective Health Care Delivery where Resources are Limited: Special focus on Diabetes Samira Humaira Habib, Soma Saha, Fahmida Binte Mesbah, Salima Akter, Liaquat Ali and Hajera Mahtab

Chapter 9

Quantifying the Environmental Performance by Exergy-based Indicators K. J. Ptasinski

Index

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

71 129

255

275

283 293

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved. Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

PREFACE Over the last three decades environmental issues have had a direct impact on technology assessment and policy decisions. One of the difficulties with measuring environmental performance is a lack of consensus on evaluation of relevant aspects, including materials and energy use, air emissions, solid and hazardous waste and water pollution. Eco-efficiency refers to the paradigm that firms can achieve long-run economic gains as a consequence of strategically managing environmental efficiencies. Environmental cost strategies involve management of the cost of production while minimizing the impact on the environment. In an efficient cost management system, inefficient use of environmental inputs and/or outputs, including pollution and waste, are reduced or eliminated through process improvements and innovation. By incorporating the efficient use of the environment into the firm's strategic planning, management establishes a direct link between the firm's environmental goals and its profitability and firm value. This new and important book gathers information from around the globe in this field. Chapter 1 - The issue of whether voluntary, advanced environmental management practices add to or diminish the financial success of firms has been debated for many years. There is, however, a steadily increasing body of published literature and other evidence that demonstrates that well conceived and executed practices intended to enhance environmental performance/outcomes can create financial value net of their investment costs. At the same time, the expectation that the generally rational, well-functioning capital markets that exist in the U.S. would recognize this value has not been met to any significant degree. Recent studies have shown that, beyond the specialist field of socially responsible investing (SRI), there is very little consideration of corporate environmental management practices or environmental performance improvements on the part of “mainstream” investors or analysts in either the equity or bond markets in the U.S. This chapter briefly profiles some of the reasons for this disconnect, which have become more clear based upon recent work by the authors and a number of other investigators. While the adoption of financial analysis and investing strategies that explicitly include environmental considerations is very limited in the U.S. (even in the SRI arena), the situation in European capital markets is strikingly different in certain key aspects. This chapter examines how European investing practices differ from those commonly used in the U.S., presents some of the legal and cultural factors that have contributed to these differences, and provides some examples of the ways in which environmental (and associated social and

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

viii

Randi Taylor Mancuso

governance) information is used by European institutional investors seeking to create attractive risk-adjusted returns for their beneficiaries. The chapter describes our research process and findings, which were focused on four specific and sequential research tasks:

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Identifying and characterizing the European users of ESG information Determining the important differences between European and U.S. capital markets with respect to consideration of ESG issues and factors. Identifying and examining the ESG categories and specific variables considered important by European investors, and Determining how European investors use ESG data to make or inform investment decisions, and characterizing any significant differences in the way(s) in which these data are used in Europe versus the U.S. Several major findings emerged from this research. U.S. and European capital markets share many features, and both have supported an active and growing SRI community over the past two decades. Further, some of the ESG evaluation methods and approaches that have been developed and implemented in European capital markets are quite sophisticated, but it is not altogether clear that they are much advanced beyond methods that have been developed and successfully applied in U.S. money management firms. A similar situation applies to the providers of ESG data to investors, where few noteworthy differences can be observed from one side of the Atlantic to the other. At the same time, however, the concepts of sustainability and active analysis of and engagement on substantive environmental (and other ESG) issues are far more prominent among major investment banks and other large financial institutions in Europe (particularly in the U.K.) than in the U.S. The magnitude of the funds that are invested according to environmental (and to some degree, other ESG) criteria is far greater in Europe than in the U.S., notwithstanding the latter’s somewhat greater overall size and diversity. An important contributing factor to the differences between U.S. and European markets is the solid yet evolving public policy framework in which European ESG investing is conducted, in contrast to the complete absence of such a framework in the U.S. This distinction has important public policy and corporate management implications. The chapter concludes with a discussion of perceived best practices and trends that the authors view as being likely to see increasing attention in U.S. capital markets in the years ahead, particularly as both public and corporate attention shifts (again) toward the environment as an important issue. The information and insights presented in the chapter will be of interest to academic researchers working at the intersection of environment and finance, and to decision makers in corporate, investment, and public policy circles, as well as environmental professionals. Chapter 2 - If the environment was initially considered a cost taken on by companies, in recent years the authors have observed that different organizations (companies, public administrations…) tend to adopt procedures that use the environment to enhance their competitiveness. One of the main tools used in economic policy has been the implementation of an Environmental Management System (EMS). It is an instrument that allows achieving environmental objectives and improving the efficiency of the organizations. The EMS does not necessarily, in itself, guarantee environmental protection or enhancement. However, if it is used correctly, the process of continuous improvement allows

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Preface

ix

us to approach sustainable development. When an EMS is implemented by a private company, financial organization, a City Council or whatever, some advantages are obtained from both the economic and environmental points of view. In this chapter the authors study these advantages and analyze the problems that appear when it is necessary to value the improvements obtained. Chapter 3 - Globally, buildings are responsible for approximately 40% of the total world annual energy consumption. Most of this energy is for the provision of lighting, heating, cooling, and air conditioning. Increasing awareness of the environmental impact of CO2, NOx and CFCs emissions triggered a renewed interest in environmentally friendly cooling, and heating technologies. Under the 1997 Montreal Protocol, governments agreed to phase out chemicals used as refrigerants that have the potential to destroy stratospheric ozone. It was therefore considered desirable to reduce energy consumption and decrease the rate of depletion of world energy reserves and pollution of the environment. One way of reducing building energy consumption is to design buildings, which are more economical in their use of energy for heating, lighting, cooling, ventilation and hot water supply. Passive measures, particularly natural or hybrid ventilation rather than air-conditioning, can dramatically reduce primary energy consumption. However, exploitation of renewable energy in buildings and agricultural greenhouses can, also, significantly contribute towards reducing dependency on fossil fuels. Therefore, promoting innovative renewable applications and reinforcing the renewable energy market will contribute to preservation of the ecosystem by reducing emissions at local and global levels. This will also contribute to the amelioration of environmental conditions by replacing conventional fuels with renewable energies that produce no air pollution or greenhouse gases. The provision of good indoor environmental quality while achieving energy and cost efficient operation of the heating, ventilating and airconditioning (HVAC) plants in buildings represents a multi variant problem. The comfort of building occupants is dependent on many environmental parameters including air speed, temperature, relative humidity and quality in addition to lighting and noise. The overall objective is to provide a high level of building performance (BP), which can be defined as indoor environmental quality (IEQ), energy efficiency (EE) and cost efficiency (CE). Indoor environmental quality is the perceived condition of comfort that building occupants experience due to the physical and psychological conditions to which they are exposed by their surroundings. The main physical parameters affecting IEQ are air speed, temperature, relative humidity and quality. Energy efficiency is related to the provision of the desired environmental conditions while consuming the minimal quantity of energy. Cost efficiency is the financial expenditure on energy relative to the level of environmental comfort and productivity that the building occupants attained. The overall cost efficiency can be improved by improving the indoor environmental quality and the energy efficiency of a building. This article discusses the potential for such integrated systems in the stationary and portable power market in response to the critical need for a cleaner energy technology. Anticipated patterns of future energy use and consequent environmental impacts (acid precipitation, ozone depletion and the greenhouse effect or global warming) are comprehensively discussed in this paper. Throughout the theme several issues relating to renewable energies, environment and sustainable development are examined from both current and future perspectives.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

x

Randi Taylor Mancuso

Chapter 4 - With our planet’s environment facing increasing threat of irreparable damage, academics, practitioners, and policy-makers are becoming more focused on the incentives of individuals, corporations, and governments to act in the interests of the environment. Since the environment is a public good, private incentives may be misaligned. Hence, game theory provides an ideal tool to examine environmental problems. In this paper, the authors review the existing game-theoretic approach to the environmental behaviour of corporations and governments. The literature reveals that, at the corporate level, environmental incentives are driven by market forces (the existence of ‘green’ consumers and investors), and regulation. Hence, game-theoretic approaches within the industrial organisation field are particularly appropriate. At the global level, where governments make international environmental agreements (IEAs), the situation resembles a prisoner’s dilemma, where each nation is tempted to break the IEA, and ‘free-ride’ on the other nations’ abatement efforts. After reviewing the literature, the authors make our own contributions, at both the corporate and global levels. At the corporate level, the authors develop a benchmark monopoly model of corporate environmental behaviour. The authors then compare our results with those of Fairchild’s (2008) duopoly model, and Bagnoli and Watts (2003) oligopoly model. This provides an insight into the inter-relationship between market structure, consumers’ environmental preferences, and corporate environmental behaviour. Next, the authors develop a behavioural game theoretic approach to global environmental agreements, in order to determine whether psychological factors, such as empathy, guilt and anger, can mitigate governmental free-riding, and sustain IEAs. Finally, the authors discuss future research, specifically noting that a gap in the literature should be filled by developing a model that combines corporate and global environmental incentives. Chapter 5 - Sudan is an agricultural country with fertile land, plenty of water resources, livestock, forestry resources, and agricultural residues. Energy is one of the key factors for the development of national economies in Sudan. An overview of the energy situation in Sudan is introduced with reference to the end uses and regional distribution. Energy sources are divided into two main types; conventional energy (woody biomass, petroleum products, and electricity); and non-conventional energy (solar, wind, hydro, etc.). Sudan possesses a relatively high abundance of sunshine, solar radiation, moderate wind speeds, hydro, and biomass energy resources. Application of new and renewable sources of energy available in Sudan is now a major issue in the future energy strategic planning for the alternative to the fossil conventional energy to provide part of the local energy demand. Sudan is an important case study in the context of renewable energy. It has a long history of meeting its energy needs through renewables. Sudan’s renewables portfolio is broad and diverse, due in part to the country’s wide range of climates and landscapes. Like many of the African leaders in renewable energy utilisation, Sudan has a well-defined commitment to continue research, development, and implementation of new technologies. Sustainable low-carbon energy scenarios for the new century emphasise the untapped potential of renewable resources. Rural areas of Sudan can benefit from this transition. The increased availability of reliable and efficient energy services stimulates new development alternatives. It is concluded that renewable environmentally friendly energy must be encouraged, promoted, implemented, and demonstrated by full-scale plant especially for use in remote rural areas.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Preface

xi

Chapter 6 - Eco-efficiency refers to the paradigm that firms can achieve long-run economic gains as a consequence of strategically managing environmental efficiencies (Porter 1991; Porter and van der Linde 1995a, 1995b). Environmental cost strategies involve management of the cost of production while minimizing the impact on the environment. In an efficient cost management system, inefficient use of environmental inputs and/or outputs, including pollution and waste, are reduced or eliminated through process improvements and innovation. By incorporating the efficient use of the environment into the firm’s strategic planning, management establishes a direct link between the firm’s environmental goals and its profitability (Brady et al. 1999; Ekins 2005) and firm value (Sinkin et al. 2008), Our study examines whether investors recognize and incrementally value the long-run benefits of the adoption of eco-efficient business strategies. Firms that adopt eco-efficient business strategies and thereby reduce costs and increase profits should be more highly valued in the long run than similar firms that do not adopt eco-efficient business strategies. Our results support the hypothesis that the market recognizes the long-run benefits of adopting eco-efficient business strategies. Chapter 7 - Terrain analysis provides the terrain partition framework, spatial objects classification and mapping. It is based on the combined analysis of digital elevation data and landcover GIS databases that allow the quantification of knowledge related to spatial objects and assists decision making for site evaluation, site selection and environmental modeling. Nowadays multi-temporal satellite imagery provides new data sources that include biophysical data. The aim of the current research effort is to include biophysical data in the terrain analysis in an attempt to support decision making and planning for environmental cost analysis studies. Towards this end, four case studies are presented: a) terrain classification of the prefecture authorities of Greece, b) landcover terrain modeling, c) terrain segmentation from multi-temporal land surface temperature (LST) data, d) sea segmentation from multitemporal sea surface temperature (SST) data. Chapter 8 - Organizing effective diabetes care in a low resources setting is a challenging task. Health care for chronic disorders like diabetes is fundamentally different than that of an acute disorder in respect of complexity and multisectoral involvement. Low resource countries, is almost all cases, are not equipped with the organizational tools to implement health care for chronic diseases. Absence of well designed health care services in the public sector, lack of an effective health insurance system, inadequate education and insufficiency of resources make it difficult to implement a proper diabetes health care policy in developing or underdeveloped countries. In spite of the above limitations there are some encouraging example of diabetes health care delivery in low resources settings. There is substantial contribution of public sector facilities in Bhutan, Mozambique and Zambia for the care of diabetes. In most other low resource countries public sector is still the largest, although somehow disorganized, source diabetes care to the mass population. A good number of for profit private sector facilities, like some centers in India, are contributing significantly towards diabetes care. A major part of diabetes care in such countries is provided by the social and voluntary organizations like the respective Diabetes Association, Young Diabetic Organizations or academic/research Organization apart from their role in creating awareness and prevention many of these organization is providing primary to tertiary levels of health care to the patients in effective ways. A supreme example of such an effort is the Diabetic association Bangladesh (DAB) which through the WHO collaborating center BIRDEM and about 85 affiliated associations and projects is providing integrated diabetes

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

xii

Randi Taylor Mancuso

care to about 1 million of patients (about 20% of the total estimated patients) throughout the country. Following a policy of comprehensive care, decentralization and community ownership, cross-financing, democratic management and close operation with government the Association have been able to create a sustainable model of health care in low resource setting. Never the less the model still fails to develop and effective strategy for primary prevention of the disease. The lesson learn from various countries and organizations suggest that public-private partnership, decentralized care, local community initiative and leadership, multisectoral approach and resource generation through cross financing are the crucial factors in organizing effective diabetes care in low resource communities. Unlike in developed countries, where the Diabetic association or equivalent organizations mainly play an advocacy role, the non-profit private organizations in developing countries should play a more proactive role in diabetic care. Chapter 9 - Over the last three decades environmental issues have a direct impact on technology assessment and policy decisions. One of the difficulties with measuring environmental performance is lack of consensus on evaluation of relevant aspects, including materials and energy use, air emissions, solid and hazardous waste and water pollution. In practice various environmental indicators are used, usually restricted to one specific aspect. In case of complex environmental metrics, such as Life Cycle Analysis, more environmental aspects are involved but they are usually judged in a subjective way. This Chapter presents development aspects of environmental performance indicators based on exergy. The concept exergy is based on the second law of thermodynamics and is very suitable for assessment of various systems, ranging from chemical and energy processes through economic sectors to entire societies. Traditionally, exergy-based indicators are restricted to measurement of thermodynamic efficiency. Recently, they are coupled with Life Cycle analyzes concepts, such as Cumulative Exergy Consumption (CExC). Finally, exergy indicators are extended with environmental and economic issues, as applied in Extended Exergy Accounting (EEA). EE indicators can be expressed in monetary as well as energy units. However, they are sensitive to capital conversion factors, which can be evaluated for various levels, including individual technologies, economic sectors, and entire societies.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

In: Environmental Cost Management Editor: Randi Taylor Mancuso

ISBN 978-1-60741-815-3 © 2009 Nova Science Publishers, Inc.

Chapter 1

ENVIRONMENTAL INVESTING PRACTICES IN EUROPE: A HARBINGER OF FUTURE U.S. BEST PRACTICES?* Peter Soyka Soyka & Company, LLC, Washington, DC, USA

Mark Bateman IW Financial, Portland, ME, USA

and Ira Feldman

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Greentrack Strategies, Bethesda, MD, USA

ABSTRACT The issue of whether voluntary, advanced environmental management practices add to or diminish the financial success of firms has been debated for many years. There is, however, a steadily increasing body of published literature and other evidence that demonstrates that well conceived and executed practices intended to enhance environmental performance/outcomes can create financial value net of their investment costs. At the same time, the expectation that the generally rational, well-functioning capital markets that exist in the U.S. would recognize this value has not been met to any significant degree. Recent studies have shown that, beyond the specialist field of socially responsible investing (SRI), there is very little consideration of corporate environmental management practices or environmental performance improvements on the part of “mainstream” investors or analysts in either the equity or bond markets in the U.S. This

*

Some of the research described in this chapter was performed on behalf of the U.S. EPA under U.S. EPA Purchase Order No: EP07H003021 to International Decision Strategies, Inc. The ideas and opinions expressed herein are solely the responsibility of the authors and do not necessarily reflect EPA policy or positions on any issue.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

2

Peter Soyka, Mark Bateman and Ira Feldman chapter briefly profiles some of the reasons for this disconnect, which have become more clear based upon recent work by the authors and a number of other investigators. While the adoption of financial analysis and investing strategies that explicitly include environmental considerations is very limited in the U.S. (even in the SRI arena), the situation in European capital markets is strikingly different in certain key aspects. This chapter examines how European investing practices differ from those commonly used in the U.S., presents some of the legal and cultural factors that have contributed to these differences, and provides some examples of the ways in which environmental (and associated social and governance) information is used by European institutional investors seeking to create attractive risk-adjusted returns for their beneficiaries. The chapter describes our research process and findings, which were focused on four specific and sequential research tasks: 1. 2. 3.

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

4.

Identifying and characterizing the European users of ESG information Determining the important differences between European and U.S. capital markets with respect to consideration of ESG issues and factors. Identifying and examining the ESG categories and specific variables considered important by European investors, and Determining how European investors use ESG data to make or inform investment decisions, and characterizing any significant differences in the way(s) in which these data are used in Europe versus the U.S.

Several major findings emerged from this research. U.S. and European capital markets share many features, and both have supported an active and growing SRI community over the past two decades. Further, some of the ESG evaluation methods and approaches that have been developed and implemented in European capital markets are quite sophisticated, but it is not altogether clear that they are much advanced beyond methods that have been developed and successfully applied in U.S. money management firms. A similar situation applies to the providers of ESG data to investors, where few noteworthy differences can be observed from one side of the Atlantic to the other. At the same time, however, the concepts of sustainability and active analysis of and engagement on substantive environmental (and other ESG) issues are far more prominent among major investment banks and other large financial institutions in Europe (particularly in the U.K.) than in the U.S. The magnitude of the funds that are invested according to environmental (and to some degree, other ESG) criteria is far greater in Europe than in the U.S., notwithstanding the latter’s somewhat greater overall size and diversity. An important contributing factor to the differences between U.S. and European markets is the solid yet evolving public policy framework in which European ESG investing is conducted, in contrast to the complete absence of such a framework in the U.S. This distinction has important public policy and corporate management implications. The chapter concludes with a discussion of perceived best practices and trends that we view as being likely to see increasing attention in U.S. capital markets in the years ahead, particularly as both public and corporate attention shifts (again) toward the environment as an important issue. The information and insights presented in the chapter will be of interest to academic researchers working at the intersection of environment and finance, and to decision makers in corporate, investment, and public policy circles, as well as environmental professionals.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Environmental Investing Practices in Europe

3

ACRONYMS

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

ABI ABP AFG

Association of British Insurers Dutch pension fund asset management association AssociationFrançaise de la Gestion Financière (France) AMF Financial Markets Authority (France) AUM assets under management BRIC Brazil, Russia, India and China CIDD Interdepartmental Committee for Sustainable Development (France) CNDD National Council for Sustainable Development (France) CSR corporate social responsibility DEFRA Department of Environment, Food and Rural Affairs (U.K.) EAI Enhanced Analytics Initiative EC European Commission EFAB Environmental Financial Advisory Board EIRIS Ethical Investment Research Service (U.K.) EMS environmental management system EPA Environmental Protection Agency (U.S.) ESG environmental, social and governance EU European Union Eurosif European Social Investment Forum FCP capital investment fund (a form of OPCVM [France]) FCPE employee capital investment fund (France) FCPR venture capital investment fund (France) FM fund manager FRR pension fund “Fonds de Réserve pour les Retraites” (France) GRI Global Reporting Initiative GS Goldman Sachs IDS International Decision Strategies, Inc. IORP institutions for occupational retirement provision KPI key performance indicator MSCI former Morgan Stanley Capital International NGO Nongovernmental Organization NYSSA New York Society of Security Analysts OPCVM collective investment scheme/mutual funds (France) PRI Principles for Responsible Investment PRISM Portfolio Risk Investment Strategy Manager (Schroders, U.K.) RI responsible investing RIR reinvestment rate ROIC return on invested capital SAM, SAM Group Sustainable Asset Management (Switzerland) SEE social, environmental and ethical SICAV investment company with variable capital (a form of OPCVM [France])

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

4

Peter Soyka, Mark Bateman and Ira Feldman SiRi SRI TRI UN UNEP-FI VOC WACC

Sustainable Investment Research International socially responsible investing Toxics Release Inventory United Nations United Nations Environment Program-Finance Initiative Volatile Organic Compounds weighted-average cost of capital

INTRODUCTION AND PURPOSE This chapter presents a summary of our research to characterize current and emerging investment practices in Europe that involve the use of information on environmental issues. Where such practices are used, it is generally under a construct comprising environmental, social and governance (ESG); social, environmental and ethical (SEE); or socially responsible investing (SRI) dimensions. That is, environmental management and performance are among several other considerations evaluated by investors that extend beyond traditional macroeconomic, industry sector and company financial analysis. In the balance of this section we provide a context for this research effort and describe our research objectives and specific analytical goals. In the remaining three sections, we explain our research and analysis methods, followed by our results. We then present our conclusions and what we see as implications for U.S. government agencies and other public policy makers involved in regulating U.S. capital markets and promoting sound governance and transparency.

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Context To begin, a brief description of our backgrounds and interests is in order, because many of the phenomena and behaviors described in this chapter are subject to interpretation. Understanding the vantage point from which we have viewed ESG investing in Europe is therefore important. Each of the authors is a career professional in a field having direct relevance to ESG investing. One is an environmental management consultant with extensive prior experience in explicating the connections between the environmental and financial performance of corporations. Another is well known as an innovative thinker in global environmental legal and policy circles. The third has devoted much of his career to designing and developing environmental information resources that are of specific interest to investors. Each has been involved in multi-stakeholder initiatives to promote more extensive and transparent environmental disclosure and other efforts to bring the environmental and financial communities into closer alignment. We believe that our individual and collective experience allow for an informed and sophisticated perspective on the issues discussed in this chapter, but it would be naïve to believe that there are not other alternative points of view that also are worthy of consideration. The research described in this chapter is based upon several pertinent facts. One is that a rich and growing published literature shows that improved environmental management and

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Environmental Investing Practices in Europe

5

performance appear to have a positive influence on corporate profitability, return on assets, systematic risk, intangible asset value, and a number of other widely used indicators of corporate financial performance and strength. A second is that despite this evidence, most investors and investment analysts in the U.S. outside the specialty field of socially responsible investing (SRI) do not consider environmental criteria in their analysis and decision making activities. Several theories for why this gap persists have been offered, including the absence of appropriate environmental management and performance data that can be used by investors, a lack of awareness of environmental issues and the capability to “ask the right questions” among investors and analysts, and the somewhat adversarial relationships between corporations and regulatory agencies (e.g., U.S. Environmental Protection Agency, Securities and Exchange Commission). To examine these theories and to explore current practices in different though analogous markets, we reviewed the state of environmental investing in Europe. As shown below, European capital markets, or the European market as a whole, share many similarities with the U.S. capital markets, and hence, provide a logical basis for comparison. Moreover, there is a long-standing belief that environmental consciousness and related practices are more advanced in many countries of Western Europe than here in the U.S. The research described in the balance of this chapter was designed to put these beliefs to the test.

Research Objectives and Goals To explore the prevalence and specifics of European environmental investing, we developed the following overall research objectives:

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

•

•

characterize and report on the use of information on environmental and, as appropriate, broader ESG management and performance by mainstream European investors and analysts, and using European investing as an example, determine whether and to what extent the types of information typically collected and reported by companies is useful to investors and what steps might be taken by firms and public sector actors (e.g., the U.S. EPA) to make corporate environmental management and performance data more useful and available to this audience.

To make these broad objectives more tangible and actionable, we developed a series of four specific research tasks. Completion of the tasks, in sequence and overall, has enabled us to understand the current state of play regarding ESG investing in Europe and develop report findings. These tasks and the questions they entail fall in logical order, but are sequentially more difficult to resolve, as the information required becomes more firm specific and, in some cases, proprietary. 1. Identify and characterize the European users of ESG information, according to the following criteria:

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

6

Peter Soyka, Mark Bateman and Ira Feldman • • • •

Their core interests and motivations, Where and how they obtain ESG information, How this information is evaluated and applied, and How it fits with other information and perspectives to guide the decision-making of the analyst or investor.

2. Determine the important differences between European and U.S. capital markets with respect to consideration of ESG issues and factors. This involves a series of sequential steps: • • • •

•

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

•

Determine what European investors are doing differently than their U.S. counterparts, Define in what specific ways European investing practices appear to be more advanced than those used in U.S. capital markets, Delineate ways in which European investors consider ESG information that their counterparts in the U.S. do not, Determine whether and to what extent environmental (or ESG) reporting requirements exist or are planned in the European Union (EU) and important European countries, and determine their major features, Develop an understanding of the effect of these laws (if any) on investor and analyst behavior, and Identify any factors or trends that suggest the European situation offers a “preview” of what may evolve, over time, in U.S. capital markets.

3. Identify and examine ESG categories and specific variables considered important by European investors. Here again, there are several dimensions to the research question; we attempted to explore as many of them as the available data would permit: • •

• •

•

Assess whether the data available in Europe are of better quality (i.e., more accurate, complete or comprehensive, consistent, and/or timely); Determine the source(s) from which ESG data are obtained, which source(s) provide(s) the majority of the data used, and whether these data are validated in any way; Elicit whether data are developed internally or are purchased from an information provider, or perhaps both; Evaluate the degree to which these data are related to regulatory requirements versus business driven and/or needed for Global Reporting Initiative (GRI) reporting, and Attempt to assess what percentage of GRI reporting elements are directly related to regulation, i.e., regulation-driven, particularly for environmental variables.

4. Determine how European investors use ESG data to make or inform investment decisions, and characterize any significant differences in the way(s) in which these data are used in Europe versus the U.S. This final question is the most difficult to

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Environmental Investing Practices in Europe

7

address because it is at the heart of new and emerging investment practices being used within and among competing asset managers. Nonetheless, we carried out the following activities to the extent possible using the available data: • • •

•

Delineate the specific way(s) ESG information is used and at what point(s) in the evaluation process; Determine whether ESG variables are evaluated quantitatively, qualitatively, or both; Examine how European investors consider ESG in the context of evaluating important intangible assets such as sound management (and decision-making), creativity and innovation, and Determine how important, in an ordered ranking, ESG factors would be relative to other investment criteria or variables. Or, assess what weight (percent) ESG factors would receive relative to conventional investment evaluation variables.

Our approach for exploring our research questions and the means by which we carried out the associated data collection and analysis activities are described in the next section.

APPROACH

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

In this section, we describe how we collected and analyzed the information needed to address the research questions posed above. We begin with a few statements regarding overall principles and general methods, and then present the tasks we undertook to generate and analyze our data.

Principles and General Methods In the interests of producing interesting and useful findings as quickly and efficiently as possible, we began this research activity by reviewing and attempting to leverage our previous work in this area, as well as the background knowledge and professional contacts of team members. This orientation led to an initial focus on three principle potential sources of insight and leads to other information sources, each of which reflects a different approach: •

•

PRI signatories. The Principles for Responsible Investment (PRI) initiative is an organized and growing effort on the part of investment houses and institutional investors to integrate ESG considerations into mainstream investment practices. It was and is our belief that the signatories to the PRI are among the most likely to have at least begun the process of obtaining and examining environmental (and other ESG) data on companies and to be considering it as they make decisions to invest or provide investment advice to their clients. Goldman Sachs (GS) Sustain. In our earlier work, we also became aware of a new initiative being conducted by the prominent global investment bank GS. It formally launched its “GS Sustain” product offering, described more fully below, in 2007. The

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

8

Peter Soyka, Mark Bateman and Ira Feldman

•

document elaborating this new investment approach suggested some interesting information sources and ideas for follow-up research, which we then investigated. SRI contacts. Given the extensive experience and working relationships established over time by the authors, we sought to leverage personal and professional contacts to supplement our information base and gain additional investment industry perspective, particularly with respect to the situation in Europe.

We emphasize that the findings reported here reflect a rapidly evolving European investment environment, and so may in some respects have a limited “shelf life.” Moreover, as anticipated, we have been unable to develop a deep understanding of how most investors actually use environmental (and other ESG) factors in their evaluations of and decisions regarding investments in firms and sectors. The information presented here largely reflects what we have been able to obtain from web sites, company documents and other publicly available sources, rather than new primary research.

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Tasks The research described in this report reflects the completion of several related tasks. As suggested above, we attempted to leverage our existing networks of contacts to collect information and, more specifically, began our research by following up with presenters and contacts made at recent investing conferences, such as SRI in the Rockies and Triple Bottom Line Investing, held in November 2007 in Paris. This involved reviewing presentations and notes from these conferences and conducting direct follow up with speakers, as required. We visited web sites of the organizations represented to collect additional background information, as needed. Team members also identified appropriate contacts and/or obtained referrals, prepared some limited, tailored questions designed to fill specific information gaps, and reached out to selected contacts to complete our information base, as it applies to the questions at hand, on particular companies. In parallel with these activities, we conducted new fact finding on several fronts. One was to identify European ESG reporting requirements, if any. This involved finding and reviewing existing and emerging disclosure laws in the EU and specific European countries and following up, as needed, with sponsoring agencies to determine compliance, typical reporting practices and stakeholder use of the resulting information. Another major activity was to identify and evaluate major sources of European ESG data. We began this activity by reviewing previously retrieved information sources and holding a series of discussions among team members. These discussions yielded an extensive list of prominent ESG data providers, many of which have U.S.-based affiliates or partnerships. We then identified and obtained studies of ESG information and information providers, marketing literature, and other documentation of current product offerings and data providers. Along the way we added new information and perspective gained from investor/analyst contacts and other ongoing research. Finally, as data permitted, we compiled and evaluated the information we gleaned for each data provider/product and prepared findings. These findings enabled us to discern some patterns, which led to the categorization of the major European ESG data providers, as described below.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Environmental Investing Practices in Europe

9

The final prong of our research approach was to attempt to characterize the behavior of investors who use environmental and other ESG information to inform investment analysis and decision-making. We accomplished this by pursuing two different paths. The first was to investigate new and relevant practices of PRI participants. This involved identifying, through internet research, the specific European PRI participants providing evidence of active implementation, and searching for and compiling information on their research and evaluation methods, investing philosophy, products and services, and other aspects of their business that make use of environmental information. In certain cases, we attempted to conduct limited follow up to fill specific information gaps by developing and delivering, via email, tailored sets of questions. In general, these inquiries did not elicit useful responses. The other research path involved identifying and investigating other (non-PRI signatory) European mainstream investors who use ESG information. We conducted this research using the same techniques as for the PRI participants. These inquiries produced limited additional information.

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

RESEARCH FINDINGS In this section, we describe our research findings regarding the context, nature, magnitude and extent of ESG integration into investment analysis and decision-making in Europe. We begin with the legal and cultural context within the European community and several major individual countries. This context establishes important requirements, norms and constraints affecting investor behavior at the country and pan-European levels. We also provide additional context by briefly describing the nature and magnitude of European investment markets and compare them to U.S. markets. With this context as a backdrop, we then discuss use of environmental and other ESG information in investment activity in Europe. This discussion has two major components: major ESG initiatives taking place in Europe, and individual investor behavior. Finally, we characterize the environmental information provided to and used by European investors and the firms that prepare and deliver it.

Legal and Cultural Environment European Cultural Context Our understanding of ESG investing in Europe can be enhanced by considering the cultural context of the individual societies in which investing takes place. Europe is in many respects different from the U.S., and some of these differences have important implications regarding the role of the financial sector in society, the nature and structure of each country’s capital markets, and the level of interest in ESG issues. The culture of each country has played an important role in how these factors have evolved. In this section, we provide some general information and analysis of the cultural environment in which ESG investing has developed in several important European countries. At the outset, it is important to recognize that several European countries house major financial centers that have been operating since before the U.S. was founded. In these countries and others in Europe, which have become prominent during the last century, capital

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

10

Peter Soyka, Mark Bateman and Ira Feldman

markets are highly developed, collecting capital from around the world and investing it globally. These countries include the U.K., the Netherlands, Germany, Switzerland, France and Sweden. Despite the relatively free flow of investment capital among these countries, which has been promoted by formation of the EU, certain important cultural differences remain. These have been described in two recent reports issued by the European Social Investment Forum (Eurosif), an organization representing socially responsible investors in Europe.1 The first, issued in 2003, was entitled, Socially Responsible Investment Among European Institutional Investors, and was supported by the European Commission (EC). This report provided a detailed look at the then-prevailing state of institutional SRI in Europe, including country-specific analyses of markets, investing methodologies and legal/regulatory context. Eurosif issued an updated European SRI Study in 2006, presented developments since the first study, in brief Europe-wide and country-specific chapters. These documents provide interesting context and several illustrations of the ways in which European capital markets are evolving with respect to ESG investing. As of 2003, Eurosif viewed the U.K. as having the most developed SRI market, with Germany, France, the Netherlands and Switzerland constituting the middle tier, followed by Italy, Spain and Austria, among the countries considered. In addition, the U.K. and the Netherlands were considered the markets closest to mainstreaming SRI concepts at that time. Some of the general cultural antecedents of the individual countries and their approach to SRI/ESG investing are summarized in Exhibit 1 below. This exhibit shows that a common vision of SEE investing in Europe is taking shape but is being influenced by the cultural attitudes of individual countries. Social and community concerns are considered very strong in France, Italy and Spain, which is not surprising given the prominence of labor unions in national policy development in those nations. Environmental issues are viewed as being of relatively greater importance in Germany and the Netherlands, while in the U.K. ethical issues are the principal driver. Michel Lemonnier, SRI business manager at Groupama Asset Management and a member of the responsible investment committee at the French asset management association AssociationFrançaise de la GestionFinancière (AFG) recently observed: Exhibit 1. Cultural Considerations in National Approaches to ESG Investing in Europe

Source: Eurosif, 2003. Socially Responsible Investment Among European Institutional Investors.Table 11, p 13. 1

Eurosif is a pan-European group, the mission of which is to address sustainability through financial markets. Members include pension funds, financial service providers, academic institutes, research associations and NGOs. Eurosif is an organization analogous to the Social Investment Forum in the U.S.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Environmental Investing Practices in Europe

11

“[T]he definition of responsible investment [is] different if you talk about a Nordic country, an Anglo-Saxon country, a Latin country or France, where we talk more about sustainable development … For example, if you talk about the nuclear power issue in a Scandinavian country or in France it is a completely different debate. A French institutional investor will happily invest in a nuclear company, but in Scandinavia they might not.” (Response Global Media Ltd and IPE International Publishers Ltd, 2008 at 4, 10)

As discussed in greater detail below, these three SEE issues generally are viewed as being key domains that must be managed within a strong governance structure. The “SEE” formulation of the issue, i.e., as SEE management (or investing) under the required demonstration of adequate and appropriate governance, has been used in tandem with “SRI screening” and “ESG integration” concepts in the investment community in Europe in recent years.2 While recognizing that individual countries take their own, sometimes unique, approaches to ESG issues, authors of the Eurosif study also indicated that cultural attitudes toward SRI are converging in Europe, and summarized the then prevailing state of play as follows:

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

“Each nation has had a cultural starting point. While these tend to remain strong, market maturation, growing public awareness and the development of mainstream products are coming together to broaden the scope of national concerns … Thus SRI practitioners are increasingly tackling issues that transcend national frontiers.” (Eurosif, 2003)

They made the additional point that SRI in Europe is led by equity, rather than debt, markets and instruments (just as in the U.S.). Interestingly, pension systems across Europe gradually are moving away from debt and increasing their share of equity holdings. Thus, Eurosif thought that use of SRI approaches and investments, in percentage terms, in pension fund holdings would increase over time. We discuss the magnitude of SRI/ESG investments by European pension funds in a subsequent section of this report.

European Law and Regulation Addressing ESG Investing In various ways, the policy, legal and regulatory context in Europe shapes the consideration of ESG factors by financial institutions. For example, the Swedish National Pension Fund implemented ESG guidelines in 2000. One of the investment funds formed under this scheme, AP7, sought to incorporate ESG without jeopardizing an investor’s fiduciary responsibilities. The AP7 approach was to develop a minimum level of engagement based largely on declarations, covenants and conventions adopted by the United Nations (UN) General Assembly, supplemented by court decisions, official intergovernmental or national governmental investigations, and company disclosures. Another example relates to the sustainability investments of the Dutch pension fund ABP, which already has significant stakes in carbon funds and in clean technology funds. ABP explains that it is “seeking to capitalize on these existing strongly sustainability driven opportunities that are now coming on to the market … Our interest in sustainability is very much within the context of [the fiduciary responsibility] obligation we have in law … What determines financial 2

In this report we will refer to SRI screening and ESG integration collectively as “ESG investing.”

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

12

Peter Soyka, Mark Bateman and Ira Feldman

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

attractiveness of many business models and types of assets is very strongly linked to policy and regulation … we are starting to have discussions with policymakers about exactly those things.” (Wheelan, 2007) In this section, we describe legislative, regulatory and quasi-legal requirements and obligations that influence the use of environmental data and considerations in investment analysis and decision-making in Europe. We begin with a review of the “big picture” in Europe, and then examine legal conditions extant in several important individual countries. A major source of information and perspective on this topic is A Legal Framework for the Integration of Environmental, Social, and Governance issues into Institutional Investment, an in-depth report prepared in 2005 under the auspices of the UN Environment Program-Finance Initiative (UNEP-FI) by the U.K.-based law firm Freshfields, Bruckhaus, Deringer. While somewhat dated,3 this report remains the most authoritative study to this point on the legal context in which ESG investing takes place (or does not) in most advanced capital markets around the world. In retrospect, the Freshfields report marked a turning point in the debate on fiduciary duty and SRI/ESG investments. As discussed below, the report is best known for its rejection of the then–widely accepted legal interpretation of fiduciary duty in the U.K. But the impact of this finding in the Freshfields report was felt more broadly. Not only did the report provide a comfort level to SRI/ESG investors, it actually catalyzed something of a revisionist turn around on the question, i.e., that responsible investment is required as part of fiduciary duty. For our purposes, we focus on the broader findings reported by the authors of this study, which paints a picture of very significant country-to-country variation with respect to the legal framework within and governmental policy concerning ESG considerations in investment decision-making. Its scope of coverage includes several countries in Europe, as well as the EU, U.S., Canada, Japan and Australia. Of specific interest here, the report addresses the U.K., Germany, France, Italy and Spain. Each country analysis in the report is structured to address, to the extent possible, pension funds, insurance reserves and mutual funds.

EU Policies and Initiatives With the formation of the EU, the individual and, in many cases, small countries of Europe made a commitment to become a single, integrated, economic entity. In this section, we briefly profile some of the major policy decisions made within the EU.In the following sections we introduce examples of EU legislation and influential nonregulatory initiatives that do or may influence ESG investing in Europe. All of the European jurisdictions discussed in the Freshfields report are members of the EU and, therefore, are subject to the legal regime and decisions of EU institutions. In the EU, the integration of ESG considerations into investment decision-making has been framed in the broader discussion of sustainable development and corporate social responsibility (CSR). Moreover, the EC, the EU’s governing body, regards SRI as an important tool in encouraging CSR. That is, in contrast to the U.S., SRI/ESG investing has been recognized as an instrument 3

A new report, which has been dubbed “Freshfields 2” by some observers but whose working title is “Fiduciary 2” is currently being overseen by the author of the original Freshfields study. This update will look at the legal position on responsible investment across Europe and is expected early in 2009. (Responsible Investor, October 16, 2008)

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Environmental Investing Practices in Europe

13

of public policy at the highest levels of government. Some major EU activities and initiatives having a bearing on ESG/SRI investing in Europe are briefly highlighted below. •

•

•

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

•

Fifth Environmental Action Programme (1993) – the European Community program of policy and action on the environment and sustainable development; it provided early recognition of the power of financial institutions to exert control over investment and management decisions that could play to the benefit of the environment. Commission Green Paper on CSR (2001) – the EC’s aim was to launch a wide debate about how the EU could promote CSR at the European and international levels, encourage innovation, and increase the reliability of evaluation and validation. It called for development of criteria and indicators that would identify factors of competitive advantage and business success of socially responsible enterprises.4 Commission Communication on CSR (2002) – articulated the growing perception that “sustainable business success and shareholder value cannot be achieved solely through maximizing short-term profits, but instead through market-oriented yet responsible behavior.” (EC, 2002 at 5) The communication called for pension schemes and retail investment funds to disclose their ESG considerations; benchmarking of pension fund and investment fund practices in support of CSR, and launch of an EU multistakeholder forum on CSR. Directorate-General for Employment and Social Affairs (2004) – repeated the concerns in the Green Paper and in the EC Communication on issues such as transparency and reporting methodologies. “The lack of information on SRI performance … and of clear assessment methodologies are among the reasons hindering the development of SRI … SRI represents a powerful way to prompt change in companies’ behaviour, translating values into positive action and promoting social and environmental progress.” (EC Directorate-General for Employment and Social Affairs, 2004, at 49)

These initiatives demonstrate an appreciation by the EU of ESG investing as a potentially important vehicle for promoting sustainable behavior by publicly traded companies, and establish consideration of ESG issues and criteria as a goal worthy of support by national governments and other public-sector institutions.

EU Directives Given this policy backdrop, the EU has enacted a variety of directives affecting, directly or indirectly, the use of ESG information in the financial markets. EU member nations must integrate or otherwise adopt EU directives into national law. EU directives can be viewed as somewhat analogous to federal statutes in the U.S. While EU countries are sovereign entities,

4

The Green Paper identified four factors as the driving forces in the move toward CSR: new concerns and expectations from citizens, consumers, public authorities and investors in the context of globalization and large scale industrial change; social criteria increasingly influencing the investment decisions of individuals and institutions as consumers and as investors; increased concern about the damage caused by economic activity to the environment, and transparency of business activities brought about by the media and modern information and communication technology. (EC, 2001)

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

14

Peter Soyka, Mark Bateman and Ira Feldman

the implementation of directives proceeds much as states in the U.S. might take on delegated federal programs or enact their own legislation modeled on federal law. Two examples: •

•

Occupational Pensions Directive (2003) – applies to institutions for occupational retirement provision (IORP) and aims to create an internal market for occupational retirement provision. Article 12 requires IORPs to develop a statement of investment policy principles at least every three years that would be made available to competent authorities and to members and beneficiaries of each pension scheme. Transparency Directive (2004, amended 2007) – aims to harmonize disclosure by EU listed companies of accurate, comprehensive and timely information. This reporting requirement tracks the EU Accounts Modernization Directive, sets minimum content requirements for annual and for interim reports and is intended to enable investors to make informed investment decisions on a pan-European basis. Together, these EU directives informed recent revisions to the U.K. Company Law, discussed later.

Voluntary Standards and Codes of Conduct The Freshfields report also takes note of several private sector initiatives, at the EU level and within each country analysis, thereby acknowledging the importance of such voluntary initiatives (described by some as “soft law” or “private law”) in the development of norms related to ESG considerations. Several pan-European networks and initiatives have played prominent roles in advancing the state of play regarding SRI/ESG investing: • •

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

•

Eurosif – European Social Investment Forum, a nonprofit aiming to inform, educate and network about sustainable and responsible financial services. CSR Europe – the leading European business network for CSR, formed in 1995 to help companies integrate CSR into daily operations. Social Platform – The Platform of European Social Nongovernmental Organizations (NGOs) is an alliance of federations and NGO networks active in the social sector. It has called for convergence of CSR practices and tools in the EU and greater transparency regarding investment principles.

Other initiatives in European countries are styled as NGO-business alliances, publicprivate partnerships or sector-specific voluntary business programs with codes of conduct. The U.K., in particular, has spawned an array of these activities, discussed in more detail below. These examples show that in Europe, as in the U.S., nonregulatory mechanisms often are effective in promoting improved practices, particularly in situations in which authority is lacking or ambiguous and the state of practice is rapidly evolving.

Country-Level Legal Requirements and Trends In this section, we compare and contrast the legal and regulatory framework in three important but very different countries — the U.K., France and Germany — to highlight some of the factors that influence adoption of ESG investing practices in each country.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Environmental Investing Practices in Europe

15

Underlying these country reviews is the need to understand two fundamental investment issues: portfolio theory and fiduciary duty. Although each is a somewhat complex issue, for our purposes one can employ greatly simplified working definitions, such that portfolio theory requires diversification in any investment portfolio’s assets to control risk; fiduciary duty is an obligation to put the interests of the asset owner or beneficiary above all others. In practice, fiduciary duty in many legal jurisdictions (including many countries in Europe as well as the U.S.) has been interpreted conservatively, such that maximum return must be sought in accordance with an accepted level of risk. That is, financial return (profit maximization) “trumps” all other factors, including ESG considerations. As a practical matter, it is generally accepted that upholding fiduciary duty requires the acceptance and use of portfolio theory.5

The United Kingdom As discussed in greater depth in a subsequent section, the U.K. is probably the most sophisticated market with respect to integration of ESG factors into investment decisionmaking. As noted above, the Freshfields report summarizes for each country three investment categories: pensions, insurance and mutual funds. In the U.K., these major investment-fund types and the legal requirements that apply to their management are as follows: •

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

•

•

Pension funds – Many different types of pension funds are found in the U.K. Public pension funds established under the statute-based Local Government Pension Scheme are subject to the same rules governing occupational pension schemes established by private employers. Other public pension funds, however, fall outside the scope of these legal rules. Insurance reserves – Insurance companies are not subject to legal requirements governing how they invest their reserves, other than certain limits on classes of investment assets. Management of reserves is guided by the contractual duty to meet the terms of the policies. Mutual funds – In the U.K., these are called “unit trusts.” Some funds are limited to a particular asset profile and there also are specialist SRI funds.

Fiduciary Duties and Voluntary Norms In the U.K., those who control invested funds – trustees, fund managers and investment consultants – are subject to a panoply of duties and obligations derived from legislation and case law. Broadly, two categories of such obligations are relevant to the ability of financial sector decision makers to integrate ESG considerations into investment selection and management: • •

5

Fiduciary duties (some supplemented by statute) and Nonfiduciary duties (generally based on contract law and tort law, such as negligence).

Indeed, the “Prudent Investor Rule” rests on legal theory originally articulated in the U.S. and underpins the notion of fiduciary duty in the U.K., other European countries and U.S. state securities law. The Prudent Investor Rule includes diversification as a core precept. In practice, most investors diversify by applying portfolio theory.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

16

Peter Soyka, Mark Bateman and Ira Feldman

U.K. law on investment decisions distinguishes between funds that are established as trusts and those that do not adopt a trust structure. Fiduciary duties are laid out in the Pensions Act, the Trustee Act and implementing regulations. Trustees and agents must “act prudently and for a proper purpose.” Fund managers and investment consultants are, in effect, subject to the same obligations as trustees, albeit indirectly through breach-of-contract or negligence standards. The Pensions Act of 2004 amended the Pensions Act of 1995 and moved the U.K. further toward adoption of portfolio theory for ensuring security, liquidity and other benefits. The full picture in the U.K. is not, however, limited to statutory and case law; other laws, policies and norms also inform investment conduct as it applies to ESG issues: •

•

•

•

•

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

•

Myners Principles (2001) – principles representing best practice for effective investment decision-making; these have been endorsed and amended by the U.K. government The London Principles – joint effort between the U.K. government and the Corporation of London promoting best practices in financing sustainable development Association of British Insurers (ABI), Disclosure Guidelines on SRI – disclosure guidelines regarding policies, procedures and verification for inclusion in company annual reports Combined Code on Corporate Governance – the Financial and Services Authority’s Combined Code encouraging dialogue between companies and institutional shareholders ISC Statement of Principles produced by the Association of Investment Trust Companies, ABI, National Association of Pension Funds and Investment Management Association, and “Securing the Future” – A U.K. sustainability policy recognizing the need to mobilize institutional investors to encourage stakeholder engagement consideration of nonfinancial factors in assessing company performance, specifically mentioning the SRI market and social and environmental factors.

Freshfields and Fiduciary Duty The U.K. also has been evolving over time in its treatment of the key issues of portfolio theory and fiduciary duty. Beginning in 1993, U.K. court decisions began to accept portfolio theory. The situation regarding fiduciary duty has, however, been less clear. On the one hand, under the U.K. Charities Act of 1993, charities can make investments that do not seek the best financial returns, so long as they further the organization’s purpose. Yet, it had been believed for some time that the traditional view of fiduciary duty was in effect in the U.K., based on the precedent set in a 1984 case, Cowan v Scargill. The Freshfields analysis asserts that, to the contrary, the Cowan v Scargill case is no longer good authority governing trust investments and certainly should not preclude ESG considerations. Indeed, the Freshfields report’s conclusion relative to the legal situation in the U.K. is both clear and somewhat provocative on this point:

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Environmental Investing Practices in Europe

17

“… it may be a breach of fiduciary duties to fail to take account of ESG considerations that are relevant and to give them appropriate weight, bearing in mind that some important economic analysts and leading financial institutions are satisfied that a strong link between good ESG performance and good financial performance exists.” (Freshfields, Bruckhaus, Deringer at 100)

The Freshfields analysis demonstrates that the traditional view of fiduciary duty is based on “a fundamental misunderstanding of the law and the outdated notion that investment decision-making is based on individual investments rather than modern portfolio theory,”concluding that today it is likely a court would view investment decisions made using ESG considerations as appropriate.

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Fiduciary Duty Update There have been further indications that the U.K. interpretation of fiduciary duty regarding ESG considerations has evolved to embrace responsible investing (RI). As reported on September 8, 2008, in Responsible Investor, the Pension Fund of the U.K. Environment Agency awarded £185 million in RI mandates and placed UN PRI signatory status at the heart of its manager selection process.6 (Wheelan, 2008a) Howard Pearce, head of environmental finance and pension fund management for the Environment Agency said: “These appointments also evidence our opinion that those fund managers who seek to take into account financially material environmental risks and opportunities, such as climate change, in their investment decisions, will produce better financial returns for the beneficiaries of our pension fund, and this is entirely consistent with our fiduciary duty.” An even more recent development on the fiduciary duty thread is an October 16, 2008, trade press report suggesting that the U.K. government may have finally settled the RI fiduciary duty debate. Lord Mackenzie of Luton, Parliamentary Under Secretary of State for the Lords, representing the government Department of Work & Pensions, delivered a bold statement of support for responsible investment: “In responding to this issue, I would like to take the opportunity to provide some clarification on the current operation of the law in this area. There is no reason in law why trustees cannot consider social and moral criteria in addition to their usual criteria of financial returns, security and diversification. This applies to the trustees of all pension schemes. Of course, disinvesting may not be the most appropriate approach for pension scheme trustees looking at the long-term sustainability of their investments. Engagement may be the right approach in any particular case. I hope that I have been able to put clearly on record the government’s 7 position on responsible investment by pension schemes.” (Wheelan, 2008b) 6

The Environment Agency, an agency of the U.K. Department of Environment, Food and Rural Affairs (DEFRA), has been a leader in responsible investment since 2005, when it retained 10 specialist managers employing an environmental, social and governance overlay strategy. When the Environment Agency fund launched the latest tender in December 2007, it said it would favor managers according to investment in climate-change themes as well as adherence to the PRI. According to the trade press report, each manager’s performance will be evaluated according to their integration of environmental considerations into risk management, stock selection, company engagement, proxy voting and annual environmental carbon footprinting. Relative performance between managers will also be separately benchmarked using corporate governance and responsible investment indices. 7 Responsible Investor also reported that a “surprising” earlier amendment in March this year from the U.K. opposition Conservative party suggested that fund managers running personal account money should make a clear commitment to responsible investment by signing up to the United Nations (UN) Principles for

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

18

Peter Soyka, Mark Bateman and Ira Feldman

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

It therefore appears that the U.K. government now firmly supports the use of responsible investment – notably the possibility for exclusions and corporate engagement – as a potential lever for all pension investment decisions.

Business Review We close this discussion of the legal climate in the U.K. with a brief description of an interesting development that may stimulate more extensive, meaningful and consistent environmental disclosure by U.K. businesses. Such an outcome would help to address one of the major nonlegal impediments to more widespread consideration of ESG factors in investment analysis and decision-making. A 2005 U.K. law, adopted pursuant to the 2003 EU Accounts Modernization Directive, requires the largest publicly traded companies in the country to include within their annual financial reports a “Business Review,” providing a comprehensive analysis of the development and performance of the company and its position at year end. In November 2006, the U.K. approved amendments, which were to become effective October 1, 2007, that call for companies to report on supply chain, social and community issues and include information about the effectiveness of the organization’s policies on the covered sustainability topics. Companies also must provide, where appropriate, an analysis of key performance indicators (KPIs) related to their employee, supplier and environmental matters and social and community issues.8Directors’ general duties have also been revised. As of 1 October 2007, directors’ duties were explicitly extended to include consideration of company environmental impacts.9 The country's Accounting Standards Board issued guidance, in 2006, on how to prepare text in financial reports on such nonfinancial topics. In addition, the Department of Environment, Food and Rural Affairs published reporting guidelines on environmental KPIs that could be considered in preparing a Business Review. The guidance states that “the use of KPIs will help companies manage and communicate the links between environmental and financial performance.” Some provisions of the 2005 U.K. law encountered implementation delays, but these Business Review requirements remain in place. France The situation in France with regard to legal provisions governing investment activity and the structure of major institutional investors is quite different and less developed than in the U.K. As with the other jurisdictions, the Freshfields report discusses each of the three investment arenas and highlights the following key points: Responsible Investment (PRI), although industry observers believe this is unlikely to be included in the final legislation. 8 Under the Act, companies must ensure that their Business Review, “to the extent necessary for an understanding of the development, performance or position of the company’s business, includes: the main trends and factors likely to affect the future development, performance and position of the company’s business; and information about – environmental matters (including the impact of the company’s business on the environment), the company’s employees, and social and community issues, including information about any company policies related to those matters and the effectiveness of those policies.” 9 The act states: “A director of a company must act in the way he considers, in good faith, would be most likely to promote the success of the company for the benefit of its members as a whole, and in doing so have (amongst other matters) regard to – the likely consequence of any decision in the long term, the interests of the company’s employees, the need to foster the company’s business relationships with suppliers, customers and others, the impact of the company’s operations on the community and the environment.”

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Environmental Investing Practices in Europe •

•

•

19

Pensions – The pension scheme in France is run through the government-controlled Retirement Reserve Fund (Fonds de Réserve pour les Retraites [FRR]). The investment management of FRR is delegated to investment firms licensed as portfolio management companies Insurance – Insurance companies in France are permitted to take ESG issues into account so long as basic rules are observed regarding accounting for reserves and solvency margin, and Mutual Funds – Mutual funds in France are collective investment schemes known as OPCVMs; these funds may take ESG considerations into account on a voluntary basis.

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

FRR Pension Scheme There are no prefunded pension funds in France as there are in the U.S. and many other countries, but participation in a publicly managed pension system is mandatory for both public- and private-sector employees, except for certain self-employed individuals. The current system is of relatively recent vintage. Reforms were introduced in a 2001 law that gave the retirement reserve fund a mandate to manage sums entrusted to it by public authorities, until 2020, to buttress the basic pension scheme. The 2001 law was amended in 2003, requiring FRR to invest in accordance with the following principles: the objective and timing (i.e., 2020) of the use of FRR’s assets; profitability (maximizing investment returns); prudence, and adequate spread of risks. Under the 2001 law, FRR must comply with rules set out in a 2001 decree on investment limitations and the types of assets in which investment is permitted. (Freshfields, at 56-57) FRR was the first institutional player to call for tenders to invest in an ESG-conscious manner (€600M in 2005) and has developed a strategy to promote ESG investment and best-practice corporate governance. The organization is described further in a subsequent section of this report. Insurance The duties and responsibilities regarding insurance company decision-making are set out in the French code of commerce, whereas those relating to mutual insurance companies are set out in the French insurance code (regulatory section). The Freshfields report states that the French insurance code contains no legal provisions for, or explicit prohibitions against, taking into account ESG considerations. (Freshfields, 2005 at 59) Therefore, ESG considerations may be taken into account as long as the insurer is in compliance with the more generally applicable legal duties and obligations. As a general principle, French insurance companies must maintain sufficient technical reserves to cover the aggregate of their liabilities. Technical reserves must be adequately calculated, accounted for and invested in suitable assets. The French insurance code contains a list of assets in which French insurance companies may invest and also sets out the diversification rules applicable to each category of eligible asset. Insurance companies must also carry out an ongoing valuation of financial risk and maintain a solvency margin. This information must be included in an annual report prepared by the board of directors or executive board, which serves as the representative, governing and managing body of the insurance company or mutual insurance company. (Freshfields, 2005 at 57)

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

20

Peter Soyka, Mark Bateman and Ira Feldman

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Mutual Funds There are two forms of French OPCVM – An investment company with variable capital (SICAVs) and capital investment funds (FCPs).10 The assets of OPCVMs are held by separate custodians selected from a list provided by the Minister of Economy and Finance. The custodian ensures that decisions taken by the SICAV or by the management company of the FCP comply with the relevant legal and regulatory provisions. Under the governing French legislation on OPCVMs, the management company and the custodian must offer sufficient guarantees regarding their organization, technical and financial means and the integrity and experience of their managers. The management company must act independently and in accordance with the following principles: perform its duties with loyalty, diligence, neutrality and impartiality in the exclusive interest of investors and of the integrity, transparency and security of the market; take any appropriate arrangements to ensure the security of the transactions, and endeavor to prevent and resolve conflicts of interests. Beyond these basic duties and principles, there are “no specific provisions under French law restricting or encouraging investment by management companies on the basis of ESG considerations.” (Freshfields, at 59) To address the legal void, and in the absence of a single definition of ESG considerations, the French Financial Markets Authority (AMF) has developed recommendations which, among others, include providing investors with chosen definitions of sustainability and ESG; methods and processes to be used in the analysis, evaluation and supervision of ESG considerations; ethical rules to be applied by external auditors, and impact of ESG considerations on the income and management of the OPCVMs. (Id.) SRI/ESG Trends Ethical funds are a special class of OPCVMs, such as “solidarity funds” (FCPE solidaire, employee capital investment funds that finance economic projects such as job creation with a social benefit) and “sharing funds” (which share part of their income with charities and NGOs). These reflect a recent and increasing trend; more than 120 ethical funds were in existence as of December 2004. (Freshfields, at 59-60) According to Eurosif (2006), the recent experience of FRR regarding ESG investing has been followed by a growing number of institutional investors, who are starting to invest in SRI. It should be noted, as well, that growth also is driven partly by the prominent role of trade unions in co-managing public funds. Another driver in France has been the New Economic Regulations law, dating from 2001, which requires companies to publish social and environmental information in their annual reports. This legislation was motivated by SRI demands for corporate information. 10

The two types of OPCVMs are described in the Freshfields report: (a) An investment company with variable capital (SICAV) is a limited liability company that manages a portfolio of financial instruments and deposits. The SICAV may be self-managed or may delegate, in whole or in part, its management and the administration of its assets to a management company. As a company subject to the provisions of corporate law, a SICAV is managed in accordance with its bylaws, which contain general rules governing the company and the criteria determining its investment policy. (b) An FCP is a co-ownership of financial instruments and deposits without a separate legal identity. The FCP is managed by a management company in accordance with the FCP’s rules, which set out the criteria determining its investment policy. FCPs may take various forms depending on their investment profile and type of investors; these forms include the FCPE and venture capital investment fund (FCPR). (Freshfields, 2005 at 56)

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Environmental Investing Practices in Europe

21

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

“Ultimately, the inclusion of SEE information in annual reports will entice both companies and investors to think more seriously about the subject and motivate them to draw direct links between CSR and the economic performance of the firm.” (Eurosif, 2003 at 47) Voluntary guidelines have also begun to appear in France. For example, AFG, which represents investment funds and individual portfolio management, has issued transparency guidelines. OPCVMs that decide to voluntarily comply with these guidelines must publish a list of answers to a set of questions supplied with the guidelines. These questions cover such issues as the general operation of the OPCVM, ESG considerations, research process, evaluation and implementation, engagement approach and voting policy. (Freshfields, 2005 at 59) Finally, Eurosif notes that in France the SRI/ESG investment discussion has been heavily influenced by the emergence of two themes: sustainability and corporate governance. Former President Chirac made sustainability a centerpiece of his administration. His government created two working groups on sustainability — one was intended to break down barriers within government; the other dealt with civil society and included representatives from many stakeholder groups, including financial institutions.11 The interest in corporate governance will contribute to the uptake of SRI/ESG in traditional markets. “Corporate governance and risk management could prove to be the common vocabulary that links SRI analysis to fundamental analysis, while pulling sustainable investing out of its niche and into mainstream fund management.” (Eurosif, 2003 at 53) While the legal and regulatory structure in France is less advanced than its counterpart in the U.K., the framework in place, reflecting a different development of the financial markets, puts France in the next tier of European nations along with Sweden and the Netherlands.

Germany Germany offers an interesting example of how social and political philosophies and priorities are not necessarily reflected in national securities laws. Despite the fact that environmental consciousness is widely thought to be high in Germany, as reflected by both long-standing “Green” political parties and a number of public policy interventions promoting, for example, solar energy development, the legal strictures governing environmental (and other ESG) investing are conservative in nature and somewhat ambiguous at present. The Freshfields report highlighted aspects of the three major categories of institutional investments in Germany as follows: •

•

11

Pension funds – If a pension fund decides to invest in “ethical” investments it must inform employees or other beneficiaries. Since 2002, disclosure obligations have been expanded in amendments to the Insurance Supervision Act, which implements and goes beyond the EU Occupational Pensions Directive. ESG considerations are permitted so long as high security and profitability remain primary goals. Insurance reserves – Similar to pensions, reserves for private pension insurance and life insurance are governed by the obligation of disclosure to the policyholder, i.e.,

The Interdepartmental Committee for Sustainable Development (CIDD) is the internal to government group; the National Council for Sustainable Development (CNDD) is the external stakeholder group. We note that the U.S. currently has no equivalent national sustainability council.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

22

Peter Soyka, Mark Bateman and Ira Feldman

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

•

whether ESG considerations have been taken into account. This disclosure also must appear in the annual report, though this requirement has been interpreted with great flexibility. Mutual funds – Beyond basic statutory duties (which are silent as to ESG), an investment capital company is free to include ESG issues as part of the contract, so long as the scope of the mandate is sufficiently detailed for investors.

Shareholder activism on ESG issues is reportedly not widespread in Germany, nor is integration of ESG considerations into investing behavior. At present, the most important investment strategy for German SRI investment companies is ethical exclusions, which have been applied to 41 percent of SRI assets (Eurosif, 2006 at 23). ESG issues have received express legislative attention relating to the operation of pension funds12 and insurance reserves,13 but mutual funds have not been addressed, to this point. The German Investment Act is silent on ESG matters. Generally, ESG considerations are permitted for capital investment companies so long as high security and profitability remain the primary goals. These terms have not, however, been definitively interpreted by regulators, leaving considerable uncertainty concerning the ability of German money managers to use ESG considerations in investment analysis and decision-making. Current interpretations of the phrase “integrity of the market” suggest that an investment company will not comply with its code of conduct if an investment incorporating ESG issues is less profitable than a declined alternative. “At present, the only way ESG issues can be integrated into investment decisions is if the contractual terms and conditions that determine the legal relationship between the capital investment company and the investor explicitly refer to them.” The Freshfields report also notes, however, “a different interpretation of the legal framework [is possible] … in the future as the public interest in ESG issues gains ground.” (Freshfields, 2005 at 64). Also relevant to ESG considerations is the German Corporate Governance Code, originally published in February 2002, which summarizes statutory requirements on the governance of listed companies. Companies must confirm compliance with, or explain deviations from, the code at least annually. The code acknowledges the role of national and internal standards and provides suggestions for good and responsible corporate governance. (Eurosif 2003) At the same time, however, the German government has made clear its commitment to moving toward a sustainable society. Its “sustainability strategy” is an additional policy overlay affecting ESG considerations at the national level, and may portend changes to the investing climate in the future. At present, however, there appears to be a “clear discrepancy” between the ambitions of the government’s greening strategy and the conservative legal framework governing investment behavior. (Freshfields, 2005 at 65)

12

Among other provisions, Section 115 (4) of the Insurance Supervision Act requires that the pension fund must inform beneficiaries in writing if and how it takes ethical, social and ecological aspects into account. Pension funds in Germany may be mutual benefit societies or public limited companies. 13 Among other provisions, Section 10a (1) of the Insurance Supervision Act obliges providers of life insurance to comply with Section 115 (4) of the act. This requirement is supplemented by provisions relating to ESG in Sections 7 (1) and 7 (4) in the act on the Certification of Retirement Arrangement Contracts.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Environmental Investing Practices in Europe

23

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Summary and Parallels to/Differences from U.S. Capital Markets Our brief review of the cultural and legal climate in Europe as it pertains to ESG investing suggests several important findings. One is that there is considerable inter-country legal variation across the major countries comprising the European capital markets. We expect this variation will diminish over time as the EU continues to evolve and takes additional steps to establish consistent legal structures, policies and operating norms within its member states. The EU already has lent its official support to the concepts of sustainability and CSR and can reasonably be expected to promote RI through a variety of means during the next few years. This is important for two reasons. First, there have been no parallel developments in the U.S., at the national level, that remotely resemble the far-reaching positions of the EU regarding sustainability policy and CSR, or more specifically the incorporation of ESG criteria into investment analysis and decision making. So in this respect if in no other, it could be reasonably stated that Europe is “ahead” of the U.S. Second, as detailed below, in the aggregate, capital markets in Europe (Euro Zone plus the U.K.) rival those in the U.S. in overall size and sophistication. Further steps toward making the EU a fully integrated economic entity will only strengthen its position and influence and make contrasts between the European and U.S. approaches to investing more stark. Individual country variation will at some level remain even as the EU evolves, due to cultural and localized factors. Many of these have a bearing on the practice of ESG investing. Some may limit the extent to which ESG investing advances or under what circumstances, while others may skew its application (e.g., the extensive influence of labor unions in France and the Netherlands). On the other hand, some of the advancements we have observed with respect to disclosure laws (e.g., in the U.K., France and Germany) and the very recent improvements in clarity regarding the relationship of ESG factors to fiduciary duty in the U.K. suggest there are and will be numerous examples that could inform, and possible best practices that could be adopted by the wider European community. Moreover, self-regulatory or nonregulatory approaches (e.g., those spearheaded by insurance company associations in the U.K.) appear to be gaining traction in several European countries, and have had noteworthy effects in inducing greater disclosure and transparency and other positive effects.

Nature and Scale of European Capital Markets As described in the previous section, there are important differences in the underlying legal and cultural environment that are reflected in capital markets extant in the U.S. and Europe. That said, the basic structures that exist for investing funds within and beyond a particular country are similar in most important respects. Moreover, the past several years have seen significantly greater capital flows between countries and among regions of the world. It seems clear that the world is getting “smaller” with regard to investments and other financial transactions, just as it is in terms of individual travel, trade in goods and services, and popular culture.14 Emergence of the EU and adoption of the Euro across more than a 14

This greater degree of integration also can be seen in the rapid and profound spread of the recent financial contagion from the U.S. housing market to financial investments and markets around the world.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

24

Peter Soyka, Mark Bateman and Ira Feldman

dozen countries, forming the “Euro Zone,” have helped accelerate this trend. The Euro Zone now rivals the U.S. in scale as a unified economic entity. In Europe, just as in the U.S., investors have several basic types of investment vehicles from which to choose. A number of European countries have major stock exchanges within their borders, and several European cities have been major centers of international banking and finance for many decades, including London, Frankfurt, Geneva and Stockholm, among others. European companies and governments also issue significant amounts of debt securities (bonds), just as do their U.S. counterparts. Finally, savings accounts remain a common (or the most common) investment mechanism for individual investors in particular countries.

U.S.

Latin America

Euro Zone

U.K.

Russia

Eastern Europe

Japan

China

India

Emerging Asia

Exhibit 2. Global Financial Assets by Region-2006

56.1

4.2

37.6

10.0

1.6

1.4

19.5

8.1

1.8

4.3

159

356

422

162

130

446

307

202

250

23

9.2

9.5

54.2

26.9

3.6

25.7

19.9

15.5

Indicators

Total Capital ($ trillion)

Funds by Asset Class ($ trillion)

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Percent in Asset Class

Financial Depth (% of 424 GDP) Cumulative Annual Growth 8.7 Rate (1990-2006) Equity Securities 35.0%

34.0% 23.0%

38.0% 66.0% 29.0% 24.0% 30.0% 45.0%

33.0%

Private Debt 36.0% Securities Government Debt 11.0% Securities Bank Deposits 18.0%

11.0% 32.0%

25.0% 4.0%

3.0%

19.0%

26.0% 17.0%

8.0%

25.0% 35.0% 10.0% 17.0%

17.0%

28.0% 27.0%

29.0% 26.0% 43.0% 31.0% 55.0% 36.0%

31.0%

Equity Securities $19.6

$1.4

$8.6

$3.8

$1.1

$0.4

$4.7

$2.4

$0.8

$1.4

Private Debt $20.2 Securities Government Debt $6.2 Securities Bank Deposits $10.1

$0.5

$12.0

$2.5

$0.1

$0.0

$2.0

$0.4

$0.0

$0.8

$1.1

$6.4

$0.8

$0.1

$0.4

$6.8

$0.8

$0.3

$0.7

$1.2

$10.2

$2.9

$0.4

$0.6

$6.0

$4.5

$0.6

$1.3

4.0%

10.0% 5.0%

2.0%

Source: Adapted from McKinsey Global Institute, 2008. Mapping Global Capital Markets: Fourth Annual Report. Pg. 9.

While no individual European country has either capital markets or categories of invested capital that rival their U.S. counterparts in terms of size, in the aggregate, the capital invested in and by Europe is very large. Exhibits 2 and 3 provide data on the magnitude of the capital markets in the major countries and regions in the world economic system and in individual Euro Zone countries, respectively.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

France

Italy

Spain

Netherlands

Belgium

Austria

Greece

Ireland

Finland

Portugal

Luxembourg

Total Capital ($ trillion)

9.5

8.2

5.9

4.9

3.1

1.6

1.0

0.9

0.8

0.7

0.7

0.3

Equity Securities

17.0%

30.0%

17.0%

27.0%

25.0%

25.0%

19.0%

23.0%

20.0%

40.0%

16.0%

24.0%

Private Debt Securities

36.0%

28.0%

29.0%

36.0%

45.0%

25.0%

33.0%

11.0%

47.0%

15.0%

31.0%

29.0%

Government Debt Securities Bank Deposits

16.0%

15.0%

30.0%

11.0%

9.0%

26.0%

18.0%

41.0%

5.0%

18.0%

23.0%

0.0%

32.0%

27.0%

23.0%

26.0%

21.0%

24.0%

30.0%

25.0%

27.0%

27.0%

30.0%

47.0%

Equity Securities

$1.6

$2.5

$1.0

$1.3

$0.8

$0.4

$0.2

$0.2

$0.2

$0.3

$0.1

$0.1

Private Debt Securities

$3.4

$2.3

$1.7

$1.8

$1.4

$0.4

$0.3

$0.1

$0.4

$0.1

$0.2

$0.1

Government Debt Securities Bank Deposits

$1.5

$1.2

$1.8

$0.5

$0.3

$0.4

$0.2

$0.4

$0.0

$0.1

$0.2

$0.0

$3.0

$2.2

$1.4

$1.3

$0.7

$0.4

$0.3

$0.2

$0.2

$0.2

$0.2

$0.1

Totals

$9.6

$8.2

$5.8

$4.9

$3.1

$1.6

$1.0

$0.9

$0.8

$0.7

$0.7

$0.3

Funds by Asset Class ($ trillion)

Percent in Asset Class

Indicators

Germany

Exhibit 3. Financial Assets by Euro Zone Country-2006

Source: Adapted from McKinsey Global Institute, 2008. Mapping Global Capital Markets: Fourth Annual Report. Pg. 20.

26

Peter Soyka, Mark Bateman and Ira Feldman

These data highlight several important facts. Despite the growing importance of Europe, as well as the emergence in recent years of the “BRIC” countries (Brazil, Russia, India and China) and other rapidly growing economies, U.S. capital markets remain dominant overall and within the two asset classes of greatest interest here. The total value of both the U.S. equity and private bond markets exceeds the combined values of the Euro Zone, the U.K., Japan and China markets. In contrast, the total value of government-issued debt in both the Euro Zone and Japan exceeds that of the U.S. In addition, the total value of bank deposits in the U.S. and in the Euro Zone is roughly equal. This reflects very distinct investing patterns in the various geographies; the U.S. has, by a substantial margin, the lowest percentage of its total financial assets in savings accounts, of any of the countries/zones examined here. In contrast, use of savings accounts is far more prevalent in Europe and in developing economies of Eastern Europe, Latin America, Asia and, particularly, China. Within Europe itself, the U.K., Germany, France, Italy, Spain and the Netherlands account for the bulk of the financial assets. These are the only countries having either equity or private (corporate) fixed income markets of more than $1 trillion in value as of late 2007.15

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

ESG Investing in the European Capital Markets As examined in more depth below, ESG investing in Europe is substantial and growing. Just as European and U.S. capital markets share many features and characteristics, so too do their respective market segments oriented toward investors with an interest in environmental and social issues. The practice of SRI is well established and widespread in Europe and has been growing substantially in recent years. According to Eurosif, Europe now comprises 53 percent of the global SRI market, while the U.S. accounts for 39 percent. Assets in Canada, Australia, and Japan comprise the remaining eight percent. (Eurosif, 2008 at 52) As a point of departure, it is useful to describe the context, or “playing field” of ESG investing in Europe because, as described above, the legal and cultural environment in which investing takes place there is different in some important ways from that in the U.S. In contrast to the U.S., active investment management in Europe is a relatively new field. Most investors historically have pursued a more passive investing approach due to the pervasive influence of pensions and pension managers in Europe. The current strong interest in ESG issues reflects, in our opinion, a “rebranding” and a slight expansion of traditional SRI principles. SRI has been active and prominent in Europe for many years, and its recent growth appears to have paralleled that in the U.S. There is vigorous ESG investing activity in many countries, though it is clearly strongest in the U.K. Several other European countries also appear to have significant activity in this market niche, including the Netherlands, France, Switzerland, Belgium and the Nordic countries. In Europe, it appears the approach taken typically focuses first (and heavily) on ensuring adequate and appropriate governance and, only once this has been established, broadening the scope to consider other aspects. Also, the terminology used may be SEE rather than the ESG commonly used in U.S. markets. In keeping with this emphasis, we have found very few environmental “pure plays,” investors or investment vehicles that limit their scope to 15

In addition to the Euro Zone countries and the U.K., other European countries of interest include Denmark, Iceland, Norway, Sweden and Switzerland. All have significant capital market activity.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Environmental Investing Practices in Europe

27

environmental issues. Just as in the U.S., a more holistic and comprehensive approach that considers, at minimum, some governance and social issues is the norm. European ESG investors typically adopt an international focus, given the limited size of the investable universe in many European countries, and it appears that most of the ESG investing activity is in equities, though there also is an increasing array of options in the fixed income arena. This again parallels the U.S. situation. Interestingly, we have discovered, as described more fully below, evidence of increasing ESG integration among European investors, suggesting one possible area in which practices there may be more “advanced” than in the U.S. In addition and, perhaps, in a related vein, many European investors publicly espouse the use of life cycle approaches and a long-term investment perspective. The endemic and oft-criticized short-term orientation of many U.S. market participants appears to be much less prominent in Europe. Finally, our research revealed signs of growing vertical integration of ESG/SEE research and analysis into major investment firms, as well as the entry of large mainstream players into this market space. These trends could be interpreted as leading indicators of future growth in the use of environmental and other ESG criteria in European investment analysis and decision-making. Recent studies of ESG investing in Europe have yielded some important insights about how environmental and other ESG criteria are applied to investment analysis and decisionmaking. Exhibit 4 provides data developed by Eurosif on the degree to which different strategies are applied by ESG/SRI investors as a function of the funds invested. These data suggest that while traditional SRI methods, such as positive screening and ethical exclusions, are still in use, the vast majority of funds undergoing any type of ESG analysis are being invested according to an approach that employs company engagement, integrated SEE analysis or both.16 Broad SRI strategies tend to be used by institutional investors, which accounts for the large volumes of assets managed using engagement and integration, while core SRI approaches often are used by traditional SRI practitioners such as religious institutions and activist groups, as well as individuals. On an overall basis, core SRI represents 19 percent of European SRI assets under management (AUM), and broad SRI accounts for 81 percent. These percentages vary widely by country, however. Broad SRI is more prominent in Belgium, Italy, the Netherlands, and the U.K., while in the Germanic countries (Austria, Germany, and Switzerland) as well as Norway, core SRI predominates. More broadly, the Eurosif data also demonstrate that ESG investing is occurring on a significant scale, with more than €2.6 trillion being invested in this fashion. Although data limitations make it somewhat difficult to directly compare funds invested according to ESG factors to the broader investment markets in Europe, Eurosif estimates that ESG/SRI now holds a market share of 17.6 percent of the asset management industry in Europe. (Eurosif, 2008 at 10) This level of activity clearly represents a meaningful signal to companies (and governments) in Europe and beyond. Given the prominence of integrated ESG investing methods, it seems probable that environmental attributes of companies are receiving scrutiny within a wide range of European investment firms and vehicles. Our review of individual money manager behaviors, presented below, validates this conjecture, in that it shows that 16

Eurosif includes simple exclusions (two criteria or less) within its definition of “broad SRI.” The data shown above are heavily influenced by the mandated exclusion of companies manufacturing certain types of munitions under Belgian law, and by the presence of a few very large institutional investors using this strategy. Overall, the most common criterion for simple exclusions in Europe is involvement in weapons production (€656 billion in AUM). Tobacco-related simple exclusions account for €17.5 billion in AUM.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

28

Peter Soyka, Mark Bateman and Ira Feldman

when and where investors embrace an ESG/SEE philosophy, environmental considerations are explicitly evaluated along with other factors. The situation in Europe with regard to ESG investing is in sharp contrast to that in the U.S., where SRI is well established and growing rapidly, but where it is far from clear that environmental issues are considered as frequently. Exhibit 5 provides information on the funds invested in SRI investment vehicles in the U.S. and the extent to which environmental considerations are applied in building and maintaining investment portfolios. Although, as widely reported, total SRI assets are quite significant (more than $2.1 trillion), the assets selected, even in part on the basis of the environmental posture and performance of individual firms, is far lower, at about $230 billion, or a bit more than 10 percent of this amount.17 Part of the reason for this is that investment firms and assets are counted in the U.S. SRI totals even if the only evaluation performed is screening on the basis of involvement in tobacco, a classic, and widely applied, SRI negative screen.

Exhibit 4

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

SRI Strategies in Europe

17

We note here that there is reason to believe that the U.S. data on SRI funds invested, which are collected and reported by the Social Investment Forum, may actually undercount the number of investors using ESG criteria of one form or another and the total funds invested using these criteria. The undercount results from the source of the SIF’s data: annual surveys that are annually sent to know SRI investors and large institutions. Reported results include only totals derived from survey responses, i.e., there is no extrapolation used to represent the larger investment universe. Because the SRIF uses a survey, rather than a census, it is quite possible that some ESG investors have not been taken into account. This concern is particularly pronounced for individual (retail) assets, although it also applies to the institutional investing realm. By extension, it is equally possible that any “missing” SRI investors may be taking environment into account in their analyses and decisions.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Environmental Investing Practices in Europe

29

Exhibit 5. U.S. Investments Using SRI Financial Institutions Private Pension Funds State and Local Government Employee Retirement Funds Mutual Funds Closed-end Funds Exchange-traded Funds Other (pooled products, alternative investment funds, etc.) Subtotal Households Community Investing Total U.S. SRI Market

Assets Under Management ($ billions) SRI Screened Screened for Funds Invested Environment $1,880 $184 $172 $1 $2 $27 $2,082 $40 $26 $2,147

$45

$229

$229

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Source: Social Investment Forum, 2008. 2007 Report on Socially Responsible Investing Trends in the United States.

These data show that based upon aggregated national-level data, it appears the amount of investment funds allocated in Europe, at least in part on the basis of environmental criteria, is more than four times that in the U.S., despite the fact that U.S. markets are substantially larger. Exhibit 6 provides further insights regarding the degree of application of broad SRI techniques on the part of investors in Europe on a country-level basis. These European data suggest that, as highlighted above, the U.K. is in the leading position in terms of advancing the consideration of ESG factors in investment decision-making in an integrated fashion and in aggressively pursuing engagement on ESG issues with the management of portfolio companies. The U.K. by itself accounts for 41 percent of the total assets managed in Europe using broad SRI strategies, but several other countries also have noteworthy activity in this regard. Integration is an approach that also is practiced in the Netherlands, Belgium, and France on a noteworthy scale, and engagement is a prominent approach in the Netherlands and the Nordic countries. As noted above, simple exclusions, generally related to weapons production, are used to manage significant financial assets in several countries, including the Netherlands, Belgium, Italy, and Sweden. For all four of these countries, this strategy is used more (applied to a greater volume of assets) than the other two.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

30

Peter Soyka, Mark Bateman and Ira Feldman Exhibit 6

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Broad SRI Strategies by European Country

Core SRI investing strategies remain popular and continue to grow in terms of assets under management in several European countries. The top countries in terms of assets managed using these strategies include Norway (€170.5 billion), the Netherlands (€69.4 billion), the U.K. (€67.4 billion), Sweden (€56.8 billion), Denmark (€45.7 billion), and France (€28.5 billion). In most, there is a split between those using ethical exclusions and those using positive screening only, and in some cases, use of both is prominent. A small but growing form of core SRI investing (using Eurosif’s definition) is thematic investing, i.e., focusing on sectors and companies expected to outperform based upon involvement in emerging, often environmentally-related industries, such as alternative energy and health and nutrition. SRI thematic funds appear to be the most developed in Switzerland and Germany, while best-in-class approaches are more often used in the remaining countries. (Eurosif, 2008 at 12) One additional point of interest concerns an important constituency within the European investor cohort, high net worth individuals (HNWIs). Eurosif estimates that eight percent of the assets invested by HNWIs are now in the form of sustainable investments. Moreover, Eurosif projects that in the aggregate, sustainable investments in the portfolios of HNWIs will exceed €1 trillion by 2012. (Eurosif, 2008 at 18)

ESG Investing in Europe-Issues and Methods In this section, we provide a few general observations that we have developed during the course of our research that help to put the more detailed findings into context. We also discuss some general trends regarding investor behavior in Europe as evidenced by survey findings. We then describe a small number of investment industry initiatives that are germane to ESG investing in Europe. Finally, we review individual investor attitudes and behaviors by profiling a substantial cross section of European investors that are using ESG criteria in their analysis and decision-making activities.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Environmental Investing Practices in Europe

31

General Investor Attitudes and Trends Before examining the investment beliefs and behaviors of individual money managers in Europe, we believe it is of some interest to understand prevailing attitudes of investors in Europe versus those of their U.S. counterparts relative to ESG issues. As we have reported previously, investor attitudes toward the importance of ESG factors to investing vary markedly across geographies but appear to be evolving. Exhibit 7 contains excerpts of summary data reported by Mercer Investment Consulting in its most recent survey of investment managers in 157 firms that work in important markets or globally. This summary was released in March 2006.

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Exhibit 7. Perceived Influence of ESG Issues on Asset Performance Percentage of managers who feel that the following factors are currently relevant for consideration in mainstream financial analysis. Europe, except U.K. U.K. U.S. Global 8.7 15.8 0.0 19.5 Adherence to Corporate Conventions (e.g., Global Compact) 17.4 21.1 5.4 51.2 Climate change 65.2 68.4 56.8 46.3 Corporate governance 8.7 15.8 29.7 24.4 Employee relations 21.7 15.8 8.1 41.5 Environmental management 78.3 68.4 75.7 61.0 Globalization 4.3 15.8 10.8 36.6 Health issues in emerging markets 17.4 10.5 5.4 19.5 Human rights 26.1 15.8 21.6 31.7 Sustainability 34.8 36.8 43.2 14.6 Terrorism 5.3 2.7 46.3 Water (use/access to clean water) 13.0 Source: Mercer Investment Consulting, 2006. 2006 Fearless Forecast: Global Survey of Investment Managers. Pg. 14.

These data show that many or most managers in global investment firms tend to view the issues listed as relevant to their evaluations. Within specific capital markets, however, there are some significant differences between the views held in U.S. firms and those of their counterparts in the U.K. and continental Europe. Although similar (and large) percentages believe issues such as globalization, corporate governance and terrorism are relevant to investment analysis, the percentages who believe that environmental issues such as climate change, environmental management and water (as well as human rights) are relevant are generally two to five times lower in the U.S. than in the U.K. and the rest of Europe. Interestingly, percentages of U.S. investment managers who believe certain other ESG issues are relevant are intermediate between U.K. and other European investors. This applies to health issues in emerging markets and, interestingly, sustainability. At the same time, U.S. investors are more likely to view employee relations as being more relevant than are their European counterparts.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

32

Peter Soyka, Mark Bateman and Ira Feldman Exhibit 8. Predicted Future Influence of ESG Issues on Asset Performance

Percentage of managers who feel that the following factors will become or remain relevant in five years. U.K. U.S. Global Europe, except U.K. 10.5 8.1 19.5 Adherence to Corporate Conventions 17.4 (e.g., Global Compact) 56.5 42.1 21.6 51.2 Climate change 60.9 52.6 62.2 46.3 Corporate governance 30.4 31.6 32.4 24.4 Employee relations 56.5 47.4 24.3 41.5 Environmental management 65.2 52.6 64.9 61.0 Globalization 17.4 31.6 21.6 36.6 Health issues in emerging markets 13.0 21.1 10.8 19.5 Human rights 47.8 47.4 24.3 31.7 Sustainability 30.4 31.6 48.6 14.6 Terrorism 47.8 31.6 32.4 46.3 Water (use/access to clean water)

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Source: Mercer Investment Consulting, 2006. 2006 Fearless Forecast: Global Survey of Investment Managers. Pg. 14.

Exhibit 8 shows the percentages of the same investment managers who believe that five years hence, the listed issues will be relevant. Interestingly, several of the issues that are viewed as relevant by the highest percentages of managers in these various markets (e.g., globalization, terrorism) are predicted to remain consistent or diminish in importance in five years; while the percentages of managers in all markets (except global) that believe environmental issues will be relevant increases for all of these issues. For some issues, percentages increase substantially. Respondents from global investment firms apparently predict no changes in relevance for any issue in the next five years. Exhibit 9 provides data addressing client demand and new capabilities for addressing ESG issues, from the Mercer survey. Once again, current interest in ESG issues and the capability to include them in mainstream investment activities appears to be considerably more widespread in the U.K. and continental Europe than in the U.S. Over the next three years, however, similar percentages of U.S., European and global investors believe they will want ESG analysis integration (35.1-42.1 percent). U.S. and global investors seem to have a similar, relatively low level of interest, at present, in actively integrating ESG, but a much higher percentage of global investors believe they will want specialized ESG strategies within the next three years.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Environmental Investing Practices in Europe

33

Exhibit 9. Investment Manager Interest in ESG Analysis Integration and Strategies Percentage of managers who will want ESG analysis integration into mainstream investment strategies. Europe, except U.K. U.K. U.S. Global 26.1 21.1 8.1 7.3 Over 2006 39.1 42.1 35.1 36.6 Over next three years Percentage of managers who will want new, specialized investment strategies to be built on ESG analysis. Europe except U.K. U.K. U.S. Global 39.1 15.8 8.1 7.3 Over 2006 30.4 47.4 18.9 39.0 Over next three years Collectively, these findings, though they are by now a bit dated, suggest that mainstreaming of ESG issues is increasingly likely during the next several years. They also suggest, however, that investors in the U.K. and elsewhere in Europe are more likely at present to be actively thinking about how best to approach ESG integration, to have developed methods and models, and to have completed, tested and validated their approaches. Indeed, as discussed in greater depth below, we have seen the recent emergence of several new perspectives, tools and methods from European investment houses.

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Investment Industry Initiatives Enhanced Analytics Initiative The Enhanced Analytics Initiative (EAI) was established in October 2004 by a group of institutional investors (including asset managers and pension funds) who believe that members and clients are best served when investors take a more rounded assessment of corporate performance, and that one of the key obstacles to this is the quality and focus of current sell-side research. The Initiative currently (as of August 2008) has 28 members from the U.S. and Europe and represents total assets under management (AUM) of US $2.4 trillion. This represents notable growth from the six European signatories at program launch. The mission of the organization is to foster … “[c]ollaboration between asset owners and asset managers aimed at encouraging better investment research, in particular research that takes account of the impact of extra-financial issues on long-term investment.”

EAI seeks to address the absence of high-quality, long-term research that considers material extra-financial issues. The initiative incentivizes research providers to compile better and more detailed analysis of extra financial issues within mainstream research. Its impact depends on offering credible market incentives to interested and appropriate research agencies to encourage them to adapt their research process and to become more innovative. EAI members have agreed to allocate a minimum of five percent of their broker commissions on the basis of how well brokers integrate analysis of extra-financial issues and

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

34

Peter Soyka, Mark Bateman and Ira Feldman

intangibles into their mainstream (sell-side) research. Such issues typically include corporate governance, human capital management, value creation or destruction during mergers and acquisitions, or corporate performance on material environmental issues such as climate change. Participants can join as Members (who must manage assets and have commissions to allocate), or as Associate Members (where they are supportive of the initiative and encourage their external managers to participate). Associate membership is free, and full members pay a fee to cover essential costs, including an independent monthly evaluation of broker research. EAI’s intention is to be a global initiative with a target of having a critical mass of brokers providing "EAI-acceptable" research in every market. To that end, it conducts monthly evaluations of research providers and periodically recognizes those deemed to have made significant progress toward its goals. Very recently (6 October 2008), EAI directors announced their intention to merge with the PRI, which is described immediately below.

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Principles for Responsible Investment A more recent and comprehensive initiative is the PRI, which was launched in 2006. The PRI is an attempt to increase the participation of financial institutions in the process of embedding corporate responsibility into mainstream investing. It includes six principles: 1. Incorporating ESG into investment analysis and decision-making processes; 2. Being active owners and incorporating ESG issues into ownership policies and practices; 3. Seeking appropriate disclosure on ESG issues by the companies in which members invest; 4. Promoting acceptance and implementation of the Principles within the investment industry; 5. Working together to enhance members’ collective effectiveness in implementing the Principles, and 6. Reporting on activities and progress towards implementing the Principles. Accordingly, active participation in the PRI is a clear indicator of the types of commitments and behaviors that are of specific interest to our research. Participation in this initiative is growing strongly. According to the PRI’s web site, as of 27 August 2008, there were 419 signatories —141 asset owners, 194 investment managers and 84 professional service partners, well more than double the number (180) of the previous year. The PRI’s most recent report provides updated information on the initiative and its progress. European participation continues to lead that of other regions, with 148 signatories representing US $9.7 trillion in AUM. North America has 70 signatories with $2.3 trillion, and Oceania 69 signatories with $570 billion. Asia has 28 signatories representing $1.46 trillion. Finally, Latin America has 24 ($107 billion AUM) and Africa has 21 ($232 billion) signatories, respectively. (PRI, 2008 at 4) Moreover, 10 to 15 new organizations reportedly sign the PRI every month, with a record 25 in April 2008. In the past year, significant growth has been observed from Australia (36), the U.S. (22), U.K. (18), South Africa (17) and the Netherlands (15). The PRI also is now represented in a number of new countries, including Mexico, Italy, Spain, South Korea,

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Environmental Investing Practices in Europe

35

Singapore and China (Hong Kong). Reportedly, a clear majority of new signatories are mainstream pension funds, insurance companies and investment managers, with a minority coming from the dedicated SRI sector. A count of participating investment management companies by region/country is provided in Exhibit 10. Continental Europe accounts for more than 25 percent of the membership (with 54), followed by Oceania (Australia and New Zealand) at 34, and the single countries United Kingdom, United States and South Africa at 28, 27 and 17 members, respectively. Asian member companies also number 17 and Latin America (primarily Brazil) has nine, while Canada has eight. Most of the U.S. members are SRI firms or small niche players. The one notable exception is a unit of JP Morgan Chase. In contrast, several of the U.K. and other European members are divisions of large mainstream investment and/or commercial banks. Examples include ABN AMRO (Netherlands), BNP Paribas (France) and HSBC (U.K.). Exhibit 10. Fund Manager PRI Members by Region/Country Region/Country Continental Europe Oceania U.K. U.S. Asia South Africa Latin America Canada Total

Count 54 34 28 27 17 17 9 8 194

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Source: PRI web site, 8/27/08. http://www.unpri.org/signatories/#im

As noted above, we used participation in the PRI as a key indicator for selecting European investment firms for investigation and analysis. Most of the firms and pension funds profiled below are PRI members. Of particular interest to this research is the degree to which investment managers are considering ESG criteria in investment analysis and decision-making (Principle 1). This is a necessary step toward the “mainstreaming” of environmental considerations by the financial community on a widespread basis, a goal that is shared by many within the environmental movement as well as by some within the business community. In its recently released second progress report, the PRI presents a summary of results from a survey administered to a meaningful percentage of asset owner and investment manager signatories (232 total). Responses were received from 78 asset owners and 78 investment managers, an overall response rate of 67 percent. In the aggregate, PRI signatories reported they had made the most progress in integrating RI/ESG considerations into their internal investment decision-making in developed markets and for publicly traded equities. Fully 85 percent assessed their extent of integration as either “large” or “medium” in this asset class, with the proportions being similar for both asset

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

36

Peter Soyka, Mark Bateman and Ira Feldman

owners and investment managers. Many also report good progress in integration as applied to emerging markets listed equities and real estate. Progress in the fixed income arena has been less rapid, but is still significant, as 35-60 percent of asset owners and investment managers report they have integrated RI/ESG issues into investment decisionmaking of internal and external investment managers to a large or moderate extent. (PRI, 2008 at 14)

Studies of European ESG Investing Just as in the U.S., the SRI community has associations and publications that represent the interests of this constituency and report on ongoing developments. As noted earlier, Europe has an analog to the Social Investment Forum, which is a prominent organization representing SRI investors in the U.S. The organization, Eurosif, in addition to other activities, periodically publishes studies of ESG investing attitudes and behaviors in its home geography. In the box below, we summarize a number of statements made in its most recent report on the use of ESG/SEE data by European investors. We discuss and elaborate on some of the factors and trends highlighted in this box in the sections that follow.

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Use of Environmental/ESG Data in European Investing is Extensive and Growing • “Active share ownership in Europe is a relatively new phenomenon that has been prompted by the development of long term institutional investment, the internationalisation of institutional portfolios and a renewed look at fiduciary duty.” • The older the SRI market, the more elaborate the SRI process. In the U.K., more than 90 percent of SRI asset management companies have an internal SRI analyst team, 75 percent in the Netherlands and Belgium, 60 percent in Switzerland and none in Spain. • In the U.K. and German-speaking countries, more than 80 percent of fund managers (FMs) buy external research, 75 percent in the Netherlands, 50 percent in Belgium and 40 percent in Spain. Belgium is a leader in using indexes (75 percent of the asset managers), while it’s rare in the U.K. (8 percent) and the Netherlands (25 percent). Germany and Spain are in the middle, with respectively 50 percent and 40 percent. • One quarter of FMs use consultant services (which are not research houses) in SRI experienced countries such as the U.K., the Netherlands and Belgium. Furthermore, one fifth of FMs who sell SRI products actually resell products from third parties. • The striking news from the market is the exponential interest in sell-side analysis provided by brokers, which is used by more than 70 percent of FMs in the U.K. and Belgium, and 50 percent of FMs in the Netherlands. Finally, setting up an internal SRI/Ethical committee is done in 75 percent of cases in Belgium, 60 percent in Germany, 38 percent in the U.K., 29 percent in Spain and only 13 percent in the Netherlands. • Adjusted to the progression of the former Morgan Stanley Capital International (MSCI) Europe, the real growth of European Broad SRI is 36 percent. Source: EuroSIF, 2006. European SRI Study | 2006.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Environmental Investing Practices in Europe

37

In its 2006 report, Eurosif also noted that Europe’s SRI market had changed considerably since 2003 (the date of its earlier report). On a like-for-like basis, growth of the broad SRI market between 2003 and 2006 was estimated at 106 percent. The study authors also found that the line between SRI and non-SRI has become more challenging to define, not least because of the growing movement toward “integration” of ESG/SEE factors into mainstream financial analysis. EuroSif also noted a growing recognition that corporate governance matters along with SEE issues are part of the “extra-financial” matters that are receiving increasing scrutiny by investors, thus leading to broader use of the “ESG” terminology. According to Eurosif, key drivers influencing the changes observed from 2003 until 2006 include the following: • • • •

•

Improved business case – an increasing understanding of SEE issues in relation to the economy and, by extension, business performance Business regulation – Many SEE issues are receiving legislative attention, e.g., the information-driven REACH Directive for the chemical sector Fiduciary duty and pension regulation – Italy, Austria and Germany following the lead of the U.K. in reinterpreting money manager responsibilities Growing role of mainstream investors and financial services – high-profile firms are entering the SRI arena; interest has been shown from both the buy-side and sell-side, and PRI – growth of this initiative, and its use of ESG rather than SEE criteria, provides a more clear linkage to corporate governance.

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Institutional/Corporate Investor Activity-Industry Posture and Trends At the end of the day, an understanding of how extensively and to what purposes ESG data are used in European investing can only be developed by examining the policies, positions and behaviors of entities involved in the European investing markets. In this section we set the stage by identifying some of the major financial institutions in Europe involved in ESG investing and comparing them with U.S. counterparts. We then profile a number of individual companies, of various sizes and characteristics, that appear to be using ESG information in interesting ways to inform their investment analysis and decision-making. In this section, we discuss and distinguish between two important groups of entities: 1) pension funds, which “own” financial capital that has been contributed by or on behalf of groups of beneficiaries and that actively manage investments to produce financial returns for these beneficiaries, and 2) fund managers, who collect and pool investments from pension funds, retail (individual) investors and other sources, and actively define and manage investments to meet the goals of the asset owners. Both are important players in capital markets and are prominent in the SRI/ESG market space in the U.S. and Europe. We discuss each in turn below.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

38

Peter Soyka, Mark Bateman and Ira Feldman

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Pension Funds As highlighted above, Europe is home to many pension funds and schemes designed to provide for the future needs of beneficiaries, many of whom work in public or quasi-public entities. Some have been sponsored and launched by national, provincial and local governments; others have been established by corporations. Relative to the situation in the U.S., it appears that in general, the trustees and managers of many European pension funds have a far more activist orientation regarding ESG issues than their U.S. counterparts. The legal and cultural basis for this behavior is described in a preceding section. Although many pension fund managers outsource the day-to-day management of funds (particularly actively managed components of their portfolios), some play a more active role. Accordingly, while the main focus of this report is on investment and fund managers and their behavior, we provide here a brief overview of European pension funds that are involved in ESG investing, as well as examples of ESG investment analysis and decision-making on the part of these institutions. Comprehensive information on the size and characteristics of the population of European pension funds active in the ESG arena is not readily obtainable. We provide here, however, a few indications of its prominence, and provide examples of specific pension funds moving aggressively to consider ESG issues in their investment decision-making activities. First, it is noteworthy that a substantial number of pension funds are signatories to the PRI. Exhibit 11 provides a summary of these organizations organized by geography. This table shows that more than one-third (50) of the pension fund signatories are based in continental Europe, with another 14 in the U.K. This compares with 17 in the U.S. Interestingly, Oceania (Australia and New Zealand) comprise 24 percent of the total (34), and Brazil another 13 percent (18 pension funds). Asian, Canadian and South African pensions are relatively few in number. This provides an interesting contrast to the behaviors of fund managers in those geographies; Asia and South Africa have 17 investment manager signatories to the PRI, while Canada has eight. Pension fund signatories also differ somewhat by geography, in terms of the organizations and beneficiaries they serve. All of the U.S. pension-fund PRI signatories manage funds on behalf of state government employees, teachers, clergy members or foundations. In contrast, European (and other international) pension fund signatories represent, in the aggregate, a more diverse set of organizations and constituents. In several cases (e.g., France, New Zealand, Norway, South Africa, Thailand) pension fund(s) established by national governments are signatories, as are pension funds of several multinational corporations (e.g., BP, BT, Fuji, Storebrand). Additional signatories found in individual countries include funds representing universities, insurance companies and local governments, among others. The magnitude of funds under control of these pension funds can be quite substantial, reflecting the importance of providing ongoing, reliable retirement income for, in some cases, millions of beneficiaries. A few rival the largest U.S. pension funds (e.g. CalPERS) in terms of total asset size, at more than $200 billion. Brief descriptions of a few of the more interesting ones, in the context of this report, follow. Norway’s Government Pension Fund is Europe’s largest pension fund, with assets at year-end 2006 of €221 billion. The fund was formed in 1990 to hold proceeds from Norway’s offshore oil and gas production activities; it continues to play this role today. Indeed,

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Environmental Investing Practices in Europe

39

substantial upward movement in market prices of petroleum products has significantly increased the volume of assets in the fund in recent years. Statutory provisions imposing a comprehensive sustainability orientation have been in place since 2004. In response, ethical guidelines were developed, which address investments in companies having human rights violations, corruption and severe environmental degradation. The principle methods used to implement the fund’s sustainability strategy are reportedly engagement, negative screening (mainly addressing weapons issues) and, in rare cases, disinvestment. During a recent four year period, the fund divested its holdings in 20 companies with a total value of €1.76 billion, including the U.S. companies Boeing, Honeywell and Wal-Mart because they did not conform to fund standards. (Hesse, 2007 at 19-20) ABP is the second largest pension fund in Europe, with assets of €179 billion, as of September 2006. The fund’s beneficiaries are about 2.5 million workers in the Dutch government and school system. ABP espouses an interest in achieving the highest long-term return on investment, as well as a connection between company performance and sustainability and good governance. Reportedly, assets held in equities are managed according to a sustainability strategy, which the fund is considering applying to other asset classes. (Hesse, 2007 at 17-18) This strategy emphasizes engagement-active dialog and shareowner voting, but also includes negative screening (violation of international standards, human rights). The fund aspires to integrate sustainability research into the mainstream investment process and funds the EAI and other activities to promote more extensive development of necessary data. ABP also has invested in dedicated, externally managed sustainability stock and private equity funds. French fund FRR was formed in 1999 to supplement the reserves of the French state pension system and, as of 2006, had accumulated funds of €29 billion. Within two years of its founding, FRR was subjected to a new legal requirement for sustainability reporting. Since that time, FRR appears to have taken a series of sequential steps toward developing and implementing a sustainability strategy for its entire asset base. Reportedly, as of 2006, FRR had placed a total of €600 million into sustainable investment accounts and was evaluating several different rating organizations and systems for their suitability in helping it actively integrate sustainability considerations into all fund holdings. (Hesse, 2007 at 11) Several other European countries also have substantial pension fund activity in the ESG arena. Generally, these countries have a larger number of smaller funds than those described immediately above, but in the aggregate, they are of noteworthy scale (assets of € billions). These countries include Austria, Sweden and Switzerland. Austria has recently established a new employee pension system for private sector employers, with payroll deductions being invested in one of nine authorized funds (called MVKs). Interestingly, seven of the nine have voluntarily adopted sustainable investing practices. (Hesse, 2007 at 21) Specific practices vary by fund and appear to be at an early stage of development. Sweden has imposed reporting requirements and the recommendation that sustainability aspects be considered regarding investments made by its statutory pension system (funds AP1-4, AP7). (Hesse, 2007 at 23) A substantial percentage of Switzerland’s 8,000 pension funds reportedly use sustainable investing methods/criteria and, in the aggregate, sustainable investments in these funds amounted to €6.6 billion as of 2005. The most commonly used methods include bestin-class, negative screening, thematic investing and engagement, in that order. (Hesse, 2007 at 25) Sustainability reporting is not required.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

40

Peter Soyka, Mark Bateman and Ira Feldman Exhibit 11. Fund Manager PRI Members by Region/Country

Region/Country Continental Europe Oceana Brazil U.S. U.K. Asia Canada South Africa International Total

Count 50 34 18 17 14 4 4 1 1 143

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Source: PRI web site. 8/27/08. http://www.unpri.org/signatories/#im

Finally, we would be remiss if we did not mention Ethos, the Swiss Foundation for Sustainable Development, created in February 1997 by two Geneva-based pension funds. Currently, it is composed of 79 individual institutional investors. Its purpose is to promote consideration of sustainable development principles and corporate governance best practice in investment activities. The foundation owns the company Ethos Services, which conducts all its investment and consulting activities and specializes in SRI. The asset management approach employed by Ethos favors a long-term investment horizon and a long-term partnership with companies and integrates ESG criteria in company evaluations as a complement to classic (fundamental) analysis. The asset management strategy for most of Ethos’ equity funds relies on a joint methodology developed with Pictet Asset Management (Luxembourg), which also manages the Foundation’s investment portfolios. This methodology reportedly functions by aggregating three model portfolios, two of which are built on the sustainability concept (the E&S18 Standard Rating and E&S Impact Rating), and one of which is built on classic financial evaluation. For bond funds, Ethos uses an E&S Country Rating. Ethos actively pursues engagement (company dialog, proxy voting), and its investment funds primarily focus on Swiss companies. According to the Foundation’s web site, all environmental (and social) analyses are conducted jointly with the consultant Centre Info, which is the Swiss member of the information provider Sustainable Investment Research International (SiRi) http://www.ethosfund.ch/e/ethos-foundation/partnershipsnetworks.aspPictet and SiRi are both discussed further below.

Investment/Fund Managers As discussed above, the managers of many pension funds and other recipients of pooled capital make use of external managers to develop and deploy investment strategies on their behalf. In many cases, these investment and fund managers solicit additional investment capital from other sources, and also may offer other institutional and retail investment 18

Environmental and Social.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Environmental Investing Practices in Europe

41

products. This section provides information and perspective on these firms and their behavior, as they attract and manage much of the world’s investment capital and, therefore, are the parties making investment decisions that move markets. To begin, we list the world’s largest publicly traded financial services firms in Exhibit 19 12. The information in this table reveals that many of the world’s largest banks and investment companies are based not in the U.S. but in Europe. In fact, of the 19 financial services companies in the 2008 Fortune Global 500, only five are based in the U.S., while the remaining 14 are all based in one of seven European countries, and only one U.S. firm (Citigroup) is in the top 10. As discussed further below, some of these firms actively use ESG information and criteria in at least some of their analysis and investing activities. Using recently published data, we examine further the position and prominence of ESG investing in Europe, in Exhibit 13, which shows the 30 firms that have the largest cumulative investments made using ESG criteria and is sorted by the AUM invested according to these criteria. These data were taken from a report outlining results of a recent survey performed by the publisher of the investment periodical Responsible Investor, which received 98 responses to its survey.

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Exhibit 12. Financial Services Firms in the Fortune Global 500—2007 Rank 7

Company

Country

14 15 17 19 20 21 22 23 26 28 30 31 32 34 35 36 43 45

ING Group Fortis AXA Citigroup Dexia Group HSBC Holdings BNP Paribas Allianz CréditAgricole Deutsche Bank Bank of America Berkshire Hathaway UBS J.P. Morgan Chase AssicurazoniGenerali American International Group Royal Bank of Scotland SociétéGénérale

Netherlands Belgium France U.S. Belgium U.K. France Germany France Germany U.S. U.S. Switzerland U.S. Italy U.S. U.K. France

Total Revenues ($ millions) $201,516 $164,877 $162,762 $159,229 $147,648 $146,500 $140,726 $140,618 $138,155 $122,644 $119,190 $118,245 $117,206 $116,353 $113,813 $110,064 $108,392 $103,443

Source: Fortune, 21 July 2008. Pg. 165.

19

Note that as a function of the recent turmoil in global financial services markets, several of these firms, including Fortis, Dexia, American International Group and HBOS, have either been acquired by other firms or, effectively, nationalized by their home country governments.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

42

Peter Soyka, Mark Bateman and Ira Feldman Exhibit 13. Largest Global SRI Investment Companies

Home Company Name Geography U.S. U.K. U.K. Sweden U.S. U.K. U.S. Switzerland U.K. U.S. Switzerland Netherlands Sweden BE/FR/LUX U.S. Netherlands U.K. Australia

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Germany France Switzerland Netherlands U.K. Switzerland Switzerland U.S./France U.K. France France

AllianceBernstein KBC Asset Management Insight Investment Management Nordea Investment Management AB BlackRock Inc. Hermes Fund Managers Limited State Street Global Advisors (SSgA) Care Group F&C Management Limited Western Asset Management Company UBS AG Robeco SEB Wealth Management Dexia Asset Management T Rowe Price Associates SyntrusAchmea Asset Mgt. Schroders Perennial Investment Partners Deutsche Asset Management BNP Paribas Asset Management Pictet Asset Management SNS Asset Management Standard Life Investments Bank Sarasin & Co. Ltd SAM Sustainable Asset Management AG Natixis Asset Management RCM IDEAM Allianz Global Investors France AIG Investments

U.S. Totals U.S.-based companies (N=6/7) European-based companies (N=22/23)

Total Assets Under Management (AUM) ($) $800,390,000,000 $254,563,122,040 $216,630,986,587

Responsibly Invested (RI) AUM ($) $800,390,000,000 $253,361,603,319 $216,630,986,587

RI as Percentage of Total AUM Now By 2010 100.0% 100.0% 99.5% 99.0% 100.0% 100.0%

$139,143,111,339

$139,143,111,339

100.0%

100.0%

$1,356,644,294,531 $152,892,630,314

$115,547,303,970 $94,829,569,052

8.5% 62.0%

15.0% 62.0%

$1,978,984,000,000

$80,306,000,000

4.1%

ns

$59,584,566,036 $205,630,659,679 $634,361,970,439

$59,584,566,036 $44,309,078,512 $41,849,000,000

100.0% 21.5% 6.6%

100.0% 5.0% ns

$2,814,655,630,473 $213,166,483,042 $158,118,000,000 $160,199,722,162 $400,000,000,000 $56,941,731,772 $276,271,026,121 $19,328,011,389

$34,298,374,977 $30,660,932,492 $29,054,000,000 $25,704,402,949 $20,000,000,000 $18,980,577,257 $18,267,690,895 $13,935,911,658

1.2% 14.4% 18.4% 16.0% 5.0% 33.3% 6.6% 72.1%

ns 30.0% 36.0% 25.0% 6.0% 67.0% 10.0% 5.0%

$812,532,617,353 $502,680,148,035

$11,998,145,191 $11,033,555,564

1.5% 2.2%

3.5% 5.0%

$125,732,000,000 $27,302,830,362 $284,728,569,881 $73,258,716,413 $6,986,261,757

$10,765,000,000 $7,884,239,784 $7,259,421,512 $7,055,615,274 $6,986,261,757

8.6% 28.9% 2.5% 9.6% 100.0%

ns 100.0% 5.0% 15.0% 100.0%

$545,472,589,484 $156,884,831,726 $3,772,754,741 $114,611,703,351

$6,132,186,498 $4,666,827,273 $3,772,754,741 $3,353,217,242

1.1% 3.0% 100.0% 2.9%

2.2% ns 100.0% ns

$753,736,832,000 $13,305,205,801,027 $6,196,853,391,712 $7,089,024,397,926

$3,346,600,000 0.4% ns $2,121,106,933,879 15.94% $1,064,504,997,219 $1,042,666,025,002

Source: Responsible Investor, 2008. Responsible Investment Landscape 2008: Asset Managers. June. Pg. 4.

Interestingly, by a wide margin, the number-one SRI investor globally, by SRI funds invested, is the U.S. firm AllianceBernstein, with all of its more than $800 billion under

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Environmental Investing Practices in Europe

43

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

management reportedly being invested using ESG (or other SRI) criteria.20 Of the 15 firms that reportedly have more than $20 billion in AUM that are invested according to SRI criteria, four more (five total) are U.S. firms, while the remaining 10 are European. Each of the four U.S. firms has invested 8.5 percent or less of its assets in this manner, while four of the European firms (including three of the four largest) have invested all or substantially all of their assets using SRI/ESG criteria. Viewing the 30 firms as a group, 22 are based in Europe, six in the U.S., and one is based in Australasia (Australia). As a group, they manage more than $2.1 trillion according to one or more SRI criteria, or about 16 percent of their total AUM. With the notable exception of Alliance Bernstein, the largest firms tend to have the smallest percentages of their total AUM invested according to SRI criteria, perhaps indicating both a diversity of trustee interests but also either a lack of sufficient data/analytical capacity or constraints on the size of the appropriate investable universe, or both. What is clear, however, is that some of the largest institutional investors in the world are increasingly employing at least some type of investment evaluation(s) using ESG criteria of some form. These firms range from small/midsize specialty investment firms in Europe to major U.S. (e.g., State Street, AIG) and European (e.g., Allianz, BNP Paribas) financial services companies to large, traditional U.S. mutual fund companies (e.g., T. Rowe Price). Moreover, respondents to the RI survey indicated that this trend would very likely grow in the near future; those that rely heavily on SRI evaluation said they plan to continue to do so, while most of those making more limited use of this approach (on a percentage of assets basis) generally expect to double such use by 2010.

Individual Corporate Investor Activity In this section, we present information on the public posture and investment philosophy of Europe-based financial services companies that use environmental and other ESG criteria in investment analysis and decision-making. We begin with a description of a recently released methodology oriented toward sell-side analysts and investors, and then provide descriptions of seven European banks and institutional investors for which we have been able to characterize the use of environmental criteria and information. We note here that our coverage of the firms identified as being active in this market space is quite incomplete. This is a function of information availability. Many of these firms report (through surveys and other means) that they actively used environmental and other ESG/SRI criteria, but they provide few details. In April 2007, global investment bank Goldman Sachs unveiled its GS Sustain framework for evaluating environmental characteristics of firms from an investment perspective. The framework issued by London-based Global Investment Research group, was described as a globally based effort. GS Sustain uses a proprietary framework for analyzing competitive advantage in mature industries as well as identification of likely “winners” in emerging industries, as they evolve in response to a rapidly changing, globalizing world. GS concludes that investors cannot rely on ESG factors alone but need to integrate them into an industrial framework and valuation methodology to pick stocks. The overall message is that

20

Interestingly, a review of this company’s web site reveals no immediately obvious involvement with ESG or SRI investing. This example shows the limitations of using company-reported data in forming conclusions about the prominence of ESG investing in the absence of further substantiating information.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

44

Peter Soyka, Mark Bateman and Ira Feldman

companies need to manage all inputs to their business to enjoy sustained competitive advantage and a valuation premium versus their peers. GS has examined the performance of two well-known sustainable investing indices —the FTSE4Good Global Index and the Dow Jones Sustainability World Index — and observed they have historically underperformed their respective market benchmarks. In GS’s opinion, this is because their analysis is conducted on ESG factors alone and does not integrate these considerations into the context of industrial analysis or valuation. Similarly, GS found no correlation across or within sectors between any ESG metrics and share price performance, believing this is due, in part, to an inadequate time frame and mismatch in terms of timing in relation to the analysis. GS’s analysis of more than 15 years of historical financials found that economic returns, not growth, have had by far the greatest predictive power of out-performance, as the market pays only for consistent, reliable returns. The report makes the case that it is harder for the market to ascribe a multiple to growth than to returns. According to GS, the use of its proprietary ESG framework in conjunction with long-term industrial analysis and returnsbased analysis of the sectors covered to date (energy, food & beverages, mining & steel, media [European only] and pharmaceuticals) has enabled the firm to select top picks that have outperformed the former Morgan Stanley Capital International (MSCI) index21 by 25 percent since August 2005. Of these, 72 percent have outperformed their peers over the same period. GS’s approach is based on the belief that companies need to perform well in five broad categories to capitalize on the opportunities of globalization, while minimizing the impact from environmental and social side-effects: corporate governance, leadership, employees, stakeholders and environment.The weights assigned to each of the five categories vary across sectors (e.g., environment accounts for 14-29 percent of the total). The proprietary ESG framework is made up of 20 to 25 objective and quantifiable indicators for each sector, of which two-thirds are universal across all sectors and the remaining one-third are sectorspecific. These criteria reflect, among other factors, the 10 UN Global Compact criteria and are evaluated using bottom-up analysis and rated on a scale from one to five. GS emphasizes primary data (from each company) and includes a company review of preliminary results as part of its methodology. GS states in its release document that it has experienced a 70-80 percent response rate from rated companies. The indicators employed by GS are depicted in Exhibit 14 below. The methodology includes several key environmental indicators: • • • •

21

Energy use and carbon emissions (a universal set of indicators) Management of water, waste and recycling Suppliers and sourcing Biodiversity and land use

An index comprising stocks from 23 advanced economies around the world, which is commonly used to represent the global stock market.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Environmental Investing Practices in Europe

45

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Exhibit 14. Goldman Sachs GS Sustain Indicators

GS states that to be included on its recommended list, firms have to rank well on a combination of ESG score and industry positioning. This must then translate into improving financial performance and, ultimately, returns. GS recognizes certain constraints to application of its approach because of data quality concerns and disclosure limitations. “We are challenged by inconsistencies in data, regional differences in policy focus, degrees of integration across the value chain and diverse product portfolios across the companies in our ESG universe, and we do not believe that sufficient quantifiable and comparable data exists to objectively measure several issues such as human rights and human capital management.” (GS, 2007 at 38) On the question of disclosure, GS notes that many companies do not disclose sufficient information and KPIs to enable measurement of company performance on human rights and labor standards. Finally, GS laments the unavailability of environmental information, stating that “not all companies have implemented environmental reporting for public disclosure. Some companies clearly demonstrate consciousness of environmental issues and have embedded environmental sustainability into their business operations, but do not disclose fundamental metrics such as energy consumption and GHGs. … we believe that as investors seek increased company disclosure regarding environmental management and performance, companies will in the future respond with more accurate assessments of their environmental footprints.” (GS, 2007 at 45) GS’s comprehensive analysis of ESG data for sectors completed to date (two resourcebased industries and three consumer-oriented sectors), comprising more than 100 companies, yields the claim that GS has discerned trends on corporate governance, employee management, energy and carbon. The analysis shows that companies with superior corporate governance (leadership and board independence, reasonable compensation structures, transparency and shareholders’ rights) tend to perform better with respect to social leadership, human capital management, community and stakeholder engagement and the environment,

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

46

Peter Soyka, Mark Bateman and Ira Feldman

and vice versa. GS plans to extend this approach into a framework for helping to identify sustainable advantage across all industries. To implement its new method, GS created the GS Sustain focus list, which is comprised of two types of stocks:

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

• •

Long-run winners identified among larger-cap companies in mature sectors; and Strategic assets and winners in emergent industries that address sustainable themes.

The initial list is not comprehensive — it contains only companies from industries for which GS has completed an ESG analysis and companies under coverage in emergent industries. The initial list comprises 44 companies, of which 21 are from GS’s ESG analysis and 23 from GS’s emergent industry analysis. Of these 44 firms, 64 percent are based in Europe, 25 percent in the U.S. and 11 percent elsewhere. GS notes the combination of ESG and industry analysis often leads to the discovery of emerging sustainability themes, industry trends and best-positioned companies. GS defines GS Sustain growth leaders as “small-cap companies best positioned to capitalize on opportunities presented by sustainability themes while delivering superior growth profiles not yet priced into the market.” GS has used this approach to identify the specific emerging industries that it believes will yield the greatest investment opportunities. These include alternative energy, environmental technologies and biotechnology. Interestingly, these industries have been identified through detailed evaluation of industry themes and drivers within mature industries. As GS’s ESG analysis expands with coverage of new industries and/or companies, the list of “winners” in both mature and emerging industries will be amended. We also expect that its methodology will be refined over time as GS analysts acquire more experience using it on a broader array of sectors and companies and assessing the accuracy (or lack thereof) of their earlier predictions. We believe it would be of value to U.S. capital market participants and researchers to monitor developments on and with GS Sustain, not least because in contrast to most of the other investment firms discussed here, GS is headquartered on and in some respects has been, the most prominent member of “Wall Street”; notwithstanding the virtual destruction of independent investment banking on a large scale in the U.S. in recent months, the influence of this company in domestic capital markets remains substantial. Schroders plc, based in London, describes itself as a global asset management company and, as shown above, considers ESG criteria as part of its investment evaluation process for a small portion (6.6 percent) of its overall portfolio. According to the company, stock and bond selection (as opposed to diversification and/or sector rotation) lies at the heart of the investment process because it believes the greatest price inefficiencies lie at the stock level and an information advantage exists for the investor who researches the fundamentals. Schroders states on its web site that it is a long-term investor that focuses on the ability of a business to generate sustainable value and earnings growth. This entails looking at the quality and quantity of earnings, as well as in-person meetings with company managers to ensure a full understanding of their marketplace and business strategy. Schroders believes that, over time, the mispricing of stocks versus their fair value will be recognized by the market and its long-term approach to research will lead to long-term outperformance. Schroders produces, internally, 75 percent of the research used in its investment analyses and reportedly has developed and uses a proprietary, interactive risk management software

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Environmental Investing Practices in Europe

47

system: the Portfolio Risk Investment Strategy Manager (PRISM), which enables fund managers to monitor portfolios on a real-time basis. According to the firm, PRISM can deconstruct any portfolio and attribute risk to stocks, sectors, countries and investment style. Schroders claims the system’s multidimensional approach to risk monitoring is extremely comprehensive, taking into account many measures of potential risk. The firm’s investment process recognizes that a broad range of financial and nonfinancial factors can affect the sustainability of a business and, consequently, financial returns. Accordingly, on a routine basis, its investment process incorporates a review of research into the environmental, social and ethical stance of companies. Schroders has an SRI Report and Policy, but provides no publicly available details on the methods or data used to conduct its ESG evaluations. Insight Investment, formed in 2002 as part of the HBOS Group, is one of the U.K.’s largest asset managers. HBOS plc is a very large diversified financial services conglomerate, which as shown above, ranks No. 45 on the Fortune Global 500.22 At its founding, Insight Investment made a policy commitment to manage all client funds according to responsible investment principles. As shown above, it reportedly is upholding this commitment and now manages more than $216 billion. At an early point in this relatively new firm’s existence, it established an Investor Responsibility team. Since then, the firm has been active in many debates on corporate governance, climate change, sustainable development and corporate responsibility, and claims to have influenced the companies in which it invests to run their businesses more responsibly. Insight’s leadership believes asset managers should consider, as a matter of course, both the drivers of social, ethical and environmental change that influence companies’ long-term success and how effectively companies managethose issues. To address these factors, Insight performs “thematic” (e.g., climate change) and company-specific evaluations of companies. Research results are fed into Insight’s equity and credit analysis and stock-selection process, as is analysis of individual companies’ ESG risk exposure and quality of management. Insight claims “market leading” expertise on the benchmarking of companies’ performance on a particular issue and has issued a series of detailed sector reports, including analyses of sustainability in the homebuilding sector (2004, 2005), biodiversity management in the extractives (i.e., mining) and utility sectors (2004, 2005) and responsible supply chain management in various consumer sectors (2004). The firm also claims to have a sophisticated proprietary analysis of climate change risk. According to Insight’s web site, it is now examining the following emerging environmental issues: investment implications of climate change for European electricity utilities; nanotechnology; consumer health issues; water management; alternative energy, and waste management. Newton Investment Management has been managing assets for individual investors and institutions in the U.K. since 1978 and is now owned by the U.S.-based Bank of New York Mellon Corp. The company apparently did not respond to the recent Responsible Investor survey but independently reports that it has about $77 billion in AUM, all of which are managed using ESG criteria. Newton considers itself one of the pioneers of thematic investing, which it claims has helped it to deliver consistently strong performance in both rising and falling markets. Newton states it operates an investment process designed to capture all the best ideas within 22

In October 2008, the managing directors of HBOS agreed to have the company acquired by Lloyds TSG Group, plc. The soon-to-be combined enterprises have, in turn, recently been taken over by the British government.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

48

Peter Soyka, Mark Bateman and Ira Feldman

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

the firm and to deliver them effectively and consistently into each client’s portfolio. Newton also prepares and issues quarterly SRI focus reports addressing emerging issues/sectors. Importantly, Newton states that social, environmental and ethical considerations are taken into account when undertaking fundamental analysis, i.e., environment and other ESG factors are integrated into the firm’s financial analysis, rather than used as a screen or other initial analytical step. The internal research analysts conducting this analysis reportedly have access to ABI reports on company SEE statements as well as SEE company reports prepared by data provider EIRIS. Further details regarding Newton’s evaluation methodology are not available. SNS Asset Management, based in the Netherlands, has about $27 billion in AUM, about 30 percent of which is managed using SRI criteria. The company manages a large number of portfolios for institutional investors, pension funds and social organizations, and employs an active equity investment management style. SNS states on its web site that it has employed the principle of sustainable investment since the 1970s. SNS’s approach combines two major processes: the construction of the universe of selected stocks and the construction and management of its portfolios. For the internally managed active investments, SNS reportedly uses uniformly ethical criteria. The company uses a multidisciplinary team of economists, business consultants, environmental experts and social scientists to assess the quality of an enterprise from the perspective of all relevant stakeholders (customers, employees, suppliers, the community and the environment). SNS will exclude companies with “unacceptably large risk” of human rights violations, significant forms of corruption, a record or risk of inflicting severe damage to the environment, or serious violations of fundamental ethical principles, but companies are usually not excluded because of their products. The process that informs SNS’s investment analysis and decision-making has four elements: people, planet, profit and social (code of conduct). The “planet” (environmental) criterion is evaluated according to several indicators: • • • • • •

Environmental policy Environmental management and organization Communication with stakeholders Environmental reporting and transparency Environmental impact of production processes or service processes, or of products and services (examining transparency and measures in both cases), and Labor conditions.

Further information regarding the data and specific process by which these indicators are populated is not publicly available. Bank Sarasin, a Swiss bank headquartered in Basel, manages about $73 billion, of which 10 percent is invested according to ESG criteria. Sarasin claims a long-standing involvement in sustainability investing, dating from 1989. In contrast to most other companies examined in this report and the larger population of investment firms, Sarasin’s web site contains extensive information concerning its philosophy and approach to sustainability investing. It is fair say that this bank and its key personnel are thought to be leaders in this area. To implement its ESG evaluations, Sarasin operates Sarasin Sustainable Investment, which is a team comprised of 20 experts from multidisciplinary backgrounds, including eight

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Environmental Investing Practices in Europe

49

pure sustainability analysts and seven portfolio managers. Notably, Sarasin applies its evaluation process to both equities and bonds (the latter since 2003). One unique feature of Sarasin’s approach is that it performs country (for bonds issued by governments), industry and company-level sustainability evaluations in sequence. A company’s overall rating is then a function of its relative position within its sector and the overall ESG risks and opportunities of its sector relative to others that can be depicted on a two-dimensional matrix. Industry and company ratings are determined using a “best-in-class” approach that considers both environmental and social risks and company management’s perceived ability to manage them. The industry sector ratings make use of specific environmental performance criteria, including resource use (energy, water) and emissions (EPA Toxics Release Inventory [TRI], NOx, and Hydrocarbons/Volatile Organic Compounds [VOC]). Interestingly, the source of the emissions data for U.S. companies is TRI. The environmental risk evaluation is combined with an examination of social risks (e.g., health risks, workers’ rights issues, corruption) to yield an overall assessment of sector risk. Using this methodology, Sarasin has placed the major sectors of the world economy into categories ranging from low risk (renewable energies, software, telecommunications) to high risk (automotive, construction, chemicals, energy [coal, oil], energy utilities [electricity], metal production and transport [road]). (Bank Sarasin, 2006 at 11, 15) Companies in the former are more likely to receive a favorable overall investment rating than companies in the latter. As a practical matter, using the matrix approach described above, it is unlikely that any but the highest-rated companies in the highrisk sectors would be eligible for investment, according to Sarasin’s methodology. The company rating reportedly is based on a broad range of sector-specific criteria, taking into account the entire product life cycle. Social analysis is based on the stakeholder concept and examines the company’s relations with its employees, customers, suppliers, investors, the general public and government. In parallel with this environmental and social analysis, the portfolio management team also performs a financial analysis based on quantitative and qualitative criteria. This ensures that Sarasin only invests in companies that are financially strong and have promising potential for long-term success. Sarasin also espouses a belief in using a smaller number of more meaningful sustainability criteria rather than the dozens employed by some other investors and rating organizations. Most data used are obtained from the data provider ASSET4 and from published company reports, press articles, and direct dialogue with the companies being evaluated. In Exhibit 15 below, we illustrate schematically the approach used by Bank Sarasin to evaluate the sustainability risk of prospective investments in companies. Specific environmental criteria applied in this process include an evaluation of a company’s environmental strategy, the presence and quality of a formal EMS23 and application of the eco-efficiency criteria defined by the WBCSD24 applied through life-cycle analysis of product(s) (Bank Sarasin, 2007 at 9-11). Interestingly, Sarasin applies different weights (importance) to individual life-cycle phases based upon its sector evaluations.

23 24

ISO 14001 certification is generally viewed as evidence of an effective EMS. Sarasin considers such factors as energy and material intensity, toxicity of materials used, product durability/recyclability and use of renewables, as defined by the World Business Council for Sustainable Development.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

50

Peter Soyka, Mark Bateman and Ira Feldman

SAM Group is headquartered in Zurich and was founded in 1995. This firm specializes in sustainability investments and provides research and sustainability evaluations of companies to banks, insurance companies, pension funds, foundations and private clients. It also operates several sustainability-focused mutual funds. The company is perhaps best known for its family of sustainability indexes (with Dow Jones and STOXX) that are widely tracked and referenced by SRI and other investors around the world. A majority stake in SAM Group was acquired by Dutch bank Robeco in 2006, and the company is now operated as a subsidiary. SAM Group uses its own independent research and an active worldwide sustainability network to perform company ratings and make investment decisions. It claims to apply what is a best-in-class approach, integrating sustainability evaluation into traditional valuation analysis, focusing on free cash flow and the firm’s weighted average cost of capital as key endpoints. SAM Group believes that “sustainable” companies benefit in three primary ways relative to their peers: •

Earlier recognition of business opportunities leading to higher returns on invested capital (ROIC) and better reinvestment rates (RIRs); • Better risk management leading to lower risk premia when raising capital, lower required rates of return and a lower weighted-average cost of capital (WACC), and • Higher ROIC, RIR and lower WACC boosting fair value. (SAM Group, undated at 4) The company also performs thematic research in connection with some of its sectororiented funds (e.g., clean energy). SAM Group’s company evaluation process is depicted schematically in Exhibit 16. SAM Group collects much of its data by administering periodic questionnaires to rated companies. These questionnaires deal mainly with governance and internal social issues; only

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Environmental Investing Practices in Europe

51

one of more than 40 questions on the “general” questionnaire deals explicitly with environmental issues. The core environmental issue is a limited examination of ecoefficiency, which includes time-series (multiyear) data on energy and water consumption, greenhouse gas emissions and waste generation. The question includes fields for improvement targets for the following year and an explanation for any trends. Although there is one additional question listed on the questionnaire, dealing with public environmental reporting, it is completed by a SAM Group analyst following review of the company’s web site, sustainability reports (if any) and other information in the public domain. In practice, SAM Group claims to have developed more tailored questionnaires for use in evaluating firms in more than 60 industry sectors. Examples of these criteria, some of which apply in multiple sectors, include:

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

• • • • • • • • • •

Environmental policy/management system Management of genetically modified organisms Offshore production standards Product stewardship Recycling strategy Transport and logistics Advanced environmental performance Biodiversity Climate strategy Closed-loop business models

Pictet Asset Management, founded 1805 in Geneva, is one of Switzerland's largest private banks. According to the company, in 1999 it developed a “radically innovative approach”—the Pictet Sustainable Efficient Frontier. According to the company, this approach applies Markowitz modern portfolio theory to sustainable investment, providing the investor with a portfolio that incorporates maximum sustainability for a given level of risk. This is done in three steps: 1. Create a pure “sustainably efficient” portfolio by employing Pictet quantitative techniques, 2. Then take a representative active portfolio invested in the same market, and finally 3. Create a final portfolio, which benefits from any active alpha without reducing the overall sustainability of the portfolio or increasing benchmark risk (defined as tracking error against an active portfolio or the index). To apply this approach, Pictet develops its own environmental and social ratings using inputs obtained from Ethos and Centre Info/SiRi. In addition, Pictet staff attempts to exercise thought leadership by annually producing at least one major study of an important aspect of sustainability. In writings during the past several years, Pictet staff has, for example, advocated a “return to SRI’s roots”; use of fewer, more meaningful environmental and social criteria; better analyst training, and greater development and use of sector-specific indicators.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

52

Peter Soyka, Mark Bateman and Ira Feldman

Exhibit 16 SAM Group Evaluation Process Sustainability and Shareholder Value

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Summary and Trends From the foregoing, a number of major findings and trends can be observed. In Europe, the practice of SRI/ESG investing is advanced, widespread, of significant magnitude and likely to continue to grow substantially in the coming years. Integration of environmental and social issues within a broad, governance-driven overlay and ongoing engagement with senior management of portfolio companies seems virtually certain to become more widespread and offers a clear path to the “mainstreaming” of environment into investment community behavior that is advocated by many, including EPA. There are some differences between how ESG/SRI investing is conducted in Europe versus the U.S. One has to do with terminology and underlying philosophy. In Europe, the terms “ethical investing,” “Sustainable and Responsible Investing” and “SRI” appear to be the terms of choice, and the criteria used to describe issues of interest to investors may be defined as SEE, though there appears to be trend toward the ESG convention often observed in the U.S. In Europe, it appears that ESG investing is being driven by institutions, which collectively control 94 percent of the funds invested. European ESG investors are using a variety of techniques, some of which expand well beyond traditional (“core”) practices, such as positive/negative screening and identification of “best in class” companies. Engagement and ESG integration are especially important strategies and likely will continue to be in the future. Perhaps one reason for this is that shareholder resolutions are much less prominent in Europe than in the U.S. In terms of particular European markets and their relative positions, it is clear the U.K. and its major investment firms occupy a leadership position, both in terms of size of the asset base managed according to ESG/SEE principles and in sophistication of methods employed to construct and manage investment portfolios according to ESG criteria. That said, there is a noteworthy level of activity in more than a handful of other European countries (e.g., France, the Netherlands, Belgium and Switzerland) and on the part of individual financial institutions

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Environmental Investing Practices in Europe

53

within them. Perhaps most significantly, in contrast to the U.S., where the ESG/SRI dialog and most of investing activity occurs within and is driven by the SRI community, many major (and venerable) mainstream financial institutions in Europe are very active in the ESG investing market space. Most of the larger firms have applied ESG investing to only a limited portion of their asset base, but many are planning to substantially increase their presence in this portion of the market during the next few years. Although several major U.S. investment houses also are moving in this direction (e.g., GS, JP Morgan Chase), it appears their European counterparts are significantly further down this path, at least in the aggregate.

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Major ESG Information Providers and their Products and Services As noted above, many if not most European investors evaluating the ESG profile and performance of portfolio companies rely, at least in part, on data provided by outside parties. As a consequence, there is a small but vibrant industry in Europe that supplies related raw data, processed information and various analytical results and tools. Specific information on the size and prominence of the firms in this industry is unavailable, but it does appear that there are a number of major and minor players and a variety of environmental (ESG) information products and approaches to delivering them to customers. In this section we explore the constellation of research vendors supporting European investors with environmental, social, and governance research and information products. In developing our factual base, we reviewed materials describing more than 20 research firms. Most were based in Europe, but a few are firms with a European clientele based in the U.S. or elsewhere. In profiling these firms, we evaluated their processes, methodologies and products and were, therefore, able to determine areas of emphasis as well as the value proposition each presents to its clients. A list of the firms reviewed is presented below in Exhibit 17. Interestingly, about half of these firms are country-level members of international networks of investor research providers, the two most prominent of which are EIRIS, based in the U.K., and the SiRi network, which has members in at least six European countries, Canada and the U.S. These organizations are described further below.

Vendor Types In evaluating research firms that conduct ESG research to support investors and other financial decision-making, the authors found some distinct patterns and common themes. Although no research firm fits neatly into a single type without overlapping into another type, each firm clearly has a focus that places it within one of four basic approaches that reflect a particular philosophy, client need and/or style. The four vendor types we have defined are Data Centric, Issue Centric/Evaluative, Integrated Issues and Financial (Company Centric) and Integrated Issues and Financial (Business Estimation). Data Centric vendors place heavy emphasis on gathering “raw” data. That is, when captured, the data obtained and compiled by these firms are not manipulated or evaluated in any way. This means the vendor’s individual perspective on ESG and/or investing issues is

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

54

Peter Soyka, Mark Bateman and Ira Feldman

not reflected in the data and that, at least theoretically, if several of these firms are capturing the same data elements from the same sources, data should be consistent across firms. Exhibit 17. Research Firms Reviewed that Provide ESG Information to European Investors

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Firm RiskMetrics Innovest Ethical Investment Research Service (EIRIS) SiRi Analistas Internacionales en Sostenibildad SA Centre Info SA Asset4 Sustainable Asset Management Dutch Sustainability Research BV GES Investment Services AB Jantzi Research Inc. Pensions & Investment Research Consultants Ltd scoris GmbH Avanzi Fundacion Ecologia y Desarrollo (EcoDes) Imug – Institut fur Markt-UmweltGesellschaft EthiFinance (formerly Observatoire de L’Ethique) TruCost Bank Sarasin Hendersons Global Investors Manifest

Partner Network

Country

Website

EIRIS

U.S. U.S. U.K.

www.riskmetrics.com www.innovestgroup.com www.eiris.org

SiRi SiRi

Spain

www.siricompany.com www.ais.com.es

SiRi

SiRi SiRi SiRi SiRi

Switzerland Switzerland Switzerland Netherlands Sweden Canada U.K.

www.centreinfo.ch

SiRi EIRIS EIRIS

Germany Italy Spain

www.scoris.de www.avanzi.org

Germany France

www.ethischesinvestment.de www.ethifinance.com

U.K. Switzerland U.K. U.K.

www.trucost.com www.sarasin.ch www.hendersons.com www.manifest.co.uk

www.dsresearch.nl www.ges-invest.com www.jantziresearch.com www.pirc.co.uk

Products and services offered by data centric vendors often emphasize the ability of clients to apply “user-defined” or “custom” criteria. Although technically a commodity, environmental data are currently dispersed and difficult to access. Moreover, disclosure by companies is often inconsistent, occurs at unpredictable times and is not centrally located. In response, research firms focusing on a data capture model have developed expertise at overcoming each of these obstacles. Their business models are such that they may be able to use and reuse the information in a number of different products.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Environmental Investing Practices in Europe

55

At least two European research firms follow this model primarily: Asset4 and Manifest. IW Financial, a U.S. research vendor, also follows this model.25 Issue Centric/Evaluative vendors tend to design their research methodologies with the end product for the client in mind. In this manner, they may embed an evaluation or a particular perspective into the research. The evaluation may, for example, be comparative in nature and based solely on presenting completely objective data. Other evaluation products/services, however, bring a particular worldview to bear. Such evaluations might present “strengths and weaknesses” of a particular program or company policy. The research focus for these firms tends to be within well defined issue areas, and they perform very little “integrated” analysis, in contrast to the types of evaluations seen in the next two vendor types. Issue centric/evaluative vendors are targeting a portion of the market that is seeking specific answers. Clients must be comfortable with the world view represented by the research firm’s evaluations as well as the overall quality of work conducted by the researchers. European research vendors using the Issue Centric/Evaluative model include the Ethical Investment Research Service26 (EIRIS) and SiRi (a consortium of companies, including the U.S. based KLD Research and Analytics). Two U.S. firms are also prime examples of this model, KLD Analytics and RiskMetrics (which increasingly is building a worldwide clientele, including European investors). Integrated Issues and Financial (Company Centric) vendors define their ESG research methodologies as specifically identifying ESG issues that move the financial performance of companies (positively or negatively). These firms use integrated models yielding or implying a specific investment decision as a result of their research, which is then presented to clients. Sustainable Asset Management (SAM) and Generation Asset Management are two European firms that offer this type of research and services. Innovest Strategic Value Advisors is a U.S.-based firm that also performs this kind of integrated research. Integrated analysis of financial issues with ESG issues is an emerging field. Managers of firms involved in this type of analysis believe they are pushing into a mainstream, fundamentals style of investment research. In most cases, these firms believe they are identifying “alpha,” or the prospect of an individual equity outperforming the market, based on ESG criteria. Integrated Issues and Financial (Business Estimation) is the final type of research vendor category. In this model, the research firm analyzes the business components and process and associated environmental, social and governance attributes of each27 across the company. Business process estimates are made based on as much company specific information as is available. Only a single firm has developed this style of research. TruCost is a Europe-based research vendor with U.S. clients and research operations. It is patterned largely off of the company centric style of integrated analysis but acknowledges the limitations of available data in evaluating ESG criteria. TruCost compensates for this lack of available data by estimating the impact of certain components of business systems on ESG issues.

25

Co-author Mark Bateman is Research Director for IW Financial. Co-author Mark Bateman’s firm, IW Financial, is a sales partner of EIRIS. 27 on an aggregated, estimated basis 26

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

56

Peter Soyka, Mark Bateman and Ira Feldman

Examples: Vendor Profiles

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

We provide here brief descriptions of some of the major players identified in the previous section. Asset4, a Switzerland-based firm and Data Centric research vendor, focuses its research on collecting a massive data set covering 900 variables across multiple years. The company’s goal is to create time-series data to facilitate trend evaluations. Asset4’s core deliverable provides an evaluation that equally weights the data within 250 indicators across four sustainability “pillars” (economic, environmental, social and corporate governance). Clients have access to all the raw data and the ability to customize the evaluations by changing the weightings of data elements. Ethical Investment Research Service (EIRIS) is a London-based firm and an Issue Centric/Evaluative vendor that has defined a global research methodology and partnered with research firms around the world to apply this methodology in their local markets. EIRiS evaluates categories such as EMSs and environmental performance. Its products enable users to decide which issue areas are incorporated into an evaluation but provide less flexibility than those of data centric vendors regarding the evaluation within an issue area. Among other projects, EIRIS supports the FTSE4Good Index Series. Sustainable Asset Management (SAM) is a Switzerland-based firm and a Company Centric vendor. SAM’s methodology includes screening (a version of the Evaluative vendor type in which specific standards are applied), assessment (a largely financial evaluation in a traditional investment model) and “focused analysis” (an integrated look at sustainability as a value driver). In addition, SAM has partnered with Dow Jones to create the Dow Jones Sustainability Index series. TruCost, a London-based firm, is a Business Estimation vendor. TruCost has created environmental impact profiles of 130 business activities, which it uses in an input-output model to estimate direct and indirect environmental impacts of companies.

Summary While cataloguing European ESG research vendors, we evaluated the offerings and characteristics of more than 20 firms. In looking at investor use of research vendors, we were able to identify 22 investment firms as clients of multiple ESG research vendors. Of these 22, 14 appear to purchase products from different vendor types, while eight used two data vendors of the same type. Clearly, for these clients, each vendor type adds to the information available to them, as investors, in making investment decisions. There are positive and negative arguments to be made about each type of research represented among these vendors and they, in turn, offer different solutions to their clients. Significantly, three of the four vendor types are represented by both European and U.S. firms. The only one that is not is the Business Estimation type, which has a single firm based in London. (Nonetheless, TruCost, the single Business Estimation vendor in our survey, sells into the U.S. as well as Europe.) The presence of these consistent approaches in the U.S. and Europe eliminates style of available research as a differentiator between U.S. and European researchers.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Environmental Investing Practices in Europe

57

It also is important to remember that no research firm actually falls completely within one of our defined categories, and other than the business estimation work done by TruCost, baseline information available for all the other analysis is relatively consistent across firms and approaches. In this respect, the different approaches firms take in presenting their research and products to potential financial services industry clients amount to little more than marketing and “spin.” This situation is very similar to that of all of the “mainstream” investment products and research styles available in the marketplace. At least in theory, the same information is available and used across a variety of investing styles. Therefore, it is the analytical process used (or not) as a means of “adding value” that differentiates the research and investment products offered by different vendors from one another, and these reflect philosophical differences among the vendors themselves.

CONCLUSIONS AND IMPLICATIONS

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Conclusions From the foregoing discussion, we can surmise a number of different phenomena and trends among financial market participants in Europe that have relevance to corporate sustainability executives and managers, U.S. financial market participants, and public policy makers. We discuss our major conclusions and what we believe they imply below. Pan-European initiatives are changing the terms of the dialogue regarding ESG investing and may portend rapid adoption of such practices across Europe during the next few years. The EU has provided clear policy direction on this issue, with the expectation that member governments will take the necessary steps to implement conforming changes within their national boundaries (and capital markets). This stance is markedly different than that of the U.S. government. The recent unprecedented turmoil in U.S. and international financial markets may blunt some initiatives for a period of time but, if anything, the upheavals in credit and equity markets and their root causes highlight the need for improved governance at all levels, which is one of the distinguishing principles of ESG investing. Conversely, effective governance directly implies a comprehensive (corporate-wide) and consistent approach to environmental management through the direct involvement of senior corporate management, with Board of Directors oversight, in managing environmental issues. Further, some of the concerns about limitations imposed by the fiduciary duty of trustees regarding ESG (and other extrafinancial) considerations have been substantially reduced by the work of the law firm Freshfields, Bruckhaus, Deringer under the auspices of UNEP-FI, released in 2005. This analysis is bringing renewed attention to the issue in Europe and a greater willingness to “expand the envelope” on the part of many capital market participants. A related and parallel development is the growing expectation for more uniform and meaningful corporate ESG disclosure. As described above, the U.K. has issued an official sustainability policy encouraging engagement, including on ESG factors, as well as requirements and guidance addressing ESG issues as part of regular “business review” disclosures. We believe that such public policy initiatives may be early signs of a much larger trend. Moreover, as governments and central banks in the U.S. and Europe sort through the root causes of the recent international financial turmoil and how best to prevent future crises,

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

58

Peter Soyka, Mark Bateman and Ira Feldman

it is not unreasonable to believe that greater disclosure along all relevant dimensions of corporate performance and risk may receive focused attention. Belief in the importance of ESG factors and issues to investment analysis and decisionmaking among investors and asset owners appears to be substantially more widespread in Europe than in the U.S. This pattern also applies to current interest in having ESG issues integrated into mainstream investment strategies. These findings are consistent with our initial hypothesis and widespread opinion within the broad environmental management community. Interest in ESG is, however, expected to increase both domestically and internationally. Much larger percentages of investor survey respondents have indicated that they expect many of the environmental issues identified to be important three to five years hence, and many more (30-40 percent across all major markets) also believe they personally will want ESG integration during this time frame. The emergence of the PRI and other ESG-related initiatives suggests these issues are gaining traction and stimulating real change. A number of signatory firms are providing evidence that they are moving beyond the acceptance of ESG factors as potentially material to investment decision-making, to the point at which they have developed and deployed methods and structured or restructured analyst teams and incentives to promote ESG integration. Also, they have devoted more attention to these issues in ongoing dialogs with representatives of individual companies in which they have or are considering an equity or fixed income investment. Recent surveys of PRI participants indicate significant progress is being made in taking the difficult steps required to “mainstream” ESG investing practices. Moreover, the PRI has grown substantially during the past year and now includes more than 400 organizations worldwide. As discussed above, Europe has both a larger percentage of enrolled participants than any other region and participation of a larger number of major mainstream banks and other financial institutions than the others, particularly in comparison with the U.S. Our research confirms that ESG investing in Europe is widespread, broadly accepted by, seemingly, all major constituencies, and practiced in a variety of ways in many European countries. Many different approaches are being taken to consider environmental (and other ESG) factors in investment analysis and decision-making, reflecting different investment philosophies, theoretical or empirically based beliefs about the “right” factors to consider, legal requirements and cultural norms, and other considerations. Despite this diversity, several common themes emerge. One is the growing and widespread use of an integrated approach to the treatment of sustainability issues, in which guided by a strong focus on corporate governance, investors and analysts examine more specific ESG criteria according to their own beliefs and preferences. In this respect, the ESG criteria may be seen as an extension or refinement of the core imperative to understand and evaluate each company’s governance structure, practices, and performance over time. That is, environmental management and performance are inextricably embedded with other factors in the approach taken by most European investors and investment analysts. Just as in U.S. capital markets, very few investors in Europe focus solely on environmental criteria. Despite the emergence of sophisticated approaches to ESG investing, these approaches (e.g., ESG integration) and more conventional SRI practices are expected to exist in parallel for the next several years in both U.S. and EU markets. Our research has demonstrated that traditional approaches to SRI (e.g., negative screening) are alive and well in Europe and will likely continue in their present form for some time, even if on a smaller relative scale. This

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Environmental Investing Practices in Europe

59

dichotomy reflects the distinction between values-based and risk-based investing. Because it reflects the interests of some investors to not associate with certain types of business(s), the values-based approach necessarily involves some degree of negative screening. In contrast, risk-based investing reflects a judgment that certain environmental (and/or other ESG) characteristics impart differential risk to future financial returns and/or capital costs. The two approaches often are used in a complementary fashion. Given the substantial number of values-based asset owners (e.g., pension funds) in the U.S., it is highly likely the traditional forms of investing behavior they demand will continue indefinitely, even as methods (and data) allowing more sophisticated risk-based analysis evolve and expand. We believe that this dynamic is both reasonable and healthy. Funds invested according to ESG criteria in Europe are quite significant, both in absolute terms and as a percentage of the total, particularly in equity markets. Such investments exceed 2.6 trillion Euros and appear to approach, in the aggregate, 18 percent of the total funds invested with the European asset management industry. This stands in contrast to the U.S., where despite steady growth of SRI investing generally, the amounts of money undergoing even a simple screening according to environmental criteria are far smaller (less than $230 billion, as of late 2007).28 In parallel, ESG investing in Europe includes a substantial number of major mainstream financial institutions, including major banks and financial-services conglomerates in the U.K., France, Switzerland, the Netherlands, and the “Benelux” and Nordic countries. Using adherence to the PRI as a simple indicator, the distinctions between Europe and the U.S. are striking. U.S. signatories are, with one exception, SRI firms and, generally, small niche players, while those based in Europe include “traditional” SRI investors and several large, multinational, mainstream banks such as ABN AMRO, BNP Paribas, CréditAgricole, HSBC, and Robeco. It also is worthy of note that several U.S. and European financial holding companies have made acquisitions of smaller European ESG/SRI investing and/or research firms, suggesting that increasing vertical integration and competition may occur in this growing segment of the market. Examples include Robeco’s acquisition of SAM Group, Bank of New York Mellon’s purchase of Newton Investment Management and GS’s equity investment in Asset4. Major pension funds, both public sector and corporate, also are heavily involved in ESG/SEE investing in Europe; in the U.S., pension fund activity in this market space also is extensive and has, in fact, driven the emergence of SRI/ESG investing. Nonetheless, U.S. pension funds involved in ESG investing do not include corporate entities to any significant degree, and instead generally represent public employees, academic institutions, and insurance companies. While as noted above, diverse approaches and methods to evaluate ESG posture and performance are in use by European investors and analysts, there are several common themes and perspectives, suggesting at least some convergence around major ESG investment principles. One is an acceptance of a long-term perspective as the appropriate investing frame of reference. We found several examples of substantial mainstream investors in Europe stressing the long-term creation of client wealth and disclaiming any interest in or use of short-term considerations or tactics in managing their investment portfolios. Another very 28

This comparison assumes that all ESG funds invested in Europe include an environmental component, an assumption that seems reasonable in light of our research findings but cannot be verified empirically with our existing information.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

60

Peter Soyka, Mark Bateman and Ira Feldman

common approach and philosophy evident in Europe is a life-cycle perspective, which serves to evaluate both the upstream environmental aspects of a given industry sector or company’s supply chain and the possible environmental consequences (and investing risk exposure) of the sector/company’s products and services in use by the customer. We also have observed a distinct concern about possible environmental risks to a firm’s intangible assets, including brand strength/reputation and a variety of stakeholder relationships. The ways in which these philosophies and interests are expressed and managed within individual analyst/investment firms vary considerably, and several have shown leadership in articulating new or improved investing approaches or considerations. To a significant extent, investors in Europe appear to be expending effort toward and achieving success at integrating ESG considerations into mainstream investing. As noted above, this is one of the six major goals of the PRI, and the leaders of many European financial institutions appear to believe that attaining this goal is crucial to ensuring ESG issues receive appropriate consideration within their markets. Progress and current status vary considerably, but in general appear to be more advanced in Europe than in the U.S., in terms of the number of mainstream (and major) investors pursuing the goal and progress reported to date. We have not been able to bring great clarity to the issue of the specific environmental variables and endpoints that are valued and used by European investors and analysts, due to data limitations. It seems clear, however, that European investors have relatively little use for some of the data elements that often have been the focus of at least some investors and other stakeholders in the U.S., such as regulatory/permit violations, fines and penalties, and Superfund and other site cleanup liabilities. Instead, the focus in Europe is more commonly placed on eco-efficiency data, including pollutant emissions; waste generation/management and energy, water, and material consumption. Greenhouse gas emissions and vulnerability to possible regulatory controls is an issue of particular importance (as it is, increasingly, in the U.S.). Supply chain environmental aspects and the environmental performance of goods once placed into service also are frequent areas of focus among European investors. Finally, many European investors, including large mainstream institutions, are interested in the approaches taken to managing environmental issues within the firm (e.g., policies, strategies, management systems). This interest flows naturally and logically from the central concern of these investors, governance. Our research revealed a number of barriers and limitations that have, thus far, prevented ESG investing in Europe from advancing further and faster. These include differences in the legal and cultural contexts in individual European countries and the absence of a unified set of investment theories or principles for incorporating ESG factors into fundamental analysis. We anticipate that the former will diminish in significance as national-level implementation of recent EU directives pertaining to ESG disclosure and related matters unfold and the field continues to evolve and mature. Similarly, we believe that the past several years have witnessed rapid progress in the sophistication and analytical power of SRI/ESG investing, and we are inclined to believe we will continue to see advancements and, over time, some convergence in beliefs and methods that experience in the markets shows to be most theoretically sound, robust, and useful to institutional investors and their clients. Perhaps the most significant limitation in Europe is the same major factor that limits more and better integration of ESG considerations into investment analysis and decision-making in the U.S.: the lack of sufficient meaningful, complete, comparable, and timely data on environmental

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Environmental Investing Practices in Europe

61

(and other ESG) management quality and performance. As discussed above, notwithstanding the presence of a thriving “cottage” industry providing ESG information and related products to investors and the appearance, from our perspective, of several distinct categories of information provider, the fundamental sources of information used by all providers are the same—companies themselves and government databases.29 Accordingly, unless and until companies uniformly and at regular intervals release sufficiently detailed information on their environmental management activities and results, it is difficult to see how this limitation will be overcome. It is possible that further refinements to and adoption of the GRI sustainability reporting guidelines will play a catalytic role in moving more corporations toward releasing a “standard” set of ESG data at regular intervals. It is perhaps worthy of note, however, that our informal discussions with corporate representatives on both sides of the Atlantic suggest that Europeans appear to have far greater current interest in the GRI than their U.S. counterparts. To the extent that this anecdotal evidence is in any way representative of the generally held views within each geographic region, it suggests another aspect in which it might reasonably be said that European practices are more advanced (or at least different) than those here. As discussed above, we encountered significant difficulty in finding detailed information on precisely how environmental or other ESG information is used by investors in Europe to inform or make investment decisions. Accordingly, we can offer only tentative conclusions about which firms are or are not advanced in terms of how such information is used or integrated into fundamental financial investment analysis. That said,we did find several firms that we believe are noteworthy by virtue of how they describe their approach to ESG investing and the magnitude of the funds managed using explicit consideration of ESG factors. These include U.K. banks, Insight Investment, Newton Investment Management and Schroders; Swiss banks, Pictet Asset Management, Bank Sarasin and SAM Group; as well as SNS Asset Management in the Netherlands. Other money managers that report significant ESG/SRI AUM but for which supporting information is very limited include Care Group and Lombard OdierDarierHentsch&Cie (Switzerland); Dexia Asset Management (Belgium); Robeco; Baillie Gifford & Co., F&C Management, Hermes Fund Managers and KBC Asset Management (U.K.); BNP Paribas Asset Management (France); and Carlson Investment Management and Nordea Investment Management (Sweden), among many others. These institutions are joined by a number of major pension funds, which include FRR in France, ABP in the Netherlands and Norway’s Government Pension Fund, among many others, in adopting mandates that require consideration of ESG criteria in selecting and maintaining securities in fund portfolios. In some cases, these mandates have been imposed by national legislation. It is worthy of note that some of these European pension funds rival their largest U.S. counterparts (e.g., CalPERS) in size. Among the roughly two dozen European ESG information providers of substantial scale or prominence, a few observations can be made. The first is that a healthy share of this market appears to be serviced by two major networks of national-level data providers: EIRIS and SiRi. Each collects and processes company level data on environmental performance and, to some extent, management practices, and emphasizes analysis of this information and presentation of it to the client. This may include a determination of “strengths and 29

Indeed, in our research we documented the fact that data published by the U.S. EPA (e.g., TRI emissions) are a major source of environmental performance data for information providers and some major investors.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

62

Peter Soyka, Mark Bateman and Ira Feldman

weaknesses” of programs and policies, development of ratings, and/or inter-company comparisons. Such evaluations generally stop short of analysis of the financial implications of ESG issues. There are, however, a few firms active in Europe that do attempt to directly link ESG variables to financial impacts or indicators. These include SAM, Generation Asset Management, and TruCost. Importantly, all the basic categories of data provider also exist in the U.S., either as analogues to European providers (e.g., RiskMetrics, Innovest) or in the form of partners in international networks (e.g., KLD Research & Analytics). Accordingly, it is unclear to us that there is much that is truly unique or more advanced in Europe with regard to the data provider side of the equation than in the U.S., with a few possible exceptions. One is the existence of the U.K.-based TruCost plc, which has developed an approach by which it claims it can model the financial implications of changes in a variety of environmental criteria at the business process level (130 activities) and thereby conduct financial and segment analysis, including direct and indirect impacts.

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Summary and Implications To summarize, we found extensive ESG investing activity in Europe and encouraging progress toward the goal, shared by many, of “mainstreaming” ESG considerations into normal investment analysis and decision-making activities. Support for ESG investing appears to arise from many quarters, have clear legislative support in several countries, and be more a part of the accepted business landscape than in the U.S. ESG investing is widespread and of significant magnitude and, in many cases, appears to be practiced with sophisticated approaches and portfolio-selection methods. Accordingly, it is tempting to conclude that Europe is “ahead” of the U.S. in the ESG/SRI/ sustainability investing arena and, in some respects, perhaps it is. At the same time, however, our research and analysis revealed little evidence that European investors, analysts, or data providers are doing anything fundamentally different than their U.S. (mostly SRI) counterparts, or necessarily doing it better. We do have an appreciation of and respect for some of the ESG evaluation methods and approaches that have been developed and implemented in European capital markets, but it is not altogether clear that they are much advanced beyond methods that have been developed and successfully applied in U.S. money management firms. A similar situation applies to the providers of ESG data to investors, where few noteworthy differences can be observed from one side of the Atlantic to the other. What does appear to be different is the scale at which ESG investing is applied, and the degree of involvement of very large mainstream financial institutions, both of which are larger in Europe than in the U.S. This suggests that Europe may simply be a few years ahead on the maturity path and that as financial markets become more integrated and, perhaps, as greater clarity is achieved regarding the nature of fiduciary duty and the relevance of ESG considerations to investors, these differences will diminish. One likely contributing factor to whatever differences exist is the gap in the degree to which the governments of Europe, through the EU, have taken a leadership posture in defining the desired roles of sustainability, CSR, and RI in promoting the success and prosperity of their societies. We perceive a significant policy “vacuum” on this side of the Atlantic that limits the ability of U.S. investors and their representatives to mount broad-

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Environmental Investing Practices in Europe

63

spectrum efforts to promote ESG investing more widely. We believe that the role played by the EU in recent years in providing a “big picture” policy framework supplemented by specific directives suggests a possible future direction for analogous efforts in the U.S. It is helpful as well as instructive to consider that U.S. legal principles (e.g., the portfolio approach to fulfilling fiduciary duty) inform, at least to some extent, the thought processes at work in the EU, so we see no clear legal or policy barriers to a move toward broader ESG integration in U.S. capital markets. In addition, the fact that, as shown by our research, key U.S.-based, mainstream, global capital market players (e.g., GS) are now active in the ESG investing space and that significant ESG research groups (e.g., RiskMetrics) already straddle national boundaries and cultures, it should be far easier than in the past to garner support from some of the directly affected constituencies to move in this direction. These research findings have a number of implications for decision makers and organizations involved in the practice of environmental management, investment analysis, money management, and policy making in both the private and public sectors. We offer here a few suggestions for ways in which each can contribute to future advances in the evolution of investing behavior in the U.S. to consider all appropriate factors, including environmental management and performance. U.S. federal government agencies can play a key role in accelerating a transition toward more full and meaningful consideration of ESG factors in our capital markets. The two key agencies that should spearhead any new initiatives in this arena are the U.S. EPA (the nation’s chief environmental regulator and policy maker), and the Securities and Exchange Commission (SEC), which establishes financial reporting and numerous other requirements for firms that publicly trade their equity and/or debt securities. Several near-term activities that could, and we believe should, be carried out include the following:

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

•

•

Opening a dialog with major European investors, analysts, and thought leaders on the topic of integrating environmental considerations into mainstream investing. This may be done informally, e.g., through networking at conferences, or in a more structured format, e.g., convening meetings or roundtables. One early step might be to invite selected U.S.-based representatives of some of the more interesting European investors into existing or new dialogs involving the financial sector. Working with the New York Society of Security Analysts (NYSSA), other state-level associations, and analogous organizations to develop and deliver training to financial analysts on environmental (and other ESG) basics, the relationship of ESG performance to financial performance, emerging valuation methods, and related topics. In parallel, developing and delivering training to environmental agency personnel on the general workings of the capital markets, the factors and types of information that are valued by investors and analysts, and the information channels used by financial market players to inform their analyses and decisions.

At a more general level, it is clear that one of the major distinctions between the Europe and the U.S. in terms of ESG investing climate is the absence of a consistent and comprehensive (i.e., national) policy overlay addressing sustainability and the need for greater corporate transparency. We believe that the incoming Obama Administration has an important opportunity to address this shortcoming. A national policy with appropriately

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

64

Peter Soyka, Mark Bateman and Ira Feldman

crafted implementing statutory directives and/or regulations (issued by SEC) would catalyze a dramatic shift in the substance and quality of company environmental reporting. More specifically, there are several ways in which increased coordination between SEC and EPA, with each drawing upon its authority, accumulated expertise, and stakeholder relationships to establish a new set of “ground rules” by which companies would be expected to measure and disclose their environmental posture, risks and performance over time to the investing public. For example, EPA has far deeper issue expertise regarding both environmental risks and opportunities than any other agency of government, including SEC. This expertise should be directly utilized in any SEC action(s) to more precisely determine “materiality” from the standpoint of investor disclosure.30 In addition, increased enforcement of currentdisclosure requirements (even in the absence of additional regulatory clarity) by SEC is a significant need. In a related vein, the existence of massive, ongoing under-reporting of environmental liabilities by corporations is an open secret within the professional environmental community, and more rigorous and regular enforcement activity by SEC could rapidly impart significant improvements in the quality and utility of information available to investors. In lieu of substantial improvement during the first year of the incoming Obama Administration’s new term, Congressional action to mandate these steps would, in our judgment, be appropriate. An additional, and potentially important step would be for the U.S. Department of Labor to amend its recently reissued guidance on pension fund (ERISA) fiduciary duty in selecting stocks. The findings of the Freshfield study and ongoing legal developments in Europe discussed in this chapter provide ample basis for a clear statement of fiduciary duty that recognizes the legitimacy (not to mention the importance) of ESG considerations to investment decision making. These actions, would enable more complete, consistent, and fact-based financial analysis of firms and sectors, and promote more widespread adoption of improved practices (to include but not be limited to appropriate consideration of ESG factors) within the mainstream investing community. Over time, it is reasonable to expect that establishing and strengthening these linkages among corporate management, performance, and disclosure and investment analysis and behavior will produce several important societal benefits. These include a better understanding (and management) of corporate risks and opportunities, enhanced environmental quality and greater protection of human health; greater transparency in and public trust of U.S. capital markets; and reduced overall societal costs of achieving (or at least moving toward) optimal levels of environmental protection, social equity, and economic prosperity. Regardless of the overall policy backdrop, we believe that domestic investors and analysts can do many things to advance the state of play regarding ESG investing in the U.S. One is to introduce the ESG topic (generally, and along specific endpoints corresponding to their investment strategies) into their periodic meetings/conference calls with corporate senior executives (typically, CEO, CFO, and/or Director of Investor Relations). One important reason for the limited corporate ESG disclosure seen to this point is that such information is 30

Regardless of which agencies and stakeholders have direct input or influence on how “materiality” is more specifically defined, it is vital that the issue be framed in the broad “sustainability” or ESG context, rather than in the narrower construct that is the current focus of several investor groups. Specifically, it would be both an opportunity lost and reflect a fundamental misunderstanding of the issues to limit the scope of materiality to greenhouse gas emissions or other readily quantifiable environmental endpoints.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Environmental Investing Practices in Europe

65

requested very infrequently, if ever, by mainstream analysts. Quite simply, if such information is requested regularly by investors and analysts, it will be provided. Another productive step would be to develop/adopt better methods by which ESG considerations can be actively integrated into mainstream investment analysis. The research presented in this chapter demonstrates that this can be and is being done by a number of sophisticated mainstream investors. Unfortunately, most of these are in Europe. We believe that the senior managers of major U.S. investment firms (beyond Goldman Sachs and a few others) could profitably invest some of their companies’ resources in educating themselves regarding these methods and further developing their own internal capabilities. Large institutions also could do more to encourage innovation in the ESG investing space in the U.S. by funding new approaches. For example, CalPERS often has played a leadership role in the past in helping to stimulate the development of new styles of investing, including sustainability and green investing, by funding test portfolios. This approach could be adopted more widely among pension funds and major money managers, particularly with rising public interest in environmental issues. Another approach would be for large institutional investors to offer requests for proposal (RFPs) for assistance from small innovative investment funds. Such steps would provide the marketplace the opportunity to create and try new approaches to integrating ESG into financial products. Finally, the firms that operate major stock exchanges could impose new listing and reporting requirements that include ESG considerations. Assuming an appropriate degree of content and clarity, such steps would do much to ensure consistency and reliability of ESG information reported by listed companies, and address one of the key limitations to more widespread use of ESG investing noted above. As an example of this concept at work, the Johannesburg Stock Exchange currently requests, but does not require, GRI reports. On the other side of the dialog, senior managers of U.S. companies could take a number of additional steps to ensure that investors better understand their enterprises and the importance (or lack thereof) of major ESG issues to their future success. ESG/sustainability disclosure is very uneven in the U.S., given the absence of meaningful national policy in this area. While most large, publicly traded companies (e.g., the Fortune 500) now have specific environmental/ESG/ sustainability reporting of some kind, the information provided to investors and other external stakeholders is highly variable in terms of content, depth, consistency, and overall quality and utility. This is so despite the emergence of the Global Reporting Initiative (GRI) as the de facto global sustainability reporting framework. It is therefore incumbent upon corporate senior management to articulate the value proposition of the firm’s ESG practices, and to express it to all important external stakeholders, including the investment community. In essence, someone needs to begin the dialog between companies and investors on the business value of sustainability. The senior executives within firms who understand (or should) this value and how it is delivered are in the best position to “connect the dots” and present investors with an additional reason to support the company through new (or continued) investments. Using the GRI and other, more typical investor relations activities, corporate senior managers can and should develop the facts and messages that make clear how much the firm is investing in ESG activities and what those investments are producing over time in the way of incremental revenues and profits, new opportunities, and risks avoided or reduced. Spurred by government mandates, this process is in its early stages in Europe, but has not really begun in the U.S. We believe that this should change immediately. Perhaps a business organization with the breadth and technical wherewithal

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

66

Peter Soyka, Mark Bateman and Ira Feldman

(e.g., the Conference Board, American Chemistry Council, National Association of Manufacturers) could play a convening role to develop and promote consistent approaches, and a catalytic role to drive adoption and conformance over time by member companies. Environmental management professionals, particularly those in the corporate arena and in industry trade associations, also can play a constructive, even catalytic role in filling some of the existing knowledge/methodological gaps, promoting more structured and regular dialogue, and fostering multi-stakeholder dialog. There is much work to be done to develop more meaningful and useful indicators of ESG management quality and performance, particularly in developing indicators and metrics with predictive power. The translation of environmental management and performance into financial terms also requires substantial additional work, and could benefit from the involvement of people who manage these issues within organizations, and can speak to the types of information and reporting practices that are feasible and effective. Finally, many corporate environmental managers have been active in promoting the value of environmental protection and sustainability within their own organizations. We believe that these efforts must continue, but in many cases become more rigorous and grounded in facts and analysis showing the actual and/or projected financial benefits that will accrue to the firm and its share owners. These benefits include higher revenues and/or earnings and/or reduced financial risks or liabilities. Until the stated benefits of corporate sustainability programs are put into either these terms or other endpoints that can readily be translated into these terms, it will be difficult to develop and promote the value creation message in ways that will convince most mainstream investors. Finally, while our research has surfaced many interesting findings, there is much more to be learned. Those in the academic community may wish to perform some additional focused research to identify the specific ways in which environmental data are used in a financial valuation context by European investors, as well as any key information gaps that might limit the adoption of the practices used in Europe to a U.S. investing context. At a more basic level, it would be of value for one or more researchers to conduct a very detailed survey and study of mainstream fundamental analysts to determine what aspects of their methods and approaches could be considered ESG analysis (with or without modifications). A follow-on project could then be performed to present the various methods used to conduct ESG analysis to fundamental analysts for a critical evaluation. The resulting findings would, presumably, highlight areas of existing agreement (or overlap) as well as differences of opinion regarding key issues (e.g., ESG data relevance, financial value quantification) and the quality and utility of existing ESG work.Another ongoing need both here and in Europe, as stated above, is the development of improved methods for translating environmental (and as appropriate, other ESG) variables into financial implications at the sector and/or company level. Ideally, the financial endpoints selected would be familiar to the investment community and, in any case, inform investing behavior. This may be a fertile area of inquiry not only for the academic community but environmentally oriented NGOs and professional societies (e.g., NYSSA) as well. Perhaps collaborative inquiries involving these somewhat different types of organizations would lead to the sorts of non-linear advances that are needed to catalyze significant change in the status quo. After many years of uncertainty, controversy, and outright skepticism within the U.S. investment community, it now appears that the conditions under which environmental and other ESG considerations can be fully integrated into investment analysis and decision making are taking shape. Using the European experience as an example, and to some degree a

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Environmental Investing Practices in Europe

67

model, we are hopeful that we will see meaningful advances during the next few years. We believe that if we do, we will all be living in a steadily more sustainable world in which the capital markets contribute to, rather than limit, continuing advances in environmental quality and social equity.

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

REFERENCES Bank Sarasin & Co., Inc., 2007. Assessing corporate sustainability: Methodology of the Sarasin company rating. August. Bank Sarasin & Co., Inc., 2006. The Sarasin Industry Rating: Methodology and results of sector sustainability analysis. September. Bank Sarasin & Co., Inc., 2005. The Sustainability of Covered Bonds. July. Environmental Financial Advisory Board, 2008.Environmental Management Systems and the Use of Corporate Environmental Information by the Financial Community. April 29. European Centre for Corporate Engagement, 2007.Extra-Financial Information in Financial Communication of European Companies: August 2007. Maastricht, the Netherlands. European Centre for Corporate Engagement, 2007.Use of Extra-Financial Information by Research Analysts and Investment Managers: March 2007. Maastricht, the Netherlands. European Commission, 2001.The Commission Green Paper on promoting a European framework for Corporate Social Responsibility. COM(2001) 366 final (18/07/2001). European Commission Directorate-General for Employment and Social Affairs, 2004.ABC of the Main Instruments of Corporate Social Responsibility. EuroSif, 2006.European SRI Study | 2006.Paris. EuroSif, 2003.Socially Responsible Investment among European Institutional Investors.Paris. Fortune, 2008.Global 500. Vol. 158, No. 2. 21 July. Freshfields, Bruckhaus, Deringer, 2005. A Legal Framework for the Integration of Environmental, Social, and Governance issues into Institutional Investment. United Nations Environment Program-Finance Initiative (UNEP-FI). October. Goldman Sachs, 2007.Introducing GS Sustain. Goldman Sachs Global Investment Research. 22 June. Hesse, A. 2007.Sustainable investments in pension funds - international comparison. PreparedforSwisscanto Fondsleitung AG. Zurich. September. Insight Investment, 2007.PRI: One year on. London. November. Insight Investment, 2007.Putting Principles into Practice: Investor Responsibility Report, 2006. London. April. McKinsey Global Institute, 2008. Mapping Global Capital Markets: Fourth Annual Report. San Francisco. January. Mercer Investment Consulting, 2006.2006 Fearless Forecast: Global Survey of Investment Managers. Toronto. Newton Investment Management Limited, undated. Responsible Investment: Guidelines and procedures. London. Pictet&Cie, 2005.Less can be More ... A new approach to SRI research. Geneva. March. Pictet&Cie, 2003.Decomposing SRI performance: Extracting Value Through Factor Analysis. Geneva. September.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

68

Peter Soyka, Mark Bateman and Ira Feldman

Principles for Responsible Investment and Enhanced Analytics Initiative, 2008.EAI and PRI Join Forces to Internationalise the Call for Better Investment Research. Press release. London. Response Global Media Ltd/IPE International Publishers Ltd., 2008. Responsible Investment Landscape 2008: Asset Managers. London. June. Response Global Media Ltd/IPE International Publishers Ltd., 2008. Responsible Investment Landscape 2008: Asset Owners. London. May. SAM Research, Inc., 2007. Corporate Sustainability Assessment Questionnaire 2007.Zurich. Social Investment Forum Foundation, 2008.2007 Report on Socially Responsible Investing Trends in the United States. Washington. UNEP-FI, 2008.PRI Report on Progress 2008. New York. U.S. Federal Reserve, 2008.Flow of Funds Accounts of the United States: Flows and Outstandings, Fourth Quarter 2007. Washington. Wheelan, H., 2008a.U.K. Environment Agency awards £185m in RI mandates: Pension fund places UN PRI signatory status at the heart of its manager selection process. Responsible Investor. 8 September. Wheelan, H., 2008b.How the U.K. government finally settled the RI fiduciary duty debate.Responsible Investor. 16 October. Wheelan, H., 2007. ABP’s total responsible investment strategy. (Interview with Rob Lake, senior portfolio manager for environmental, social and governance at ABP) Responsible Investor. 1 October.

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Additional Information Resources Avanzi SRI Research, 2006. Green, social and ethical funds in Europe. 2006 Review. Milan. September. Dexia, S.A., 2006. Dexia Sustainable Development Report 2006. Brussels. European Commission, 2005.The Commission Communication concerning Corporate Social Responsibility: A Business Contribution to Sustainable Development. COM(2002) 347 final (02/07/2002). European Commission, 1993.Towards Sustainability.Official Journal C 138, 17/05/1993. EuroSif, 2006.Active Share Ownership in Europe: 2006 European Handbook. Paris. Hermes Pensions Management Limited, 2006. The Hermes Principles: What shareholders expect of public companies – and what companies should expect of their investors. London. Hesse, A. 2007.Long-Term and Sustainable Pension Investments: A Study of Leading European Pension Funds. Prepared for ASSET4 and the German Federal Environment Ministry. Zug, Switzerland. Knoepfel, I., 2007. Rising to the ESG challenge of emerging markets: Are long-term investors fully aware of the growing importance of ESG issues in emerging markets investments?Responsible Investor. 7 September. Lee, D., 2007.SRI and performance: Don’t throw the baby out with the bath water. Responsible Investor. 10 July. OnValues, 2008.Sustainable investments in Switzerland 2007. Zurich. 25 March.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Environmental Investing Practices in Europe

69

Ragnartz, C., 2007.Swedish pension fund AP7 says investors have a duty to follow international guidelines for responsible investment,” Responsible Investor. 8 November. Schmid-Schönbein, O. and A. Braunschweig, 2000.EPI 2000: Environmental Performance Indicators for the Financial Industry. Zurich. November. Sullivan, R., 2007.Can enhanced analysis deliver social and environmental benefits?Responsible Investor. 7 September. Trucost, 2007.Press release: Changes to the Companies Act 2006,” 1 October. Available at

U.K.: The Climate Change Bill, the Business Review and greenhouse gas emissions. (Post by R. Goddard, Tuesday, 29 April 2008). Available at Wheelan, H., 2008. Brokers make ground on extra-financial research. Responsible Investor. 5 February. _______ . Country’s fastest growing fund explains why RI is a gradual but growing process amongst German peers. Responsible Investor. 24 January. _______ , 2007.Germany lags in global SRI adoption comparison. Responsible Investor. 23 November. _______ . U.K. public pension funds warm to responsible investment; Mandates could follow increasing number of strategic reviews on ESG issues. Responsible Investor. 1 November. _______ . Majority of academic and broker research supports ESG performance link. Responsible Investor. 25 October. _______ . Trustees increasingly convinced of ESG investment impact: Survey says alignment of pension fund and company CSR policy growing. Responsible Investor. 9 October. _______ . CréditAgricole buys 100% control of SRI subsidiary: Banks and fund managers building stakes in responsible investment. Responsible Investor. 2 October. _______ . UN PRI adds competitive edge to responsible investing: Can scoring move SRI to the mainstream?Responsible Investor. 10 July. Winslade. J., 2007. Indices rise to the sustainability challenge: A new breed of indices is being added to the established SRI benchmarks. Responsible Investor. 8 November.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved. Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

In: Environmental Cost Management Editor: Randi Taylor Mancuso

ISBN 978-1-60741-815-3 © 2009 Nova Science Publishers, Inc.

Chapter 2

THE ENVIRONMENTAL MANAGEMENT SYSTEM Macarena Lozano-Oyola Faculty of Business Sciences, Department of Economics, Quantitative Methods and Economic History, Pablo de Olavide University, 41013 Seville, Spain

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

ABSTRACT If the environment was initially considered a cost taken on by companies, in recent years we have observed that different organizations (companies, public administrations…) tend to adopt procedures that use the environment to enhance their competitiveness. One of the main tools used in economic policy has been the implementation of an Environmental Management System (EMS). It is an instrument that allows achieving environmental objectives and improving the efficiency of the organizations. The EMS does not necessarily, in itself, guarantee environmental protection or enhancement. However, if it is used correctly, the process of continuous improvement allows us to approach sustainable development. When an EMS is implemented by a private company, financial organization, a City Council or whatever, some advantages are obtained from both the economic and environmental points of view. In this chapter we study these advantages and analyze the problems that appear when it is necessary to value the improvements obtained.

1. INTRODUCTION Until not many years ago, the protection and conservation of the environment was considered by companies as an obstacle to their processes of goods production and services provision. Thus, firms should invest significant amounts of money in technologies in order to obey environmental laws. In this context, respect for the environment was considered a cost that most companies assumed, but which was not reflected in an increase of profits.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

72

Macarena Lozano-Oyola

This situation began to change with the publication of the Brundtland Report, Our Common Future, in 1987. The World Commission on Environment and Development, known by the name of its Chair Gro Harlem Brundtland (the Brundtland Commission), was assembled by the United Nations in 1983. The aim was to study the growing deterioration of the human environment and natural resources and its consequences for economic and social development. In the Brundtland Report a new development concept appeared: sustainable development, defined as "development that meets the needs of the present without compromising the ability of future generations to meet their own needs" (World Commission on Environment and Development, 1987). The environmental problems were considered global and for this reason all the countries should set up policies for sustainable development at both the local and global level. Proof of this is the signing in 1987 of the Montreal Protocol on Substances that deplete Ozone, designed in order to protect the stratospheric ozone layer. Five years later, the sustainable development concept was consolidated at the United Nations Conference on Environment and Development (“Earth Summit”), held in Río de Janeiro (Brazil). Since 1992, various international conferences regarding the environment have taken place: we consider as very important the UN Framework Convention on Climate Change in 1997 (the Kyoto Protocol was initially adopted for use on 11 December 1997 in Kyoto, Japan) and the World Summit on Sustainable Development that was held in Johannesburg in September 2002 (“Second Earth Summit”). These and other international conferences and actions, although they have not made great progress towards achieving sustainable development, have helped many people to become aware of the deterioration of the planet. This very awareness has changed the behaviour of consumers, inhabitants, governments and companies. Consumers want to buy environmentally-friendly products. Citizens demand that their politicians reduce contaminating emissions, clean rivers, improve urban environments, and so on. And, therefore, companies are especially concerned about the control of production activities and services with direct effects on the environment. Industries and companies in general have responded to the growing demands of a society concerned about the environment and the consequent increase of the laws and regulations in this regard. At first, corrective measures at the end of productive processes in order to control air emissions, discharges and liquid waste generated prevailed. However, as companies became aware of the importance of designing an environmental management of the productive process, protagonism was to be found in preventive measures. The first companies to adopt this second approach were those whose activity generated a great environmental impact and were, therefore, subjected to considerable legal pressure. The establishing of environmental audits as management tools also contributed to this process. In this context, firms have invested in innovation and technology to adapt their products and services to the new demands. Those companies that have not done this have been expelled from the market. At the same time, new companies have appeared in the environmental auditing and consultancy field, the production of technologies that reduce pollution and so on. In short, the environment has moved from being an obstacle to becoming a business opportunity for companies that have adapted their activity to new circumstances. For this reason, in recent years many companies have adopted procedures that make the environment a factor in competitiveness. One of the tools used has been the environmental

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

The Environmental Management System

73

management system (EMS), which allows you to control the activities, processes and products that cause or could cause, environmental impacts and thus minimize or eliminate these impacts. Among the positive aspects of the EMS is the fact that it involves establishing a procedure for continual improvement and quantified targets and fixing the time within which this is to be met: the objectives and targets must be achievable and will be surpassed in time. Most of the EMS are implemented according to the international standard ISO 14001 or the EU-regulation Eco-Management and Audit Scheme (EMAS): the number of certificates in December 2006 was 129,199 according to the requirements of the ISO 14001 Standard in 140 countries (International Organization for Standardization, 2006) and 5,389 according to the EMAS (Corporate Risk Management, 2008). In the case of ISO 14001 Standard, the countries with a greater number of the certificates are Japan (over 21,000), China (somewhat less than 19,000), Spain (more than 11,000) and Italy (less than 10,000). In the case of EMAS, the first position is occupied by Germany (approximately 2,000), followed by Spain (over 800) and Italy (more than 750). This difference is explained, among other reasons, by ISO 14001 being an international standard and the EMAS Regulation only being applied to organizations from the European Union Member States and the three European Economic Area Member States (Norway, Iceland and Liechtenstein); the European Union candidate countries are implementing the EMAS in preparation for their accession. In the cases of both the ISO 14001 Standard and the EMAS Regulation, participation is voluntary and the process of implementation of the EMS usually starts with an initial review of the current situation that includes an inventory of environmental aspects, relevant environmental laws and regulations and existing environmental procedures. These steps and others will be commented later on. Costs and benefits of EMS had been analyzed in several studies, regarding the system itself (Roberts & Robinson, 1998; Honkasalo, 1998; Baron, 1999; Jonquières, 1999; González, 1999; Seoánez & Angulo, 1999; Block & Marash, 2000; Woodside & Aurrichio, 2000; Morrow & Rondinelli, 2002) and very specific cases (Hillary, 2000; Steger, 2000; Ammenberg et al., 2001; Brio & Junquera, 2001; Fryxell & Szeto, 2002; Khanna & Anton, 2002; Kwon et al., 2002; Reith & Guirdry, 2003; Hillary, 2004; Zobel & Burman, 2004; Peng, 2005; Gunningham, 2007; Lozano & Vallés, 2007; Sambasivan & Fei, 2008; Arimura et al., 2008). In this chapter we study different questions regarding the EMS. Specifically, the EMS is described in Section 2. Firstly, the origin and evolution of the EMS is commented. Secondly, the relationship between the quality management system ISO 9001 and the environmental management system ISO 140001 is shown. Thus, the main aspects of the EMS are defined. Fourthly, the ISO 14001 Standard and the EMAS Regulation are compared, pointing out the similarities and differences of these two procedures for establishing, implementing and maintaining a normalized EMS. Lastly, the steps in order to implement, revise and maintain an EMS are described in Section 2. Section 3 presents the economic and environmental advantages derived from the EMS. The difficulties and costs that appear when an EMS is implemented are analyzed in Section 4. Section 5 explains some problems that arise when we need to value the economic and environmental advantages originated by the EMS. Finally, the Conclusion is in Section 6.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

74

Macarena Lozano-Oyola

2. THE ENVIRONMENTAL MANAGEMENT SYSTEM

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

2.1. Origin and Evolution of the EMS The standards of quality management introduced in the eighties have played a key role in the implementation of the EMS. Thus, there are many similarities among quality management and environmental management systems that are described in the next section. If we want to know the origin of quality management systems we should go back to the end of the fifties and connect it with the arms industry. In 1979 the British Standards Institute published the quality management standard BS 5750, similar to previous defense norms. Maintaining a great similarity with the BS 5750 and other quality standards for the manufacture of munitions, the International Organization for Standardization (ISO) published, in 1987, the quality management standard ISO 9000 as a result of the increased importance of quality management. The ISO was created in 1947 to promote the development of standardization at a worldwide level, with the aim of facilitating international exchange and developing intellectual, scientific, technological and economic cooperation. Some years later, in 1992, the British Standard Institute developed the British environmental management system standard BS 7750, which, like the BS 5750, was voluntary. BS 7750 was finally published in 1994 after experimentally implementing it in many companies in the UK. Council Regulation (EEC) No 1836/93 of 29 June 1993, allowing voluntary participation by companies in the industrial sector in a Community eco-management and audit scheme (EMAS), was published in 1993 and went into effect in 1995. That same year, the International Organization for Standardization published the norms ISO 14001, ISO 14004, ISO 14010, ISO 14011 and the ISO 14012 relating to the EMS. As the EMAS Regulation and the ISO 14000 Standards define the EMS, in 1996 was published a bridging document between EMAS and ISO 14001, 14010, 14011 and 14012. Five years later, Regulation (EC) No 761/2001 of the European Parliament and of the Council, allowing voluntary participation by organizations in a Community eco-management and audit scheme (also known as EMAS II) referred directly to the ISO 14001 Standard when establishing the environmental management system requirements. Although the EMAS Regulation was originally restricted to industrial companies, since 2001 EMAS has been open to all economic sectors including public and private services. In 2004 the Standard ISO 14001:1996 was modified, in order to improve compatibility of ISO 14001 with ISO 9001:2000 and to clarify the existing ISO 14001 text without adding any new, additional requirements. Two years later, Regulation (EC) No 761/2001 was amended accordingly because Part A of Annex I to this Regulation referred to the environmental management system requirements of the Standard ISO 14001:2004 (Commission Regulation (EC) No 196/2006). In order to conclude this section, we can affirm that in the same manner as the ISO 9000 has its origin in the BS 5750, the EMAS Regulation and the ISO 14001 arose from the BS 7750. Furthermore, we can not forget the relationship existing among quality management and environmental management standards. Specifically, in the case of the International Organization for Standardization, the creation of the ISO 14000 Standards took place following the main guidelines of the ISO 9000, but referred to environmental management;

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

The Environmental Management System

75

the aim was to improve the environmental performance of companies and remove trade barriers.

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

2.2. The ISO 9001 and the ISO 14001 Standards We are going to comment on the relationship between quality management standards (ISO 9000) and environmental management standards (ISO 14000) because, as we have said, the EMS is strongly related to quality management systems. Among other reasons, both systems give rise to a cyclical and systematic process of continual improvement. As the first characteristic in common, we must say that both standards were published by the International Organization for Standardization in Geneva, the ISO 9000 in the first place. The ISO 9000 family includes a set of standards for the quality management systems. That is to say, it was created to facilitate companies in the fulfilment of the requirements related to customers, through a systematic control of the production process and with the aim of continual improvement. The ISO 14000 family (Table 1) is comprised of international standards on environmental management systems (International Organization for Standardization, 2008). Specifically, the ISO 14001 is an instrument of support for organizations to ever improve their environmental performance, through the reduction and control of the environmental impacts that their production of goods or services originate. We can affirm, therefore, that the ISO 9001 and ISO 14001 have a similar structure and many common elements (policy, training, operational control, documentation control, audits, defaults, correction and prevention), so they should considered within the overall structure of each organization. These international standards specify the need for a policy document as a management guide, establishing an organizational structure, the operational control, the corrective actions and preventive actions, the maintenance of a register, the training in the organization and the audits of the system. A proof of this compatibility is, for example, the ISO 19011:2002 Standard that establishes guidelines for quality and environmental management systems auditing. However, there are also differences between these standards. The ISO 9000 deals with quality management and customer requirements. Yet, the ISO 14001 has to do with environmental management and the needs of a wider range of interested parties. In addition, the ISO 14001 specifies the need for emergency preparedness and response. In order to conclude this reference to the relationship between ISO 9001 and ISO 14001, we note that each of these International Standards provides specifications for a different management system within an organization (quality management system in the case of ISO 9001 and environmental management system in the ISO 14001), but these systems are not mutually exclusive. When an organization has established the ISO 9001 Standard, it is easier to implement the ISO 14001 Standard. Thus, if a company wants to introduce a quality management system and an environmental management system it can choose between three alternatives:

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

76

Macarena Lozano-Oyola Table 1. The ISO 14000 family

Norm ISO 14001:2004 ISO 14004:2004 ISO 14044:2006 ISO 14040:2006 ISO 14063:2006 ISO/TR 14047:2003 ISO 14050:2002 ISO/TR 14062:2002 ISO 19011:2002 ISO 14015:2001 ISO/TR 14049:2000

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

ISO/TR 14032:1999 ISO 14031:1999

Title Environmental management systems - Requirements with guidance for use Environmental management systems - General guidelines on principles, systems and support techniques Environmental management - Life cycle assessment Requirements and guidelines Environmental management - Life cycle assessment Principles and framework Environmental management - Environmental communication Guidelines and examples Environmental management - Life cycle impact assessment Examples of application of ISO 14042 Environmental management - Vocabulary Environmental management -- Integrating environmental aspects into product design and development Guidelines for quality and/or environmental management systems auditing Environmental management - Environmental assessment of sites and organizations (EASO) Environmental management - Life cycle assessment Examples of application of ISO 14041 to goal and scope definition and inventory analysis Environmental management - Examples of environmental performance evaluation (EPE) Environmental management - Environmental performance evaluation - Guidelines

1. Develop the systems independently. This situation usually occurs when the organization has implemented a quality management system. The advantage it presents is that the quality management system does not need to be modified. The main drawback is that of duplicated efforts. 2. Integrate the environmental management system in the quality management system, which means carrying out significant changes in the quality management system implemented firstly. 3. Establish a system of cross-references between the environmental management system and the quality management system. This will involve adapting the latter to procedures for environmental management.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

The Environmental Management System

77

2.3. Definition of the Environmental Management System. The EMS can be defined as “the part of the overall management system that includes organisational structure, planning activities, responsibilities, practices, procedures, processes and resources for developing, implementing, achieving, reviewing, and maintaining the environmental policy” (Article 2k, Regulation (EC) No 761/2001, L 114/3). It is a management tool for firms and other organizations created in order to evaluate, report on and improve their environmental performance. The EMS can allow the controlling of the activities, processes and products that cause or could cause environmental impacts and thereby minimize or eliminate these impacts. To do this, the organizations must know and value both the environmental effects of activities, products and services of the company, such as those which could take place due to incidents, accidents and emergency situations. In general, we can classify environmental management systems in: •

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

•

Informal and non-standardized EMS, such as, for example, an internal program in order to reduce water and energy consumptions or waste generation. Formal and standardized EMS, such as EMAS and ISO 14001 Standard. A standardized EMS can be certified immediately after its implementation, at a later time or not certified ever. Hence, it is possible to have a completely functional, normalized but non-certified EMS.

In order to implement an EMS, it is not necessary, although it is advisable, to follow a procedure found in a norm. One of the advantages of having a standardized EMS is the clarity that following a standardized procedure implies. We can also highlight the recognition that consumers, suppliers and the society in general attach to the company that is implementing it, because of it being a European EMAS Regulation) or international standard (ISO 14001) reflects a certain and even important seriousness: it is unlikely for us, in such cases, to be involved in an organization’s image-making move, since the introduction of the EMS also entails some costs, as we will see later. The EMS is an economic policy instrument that permits one to attain environmental objectives. It is a tool that allows the continual improvement of the environmental behaviour and performance (Lozano & Vallés, 2007). When an organization decides to implement an EMS a dynamic process is initiated: this is a case of unending improvement in which the study of the environmental impacts takes place in normal, abnormal and emergency situations. The EMS is not a static process. Establishing an EMS, an organization wants to improve the environmental behaviour on a continuous basis. The organization is committed to periodically review and evaluate its EMS in order to implement the opportunities of improvement that are detected. Thus, the improvements in the EMS will be turned into complementary improvements of the environmental performance, as shown in Figure 1. The commitment to continual improvement is established with the objective of reducing the environmental impacts of the organization to sustainable levels, from the economic and technical point of view.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

78

Macarena Lozano-Oyola

ENVIRONMENTAL MANAGEMENT SYSTEM

ESTABLISHMENT AND IMPLEMENTATION

MAINTENANCE, REVIEW AND EVALUATION

IMPROVEMENTS OF THE ENVIRONMENTAL PERFORMANCE

COMPLEMENTARY IMPROVEMENTS OF THE ENVIRONMENTAL PERFORMANCE

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Figure 1. Continual improvement of the environmental performance.

Depending on the environmental policy of each organization and the type of economic activity, the requirements of the EMS will be applied to a greater or lesser degree. Although several elements are common (environmental policy, environmental program or action plan, organizational structure, integration into operations, a documentation system in order to collect, analyze, monitor and retrieve information, corrective and preventive action, audits, management review, training and external communications), the EMS can be implemented in many different ways depending on the sector or activity and the needs perceived by management. If a company not only looks for economic development but also for sustainable development, with a maximum respect for the environment when providing its own products or services, an EMS is a proof of environmental-friendly behaviour. Different reasons leading top management to consider that the environmental problems are important. Among them mention the possibility of obtaining competitive advantages (compared with companies that are not very ecological), the promulgation of regulations, which tend to increase the costs of environmental protection, and the responsibility, both civil and criminal, for the companies and their management teams, the pressure of the consumers with their purchase decisions to award the environmental-friendly companies and penalizes polluting firms, and so on. Therefore, at times, their performances even try to go beyond the compliance with the norm. When an organization decides to implement an EMS, it should establish a simple procedure that facilitates its implementation on the part of managers and employees, and monitor that allows having it updated. A test, for a time, can be quite useful. After this, the relevant aspects will be reviewed and will be set out formally. The final procedure will be

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

The Environmental Management System

79

subject to periodical reviews, with the objective of achieving the continual improvement of environmental performance. The scope and the pace of the process of continual improvement will be marked mainly by economic and environmental circumstances. We can never forget that while the EMS allows the organization to monitor and achieve an environmental performance that has been marked as an objective, its mere implementation does not entail an immediate reduction of the negative environmental impacts generated. There is no doubt that including environmental issues in the overall management system facilitates the implementation of EMS in practice and thus improves efficiency and the allocation of responsibility. Therefore, the EMS will be effective when the company considers the environment as part of its business, fully integrated into the planning and decision making in the company. It is very important for the employees directly or indirectly affected by the implementation and maintenance of EMS to be receptive. The training on environmental issues and processes of internal communication will be essential. Nor should we forget the importance of external communication to the interested parties (consumers, environmentalists, suppliers, shareholders, and so on). In this sense, we must emphasize that, as we shall see later, the ISO 14001 Standard and the EMAS Regulation also consider that suppliers, contractors and those working for the organization should have the competence and training necessary to reduce the environmental impacts associated with their activities, products and processes. We believe that this has resulted in a significant multiplier effect, as the organization that implements an EMS not only undertakes to respect the environment to develop their activities, but requires the same behaviour from all who work for the organization. Given the positiveness of the experience that companies have gained from an application of an EMS, this application has been used in other similar organizations, just as quality management systems were before. That is to say, while they arose as economic policy tools, they are currently used by public administrations with the objective of improving their efficiency and their relationships with inhabitants (clients). This is the reason why EMS has been moved from the private sector to the public administration, becoming an economic policy instrument that allows one to achieve environmental objectives (Lozano & Vallés, 2007). In any case, it should be pointed out that an EMS does not guarantee that an organization is environmental-friendly (for example, if it is applied to a nuclear weapons factory). An EMS allows, if it is used properly, the continuous improvement in environmental performance of the organizations that implement it. To do this, understanding and cooperation of top management and the rest of the employees is essential. At the same time, it is very important for the rest of society to become aware of consequences of implementing and maintaining an EMS. As we shall see later, the publication of environmental information is a recommendation in the ISO 14001 Standard and an obligation in the EMAS Regulation. In any case, we believe that providing information increases the transparency of the processes of production of goods and services of the organizations that implement and maintain an EMS. We can distinguish five specific targets groups among third parties interested in specific environmental information: local community, customers, employees, financial institutions and investors, and other social

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

80

Macarena Lozano-Oyola

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

parties (Commission Recommendation of 7 September 2001). Organizations should publish different information that these groups need. 1. Local community. In general, the local community is interested in the environmental and health aspects of substances generated, the external risks and the method employed by the organization in preventing them, the information about the type and number of protests and the resolution of complaints, the details about the noncompliance with the emissions permitted and the preventive measures for its possible recurrence, etc. 2. Customers. Customers can express specific environmental demands to their suppliers (purchasing policies) covering products, processes, services or management. The specific information that the consumers need and the environmental improvements that they desire can be coordinated better through close contact and mutual cooperation. 3. Employees. Internal communication is very important, so the very employees are a group that would be provided with specific information. In this case, the organization can present the environmental report for discussion in the company. One can envisage a specific interest in the following topics: the relationship between the environmental situation and working conditions, including accidents and incidents and the means of avoiding them, the plans and potential for internal training in the environmental area, the implementation of the environmental management system, etc. 4. Owners of the entities, shareholders, and so on. It is logical that investors, financial and insurance companies are interested in the environmental performance of organizations. In this sense, they usually express the need to inquire about the implementation and the maintenance of the EMS, the environmental strategy of the organizations at the corporate level, the relationship between environmental and financial information, the legal behaviour of the organization, the quality of its environmental management, the soil contamination and the presence of high-risk substances such as asbestos in buildings, or potential environmental risks associated with production processes, products or services. 5. Other stakeholders. Consumers and their organizations, as well as environmental non-governmental organizations are often concerned about: the environmental policies and behaviours of organizations, in terms of processes, products and services; current issues in the political sphere or in the media, including efforts to recycle products used in the electronics industry, the elimination of toxic substances in the sector of paints and glues, the origin of the wood in the field of the wood industry, etc; the evolution of the environmental performance over time in locations as well as at the corporate level, especially in a context that allows for comparisons with the legal, best available technologies and behaviour of other comparable organizations; the information about targets and objectives in the short and longer term, not only in terms of emissions, but also the indirect environmental effects, such as raw materials use, products and services, life products and transport. Next, we will analyze the main differences and similarities that exist to implement an EMS based on the EMAS Regulation and the ISO 14001 Standard.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

The Environmental Management System

81

2.4. The ISO 14001 Standard and the EMAS Regulation As we have commented, there are many similarities between the ISO 14001 Standard and EMAS Regulation to establish, implement and maintain an EMS, among which we cite the following: • •

•

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

•

•

•

•

•

In both cases the standards are voluntarily applied because no legal text obliges them to be implemented. They implement formal and standardized EMS, applicable to all types of organizations, independently of the size or activity sector to which they belong. The ISO 14001 Standard and the EMAS Regulation do not set limits on environmental performance, as their contents are more generic: establishing a compromise on the compliance of the legal and other environmental requirements and the continual improvement in environmental performance. As they can be implemented by various organizations (in terms of production, business volume, consumption of natural resources, generation of waste, and so on), these entities are the ones that should set specific thresholds to achieving their environmental performance. With respect to the environmental management requirements, that the ISO 14001 Standard sets out in its Section 4 (to which the EMAS Regulation refers directly: Annex I of Commission Regulation (CE) No 196/2006) to implement an EMS, we must say that although the description may seem confusing due to its high degree of detail, it is a very accurate guide to the organizations. Thus, we do not believe that the procedure could be described as overly complex, because while it clearly defines the process of implementation and maintenance of an EMS, it introduces substantial scope to adapt the rule to the particular conditions of each organization. The organizations that implement the EMAS Regulation or the ISO 14001 Standard manage their environmental impacts better, and, therefore, may anticipate the demands of future environmental laws and regulations. The objective is to achieve a continual improvement in environmental performance of the company or organization. The objectives must be realistic and when they are achieved other objectives are fixed, reflecting the progress of the system. EMAS and ISO 14001 believe that each organization generates a large number of environmental impacts and for this reason the goal of planning to correct all of them at once would not be operative. Therefore, significant environmental impacts are considered in this process. The purpose of these rules is not the achieving a zero level of pollution: the objectives set by the organization take into account the economic and human resources available for establishing, implementing and maintaining the EMS. As a result, sometimes all the environmental impacts are not completely corrected from the start if organizations do not have the necessary resources. The commencement of a process of continual improvement of environmental management is the key issue. Neither of the two norms indicates the resources necessary to meet the requirements of EMS: for example, their believing that staff training is very important does not indicate how to implement it. This is justified because each organization thus meets

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

82

Macarena Lozano-Oyola

•

• •

objectives and targets according to the resources available. This means that there may be significant differences among the EMS of some companies and others. The aim of EMS is to establish a flexible and not strict procedure: every organization must have its own system, so it will vary depending on the activity taking place, the environmental impacts generated, the economic and human resources at its disposal, the level of training of employees, the degree of commitment of top management, and so on. Thus, the EMS is applied both in a small company and one that has a large number of centres. Neither the logo and the statements of participation or EMAS nor the certificate of ISO 14001 can be used as a trademark. These norms oblige the active participation of employees in establishing, implementing and maintaining the EMS. They have to extend employee involvement to the process of continually improving the organization’s environmental performance.

Once we have discussed the similarities between the procedure that establishes the EMAS Regulation and the ISO 14001 Standard, we must also point out that there are certain differences which include the following: •

•

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

• •

•

The ISO 14001 is a standard that can be applied in the international field, while the EMAS Regulation is applied to the organizations from the European Union Member States and the three European Economic Area Member States (Norway, Iceland and Liechtenstein). The fact of it being an international standard means that the organizations that implement an EMS according to the ISO 14001 Standard receive an international recognition: the sphere in which it is recognized is not only national or European, it also has an international character, and therefore the benefits are greater. The ISO 14001 Standard is a technical norm and the EMAS is a European Regulation. Before introducing the EMS, the EMAS Regulation forced an initial environmental review to be done, which will then be verified. Nonetheless, this initial review is only recommended, and it, therefore, is not auditable in the ISO 14001 Standard. The ISO 14001 Standard does not explicitly mention the indirect environmental aspects. However, the EMAS Regulation requires the identification and assessment of these aspects. Amongst the indirect aspects, over which it may not have full management control, the EMAS include: “a) product related issues (design, development, packaging, transportation, use and waste recovery/disposal); b) capital investments, granting loans and insurance services; c) new markets; d) choice and composition of services (e.g. transport or the catering trade); e) administrative and planning decisions; f) product range compositions;

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

The Environmental Management System

83

g) the environmental performance and practices of contractors, subcontractors and suppliers” (Article 6.3, Annex VI, Regulation (EC) No 761/2001, L114/26). When these indirect environmental effects take place, the organization must study how to be able to influence them and which measures could be adopted to reduce their impact. •

The EMAS Regulation requires developing a publicly-available environmental statement and must be verified externally. However, the publication of environmental information is a management decision in the case of the ISO 14001 Standard.

Initial environmental review

Environmental policy

Directs Indirects

Environmental aspects

Planning

Implementation and operation

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Checking Management review

ISO 14001 Standard

Environmental statement

EMAS Regulation Figure 2. Similar and different aspects between the EMAS Regulation and the ISO 14001 Standard.

•

The EMAS Regulation provides a company having to obey all the requirements relevant to the environment in order to demonstrate legal compliance. Nevertheless, the ISO 14001 Standard only requires that there must be a commitment to enforcing legislation and environmental regulations. Therefore, the international standard is

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

84

Macarena Lozano-Oyola

•

•

less strict in this regard or more confident in business commonsense because it does not seem logical to implement an EMS without carrying out the basic requirements. The verification of compliance with the requirements established by an accredited entity is called ‘auditing’ in the ISO 14001 Standard and ‘verification’ in the EMAS Regulation. Following these checks, the organizations have access to the certification in the case of the ISO 14001 Standard and the registration for the EMAS Regulation. EMAS grants registered organizations its own logo. All the same, the seal that certifies the ISO 14001 certification and its terms of use depends on the entity of certification chosen.

The fact that there are differences between the EMAS Regulation and the ISO 14001 Standard does not imply that they are incompatible standards, in practice rather the opposite takes place. As we have commented in Section 2.1, the current EMAS Regulation (Regulation (EC) No 761/2001 amended according to the Commission Regulation (EC) No 196/2006) refers to the environmental management system requirements of the Standard ISO 14001:2004. For that reason, in Section 2.5, we refer to the ISO 14001 Standard. However, the requirements that EMAS Regulation adds are commented too.

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

2.5. Steps in Order to Implement an EMS Immediately, we describe the steps that an organization (company, public administration, etc.) must follow when implementing an EMS according to the ISO 14001 Standard or the EMAS Regulation. Though the EMS can be applied to both a production site as a whole company, we will, in order to generalize, refer to ‘organizations’. The purpose of the ISO 14001 Standard is establish the requirements of the EMS in order to prepare an organization to design an environmental policy and objectives, based on the knowledge of the legal requirements and of the relevant information about significant environmental impacts. Specifically, it is applied to the environmental aspects which the organization can influence. In the case of the EMAS Regulation, as we have commented, the indirect environmental aspects should be considered by the organizations too. The scope of the ISO 14001 Standard is that the organizations: a) b) c) d) e)

Implement, maintain and improve an EMS. Making sure of its conformity with its declared environmental policy. Demonstrate that conformity to third parties. Test the certification/registering of its EMS by an external organization. Carry out a self-evaluation and self-declaration of conformity with the international standard.

This international Standard reflects the requirements that the EMS should comply with. When an organization wants to implement an EMS, it must establish and document the range of its EMS. According to the international standard, the EMS must: a) establish an environmental policy appropriate for the organization;

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

The Environmental Management System

85

b) identify the environmental aspects arising out of the activities, products and services, past, present or planned of the organization, to determine the significant impacts on the environment; c) identify the legal and regulatory requirements applicable; d) identify the priorities and set the appropriate environmental objectives and targets; e) establish a structure and a program or programs, to carry out the policy and to achieve environmental objectives and targets; f) facilitate the planning, control, monitoring, corrective actions, activities of audit and review in order to ensure that it complies with the policy and the EMS remains appropriate; g) be capable of adapting to changing circumstances.

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

The implementation and maintenance of an EMS implies a cyclical process of improvement as we can see in the Figure 3 (UNE-EN ISO 14001, 2004). The circular model and the divisions of the ISO 14001 (environmental policy, planning, implementation and operation, checking and management review) show that this standard continues the PDCA cycle of management (Plan-Do-Check-Act cycle) created by Walter A. Shewhart in the thirties and reintroduced by Edwar Deming in the fifties (Granero & Ferrando, 2007). The PDCA cycle is summarized in: plan what you want to do, do it, check the results, carry out corrections, and then prepare a plan for the improvements (starting the cycle again). Then, we analyzed these steps (Table 2). A first vision of the different phases can make us believe that the procedure provided by the ISO 14001 Standard is overly complex. However, we believe that the fact that all the aspects are detailed, both in the theoretical aspect and in its subsequent application in practice, is a fundamental characteristic: the organizations have a precise guide of the phases and, at the same time, the standard allows the adapting of the particular conditions of each company.

Environmental policy Management review

CONTINUAL IMPROVEMENT

Checking

Figure 3. Steps in the implementation of the ISO 14001 Standard.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Planning

Implementation and operation

86

Macarena Lozano-Oyola Table 2. Structure of the ISO 14001:2004 Standard

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

1. Purpose and scope. 2. Norms for consultation. 3. Terms and definitions. 4. Environmental management system requirements. 4.1. General requirements. 4.2. Environmental policy. 4.3. Planning. 4.3.1. Environmental aspects. 4.3.2. Legal and other requirements. 4.3.3. Objectives, targets and programs. 4.4. Implementation and operation. 4.4.1. Resources, roles, responsibility and authority. 4.4.2. Competence, training and awareness. 4.4.3. Communication. 4.4.4. Documentation. 4.4.5. Control of documents. 4.4.6. Operational control. 4.4.7. Emergency preparedness and response. 4.5. Checking. 4.5.1. Monitoring and measurement. 4.5.2. Evaluation of compliance. 4.5.3. Non-conformity, corrective action and preventive action. 4.5.4. Control of records. 4.5.5. Internal audit. 4.6. Management review. Next we analyze the process that an organization must follow in order to establish, document, implement, maintain and continually improve an EMS according to the ISO 140001 Standard. The EMAS Regulation adds requirements that will also be discussed. When an organization has not implemented an EMS, the ISO 14001 Standard recommends (the EMAS Regulation obliges) conducting an initial environmental review, as a first step towards its implementation. The objective is to know and consider the significant environmental impacts (present and potential) associated with its activities, products and processes. This is the basis for implementing the EMS, since it reduces or eliminates the environmental impacts through the monitoring of the environmental aspects (activities, products and services), both normal and abnormal, giving rise to these impacts. According to the ISO 14001 Standard, the initial review must refer to four key areas: • •

A review of the legal requirements, the regulations, the approvals and the codes of conduct related to the industrial environmental impacts. An analysis of the procedures of environmental management, if they exist.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

The Environmental Management System •

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

•

87

An identification of the environmental aspects (activities, products and processes) that give rise to significant environmental impacts. Thus, the organization has a record of the aspects and environmental impacts. An assessment of the previous environmental accidents and incidents, which could cause environmental impacts in the present and / or in the future.

Among the significant environmental aspects associated with the activities, products or services of each organization, the ISO 14001 Standard recommends taking into account: the air emissions and discharges to water (controlled and uncontrolled), the generation and elimination of the solid and toxic wastes, the pollution of the ground, the use of the raw materials and environmental resources, other discharges or emissions (noise, smells, dust, visual impact and so on) and other relevant environmental questions that affect the local community. It also studies the impacts associated with the life cycle products and those that may occur in emergency situations. The conclusions of the initial environmental review are compiled in a report. The next step in the implementation of the EMS is the environmental policy, a statement of the objectives and principles in relation to the environment that includes the commitment to continual improvement of the performance and prevention of environmental pollution. The environmental policy must not be written in general terms but adapted to the characteristics of the organization. Thus, if the environmental policy of one organization can be applied to another, it is a proof that it needs to be reformed. In addition, the environmental policy should be reviewed regularly in order to make amendments in the light of the changes that have occurred, since the environmental policy is the framework upon which is laid down the environmental objectives and targets and the environmental management program. Top management designs and modifies the environmental policy, which must be documented and written in understandable language, and according to other politics of the organization (for example, quality policy, safety, etc.). The environmental policy must reflect the commitment of top management regarding the compliance of the current norm and with other environmental requirements to which the organization subscribe (e.g., agreements with public authorities, non-governmental organizations or clients). In short, we should be remark that in order for the environmental policy to succeed, it must have the explicit support of top management, be reviewed periodically in the light of the results of the environmental audits and, if it is necessary, be modified by the top management. The communication of the environmental policy to employees and third parties working for the organization will also be key aspects. Among the commitments that the environmental policy may include, we can mention: reducing consumption of resources (raw materials, energy, water, etc.) and the generating of waste and effluents, train and encourage the behaviour of the employees in environmental matters, work with suppliers and clients to improve their relationship with the environment, to give the consumers the relevant environmental information about products or services, comply with the environmental laws and legislations, trying whenever possible to overcome the established requirements, and so on. The planning involves a series of steps:

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

88

Macarena Lozano-Oyola

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

1. Environmental aspects. 2. Legal and other requirements. 3. Environmental objectives, targets and programs.

1. Environmental Aspects It is essential to know the environmental aspects of the activities, products or services that the organization can control and which it can influence. Thus, they can determine the aspects that had, currently have or may have a negative environmental impact and work on them. In this sense, there should be a differentiation between the direct impacts, on which the organization has a great power of control, and the indirect impacts which are more difficult to control. All the significant environmental aspects that are discussed in the environmental policy, for which objectives and targets are set and developed in the environmental management programs, must be recorded. It is also very important to include them in the course of training to be given to the employees with direct connections with the aspects identified as significant. In this sense, this record should be set out in a clear and concise language, as part of the manual of environmental management from which we will talk. However, we must say that it is not a matter of carefully analyzing the life cycle of each activity, product or process, but being able to select categories to allow the identifying of the aspects that could more likely have a significant environmental impact. In conducting the review of the environmental aspects, it must be taken into account, in addition to the normal situations of operation, the conditions of stopping and starting the activities, and the emergency situations. The record of the significant environmental aspects must be updated regularly, in order to introduce the necessary amendments. This process involves a cost and, should, therefore take into account the economic and human resources (for example, staff with an adequate level of training or lack of it) available to develop the environmental performances. Although the cost in time may seem excessive, we must say that this record allows an easier processing of the validation of the EMS, as it is a documented evidence of the assessment of the significant environmental aspects. 2. Legal and other Requirements In the same way as to properly manage the environmental impacts the organization must identify them, in order for the EMS to achieve its objectives the legal requirements and other environmental regulations should be known. Thus, any organization should establish a written procedure to enable it to meet the legal requirements relating to environmental aspects connected to its activities, products and services. The compliance of the laws and other regulations should be reviewed, evaluated and updated periodically. In the registration of the legislation and the environmental regulations, the governing instruments should be what affects the field of action of the organization, including authorizations or permits to carry out the activity and the various regulations related to air emissions, discharges to water, use of water, treatment of waste and of hazardous substances, contaminated soil, consumption of raw materials and natural resources, labour safety and hygiene with environmental enforcement, etc.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

The Environmental Management System

89

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Among the other requirements cited by the ISO 14001 Standard, can be included the codes of good manufacturing practices, the agreements with public authorities, the behaviour patterns of bodies, and so on.

3. Environmental Objectives, Targets and Programs Once the environmental impact of the organization is known (through the initial environmental review and the records) and this organization states in writing the intention of improving the environmental performance (through the environmental policy), it should specify how to carry out this improvement: that is, it should set the environmental objectives and targets. The ISO 14001 Standard defines the environmental objectives as the general purposes of the organization to improve the environmental performance, which should be reflected in the environmental policy and be quantified whenever possible. To attain this, the objectives should be specific and realistic and have the sufficient financial and human resources. Environmental targets are the measures of performance that should be achieved in order to obtain a particular environmental objective. In order to measure the progress being made, the environmental targets should have a date to be reached. As for the focus, it should be said that the objectives ought not to be general but specific (for example, reduce the water consumption) and the targets should be measurable and quantifiable (for example, fifteen cubic meters per day) where possible. In setting and reviewing the objectives and targets, the organization must take into account the legal requirements and other factors that affect it, the significant environmental aspects, the technical parameters, the opinion of the interested parties, as well as the financial, operational and business requirements. It is also necessary to establish a direct link between the objectives and the significant environmental aspects. As we have commented in relation to the environmental policy, the environmental objectives and targets must be documented for each function and level of the relevant organization should remain as part of the manual of environmental management. The environmental objectives and targets must be consistent with the environmental policy and should quantify the commitment to continual improvement of the environmental results at a certain time (in a period of time). The figure below (Roberts & Robinson, 1999) shows the relationship between the environmental policy, the objectives, the targets and the environmental management program. There is an interconnection between them in that the objectives should be achieved to meet the environmental policy, and these objectives depend on the achievement of the targets set for them. Thus, the targets can be known by analyzing the degree of compliance of the objectives. This figure also shows that objectives and targets should be detailed in the environmental management program. With the objective of the environmental policy being met, the organization provides an environmental management program, which is a description of the activities and the specific objectives of the organization to ensure better protection of the environment. It also describes in a general way the measures taken or planned to achieve the objectives, specifying the time, resources and the allocation of responsibility at different levels. It must be updated to include, for example, new activities, products or services of the organization or changes to the current ones.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

90

Macarena Lozano-Oyola

Environmental management program

Target

Target

Environmental management program

Target

Target Target

Objective

Objective

Environmental policy

Significant environmental aspects

Initial environmental review

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Figure 4. Relationship between environmental policy, objectives and targets.

In other words, it is a description of the deadlines to fulfil and the resources that the organization will use to achieve the objectives and targets set, which assigns the responsibility to each level of the staff to undertake activities related to the environment. When deemed appropriate, the environmental management program can make reference to the planning, the production, the marketing, residues, etc., both present and future activities, products and services. The implementation of the environmental management program is based on the environmental procedures, defined as the detailed instructions that, if followed correctly, will allow the EMS and control the activities, products and services of the organization. The environmental procedures specify who performs each task and how, so that the significant environmental aspects are controlled (and, therefore, do not impair the achievement of the targets, objectives and environmental policy). Although there are many procedures to be launched, they can be summarized in (Roberts & Robinson, 1999): • •

Procedures for the activities, products and processes which have, or may have if there are no controls, significant impacts on the environment. Procedures for the actions that affect, or may affect, the achievement of the objectives and, therefore, the environmental policy.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

The Environmental Management System

91

In both cases, the procedures must conform to the nature and complexity of the activity, product or process that the organization wants to control. At the same time, they should contemplate the performances to follow in the case of there being deviations from the procedures. The importance of the procedures is for what the organization wants to do to be documented and for the organization to do exactly what is written in this document. For each procedure will be established its purpose, the field, the description of the tasks involved, the results expected, the documentation related to it, the date at which it has to be reviewed and the person in charge of the upgrading. Once the EMS has been planned, the organization proceeds with its implementation. To do this, the ISO 14001 Standard considers the defining of the following aspects to be necessary:

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

5. 6. 7. 8. 9. 10. 11.

Resources, roles, responsibility and authority. Competence, training and awareness. Communication. Documentation. Control of documents. Operational control. Emergency preparedness and response.

1. Resources, Roles, Responsibility and Authority The functions and responsibility must be documented for the EMS to be implemented effectively. At the same time, top management must provide the resources (human, technological and financial) necessary for the implementation and monitoring of the EMS. In order to manage the EMS, this can be a structure which is made up of a boss (for example, an environmental manager) and a large number of subordinates at lower management levels, or one in which the number of layers of management is smaller (for example, an environmental manager for each department) and with more members. By the term ‘responsibility’, the ISO 14001 Standard refers to the roles, responsibility and interrelationships of the staff in charge of ensuring the effectiveness of the EMS. It is important for the functions, roles and responsibility for implementing and maintaining the EMS to be known by all the members of the organization and to be reflected in a document to be included in the manual of environmental management. In addition, the top management grants one or more representatives of the management the responsibility of implementing and maintaining the EMS. These representatives can perform other tasks in the organization and should have sufficient authority to: • •

Check that the requirements of the EMS are implemented and updated according to the ISO 14001 Standard. Inform the top management of the operation of the EMS for them to be able to, on the basis of this data, carry out the process of continual improvement.

However, all the employees and not just those directly connected with the environmental aspects should be involved so that the system really works.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

92

Macarena Lozano-Oyola

2. Competence, Training and Awareness If we want all the employees to take part, directly or indirectly, in establishing, implementing and maintaining the EMS, the first step is relate to the training: all employees must know the position occupied and how their actions affect the EMS. As a preliminary step, the organization must determine what type of training is required in order to implement and maintain the EMS. For the training to be effective, a continuous process of training and development of the human resources must be carried out. What is especially important within each organization is the training of employees whose duties may have a significant environmental impact. In addition, these workers must have a professional competence appropriate to their responsibility, which will be the result of training and experience. Top management has the responsibility of determining the experience and the professional competence for each position. Thus, the organization which implements an EMS should convey to their employees and those working on their behalf: • • • •

The importance of carrying out the environmental policy and other requirements of the EMS. The significant environmental aspects that their activities generate or can generate, as well as the environmental benefits to be achieved by improving personal behaviour. The roles and responsibilities necessary to fulfil the policy, the procedures and the requirements of the EMS. The consequences caused in the event of not following the specified operation procedures.

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

The training needs of the organization and the different training levels must be documented: 1. Basic Training of environmental awareness to all the staff. 2. Average training about the significant aspects and impacts for the staff whose activities can cause this type of impacts. 3. High-level training, targeting those with functions and responsibility for implementing, auditing and maintaining the EMS. However, the training is not limited to the organization, as the ISO 14001 believes that the suppliers, contractors and others working on behalf of the organization must have the competence, experience and training needed to minimize the environmental impacts associated with their activities, products and processes.

3. Communication The organization should establish procedures for: 1. Internal communication, between the different levels of the organization involved in the process of EMS implementation and maintenance. 2. External communication, which allows for the receiving, documenting and responding to the issues raised by interested parties who may be affected by the

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

The Environmental Management System

93

environmental impacts or by the EMS (suppliers, shareholders, customers, neighbours, etc.). The International Standard believes that the organization should record their decisions related to significant environmental aspects through processes of external communication. The meetings that the organization can hold with the local authorities on emergency plans are an example of external communication. The environmental policy is made more accessible to the employees and the general public through the different types of communication.

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

4. Documentation Although the ISO 14001 Standard does not contain an explicit requirement for how to develop a manual of environmental management, it refers to the obligation to keep information about the main elements of the EMS: the environmental policy, the environmental objectives and targets, the environmental management program, the procedures, functions and the responsibility within the EMS and the interaction among the EMS elements. The manual allows the knowing of the manner in which the EMS has been integrated with other formal systems, such as quality or safety and hygiene. The documentation of the EMS should be collected on paper or in an electronic format and be updated. The language in which it is drafted must be clear, concise and easy to understand. 5. Control of Documents The organizations must have an adequate (not complex) system of control of documents, so that the documentation required by the ISO 14001 standard can be located without difficulty, be legible, be dated (with dates of revision), be easily identifiable, be neatly kept and stored for a period of time. Thus the organization has an updated documentation and, to be reviewed periodically, the documents that have become obsolete are archived, thereby preventing their misuse. For all these reasons, it is desirable to have written procedures to store, deliver, edit and revise documents. Finally, the Standard indicates the necessity of having the procedures updated and the responsibility related to the preparation and amendment of the documentation. 6. Operational Control This control is carried out regarding operations and activities associated with significant environmental impacts identified in the initial environmental review. Therefore, the operational control improves the environmental performance by controlling the aspects and minimizes the impacts generated by such operations. In this sense, operational control is a key element in management, as it ensures compliance with the environmental policy, the objectives and the targets. The organization must plan these activities that may cause significant impacts in ways that conform to the environmental objectives and targets raised:

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

94

Macarena Lozano-Oyola •

•

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

•

Establishing procedures to cover situations whose absence could lead to significant environmental impact that would result in deviations from the environmental policy, objectives and targets; Including the operational procedures that reflect the way in which the organization will develop the activities, functions and processes they have, or may have - if unchecked - significant environmental impacts; Establishing and maintaining updated procedures relating to significant environmental aspects related to the goods and services that the organization employs and communicating the requirements applicable to the suppliers and contractors.

7. Emergency Preparedness and Response The organization can respond to abnormal circumstances of operation with these procedures, avoiding or reducing the environmental impacts that a situation of this type would create. This requires establishing procedures to identify the possibilities of the occurrence of accidents and emergency situations (such as a fire or spill) and respond to situations so that the environmental impact is minimal. They should be revised, especially after an accident or when they have had to deal with an emergency situation. The effectiveness of the procedures of response must be periodically checked and modifications made if necessary. The organization should analyze the significant environmental impacts identified in the initial review, the areas where accidents have occurred previously or emergency situations, the areas where they work with toxic and dangerous products, the places where the health and the safety of the employees can be endangered, and so on. Therefore, at least, the accidental discharges to water, the atmosphere and the ground, as well as the impacts on the environment and the ecosystems should be taken into account. At this point, we can say that for an effective EMS it is not enough to implement it: the process of continual improvement requires performing actions of checking and, if necessary correction of the present performances. To do so, various activities will be carried out which synthesize the ISO 14001 Standard in: 1. 2. 3. 4. 5.

Monitoring and measurement. Evaluation of compliance. Non-conformity, corrective action and preventive action. Control of records. Internal audit.

1. Monitoring and Measurement Through documented procedures, the organization must monitor and measure those activities that may cause significant environmental impacts. Therefore, the monitoring and the measurement allow us to know the progress made to minimize the environmental impact of the activities, products and processes. The records that are generated provide the basis for perceiving the progress made to achieve the environmental objectives and targets raised. These procedures must be included in the record of the information relating to monitor performance, operational controls and compliance with the environmental objectives and targets of the organization.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

The Environmental Management System

95

On the one hand, the criteria that will allow the acceptance of the results of monitoring and measurement must be documented. And, on the other hand, the actions to be taken in the event of the results not being satisfactory. The whole process should be collected as evidence.

2. Evaluation of Compliance Specifically, the ISO 14001 Standard refers to the necessity of having a procedure to periodically evaluate the compliance of the legislation on environmental and other requirements which the organization subscribes to in this field.

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

3. Non-Conformity, Corrective action and Preventive Action In theory, if the organization has followed all the steps to implement the EMS, controlling the activities, products and processes causing a significant impact on the environment, the EMS must meet the environmental policy and provide a continual improvement. Nevertheless, in practice this sometimes does not happen because there has been insufficient control, or this control has been underestimated, to minimize the environmental impacts. This makes for a non-conformity. Once there has been non-conformity, the organization must implement corrective actions, with respect to the non-conformity detected, and prevention measures, in order to avoid this situation recurring. Both types of measures must be proportionate to the seriousness of the problems and environmental impacts identified. The non-conformity, and any changes that occur as a result of preventive and corrective measures taken, must be documented. With respect to the procedures to detect and correct the non-conformity, they should: • • • •

Identify the reasons that caused the non-conformity. Identify and implement the necessary corrective actions. Determine the preventive measures to avoid the non-conformity recurring. Ensure that the procedures affected by the corrective action implementation are reviewed adequately.

4. Control of Records Although the manual and the control of documents have already been spoken of, the records do not constitute a repetitive process, as they occur in the review phase of the EMS. An example of the aspects included is the control of energy consumption or the generation of toxic wastes, the prevention and control of pollution, and so on. The importance of the records is that through them the organization can check if there is a correct implementation of the EMS. Otherwise, the registration allows us to know the reason, design a plan of action, record the changes that occur in the processes for the implementation of preventive and corrective measures, etc. Among the aspects which the environmental records may include are: • • •

legal regulations and other requirements, environmental effects and significant impacts, training activities,

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

96

Macarena Lozano-Oyola • • • • • • • •

activities of operational control and control of documents, non-conformity, measurement and verification activities, information about the products, information from the suppliers and contractors, emergency situations, results of the audits of the system, results of the review undertaken by the top management.

The records should be traceable and continuously updated, because they allow the conformity of the EMS with the ISO 14001 Standard to be checked at any time. Another characteristic is that they must be legible, be dated and connected with the activity, the product or process with which they are associated. All the records must be documented.

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

5. Internal Audit As we have commented, it is necessary for the environmental policy to be subject to review and periodical updates to ascertain the degree of effectiveness in the practice of the measures taken and to contribute to the process of continual improvement of the environmental performance. For example, when the available technology is economically viable, it enables the company to overcome its environmental deficits, or when the new technology finds harmful effects, they can be remedied, and so on. Therefore, once the EMS has been implemented, the organization must establish procedures to periodically assess whether the EMS meets the criteria defined before, in this case the ISO 14001 standard and the EMAS Regulation. That is, the EMS audits analyzed the effect of the environmental objectives specified in the environmental policy and prove that the actions of the organization fulfil the commitment to continual improvement. The objective is to: • • •

Check that the EMS has been implemented and works successfully. Check that it meets the plans for environmental management. Provide management with the results of the audit.

In order to carry out the audit of the EMS several steps should be provided: 1. Preparation of the audit program that describes the process that will continue (to audit the scope, timing, person in charge, how it will be done, etc.). 2. Procedures for audit, which should concern the competence, experience, training and independence of the auditors, while dealing with the checks and verifications to be carried out. 3. Drafting of the report of the audit, through which the conclusions and recommendations of the audit are reported to the personnel involved. 4. Monitoring of the audit. This involves having a program that allows the implementation of the recommendations and a procedure to ensure that corrective actions are taken when non-conformities are detected.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

The Environmental Management System

97

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

The audit program should determine the scope, methodology, frequency, responsibility and the requirements related to the management and direction of the audit, the requirements of the auditor and the communication of results. It is necessary to have a written procedure that describes the regular audit to be submitted to the EMS in detail. The results of the audit should also be documented. The audit of the EMS should cover the following aspects: to understand the EMS, to review the weaknesses and strengths, to gather evidence for the audit, to develop the conclusions and the recommendations of the audit and report on them. The last phase that the ISO 14001 Standard sets out is the management review. The EMS is reviewed and evaluated quite frequently. The objective is to verify that the policy, the objectives and other key elements of the system are valid in order to carry out the commitment to continual improvement. Otherwise, the introduction of amendments is raised. This review process is carried out by the top management and by employees who developed the main elements of the EMS. The management review will be based primarily on the result of the audit, the compliance of the environmental policy, objectives and targets, the changes produced in the circumstances, the points of view of the commitment and the parties interested in continual improvement. This process of revision, as well as the conclusions and recommendations should be documented. Once the organization attains the different stages included in the ISO 14001, it may opt for three processes of certification (Coopers et al., 1998): 1. Perform a self statement that the EMS has been implemented in compliance with the ISO 14001 Standard. That is to say, the audit is conducted by the organization itself. This option undermines credibility with the interested parties. 2. To request that a different organization, such as a customer or a supplier, states that the EMS meets the requirements of international standard. The validity of this certificate appears when a supplier or a customer requires the organization in question to have an EMS in practice, without needing a formal certificate. 3. To request a certificate from an accredited certification body. This procedure, in which an external organism audits the EMS and declares that it meets the specifications of the ISO 14001 Standard, is the form most widely used. This means more transparency in order to prove that the system fulfils the international standard. In the case of the EMAS Regulation, the implementation process includes the obligation to make an environmental statement, which must be validated by an accredited environmental verifier. This allows the organization to access to the official register and be able to use the logo. With the same frequency as audits, an environmental statement is prepared. The environmental statement is a tool for communication with the public and other interested parties regarding environmental performance. Addressing the general public the information contained in the environmental statement should be understandable. The minimum requirements for this information shall be as follows:

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

98

Macarena Lozano-Oyola

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

“(a) a clear and unambiguous description of the organisation registering under EMAS and a summary of its activities, products and services and its relationship to any parent organisations as appropriate; (b) the environmental policy and a brief description of the environmental management system of the organisation; (c) a description of all the significant direct and indirect environmental aspects which result in significant environmental impacts of the organisation and an explanation of the nature of the impacts as related to these aspects (Annex VI); (d) a description of the environmental objectives and targets in relation to the significant environmental aspects and impacts; (e) a summary of the data available on the performance of the organisation against its environmental objectives and targets with respect to its significant environmental impacts. The summary may include figures on pollutant emissions, waste generation, consumption of raw material, energy and water, noise as well as other aspects indicated in Annex VI. The data should allow for year-by-year comparison to assess the development of the environmental performance of the organisation; (f) other factors regarding environmental performance including performance against legal provisions with respect to their significant environmental impacts; (g) the name and accreditation number of the environmental verifier and the date of validation” (Article 3.2, Annex III, Regulation (EC) No 761/2001, L114/19). The deadline for the following statement appears set in the environmental statement. Thus, there is a commitment by the organization to the future with the environment. In addition, this document also reflects the most significant changes that have taken place since the previous statement. This makes the company to be forced to establish continuous improvement, resulting in increased investment, an improvement in terms of direct and indirect employment, and so on. Once the organization has made the environmental statement, and before the installation in the registry Point, the environmental statement is validated by an accredited environmental verifier and accredited by one of the bodies of the European Union, which must be independent of the auditor of the organization. The environmental verifier reviews the company environmental policy, program evaluation and environmental management systems, environmental auditing and the environmental statements and checks that all data related to the significant environmental aspects appear. The environmental verifier does not repeat the process of checking, inspection, audit, etc. It is in charge of testing that the procedures carried out have followed the criteria established. The environmental verifier issues a report for the top management of the organization including, if appropriate, the contravention of the provisions, the flaws in the audit, the points of disagreement with the audit report and the proposed environmental statement in order to proceed with its discussion with it and finally, as a result of these discussions: to validate and certify the environmental statement that provides an objective view of environmental-related activities, or not validating it until it makes changes relevant in the declaration or remedies the defects of the audit procedures.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

The Environmental Management System

99

Following the validation of the environmental statement, it is submitted to the competent agencies for registration of centres participating in the system and, after paying the fees, accreditation is obtained.

3. THE ECONOMIC AND ENVIRONMENTAL ADVANTAGES DERIVED FROM THE EMS

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Many advantages are obtained from both the economic and environmental points of view when an organization (private firms, industrial schemes, public administrations, financial organization, hospitals, universities, and so on) implement an EMS. Although we know that the advantages of the implementation of an EMS depend on some factors (activity sector, size of company, production of goods or services, etc.), we explain the advantages in general. These advantages are both due to reduced costs and creating profits from an economic, environmental and social point of view. Among the internal and external benefits obtained by organizations implementing a formal EMS, such as the EMAS Regulation or the ISO 14001 Standard, versus those that do not do so, it should be pointed out: 1. The reduction of economic and environmental costs to employ management models that reduce both the consumption of raw materials, water, energy and other resources, such as the volume of waste and effluents generated. At the same time, the organizations that implement and maintain an EMS encourage recycling as one of their strategies for reducing waste and consumption of raw materials and water. Recycling systems of water in cooling systems of industrial enterprises would be one example. The recycling of paper and its use in public administrations is another example of how at the same time as reducing waste, the consumption of natural resources is reduced. These cost savings will be of a greater or lesser degree depending on the type of organization. Thus, there will be differences in water consumption and waste generation, for example of an industrial enterprise, a hospital or a university and, therefore, the savings that can occur when implementing an EMS will be different. In any case, the important thing is to gradually reduce consumption compared to the initial situation. However, regardless of the economic sector in which the organizations are situated, we believe that they can always reduce consumption of, for example, water, electricity, heating or office equipment. In short, if an organization improves its environmental management this translates as cost savings in the short and long-term. Besides cost savings, increased efficiency appears due to a more efficient use of raw materials and an improvement of the quality of products and services, as a result of the continual improving of processes. On some occasions revenues can even be created. For example, some industrial wastes are converted into income when they are traded on the Stock Exchanges of by-products, or when the sludge that is generated in the wastewater treatment plants is transformed into agricultural fertilizer.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

100

Macarena Lozano-Oyola 2. In addition to optimizing the management of resources and waste from a quantitative point of view, when an organization implements an EMS, the management is optimized from a qualitative point of view. As we have commented in Section 2.5, when the organization designs and implements an EMS, it takes into account the significant impacts on the environment. As the reduction and elimination of these impacts are part of the commitment to continual improvement of the environmental performance of the EMS, this translates into a need to reduce the danger of raw materials, wastes, products, production processes of organizations, and so on. 3. The EMS facilitates the compliance of the organization with the requirements regarding the environmental regulations. One of the main requirements of the EMS is the commitment to comply with environmental laws and regulations. As a consequence, legal compliance should be documented and must be demonstrated in the audit process. In addition, the EMS makes compliance easier with environmental agreements that organizations can subscribe with public authorities, non-governmental organizations, clients, suppliers, contractors, etc. Specifically, in the environmental policy the commitment to compliance with other environmental requirements appears. Therefore, we can affirm that the risk of failure to comply with environmental laws and regulations is lower in those organizations that implement and maintain an EMS. 4. Directly related to the advantages discussed in the previous point, we can say that the risk of a fine or sanction, as well as the risk of damaging the public image of the organization is reduced. The organizations can verify the results of their actions in practice because the EMS provides a strategic overview of environmental behaviour. Furthermore, this tool demonstrates an environmental responsibility, due to the process of continual improvement of environmental performance being audited periodically (and being verified in the case of the EMAS Regulation). In the event of non-fulfilment of environmental objectives and targets not being justified, the certification will not be renewed and thus the organization could lose some of the benefits associated with the improvement of the image. Moreover, the reduction of the environmental risks can also become financial benefits arising from trust by potential investors, shareholders, insurance companies and financial institutions. With regard to potential investors and shareholders, it is clear that it is more attractive to invest in a company that has a commitment to respect the environment (and the EMS is a proof of that), in comparison to those that do not. In principle, the potential to generate impacts on the environment are greater in those organizations which may be affected, for example by a discharge of liquid waste, which damages their image and this can lead to a fall in sales, and as a result, in a loss of share price. As far as the insurance companies are concerned, the existence of an EMS, implemented and audited by external organizations is a guarantee that in most cases translates into an optimization of insurance premiums. Finally, with regard to financial institutions, we can say that, in general, they are more likely to facilitate access to better financial conditions offered by banks to those

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

The Environmental Management System

101

organizations that demonstrate in practice a commitment to continual improvement of the environmental performance. 5. The environmental risks are minimized for many reasons. Firstly, the significant environmental impacts are detected in the initial environmental review. In the aim of reducing them, the organization establishes environmental objectives and targets and an environmental policy. Developments taking place to achieve the environmental objectives are audited in order to verify that they comply with the requirement of continual improvement of the environmental performance. Secondly, the environmental impacts are studied in any situation: normal, abnormal and emergency conditions. Therefore, we believe that if the organization is aware of the weaknesses, it can establish preventive measures in order to avoid environmental impacts. This reduces the environmental risk and the costs because the preventive measures are less onerous than the corrective measures. At the same time, companies that implement and maintain an EMS have a greater ability to react to new environmental regulations, since the environmental objectives achieved will be replaced by others more respectful of the environment. Even if, in some cases, the organizations exceed the legal limits set out, for example, in controlling air pollution generated by a company regarding the terms of the law. 6. Another advantage is the improvement of the image derived from the implementation and maintenance of the EMS. The public image and the credibility of the organization are enhanced because it reduces the polluting effects of the activity (discharges, noise, smells, etc.). Besides, it improves the relationship with third parties (neighbours, customers, shareholders, financial institutions, insurance companies, regulating authorities, general public, and so on), both directly and indirectly. The environmental impacts are directly reduced when an EMS is implemented and this pleases neighbours and lobby groups. The risks and responsibilities also decrease and this is a very important issue for employees and insurance companies. Finally, increasing the benefits of the EMS improves the relations of the organizations with shareholders and financial institutions. Indirectly, the better image is a result of implementing and maintaining an EMS: the organization must commit to compliance with environmental standards and establish a process of continual improvement in order to achieve the EMS certification. This way, it proves that it has launched a process of continual improvement of the environmental behaviour and performance. In any case, improving the company’s image is usually translated into increased sales and even the possibility of marketing new product lines or environmentalfriendly services. In the event of the local administration implementing the EMS, this improvement of the image makes new businesses wish to settle in the municipality, thus generating possibilities of direct and indirect employment. In addition, citizens are more satisfied to live in a town that respects the environment and they are more likely to support politicians who have implemented the EMS in the upcoming elections. 7. The risk of being subjected to pressures from other organizations is also reduced. These pressures appear because the EMS requires the responsibility to be extended to

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

102

Macarena Lozano-Oyola the suppliers. Thus, a company (usually larger) with the EMS certification will require their suppliers to implement an EMS in the short-term too. Otherwise, the organization will not be interested in their goods and/or services. Within a competitive economic framework, such as the current one, smaller companies should implement an EMS if they want to avoid the risk of being expelled from the market. We can observe a similar case among large companies. When a large company implements an EMS, it is interested in the environmental laws being applied very rigorously to the companies of the same activity sector. That is why their competitive position improves in the short-term if other companies in the same sector have not implemented an EMS. 8. The company that, for the first time in each sector, implements an EMS, obtains the advantages of the Schumpeterian “market innovator” (Schumpeter, 1934) in the short-term. The clients can have an influence on the environmental performance of organizations, since they can choose the most environmental-friendly product from a great variety of products. In this context the market innovator gets a significant share of the market. If the rest of the companies want to avoid the risk of being expelled from the market, they are obliged to improve their environmental performance. The market is in charge of awarding environmental-friendly companies and of penalizing polluting firms. In this context, the EMS is a tool that the organization can use as a proof of its commitment with the environment. It is an established fact that the improvements achieved by the market innovator are narrowing, as the rest of the companies are improving their environmental performance. But, at the same time, this is a new incentive for the innovator to introduce further improvements to enable it to gain new profits. 9. An EMS facilitates the access to economic grants and aids from Public Administrations. The concession of aids by regional and provincial organisms in order to implement and maintain an EMS is a common practice in many countries, especially for municipalities or small companies that do not have sufficient financial and human resources to implement the first phases of the EMS. On some occasions the public administrations provide them with advice from experts in the preestablishment of the system (especially in the initial environmental review), during the implementation of the EMS and in the process of certification or verification of the system. It is also a common practice to organize free courses for the training of employees regarding the different aspects that they should know to work with the top management to implement the EMS. 10. The EMS increases employees’ motivation, awareness, qualification, productivity and loyalty for many reasons. When an EMS is implemented all the employees must be involved because they should make an effort in order to reach the objectives and to carry out the environmental policy. Secondly, industrial accidents are reduced because the work conditions and safety improves. As we have commented in Section 2.5, the risk of abnormal circumstances of operation, accidents or emergency situations are analyzed when an organization implements and maintains an EMS according the EMAS Regulation or the ISO 14001 Standard. Thirdly, the quality of training improves, since all the employees must know the new requirements in order to work according to the EMS. Moreover, the dialogue between top managers and

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

The Environmental Management System

103

employees favours team work. In this sense, the internal communication of the organization improves. Finally, a better firm image among employees is created. And, as a result the quality of the workplace, the morale, the motivation and the productivity of employees improve. 11. Another advantage of the EMS is that this tool can remove export barriers since it allows the companies to access to restricted markets, that is, the markets that impose conditions on companies operating in them. For example, more than a decade ago, some countries required machines to have a certificate that guaranteed the use of mechanisms in order to reduce water and energy consumptions. Indeed, when an internationally-accepted standard, such as the ISO 14001, is applied, the positions reached in the international markets are maintained. Moreover, contracts can appear with international customers or governments that have also acquired a commitment to respecting the environment. 12. An EMS promotes diversification to create new business opportunities by companies and organizations in markets where green production processes are important. For example, the companies can develop more environmental-friendly products or invest in research to reduce their pollution and sell such technology to other enterprises. Environmental consultancy, companies directly and indirectly related to tourism of nature, organic farming, and so on, are activities that have appeared with the increase of environmental awareness. In the case of the City Council, the implementation of the EMS can allow the diversification of the municipal economy since the economic and environmental advantages derived from the EMS are extended to all economic activities in the municipality (Lozano & Vallés, 2007). 13. The EMS promotes continuous improvements in the environmental management process which reduce costs and improve the quality of goods and services. The innovation required to implement these more sustainable processes is, as a result, encouraged. The review and improvement of procedures stimulates changes in consumptions, processes, product packagings, etc. The organizations have a clear incentive to ecoinnovate production processes. The importance of active participation of employees should be emphasized, since this could mean a more intense reduction of significant environmental impacts. The involvement of employees is necessary because the managers are too distant to discern the details that need improving. The employees are closer to the activities and, therefore, are sometimes better able to provide solutions. Besides, in this way the organization encourages team spirit. On more than one occasion, reducing pollution and saving materials do not necessarily need scientific research or a major technological development. Thus, the idea of rewarding employees for their brilliant ideas was putting into practice more than a decade ago by companies like 3M and Dow Chemical, which rewards employees who offered environmentalist suggestions. This way, the companies reduced their emissions of pollutants (in thousands of tons), saving energy and obtaining substantial reductions in costs (thousands of dollars) (Kleiner, 1992). In this sense, the EMAS Regulation (Annex II, Commission Recommendation of 7 September 2001 on guidance for the implementation of Regulation (EC) No

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

104

Macarena Lozano-Oyola 761/2001) believes that the employee suggestions should be studied, and, in the event of generating an economic or environmental benefit, should be rewarded for that. Financial and other types of reward are considered. 14. Lastly, in the case of the EMS being implemented by a local administration, integrating sustainable development into the local government helps to achieve the requirements of Agenda 21. We must remember that this basic tool for achieving sustainable development through developing and implementing plans of action with maximum participation of the local community had its origin, like the EMAS Regulation, at the Earth Summit of 1992. Both instruments have a similar approach and structure. In short, the EMS is a proof of environmental-friendly management and involvement in the welfare of the community. Besides, the establishment, the implementation and the maintenance of an EMS usually uncovers potential room for improvements in efficiency regarding to different activities of the organization.

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

4. THE COSTS AND DIFFICULTIES ASSOCIATED WITH THE EMS It should be pointed out that, along with the advantages, we can find some difficulties and costs associated with the implementation and the maintenance of an EMS. From the economic point of view, among the barriers to implementing and maintaining an EMS, the perception of its high costs stands out, especially in the case of smaller enterprise (Hillary, 2004; Bernardini, 2008) or local administration (Lozano & Vallés, 2007). This can generate doubt regarding how to maintain over time the process of continual improvement in which the environmental impacts are studied. In some cases, although the benefits outweigh the costs, they can not be assumed if they do not have external economic aids. Important investments are necessary, especially in the first phases of the process (before implementing the EMS), and there may be a financial problem for the organizations in the short-term. Moreover, the certification fees, the costs associated with the implementation of the environmental policy and program, the audit expenses, the time necessary to implement the EMS, the lack of the market reward in the short-term, etc., can be excessive for economic and staff resources of the organizations. Depending on the number of sites, the size of the organization, the importance of significant environmental impacts identified in the initial environmental review, the previous experience in management systems that the organization has, the cost in terms of economic and human resources vary considerably - for example, in the case of a small company in the service sector or a large corporation with many industrial sites. However, we must also say that once an EMS is established and implemented, the maintenance of the system needs fewer resources and, therefore, the costs are reduced. In order to achieve the first registration, many activities must be carried out: the initial environmental review, the correction of the main environmental impacts detected (for example, the lack of purifying of wastewater), the establishment of measurements and data management systems, the division of responsibilities, and so on. But many of them do not need to continue over time, thus reducing the consumption of financial and human resources when the EMS is implemented.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

The Environmental Management System

105

Another obstacle to overcome is the internal culture of the organization, because the introduction of the EMS requires changes in organizational terms that are not always welcome. In order to avoid this problem, it is fundamental to inform the employees about the economic and environmental advantages of the EMS. This process of training and internal reporting should be done not only before implementing the EMS, but also continuously for its duration. In addition, to prevent the initial rejection of the employees to implementing and maintaining an EMS, it is very important to create a team spirit. All the organization must contribute their efforts to achieving the objective of continual improvement of the environmental performance set out in the environmental policy. Listening to employee suggestions and establishing a rewards system by the top management can facilitate the awareness about the role that each employee has to play for the EMS to be successful in practice. The scarcities of environmental training and awareness of the employees and top management, the perception of the EMS as a tool with many bureaucratic steps, the difficulty of maintaining the EMS when the economic situation worsens, and so on, are other problems that can appear, especially in the case of small organizations or local authorities. Some authors believe that one of the most important shortcomings is that the EMS does not necessarily guarantee environmental protection or enhancement. As we have commented, neither the ISO 14001 Standard nor the EMAS Regulation specifies rates of improvement, goal levels, fixed objectives, etc. This fact can be interpreted as an advantage, because it allows adapting the EMS to different organizations, independent of its size or activity sector. Nevertheless, this can be an inconvenience, since to obtain the certificate the companies have a commitment of working according to laws and regulations and not of fulfilling existing laws and regulations (Gunningham, 2007). Other authors (Coglianese & Nash, 2001; Gunningham, 2007) consider that some organizations can use the EMS as a tool for external image manipulation more than for authentic environmental improvement, because this firms are mainly interested in achieving their competitive objectives. For this and other reasons, some authors believe that the environmental management systems “are not the panacea or perfect solution for sustainable business practices” (Sullivan, 2001 cited in Gunningham, 2007). However, they are aware that it is necessary to take advantage of the strengths of the EMS and to correct its weakness by means of additional and complementary instruments: regulation, economic instruments, education and information strategies, self-regulation and voluntarism (Gunningham, 2007). Besides, we believe in the existence of possible fraud in the event of the organization raising environmental objectives to be readily achievable. However, this situation is unlikely to be found in practice for many reasons: •

•

In the environmental program, objectives are quantified, as far as possible, and the time within which they are to be achieved is set. Since the audits are conducted regularly, they must prove that the objectives have been met and if not should explain the reasons that prevented this. For this reason, the objectives are being achieved over time. As we have commented, implementing and maintaining an EMS entails considerable costs of an economic nature that appear especially in the previous stage (initial environmental review, correction of significant environmental impacts, etc.) and that

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

106

Macarena Lozano-Oyola can threaten a temporary situation of the institution or company. Therefore, an organization that is not determined to implement the EMS and maintain it over time does not try to do it.

In order to avoid some of the difficulties that organizations find themselves in when implementing and maintaining an EMS, public administrations can play a key role through different activities. For example, the public administration should carry out more campaigns to promote the EMS: if this tool is not known by clients, neighbours, suppliers, investors, etc., the advantages commented in Section 2.3 do not appear. Besides, they ought to offer more technical support, especially in the case of small enterprises and local administrations. At the same time, they should provide free training courses for the employees that implement the EMS at different levels. Lastly, the public administrations should subsidize the implementation of the EMS.

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

5. PROBLEMS TO VALUE ECONOMIC COSTS AND ECONOMIC AND ENVIRONMENTAL BENEFITS After the EMS has been implemented in an organization, it is necessary to establish environmental performance control mechanisms in order to determine the situation and changes of the environment. It is true that we can easily value some advantages achieved when an organization establishes, implements and maintains an EMS. Thus, it is easy to know the costs and benefits associated with the reduction of raw materials, water, energy and other consumptions. For example, a company can know the saving of water consumption, comparing the water bills before and after implementing its EMS. Nevertheless, some problems appear when an organization must value other environmental and economics improvements arising from the implementation of its EMS. For example, a small company can need this information in order to decide if the EMS is sustainable from the economic point of view. In general, economic costs appear to be shortterm and the revenues or benefits and the environmental improvements usually appear in the medium and long-term. In this situation, it is difficult to value the costs and benefits of the EMS by top management. Some questions have not a categorical answer: When will the benefits be greater than the economic costs? What spill-over will produce the implementation and the maintenance of an EMS by a local administration? How can we quantify the satisfaction of employees or the improvement of the public image? The organizations that implement and maintain an EMS obtain tangible and intangible rewards that are not always easy to assess, from both economic and environmental points of view. Therefore, it is difficult to compare the benefits with the costs directly and indirectly related to the design, development, implementation and maintenance of the EMS: the correction of the most serious environmental impacts before implementing the EMS, training of employees, the collection and update of environmental legislation applicable to the organization, development of the environmental policy, objectives and program, the audit of the system, the environmental marketing, etc.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

The Environmental Management System

107

For these and other reasons, it is desirable to reduce the uncertainty that the implementation and the maintenance of an EMS can create on some occasions. The methodologies that we are going to propose are not mutually exclusive and in practice can be used simultaneously over time. Both proposals make it easy to evaluate the benefits and costs, from an economic and environmental point of view, as a result of implementing and maintaining an EMS in whole or in part of an organization. As we have commented, local administrations and small and medium-size enterprises have more problems implementing and maintaining an EMS than large size organizations. Therefore, although these forms of assessing the costs and benefits associated with the EMS can be applied by all kinds of organizations, we believe this will be especially practical information for small and medium-size companies and local administrations. First, we believe that it can be very useful in order to evaluate the costs and benefits associated with the implementation of an EMS, developing a system of sustainable management indicators. The environmental performance indicators may also help organizations in better understanding and improving their environmental management and behaviour. To do this, the selection and use of environmental performance indicators should be adequate to the type and size of the organization, and in line with its resources, needs and priorities. If an organization wants to establish a system of indicators, firstly, it must decide what kind of indicators it should use, aspects to be included, optimal number of indicators in order to reflect the real situation of the organization, frequency of collecting the information, the continuity of the indicators, and so on. The main objective of the system of environmental indicators is to provide sufficient information to the organization's management to assess progress or setbacks in environmental matters. Therefore, it is clear that there should be at least indicators relating to environmental impacts rated as significant in the initial environmental review. This does not mean that the number of indicators ought to match the number of significant environmental impacts, as an indicator can collect information on various environmental aspects. In general, indicators should have a series of characteristics in order to be incorporated into the system, which include the following: •

• •

•

•

The indicators should represent the environmental performance of the organization. In this sense, they ought to provide a very precise idea of the features of the organization. For example, it is imperative to establish indicators that make reference to the consumption of water, energy and other resources. They should have relevance within the environmental awareness framework. When it is possible, they ought to be quantitative. In the case of the indicators being qualitative, they should be hierarchically categorised, so that they can verify the changes related to a specific situation, for example, the current situation regarding the initial situation. The indicators must be easy to obtain, to use and to interpret, since they are instruments that should facilitate rather than hinder the control of the process of continual improvement. Indicators should be clear and understandable. The indicators must be measurable on a continuous basis over time, so the organization can compare the results of the actions it carries out. They should be

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

108

Macarena Lozano-Oyola

• • •

•

based on the same criteria and refer to time periods and comparable units. If the valuation methodology of an indicator is modified, it must be justified and a detailed conversion necessary to ensure that the information provided is continuous in time should be employed. The indicators ought to be updated often enough to be able to take appropriate measures - at least each year. They should be sensitive to environmental changes to be able to detect small variations that occur when introducing preventive or corrective actions. The indicators should enable a comparison with other indicators which are produced locally, regionally, nationally or internationally. Thus, the organization can assess the situation which it is in, in relation to the average values in the locality, region, country or worldwide, regarding the variable being measured. For example, air pollution that a company causes, relative to the average global value of the sector. It is advisable for the indicators defined by the organization to be able to be compared with those produced by public administrations or included in environmental regulations.

Is the environmental aspect significant?

No need to report No

Yes

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

What indicator(s) do I need to manage this aspect efficiently?

Review data management

No

Can this/these indicator(s) be reported in an understandable and unambiguous way?

Yes

No

Can (a) new indicator (s) be developed?

Yes

Present data in environmental statement Figure 5. Flowchart about decision processes when selecting environmental performance indicators.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

The Environmental Management System

109

Organizations must establish the appropriate number of indicators based on the size of the business, economic and human resources at its disposal, the environmental impacts described as significant after establishing and implementing the EMS, and so on. Each organization must select those indicators that facilitate the tasks of top management and all employees, and at the same time reflect the environmental behaviour. An example of an organization chart relative to decision processes when selecting environmental performance indicators can be seen in Figure 5 (Commission Recommendation 2003/532/EC, L 184/22). Each organization must include all the questions it deems appropriate in the process of selecting indicators. As an example, we then refer to three categories of environmental indicators which can be defined for evaluating the environmental performance of an organization, based on the ISO 14031:1999 (‘Environmental management - Environmental performance evaluation Guidelines’) and the EMAS Regulation (Commission Recommendation 2003/532/EC, 2003):

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Table 3. Three categories of environmental indicators Operational Performance Indicators (OPIs)

Management Performance Indicators (MPIs)

Environmental Condition Indicators (ECIs)

Input indicators

Output indicators

System indicators

Functional area indicators

Environmental media indicators

Products provided by the organization

Implementation of policies, and programs

Administration and planning

Air

Bio-and anthroposph ere indicators Flora

Materials

Physical facilities and equipment indicators Design

Energy

Installation

Services provided by the organization

Conformance

Purchasing and investments

Water

Fauna

Services supporting the organization’s operation

Operation

Wastes

Financial performance

Health and safety

Land

Humans

Products supporting the organization’s operation

Maintenance

Emissions

Employee involvement

Community relations

Land use Transport

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Aesthetics, heritage and culture

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

110

Macarena Lozano-Oyola 1. Operational performance indicators (OPIs). These indicators refer to the environmental impacts that the organization’s operations cause. This type of indicators covers areas such as emissions, raw material consumption and recycling, energy use, etc. The OPIs concentrate on planning, controlling and monitoring the environmental impacts of the organization’s operations. In Table 3 (Commission Recommendation 2003/532/EC, 2003, L184/20-21) we can observe that these indicators can be subdivided into three subcategories: input indicators, physical facilities and equipment indicators and output indicators. The environmental data they provide can also be included in the environmental statement that, as we have commented in Section 2.5, is compulsory in the EMAS Regulation and voluntary in the ISO 14001 Standard. 2. Management Performance Indicators (MPIs). These indicators are used to measure the efforts of environmental management. The MPIs can refer, among others, to environmental objectives, targets and programs, audit frequency, site inspections, administration and community relations, training, incentive schemes. The MPIs serve principally as internal control and information measurements, but do not by themselves provide enough information to produce an accurate view of the organization’s environmental performance. 3. Environmental Condition Indicators (ECIs), referring to the state of the environment surrounding the organization or the state of the environment at a local, regional or global level. For example, the local air quality or the regional concentration of greenhouse gases. The public administration tends to produce the data. Taking into account the objectives of the environmental policy, indicators of environmental public can guide organizations to set their priorities regarding the determination of their own indicators and objectives. In the event of an organization not having many significant environmental impacts, the most important indicators of these three groups will be those relating to operational performance. So, all the organizations must have enough information to construct OPIs. In Tables 4 to 6, examples of indicators and measurement units (Commission Recommendation 2003/532/EC, 2003, L184/23-24) relative to OPIs are shown. In Annex I, we have examples of indicators and measurement units relative to MPIs and ECIs (Commission Recommendation 2003/532/EC, 2003, L184/25-26).

Once the organization has established the system of environmental indicators, we can build one or more synthetic indicators in order to summarize the information provided by the system. The synthetic indicators can be defined as a mathematical pool or aggregations of the indicators, which represent different dimensions of the phenomenon under study (Saisana & Tarantola, 2002). The usefulness of synthetic indicators lies in their capacity to make the interpretation of data by public and private stakeholders much easier. Synthetic indicators are formal models created from the system representing the reality (Nardo et al., 2005a). The main problem associated with composite indicators is its subjectivity, due to the analyst including subjective factors, such as the baseline indicators chosen, the manner the indicators are grouped, the data normalization method used or not used, the choice of the methodology itself, the procedure used in order to weight the data provided for each indicator, and so on. In order to calculate the robustness of the composite

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

The Environmental Management System

111

indicator and improve its transparency, a combination of uncertainty and sensitive analysis can be used (Singh et al., 2009). At the same time, as a single procedure for the aggregation of indicators into synthetic does not exist (Nardo et al, 2005b), we consider it advisable to apply techniques in order to reduce the subjectivity associated with the process of aggregation, by requiring fewer decisions by the analyst. Among these techniques we may cite the Principal Components Analysis (PCA) (Wubneh, 1987; Yadav et al., 2002; Chen, 2004; Ocaña-Riola & SánchezCantalejo, 2005; Vyas & Kumaranayake, 2006), the Data Envelopment Analysis (DEA) (Mahlberg & Obersteiner, 2001; Cherchye & Kuosmanen, 2002; Cherchye et al., 2007), the Analytical Hierarchy Process (AHP) (Saaty, 1980; Ugwu & Haupt, 2007; Ramzan & Witt, 2008) or the distance to a reference point (Pena, 1978; Zarzosa et al., 2005). Table 4. Examples of indicators and measurement units relative to Operational Performance Indicators: input indicators

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Indicator category Materials

Operational performance: Input indicators Examples of indicators Examples of measurement units Raw materials, operating and auxiliary materials, ground water, surface, water, fossil fuels, wood, etc.

Energy

Electricity, gas, oil, renewables, etc.

Products (to be coordinated with functional area ‘purchasing and investments’)

Preliminary products, auxiliary and office products, etc.

Services (to be coordinated with functional area ‘purchasing and investments’)

Cleaning, waste disposal, horticulture, catering, communication, office, services, transport, travel, education, administration planning, financial services, etc.

• tonnes per year • tonnes per tonnes of product per year • tonnes of hazardous/harmful substances per year • tonnes of hazardous/harmful substances per tonnes of product per year • cubic metres per year • cubic metres per tonnes of product • megawatt hours per year • kilowatt hours per tonnes of product • tonnes per year • kilograms of hazardous/harmful material per tonnes of product • number/percentage of products with eco-label (per year) • tonnes per year • kilograms of hazardous/harmful material per service unit (and year) • number/percentage of services with eco-labels (per year)

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

112

Macarena Lozano-Oyola

In the case of large companies, in addition to the system of environmental indicators, we could establish a system of economic indicators to estimate the directly and indirectly associated costs establishing, implementing and maintaining the EMS. Include, for example, the cost of external audit, the purchase of technology that allows saving water and energy, the cost of eliminating the impacts caused by accidents and emergency situations, the cost of preventive measures, and so on. This task in some cases can be particularly difficult. For example, when a new machine is built into the production process because the previous one was outdated, how can we estimate which costs can be allocated to the EMS and which to upgrading the equipment of any company? Table 5. Examples of indicators and measurement units relative to Operational Performance Indicators: physical facilities and equipment indicators.

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Operational performance: Physical facilities and equipment indicators Indicator category Examples of indicators Examples of measurement units Design Buildings, machinery, • heat loss of buildings in Watts per equipment, etc. square metres and Kelvin • percentage of equipment with reusable parts (per year) Installation Buildings, machinery, • percentage of machinery parts equipment, etc. designed for reuse (per year) • percentage or number of equipment with eco-labels or environmental declarations (per year) Operation Buildings, machinery, • hours per year specific machinery or equipment, etc. equipment is in operation • tonnes of substances, materials or products per year used for operation Maintenance

Buildings, machinery, equipment, transport vehicles, etc.

Land use

Natural habitats, green area, paved area, etc. Fuel consumption, emissions from vehicles, business travels by type of transport (plane, car, bus, train), etc.

Transport

• hours per year specific machinery or equipment needs maintenance • tonnes of substances, materials or products per year used for maintenance • square kilometres (per year) • fuel consumption in tonnes per year by vehicle fleet • greenhouse gas emissions emitted in tonnes per year by vehicle fleet • mass or number of fine and ultrafine particles emitted per year by vehicle fleet • person kilometres per year

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

The Environmental Management System

113

Table 6. Examples of indicators and measurement units relative to Operational Performance Indicators: output indicators

Indicator category Emissions

Operational performance: Output indicators Examples of indicators Examples of measurement units •

•

•

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Products • (design, development, packaging, use, recovery, disposal) Services • (design, development, operation)

Air emissions such as greenhouse gases, volatile organic compounds, fine and ultrafine particles, etc. Effluents such as discharge of specific hazardous substances, process water or cooling water, etc. Waste such as hazardous wastes, non-hazardous waste, sludge, heat, noise, etc. Substances in products, packaging material, energy consumption of appliances, etc.

• • • • • • • • •

• • •

Cleaning, waste disposal, horticultural, catering, communication, office services, transport, travel, education, administration planning, financial services, etc.

• • • •

tonnes per year kilograms per tonnes of product cubic metres per year cubic metres per tonnes of product kilograms of substances per cubic metre of waste water percentage of waste recyclable (per year) megajoules per year megajoules per tonnes of product decibels (at specific location)

tonnes of hazardous/harmful material per year (and product unit) mass percentage of product parts designed for reuse per year number and percentage of products with eco-labels (per year) tonnes of packaging material per year tonnes or kilograms of hazardous/harmful substances used per service unit and year fuel consumption in litres per service unit and year number and percentage of services with eco-labels (per year)

Along with the construction of a system of environmental indicators, we will refer to the SWOT Analysis as another technique that we considered adequate to assess the costs and benefits by establishing, implementing and maintaining procedures related to the EMS. This method, which was developed in the sixties, has been applied to private and public organizations (Bernroider, 2002; El-Khishin, 2003; Jackson et al., 2003; Chiu and Yong, 2004; Dyson, 2004; Doratli et al., 2004; Sorensen et al., 2004; Srivastava et al. 2005) to know the current situation and, then, based on this information, introduce changes in the future. SWOT is an acronym for Strengths, Weaknesses, Opportunities and Threats. Thus, when elaborating a SWOT matrix, the favourable and unfavourable aspects of a situation are established. The cost and benefits associated with the implementation and the maintenance of the EMS can be easily studied with this methodology. Although this technique is described by some as simplistic and subjective, we consider it particularly appropriate for small businesses and local authorities because it is a simple tool, easily understood by all the people who participate in the process of implementing and

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

114

Macarena Lozano-Oyola

maintaining the EMS. It can also be improved by using it in combination with other techniques, such as, for example, the Porter Five ForcesModel (Ruocco & Proctor, 1994), the Analytic Hierarchy Process (Kurttila et al., 2000), Kaplan and Norton’s Balanced Scorecard (Lee & Sai On Ko, 2000) or the Cross Impact analysis (Proctor, 2002). In addition, SWOT Analysis does not need to compile excessive additional information if the organization makes an initial environmental review, recommended by the ISO 14001 Standard and obligatory in the EMAS Regulation, as a previous phase to the establishment and implementation of EMS. The initial environmental review is very important when designing, implementing and maintaining the EMS. This gives us a picture of the situation of the organization in the environmental field, allowing the design of environmental policy, the objectives and targets and the rest of components of the EMS, based on a real situation. The information in this initial review is the basis for developing the SWOT matrix. Adding economic information, we can completely characterize the organization or City Council. In order to know the effects of the EMS from an economic and environmental point of view, a SWOT Analysis must be carried out before and after implementing the EMS. Once we determine both the positive and negative aspects in relation to the continuous improvement of environmental performance, it is very important for the negative factors to be reduced as time passes, from an internal point of view (weaknesses) and an external one (threats). And, at the same time, the positive factors, strengths and opportunities (internal in the former case, external in the latter) must be taken advantages of. When elaborating the SWOT matrix, we can use both quantitative and qualitative information in order to study the strengths, weaknesses, opportunities and threats of the organization. Being able to combine both quantitative and qualitative information makes it easily applicable in the case of small and medium enterprises, which may not have the time or the training necessary to estimate indicators that are not easily quantifiable. We also believe that this technique is recommended in the case of local administrations, which, like small businesses, do not always have the human and financial resources sufficient to maintain the EMS without outside help. Previously, we are going point out the differences that exist when an EMS is implemented in a firm or by a local administration (Lozano & Vallés, 2007). We will specifically refer to five different elements which can be found. Firstly, in the case of companies, in the short-term, an increase of the competitiveness is produced as a consequence of the reduction of the consumption of natural resources (water, energy, heating, raw materials, and so on), the lesser risk of being sanctioned or fined, the improvement of their public image, etc. All the same, and contrary to what takes place concerning companies, in the case of a City Council there is no market competition for a particular product. Moreover, when an EMS is implemented by a City Council, in the short and medium-term, expenses increase as it is necessary carry out many activities (initial environmental review, a correcting of the significant environmental impacts, environmental audits, etc.) in order to establish and implement the EMS. The revenues or benefits only appear in the long-term and they are sometimes more of a social nature than of economic profitability. An example could be that residents will find new work opportunities as new sustainable economic activities appear or traditional activities regain the role as protagonists. Environmental protection is in favour of ecological agriculture, environmental-friendly industries, rural tourism and all types of activities which put together economic and environmental components.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

The Environmental Management System

115

A second difference we find is the concern about the effects generated in the environment by their activities. In the case of the companies their main worry is the control of production activities (emissions, wastes, water consumption, etc.) that directly and indirectly affect the environment. Although the local authorities have this type of effect too, most of them are indirect because they come from the supplying of services (Sheldon, 1997). In third place, in the case of companies, the decision to establish and implement an EMS is fundamentally due to the degree of awareness of the clients concerning the environment obliges them to have a environmentally-responsible behaviour. However, the decision to implement an EMS in a local administration is taking by the political group in power, affected or not by the pressure of the people. Fourthly, when a company is implementing an EMS, the benefits are automatically extended to its clients and suppliers. Nonetheless, in the case of the implementation of this tool in the activities that are controlled by the City Council, the advantages spread out to the whole municipality: spillover effects take place in the totality of the municipality. Finally, the firms must improve their environmental behaviour in the short-term if they wish to avoid the risk of being expelled from the market. This is due to the clients being able to influence in the short-term the environmental behaviour of companies. Nevertheless, the citizens do not have this influence in the short-term: if they do not agree with the environmental performance of the City Council they only have two options: one is to vote for another political party in the following elections, another is to abandon the municipality. On the other hand, the implementing and maintaining of an EMS by a City Council depends on various factors: the initial environmental situation and level of income of the municipality (in order to correct the critical environmental impacts), the degree of the inhabitants’ awareness of the environment, the type of economic activities in the municipality (more or less polluting, related to the environmental conservation, etc.), the current legislation, the environmental aids, the fiscal incentives, and so on. When the size of the community increases or the economy is more complex, it probably has greater economic and human resources, but there are usually also more significant environmental impacts. For this reason, the objectives are reached in a different term. As we have commented, when a City Council implements and maintains an EMS, economic, environmental and social consequences go beyond the City Council, because spillover effects take place in the totality of the municipality. Although it is only the City Council which is implementing an EMS, the economic and environmental advantages are obtained by the municipality. Thus, as a City Council is responsible for waste management, to implement the EMS should, for example, seal an uncontrolled dump of urban solid waste or treat wastewaters. This entails an improvement of the environmental situation that affects the entire town and can generate, for example, an increase of rural tourism in the area. For that reason, it is important to know a preliminary assessment of the main problems of the entire municipality. As information at the local level is usually low and has no continuity over time, we recommend using several sources of information: indirect sources (official data provided by the Statistic Institute of the area, previous study of the zone, and so on) and direct sources (questionnaire or visit to the municipality and the surrounding municipalities in order to get know the opinions of the local authorities and inhabitants). Thus, we can avoid the subjectivity associated with the SWOT analysis. Based on the SWOT Analysis, the EMS is efficient when it allows, in the medium to long-term, the correcting or eliminating of weaknesses, the reducing or the elimination of

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

116

Macarena Lozano-Oyola

threats, the promoting or creating of strengths and the facilitating of the exploitation of opportunities, because in this case the advantages exceed the costs. Examples of the weaknesses are the non-existence of a wastewater treatment plant, the scarce diversified production or the low academic level of people looking for a job. The increase of tension between human activities and the environment or the abandoning of traditional economic activities, especially agriculture, can be threats. The establishing of bicycle routes or the existence of important infrastructure and equipment for rural tourism are strengths in some City Councils. Examples of opportunities can be an increase of the number of tourists due to the improvement in communications or the proximity of potential high level protected areas. In short, we consider that the SWOT analysis is particularly appropriate to assess the economic and environmental position of a municipality or a small company, since quantitative and qualitative measures can be revealed in a very clear manner with this methodology.

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

6. CONCLUSION Although not many years ago the environment was often coupled with higher production costs, and consequently higher prices, the current level of competition has forced companies to internalize environmental costs and not pass them on to consumers. At the same time, as a result of increased environmental awareness, companies have had to investigate new ways of production and consumption that are more respectful of the health of the planet. As far as consumers are concerned, their purchasing decisions can reward the proceedings which respect the environment, thus participating in the achievement of sustainable development in two ways: directly via their daily behaviour (separation of waste, control of water and energy consumption, etc.), and, indirectly, by purchasing goods or services from companies that respect the environment. Thus, while in the past the environment was considered an obstacle to economic growth, it now has become a factor for competitiveness in the medium- and long-term, which covers costs that may arise in the short-term (changes in manufacturing, obtaining environmental licenses, and so on). This is due, among other reasons, to this being able to create new activities in the different productive sectors: primary sector (agriculture, forestry, etc.), secondary sector (new industrial processes, equipment for pollution control, etc.) and tertiary sector (environmental audits, environmental impact assessments, rural tourism, etc.). The environment is an intangible asset of great importance in the differentiation of products or services. One of the tools that can be used to implement respect for the environment is the EMS, which allows the controlling of the activities, processes and products that cause, or could cause, environmental impacts and, thus, minimize or eliminate these impacts. If the EMS is used properly, it may lead to continual improvement in environmental performance of the organizations that implement it. If there is a correct use of the EMS, the process of continual improvement, associated with the maintenance of this tool, allows us to approach a sustainable development.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

The Environmental Management System

117

The implementation and maintenance of an EMS implies a potential intangible asset (Lozano & Vallés, 2007) provided by the organizations to be taken advantage of, within a competitive economic framework, as we have these days, in which qualitative features are becoming more relevant (Townroe, 1972; Richardson, 1986; Chapman & Walker, 1988; Porter, 1991; Maccormack et al., 1995; Galán et al., 1998). In this chapter, we have analyzed the advantages of implementing an EMS standard compared to one that is not and that derives primarily from the greater credibility that the validation of the procedure on the part of external players involves. Another advantage of an EMS standard is due to the approval of the environmental effects that will be taken into account to have a common procedure. This allows the players involved in the production and consumption processes (sellers, entrepreneurs, top management, shareholders, insurance companies, financial institutions, consumers, competitors, environmental groups, and so on) to evaluate the different alternatives and be able to choose the least harmful to the environment. In this chapter we have described the phases to implement an EMS following the EMAS Regulation and the ISO 14001 Standard, which set very strict procedures, where the goals are reviewed regularly and take into account all possible situations: normal and abnormal operating, accidents and emergency situations. This means that companies can not justify behaviour that is harmful to the environment due to uncontrollable causes or those that are beyond their control. Both the EMAS Regulation and the ISO 14001 Standard represent a very accurate guide when integrating environmental aspects in the management of organizations. We must not forget that for the environmental policy to really be successful, it should be fully integrated into the company’s management system. This is why connections with the rest of the policies (quality, safety, distribution, and so on), must be set up. The EMS should be integrated into the management of the organization, using the incorporation of this element in the cost structure as an incentive to review the efficiency of the production process — which would lower costs. On the other hand, among the positive aspects of the EMS is the fact that it involves establishing a procedure for continual improvement of the environmental performance. Proof of this is that the identification and evaluation of impacts must be reviewed and updated when a new environmental aspect appears that can cause a significant impact on the environment or when any change in the environmental aspects considered occurs. This is a dynamic process, in the sense that the organizations can achieve the goals in a progressive manner. To implement an EMS regarding the EMAS Regulation or the International Standard ISO 14001, in both cases a voluntary application of standards is involved, leading to all kinds of organizations, characterized by its flexibility to adapt to the circumstances of each organization, which set realistic targets for eliminating the significant environmental impacts in terms of economic and environmental variables, etc. The implementation of the EMS will be on the basis of the priorities and needs set by the organization, so that the EMAS Regulation and the ISO 14001 Standard can be applied to all the organization or a production centre inside of the organization. We can say that the greater or lesser complexity of the EMS and the resources devoted to it are set depending on the size of the organization and of the activities that it develops. Although, at first glance, the procedure for establishing and implementing an EMS may seem complicated, the main characteristic is its flexibility: different stages of monitoring the

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

118

Macarena Lozano-Oyola

system favours the introduction of changes in order to adapt the EMS to the reality of the centre in question. In this way, environmental policy, objectives and programs are reviewed and when non-compliances appear, the organization introduces measures in order to correct and/or to prevent them in the future. Moreover, as we have said, this flexibility is revealed to be an instrument applicable to any type of organization. That is to say, is a norm applicable from a small and medium enterprise to a company composed of a multitude of sites, because it takes into account the different conditions of departure. Long gone are the days when it was considered that the EMS should be implanted only in the industrial sector. This is a proof that we have realized that all activities of production and consumption have an impact environmentally. Although the direct and indirect environmental effects to be considered are different, for example, in the case of a chemical or cement company compared to the case of a hotel establishment, this does not imply that the impacts of the latter should not be taken into account. The environmental objectives that are set should be realistic, since they must be based on the actual situation of each company, reducing the environmental impacts to levels not exceeding the implementation of the best available technology. That is to say, the economic resources of each company should be taken into account. Besides, we should highlight that the organization is not seeking the zero point in terms of the environmental impact generated in the production and consumption, since this situation can sometimes generate a greater environmental impact (for example, increased consumption of energy or water). At the same time, as we have said, the EMS seeks to correct the most significant environmental impacts generated by a company, because it would not be operational to attempt to correct all the impacts generated simultaneously. Firstly, the EMS takes into account the significant environmental impacts among those identified in the initial environmental review. As these impacts are controlled or eliminated, it can undertake other actions that will enable the organization to move forward on the path of sustainable development. Therefore, it is not a matter of setting a goal, achieving it and stopping there, but a path is begun that leads to successive improvements. Thus, we can say that the ISO 14001 Standard and the EMAS Regulation stand out for their realistic character. Utopian objectives are not fixed, so the hope opens up that although the road is long, it leads to a greater respect for the environment, with the economic and environmental benefits that are entailed. With regard to the control of the EMS, we showed that it is very high: the environmental policy, objectives and programs must be reflected in writing, it should be recorded in the outcome of the environmental audit and an environmental statement is prepared in the case of the EMAS Regulation. Thus, the EMS is susceptible of checking and provides knowledge of the organization’s environmental behaviour both to members of the company and the general public. This allows the verification of compliance with the environmental objectives and the continual improvement. On the other hand, we can affirm that the greater or lesser success of the implementation of an EMS depends largely on external and internal communication. It is very important that citizens are aware of the benefits provided by the EMS, as they reward with their purchasing decisions the organizations that implement it. Internal communication is a key issue, because if employees understand the importance of the implementation of EMS for the economic viability of the organization, in the future they will be more willing to accept the organizational changes to be made.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

The Environmental Management System

119

In the same way that the commitment of top management is essential for a successful EMS, so is the involvement of all employees (legal advice, production, stockpiling, purchasing, distribution, etc.). At the same time, as the employees are closer to the activities than top management, they have a greater ability to provide environmentalist solutions that will allow organizations to minimize environmental impacts and reduce costs, while reinforcing team spirit. It therefore seems unlikely for a company to make an investment of this type just to get an improved image with respect to the public and consumers. Indeed, if top management does not make a commitment to continuous improvement that characterizes the EMS put into practice, they are hardly going to instill in their employees the need to change their work patterns so as to create lower environmental impacts. Conversely, if the top management shows its employees that while the process of implementing an EMS involves an economic cost to the company and new circumstances to which they have to adapt, but in the medium- and long-term significant competitive advantages are obtained, the collaboration will probably be higher. Thus, the employees are part of an organization that respects the environment and, as a result, they win new market shares or at least give stability to the company (if not profit). And it is likely that this will lead to their remaining in their position and even to higher wages. With this incentive, employees will be more inclined to make the effort that involves adapting to the legislations, regulations and policies on environment and the commitment to continual improvement in environmental performance. As regards the environmental training that should be provided to employees, the degree of training in departments related to the activities that generate a greater environmental impact, such as production and distribution, must be obviously greater than, for example, in the accounting department. In terms of environmental audits, we can say that they identify problems and propose possible solutions that enable new processes and products, improve environmental policy, and so on. However, if the company does not act to correct the environmental deficits, they have no sense: the knowledge of the damage is of no use if we do not take the necessary steps to rectify and avoid it in the future. Moreover, showing the breaches that occurred with regard to environmental regulations allows the determining of the investments necessary to adapt the productive system to legal texts and the means of production inherent in the new model of sustainable development (e.g., clean technology). The knowledge provided by environmental audits permits the organization to introduce continuous improvements. Among the main competitive advantages that organizations that take into account environmental protection obtain, we emphasize cost reduction in the medium-term by more efficient use and reuse of materials and cost savings obeying the current regulations (which means avoiding certain taxes and fines). But the main reason that leads to respecting the environment is to avoid the loss of competitiveness that an organization suffers if does not adopt the environmental commitments that are respected by their competitors. The improvement of the image towards society (consumers, employees, environmental groups, public authorities, etc.), the reduction of risks, the motivation of employees and the new business opportunities are other advantages. There are also costs derived from the putting into practice and the maintenance of the EMS: the correction of the most serious impacts identified in the initial environmental review, the certification fees, the costs of the environmental policy and programs, the audit expenses,

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

120

Macarena Lozano-Oyola

the time necessary to implement and maintain the EMS, the training in environmental issues, and so on. In order to value advantages and costs derived from the EMS, we recommended two techniques: the construction of a system of environmental indicators and SWOT Analysis. The building of a system of indicators allows organizations to have updates and comparable information from the company's situation before implementing the EMS and once it is operational. This information is a key to assessing the progress made, the possibility of further environmental limits that exceed those set by law, costs and economic and environmental benefits that are a consequence of the implementation of the EMS, and so on. The possibility of constructing synthetic indicators has also been raised. As for the SWOT Analysis, we have concluded that it can be applied especially in the case of the small and medium enterprise and local administrations, for the reasons stated: it is a tool easy to implement, requiring no strictly quantitative information, but also includes qualitative information, and the verifying of the economic and environmental changes that occur when an EMS is implemented and maintained. It is clear that when an EMS is implemented some advantages are derived from an economic and environmental point of view. However, the benefits do not seem to be so clear if the EMS is implemented by a City Council (Lozano, 2003). In the short- to medium-term, costs increase, but at the same time the quality of life in the town increases (social profitability). In the long-term, it is possible to generate revenue to offset the costs (to boost rural tourism activities, attract environmentalist businesses, etc.) and economic profitability appears. Thus, if a City Council takes into account the maximum respect for the environment to provide the services that are within its jurisdiction, it is likely to maintain the resident population as it finds new expectations of work, attracts people from the surrounding areas and environmentally-friendly productive activities, an increase of the chances of further developing the supply of rural tourism, and so on. Moreover, from a political point of view, the inhabitants of the municipality in question may be positive towards the team of the municipal government in municipal and/or regional elections. This makes policy makers one of the greatest interests in conducting a proper spreading of the advantages due to the EMS. City Councils begin to consider that at present, when the environment is taking on a greater role, trying to establish a model of sustainable development into municipal activities has advantages not only environmental but also economic in nature. When a municipality establishes and maintains an EMS, it seeks continual improvement in the activities of municipal competence in its relationship with the environment. To conclude this chapter, we want to make a reflection with regards to the role of different public administrations. In this sense, we believe that it is necessary to make a double effort of communication regarding the EMS: report on the economic and environmental benefits associated with the system and make public the details of which organizations have begun implementing the system. On the one hand, they should conduct information campaigns aimed at all types of organizations showing the economic and environmental benefits arising from the implementation of the EMS. This is because, although both the EMAS Regulation (1993) and the ISO 14001 Standard (1996) were created some years ago, there are a large number of organizations that are unaware of their existence and therefore the importance of establishing and maintaining of an EMS. Unfortunately, there are still many

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

The Environmental Management System

121

bodies that consider the environment as simply a cost that is necessary to avoid sanctions that would be the result of breaching environmental legislation. These campaigns would implement the EMS on a widespread basis, which would lead us down the path of sustainable development. A special dedication should be given to the case of the councils because, as we have commented, when a City Council implements an EMS in the activities of municipal competence a positive externality is produced, so that the benefits extend to the rest of the activities in the town (spillover), improving the economy and quality of life for all the people. On the other hand, the public administrations should publicize the experiences of organizations that have implemented the EMS. When an organization implements and maintains an EMS, it is very important for this process of continual improvement of environmental performance to be known by the rest of the economic and social actors involved in the processes of production and consumption: efforts must be made in the field of communication outsourcing. In this regard, we believe that the public administrations and the governments should be the pioneers in this field so as to demonstrate that in practice the achievement of sustainable development is possible. At a time like this, when the increased awareness of environmental issues is no longer considered a fad, but as an unquestioned reality, implementing and maintaining an EMS can have very beneficial effects.

ANNEX I.

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Table 7. Examples of indicators and measurement units relative to Management Performance Indicators: system indicators

Indicator category Implementation of policies and programmes

Conformance

Financial performance Employee involvement

Management performance: System indicators Examples of Examples of measurement units indicators • Environmental • percentage of objectives and targets reached per year objectives and • percentage of units/workplaces with environmental targets, workplace requirements (per year) conditions, data • percentage of units/workplaces integrated into management, etc. environmental measurement and data management system (per year) • Auditing, • percentage of units/workplaces audited per year conformance with • number of targets of voluntary agreements achieved (per voluntary year) environmental agreements, etc. • Resource savings, • euro per year etc. • Environmental • days of training per employee and year training, employee • percentage of total training per year consultation, • number of meetings with employee/employee suggestions by representatives per year employees for • number of suggestions per employee and year improvements, etc. • number/percentage of suggestions implemented per year

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

122

Macarena Lozano-Oyola Table 8. Examples of indicators and measurement units relative to Management Performance Indicators: functional area indicators

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Management performance: functional area indicators Indicator category Examples of indicators Examples of measurement units Administration and • number of policy developments for • Direct and indirect planning which an environmental impact environmental aspects analysis was made (per year) and impacts of planning decisions, policies, land- • percentage of land planned to use planning, remain or become natural habitats engagement in green or green areas (per year) markets, etc. • total value in euro or percentage of products sold on green markets Purchasing and • number/percentage of suppliers and • Environmental investments (to be contractors with environmental performance of suppliers coordinated with input policies or management system and contractors, etc. indicators related to • total value in euro or percentage of • Investments in products and services) capital investments into environmental projects, environmental projects per year etc. Health and safety of work-places

• Environmental accidents, illnesses, indoor air quality, water quality at work-places, noise, etc.

Community relations

• Discussions with stakeholders groups (meetings, active participation in events), etc. • External requests for the environmental statement, etc.

• number of employee accidents per year • sick days per employee and year • concentration of harmful substances in milligram per litre or parts per million • level of noise in decibels at location • number of discussions in person days per year • number of external request per year • number of external website downloads per year

Table 9. Examples of indicators and measurement units relative to Environmental Condition Indicators: environmental media indicators Environmental conditions: environmental media indicators Indicator category Examples of indicators Examples of measurement units Air • milligrams per litre • Specific substances in the air such as sulphur and nitrogen • parts per million oxides, ozone, volatile organic compounds, fine and ultrafine particles, etc.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

The Environmental Management System

123

Table 9. (Continued) Environmental conditions: environmental media indicators Indicator category Examples of indicators Examples of measurement units Water • Specific substances in rivers, • milligrams per litre lakes, groundwater such as nutrients, heavy metals, organic compounds, etc. Land • percentage of area (per year) • Natural habitats, protected areas • change in square kilometres per year • Soil contaminated by heavy metals, pesticides, nutrients, • square metres/cubic metres of etc. contaminated soil per cubic metre (per year)

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Table 10. Examples of indicators and measurement units relative to Environmental Condition Indicators: bio- and anthroposphere indicators Environmental conditions: Bio- and anthroposphere indicators Indicator category Examples of indicators Examples of measurement units Flora • Extinguished and endangered • number/percentage compared with natural habitats species Fauna • Extinguished and endangered • number/percentage compared species with natural habitats Humans • life expectancy in years • Life expectancy of local population, environmental • percentage of local population diseases of local population, with specific (chronicle) concentration of diseases contaminants in blood of • milligrams of contaminant per local population (lead, etc.) litre Aesthetics, heritage • Natural monuments • square kilometres and culture

7. REFERENCES Ammenberg, J., Wik, G., & and Hjelm, O. (2001). Auditing external environmental auditors – Investigating How ISO 14001 is interpreted and applied in reality. Eco-Management and Auditing, 8, 183-192. Arimura, T.H., Hibiki, A., & Katayama, H. (2008). Is a voluntary approach an effective environmental policy instrument? A case for environmental management systems. Journal of Environmental Economics and Management, 55, 281-295. Baron, V. (1999). Práctica de la Gestión Medioambiental ISO 14001. Madrid: AENOR.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

124

Macarena Lozano-Oyola

Bernardini, M.E. (2008). Environmental impact evaluation using a cooperative model for implementing EMS (ISO 14001) in small and medium-size enterprises. Journal of Cleaner Production, 16, 1447-1461. Bernroider, E. (2002). Factors in SWOT analysis applied to micro, small-to-medium, and large software enterprises: an Austrian Study. European Management Journal, 20, 562573. Block, M.R., & Marash, I.R. (2000). Integración de ISO 14001 en un sistema de gestión de la calidad. Madrid: AENOR. Brio, J.A., & Junquera, B. (2001). Level of Implementation of the ISO 14001 Standard in Spanish Industrial Companies. Eco-Management and Auditing, 8, 193-199. Chapman, K., & Walker, D. (1988). Industrial Location: Principles and Policies. Oxford: Basil Blackwell. Chen, C.J., Fu, X.F., & Ma, X.W. (2004). Research on sustainable development with regards to the economic system and the energy system in Mainland China. International Journal of Global Energy Issues, 22, 190-198. Cherchye, L., & Kuosmanen, T. (2002). Benchmarking Sustainable Development: A Synthetic Meta-index Approach, working paper. Cherchye, L., Moesen, W., Rogge, N., Puyenbroeck, T.V., Saisana, M., Saltelli, A., Liska, R., & Tarantola, S. (2007). Creating composite indicators with DEA and robustness analysis: the case of the Technology Achievement Index. Social Indicators Researh, 82, 111-145. Chiu, A.S.F., & Yong, G. (2004). On the industrial ecology potential in Asian developing countries. Journal of Cleaner Production, 12, 1037-1045. Coglianese, C. & Nash, J. (2001). Regulation from the Inside: Can Environmental Management System Achieve Policy Goals. Resources for the Future. Washington, D.C. Commission Recommendation of 7 September 2001 on guidance for the implementation of Regulation (EC) No 761/2001 of the European Parliament and of the Council allowing voluntary participation by organizations in a Community eco-management and audit scheme (EMAS), Official Journal of the European Communities, 17.9.2001. Commission Recommendation 2003/532/EC of 10 July 2003 on guidance for the implementation of Regulation (EC) No 761/2001 of the European Parliament and of the Council allowing voluntary participation by organisations in a Community ecomanagement and audit scheme (EMAS) concerning the selection and use of environmental performance indicators, Official Journal of the European Union, 23.7.2003. Commission Regulation (EC) No 196/2006 of 3 February 2006 amending Annex I to Regulation (EC) No 761/2001 of the European Parliament and of the Council to take account of the European Standard EN ISO 14001:2004, and repealing Decision 97/265/EC, Official Journal of the European Union, 4.2.2006. Corporate Risk Management (2008). The worldwide ISO14001/EMAS statistical numbers. December 2006 / January 2007. Available from: http://www.ecology.or.jp/ isoworld/english/analy14k.htm. Last accessed: November 20th, 2008. Council Regulation (EEC) No 1836/93 of 29 June 1993 allowing voluntary participation by companies in the industrial sector in a Community eco-management and audit scheme, Official Journal of the European Communities, 10.07.1993.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

The Environmental Management System

125

Doratli, N., Hoskara, S.O., & Fasli, M. (2004). An analytical methodology for revitalization strategies in historic urban quarters: a case study of the Walled City of Nicosia, North Cyprus. Cities, 21, 329-348. Dyson, R. (2004). Strategic development and SWOT analysis at the University of Warwick. European Journal of Operational Research, 152, 631-640. El-Khishin, K. (2003). Bidding for ‘‘global city’’ status: a prescription for sustaining Cairo’s financial health. Cities, 20, 129-134. Fryxell, G.E., & Szeto, A. (2002). The influence of motivations for seeking ISO 14001 certification: an empirical study of ISO 14001 certified facilities in Hong Kong. Journal of Environmental Management, 65, 223-238. Galán, J.I., Suárez, I., & Zúñiga, J.A. (1998). Factores determinantes de las decisiones de localización en España. Economía Industrial, 320, 151-164. González, C. (1999). ISO 9000, QS 9000MR, ISO 14000. Normas internacionales de administración de calidad, sistemas de calidad y sistemas ambientales. México: McGraw-Hill. Granero, J., & Ferrando, M. (2007). Cómo implantar un sistema de gestión ambiental según la Norma ISO 14001:2004. Madrid: Fundación Confemetal. Gunningham, N. (2007). Incentives to improve farm management: EMS, supply-chains and civil society. Journal of Environmental Management, 82, 302-310. Hillary, R. (2000). ISO 14001. Case studies and practical experiences. United Kingdom: Greenleaf Publishing 2000. Hillary, R. (2004). Environmental management systems and the smaller enterprise, Journal of Cleaner Production 12, 561-569. Honkasalo, A. (1998). The EMAS scheme: a management tool and instrument of environmental policy. Journal of Cleaner Production, 6, 119-128. Coopers and Lybrand & Inima (1998). Libro Blanco de la Gestión Medioambiental en la Industria Española. Madrid: Fundación Entorno, Empresa y Medio Ambiente. International Organization for Standardization (2006). ISO/Survey. The ISO survey of ISO 9000 and ISO 14001 certificates. 14th cycle: up to and including 31 December 2006. Geneva: International Organization for Standardization. International Organization for Standardization (2008). ISO 14000 essentials. Available from: http://www.iso.org/iso/iso_catalogue/management_standards/iso_9000_iso_14000/iso_14 000_essentials.htm. Last accessed: November 30th, 2008. Jackson, S.E., Joshi, A., & Erhardt, N.L. (2003). Recent research on team and organizational diversity: SWOT analysis and implications. Journal of Management, 29, 801-830. Jonquières, M. (1999). Cómo superar la Auditoría de Gestión Medioambiental. Madrid: AENOR. Khanna, M., & Anton, W.R.Q. (2002). What is Driving Corporate Environmentalism: Opportunity or Threat? Corporate Environmental Strategy, 9, 409-417. Kleiner, A. (1992). ¿Qué significa ser verde? Harvard Deusto Business Review, 13, 4-20. Kurttila, M., Pesonen, M., Kangas, J., & Kajanus, M. (2000). Utilizing the analytic hierarchy process (AHP) in SWOT analysis - a hybrid method and its application to a forestcertification case. Forest Policy and Economics, 1, 41-52. Kwon, D.M., Seo, M.S., & Seo, Y.C. (2002). A study of compliance with environmental regulations of ISO 14001 certified companies in Korea. Journal of Environmental Management, 65, 347-353.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

126

Macarena Lozano-Oyola

Lee, S.F., & Sai On Ko, A. (2000). Building balanced scorecard with SWOT analysis, and implementing ‘‘Sun Tzu’s The Art of Business Management Strategies’’ on QFD methodology. Managerial Auditing Journal, 15, 68-76. Lozano, M. (2003). Estudio de la implantación de un sistema de gestión medioambiental en una Administración Pública Local: el caso del Ayuntamiento de Ohanes (Almería). Tesis Doctoral. Sevilla. Lozano, M. & Vallés, J. (2007). An analysis of the implementation o an environmental management system in a local public administration. Journal of Environmental Management, 82, 495-511. Maccormack, A.D., Newman, L.J., & Rosenfield, D.B. (1995). La nueva estrategia de ubicación de las fábricas en el mercado mundial. Harvard Deusto Business Review, 68, 86-99. Mahlberg, B., & Obersteiner, M. (2001). Remeasuring the HDI by Data Envelopement Analysis, International Institute for Applied System Analysis, Interim Report IR-01-069. Morrow, D., & Rondinelli, D. (2002). Adopting Corporate Environmental Management Systems: Motivations and Results of ISO 14001 and EMAS Certificacion. European Management Journal, 20, 159-171. Nardo, M., Saisana, M., Saltelli, A., Tarantola, S., Hoffman, A. & Giovannini, E. (2005a). Handbook on constructing composite indicators: methodology and user guide. OECD: OECD Statistics Working Paper. Nardo, M., Saisana, M., Saltelli, A., & Tarantola, S. (2005b). Tools for composite indicators building. Institute for the Protection and Security of the Citizen, European Commission. Ocaña-Riola, R., & Sánchez-Cantalejo, C. (2005). Rurality index for small areas in Spain. Social Indicators Research, 73, 247-266. Pena, J. A. (1978). La distancia P: un método para la medición del nivel de bienestar. Revista Española de Economía, 8, 49-89. Peng, L. (2005). Implementing ISO 14001: is it beneficial for firms in newly industrialized Malaysia? Journal of Cleaner Production, 13, 397-404. Porter, M.E. (1991). La ventaja competitiva de las naciones. Barcelona: Plaza & Janes. Proctor, T. (2002). Strategic marketing management for health management: cross impact matrix and TOWS. Journal of Management in Medicine, 14, 47-56. Ramzan, N., Degenkolbe, S., & Witt, W. (2008). Evaluating and improving environmental performance of HC’s recovery system: A case study of distillation unit. Chemical Engineering Journal, 140, 201-213. Regulation (EC) No 761/2001 of the European Parliament and of the Council of 19 March 2001 allowing voluntary participation by organizations in a Community eco-management and audit scheme (EMAS), Official Journal of the European Communities, 24.4.2001. Reith, C.C., & Guidry, M.J. (2003). Eco-efficiency analysis of an agricultural research complex. Journal of Environmental Management, 68, 219-229. Richardson, H.W. (1986). Economía regional y urbana. Madrid: Alianza Universidad Textos. Roberts, H., & Robinson, G. (1998). ISO 14001 EMS implementation handbook. Oxford: Butterworth-Heinemann Ltd. Roberts, H., & Robinson, G. (1999). ISO 14001 EMS. Manual de Sistema de Gestión Medioambiental. Madrid: Editorial ITP-Paraninfo. Ruocco, P., & Proctor, T. (1994). Strategic planning in practice: a creative approach. Marketing Intelligence & Planning, 12, 24-29.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

The Environmental Management System

127

Saaty, T. L. (1980). The analytic hierarchy process. New York: McGraw-Hill. Saisana, M., & Tarantola, S. (2002). State - of - the - art Report on current methodologies and practices for composite indicator development. Joint Research Centre, European Commission. Sambasivan, M., & Fei, N.Y. (2008). Evaluation of critical success factors of implementation of ISO 14001 using analytic hierarchy process (AHP): a case study from Malaysia. Journal of Cleaner Production, 16, 1424-1433. Schumpeter, J.A. (1934). The Theory of Economic Development. Cambridge: Harvard Economic Studies. Seoánez, M., & Angulo, I. (1999). Manual de gestión medioambiental de la empresa. Sistema de gestión medioambiental, auditorías medioambientales, evaluaciones de impacto ambiental y otras estrategias. Madrid: Ediciones Mundi Prensa. Sheldon, C. (Ed.) (1997). ISO 14001 and Beyond: Environmental Management System in the Real World. England: Greenleaf Publishing. Singh, R.K., Murty, H.R., Gupta, S.K., & Dikshit, A.K. (2009). An overview of sustainability assessment methodologies. Ecological indicators, 9, 189-212. Sorensen, L., Vidal, R.V.V., & Engströn, E. (2004). Using soft OR in a small company-the case of Kirby. European Journal of Operational Research, 152, 555-570. Srivastava, P.K., Kulshreshtha, K., Mohanty, C.S., Pushpangadan, P., & Singh, A. (2005). Stakeolder-based SWOT analysis for successful municipal solid waste management in Lucknow, India. Waste Management, 25, 531-537. Steger, U. (2000). Environmental Management Systems: empirical evidence and further perspectives. European Management Journal, 18, 23-37. Sullivan, R. (2001). Environmental management systems: theory, practice and implications for law and policy. Environmental Planning and Law Journal, 18. Townroe, P.M. (1972). Some behavioural considerations in the industrial location decision. Regional Studies, 6, 261-272. Ugwu, O.O., & Haupt, T.C. (2007). Key performance indicators and assessment methods for infraestruture sustainability - a South African construction industry perspective. Building and Environment, 42, 665-680. UNE-EN ISO 14001 (2004). Sistemas de Gestión Medioambiental. Requisitos con orientación para su uso (ISO 14001:2004). Madrid: Asociación Española de Normalización y Certificación (AENOR). Vyas, S., & Kumaranayake, L. (2006). Constructing socio-economic status indices: how to use principal components analysis. Health Policy and Planning, 21, 459-468. Woodside, G., & and Aurrichio, P. (2000). ISO 14001 Auditing Manual. New York: McGraw-Hill. World Commission on Environment and Development (1987). Our Common Future, Report of the World Commission on Environment and Development, Published as Annex to General Assembly document A/42/427, Development and International Co-operation: Environment August 2, 1987. Retrieved, 2007.11.14 Wubneh, M. (1987). A multivariate analysis of socio-economic charasteristics of urban areas in Ethiopia. African Urban Quaterly, 2, 425-433. Yadav, A. K., Srivastava, M., & Pal, Ch. (2002). Constructing Development Index For Primary Education In India: An Inter-State Comparison. Margin, 35, 55-65.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

128

Macarena Lozano-Oyola

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Zarzosa, P., Molpeceres, M.M., Pérez, A., Prada, M.D., Prieto, M.M., Rodríguez, C., & Zarzosa, F. (2005). La calidad de vida en los municipios de la provincia de Valladolid, Valladolid: Diputación Provincial de Valladolid. Zobel, T., & Burman, J.O. (2004). Factors of importance in identification and assessment of environmental aspects in an EMS context: experiences in Swedish organizations. Journal of Cleaner Production, 12, 13-27.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

In: Environmental Cost Management Editor: Randi Taylor Mancuso

ISBN 978-1-60741-815-3 © 2009 Nova Science Publishers, Inc.

Chapter 3

ENERGY USE, ENVIRONMENT AND SUSTAINABLE DEVELOPMENT Abdeen Mustafa Omer* Nottinghamshire, United Kingdom

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

ABSTRACT Globally, buildings are responsible for approximately 40% of the total world annual energy consumption. Most of this energy is for the provision of lighting, heating, cooling, and air conditioning. Increasing awareness of the environmental impact of CO2, NOx and CFCs emissions triggered a renewed interest in environmentally friendly cooling, and heating technologies. Under the 1997 Montreal Protocol, governments agreed to phase out chemicals used as refrigerants that have the potential to destroy stratospheric ozone. It was therefore considered desirable to reduce energy consumption and decrease the rate of depletion of world energy reserves and pollution of the environment. One way of reducing building energy consumption is to design buildings, which are more economical in their use of energy for heating, lighting, cooling, ventilation and hot water supply. Passive measures, particularly natural or hybrid ventilation rather than air-conditioning, can dramatically reduce primary energy consumption. However, exploitation of renewable energy in buildings and agricultural greenhouses can, also, significantly contribute towards reducing dependency on fossil fuels. Therefore, promoting innovative renewable applications and reinforcing the renewable energy market will contribute to preservation of the ecosystem by reducing emissions at local and global levels. This will also contribute to the amelioration of environmental conditions by replacing conventional fuels with renewable energies that produce no air pollution or greenhouse gases. The provision of good indoor environmental quality while achieving energy and cost efficient operation of the heating, ventilating and air-conditioning (HVAC) plants in buildings represents a multi variant problem. The comfort of building occupants is dependent on many environmental parameters including air speed, temperature, relative humidity and quality in addition to lighting and noise. The overall objective is to provide a high level * 17 Juniper Court, Nottingham NG7 4EU, Nottinghamshire, UK

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

130

Abdeen Mustafa Omer of building performance (BP), which can be defined as indoor environmental quality (IEQ), energy efficiency (EE) and cost efficiency (CE). Indoor environmental quality is the perceived condition of comfort that building occupants experience due to the physical and psychological conditions to which they are exposed by their surroundings. The main physical parameters affecting IEQ are air speed, temperature, relative humidity and quality. Energy efficiency is related to the provision of the desired environmental conditions while consuming the minimal quantity of energy. Cost efficiency is the financial expenditure on energy relative to the level of environmental comfort and productivity that the building occupants attained. The overall cost efficiency can be improved by improving the indoor environmental quality and the energy efficiency of a building. This article discusses the potential for such integrated systems in the stationary and portable power market in response to the critical need for a cleaner energy technology. Anticipated patterns of future energy use and consequent environmental impacts (acid precipitation, ozone depletion and the greenhouse effect or global warming) are comprehensively discussed in this paper. Throughout the theme several issues relating to renewable energies, environment and sustainable development are examined from both current and future perspectives.

Keywords: Energy, environment, sustainable development, global warming, mitigations

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

1. INTRODUCTION Several definitions of sustainable development have been put forth, including the following common one: development that meets the needs of the present without compromising the ability of future generations to meet their own needs. A recent World Energy Council (WEC) study found that without any change in our current practice, the world energy demand in 2020 would be 50-80% higher than 1990 levels. According to a recent USA Department of Energy (DoE) report, annual energy demand will increase from a current capacity of 363 million kilowatts to 750 million kilowatts by 2020 [1]. The world’s energy consumption today is estimated to 22 billion kWh per year, 53 billion kWh by 2020 [1]. Such ever-increasing demand could place significant strain on the current energy infrastructure and potentially damage world environmental health by CO, CO2, SO2, NOx effluent gas emissions and global warming. Achieving solutions to environmental problems that we face today requires long-term potential actions for sustainable development. In this regards, renewable energy resources appear to be the one of the most efficient and effective solutions since the intimate relationship between renewable energy and sustainable development. More rational use of energy is an important bridge to help transition from today’s fossil fuel dominated world to a world powered by non-polluting fuels and advanced technologies such as photovoltaics (PVs) and fuel cells (FCs) [1]. An approach is needed to integrate renewable energies in a way to meet high building performance. However, because renewable energy sources are stochastic and geographically diffuse, their ability to match demand is determined by adoption of one of the following two approaches [2]: the utilisation of a capture area greater than that occupied by the community

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Energy Use, Environment and Sustainable Development

131

to be supplied, or the reduction of the community’s energy demands to a level commensurate with the locally available renewable resources. For a northern European climate, which is characterised by an average annual solar irradiance of 150 Wm-2, the mean power production from a photovoltaic component of 13% conversion efficiency is approximately 20 Wm-2. For an average wind speed of 5 ms-1, the power produced by a micro wind turbine will be of a similar order of magnitude, though with a different profile shape. In the UK, for example, a typical office building will have a demand in the order of 300 kWhm-2yr-1. This translates into approximately 50 Wm-2 of façade, which is twice as much as the available renewable energies [3]. Thus, the aim is to utilise energy efficiency measures in order to reduce the overall energy consumption and adjust the demand profiles to be met by renewable energies. For instance, this approach can be applied to greenhouses, which use solar energy to provide indoor environmental quality. The greenhouse effect is one result of the differing properties of heat radiation when it is generated at different temperatures. Objects inside the greenhouse, or any other building, such as plants, re-radiate the heat or absorb it. Because the objects inside the greenhouse are at a lower temperature than the sun, the re-radiated heat is of longer wavelengths, and cannot penetrate the glass. This re-radiated heat is trapped and causes the temperature inside the greenhouse to rise. Note that the atmosphere surrounding the earth, also, behaves as a large greenhouse around the world. Changes to the gases in the atmosphere, such as increased carbon dioxide content from the burning of fossil fuels, can act like a layer of glass and reduce the quantity of heat that the planet earth would otherwise radiate back into space. This particular greenhouse effect, therefore, contributes to global warming. The application of greenhouses for plants growth can be considered one of the measures in the success of solving this problem. Maximising the efficiency gained from a greenhouse can be achieved using various approaches, employing different techniques that could be applied at the design, construction and operational stages. The development of greenhouses could be a solution to farming industry and food security. Energy security, economic growth and environment protection are the national energy policy drivers of any country of the world. As world populations grow, many faster than the average 2%, the need for more and more energy is exacerbated (Figure 1). Enhanced lifestyle and energy demand rise together and the wealthy industrialised economics, which contain 25% of the world’s population, consume 75% of the world’s energy supply. The world’s energy consumption today is estimated to 22 billion kWh per year. About 6.6 billion metric tons carbon equivalent of greenhouse gas (GHG) emission are released in the atmosphere to meet this energy demand [4]. Approximately 80% is due to carbon emissions from the combustion of energy fuels. At the current rate of usage, taking into consideration population increases and higher consumption of energy by developing countries, oil resources, natural gas and uranium will be depleted within a few decades. As for coal, it may take two centuries or so. Technological progress has dramatically changed the world in a variety of ways. It has, however, also led to developments e.g., environmental problems, which threaten man and nature. Build-up of carbon dioxide and other GHGs is leading to global warming with unpredictable but potentially catastrophic consequences. When fossil fuels burn, they emit toxic pollutants that damage the environment and people’s health with over 700,000 deaths resulting each year, according to the World Bank review of 2000. At the current rate of usage, taking into consideration population increases and higher consumption of energy by

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

132

Abdeen Mustafa Omer

25000

25000

20000

20000

15000

15000

10000

10000

5000

5000

0

Energy and electricity demand (MBDOE)

World population (million)

developing countries, oil resources, natural gas and uranium will be depleted within a few decades, as shown in Figures 2, and 3. As for coal, it may take two centuries or so. One must therefore endeavour to take precautions today for a viable world for coming generations. Energy is an essential factor in development since it stimulates, and supports economic growth and development. Fossil fuels, especially oil and natural gas, are finite in extent, and should be regarded as depleting assets, and efforts are oriented to search for new sources of energy.

0 1940 1960 1980 2000 2020 2040 2060 2080 2100 Ye ar

World population (million)

Energy and Electricity demand (MBDOE)

100

Giga barrels/year

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Figure 1. Annual and estimated world population and energy demand. Million of barrels per day of oil equivalent (MBDOE).

10

1 1920 1930 1940 1950 1960 1970 1980 1990 2000 2010 2020

Year USA

West Europe

Middle East

Rest of the world

Figure 2. World oil productions in the next 10-20 years.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

East Europe/Asia

Energy Use, Environment and Sustainable Development

133

300

Billion of barrels of oil

250 200 150 100 50 0 1940

1950

1960

1970

1980

1990

2000

Year

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Figure 3. Volume of oil discovered worldwide.

Research into future alternatives has been and still being conducted aiming to solve the complex problems of this recent time e.g., rising energy requirements of a rapidly and constantly growing world population and global environmental pollution. Therefore, options for a long-term and environmentally friendly energy supply have to be developed leading to the use of renewable sources (water, sun, wind, biomass, geothermal, hydrogen) and fuel cells. Renewables could shield a nation from the negative effect in the energy supply, price and related environment concerns. Hydrogen for fuel cells and the sun for PV have been considered for many years as a likely and eventual substitute for oil, gas, coal and uranium. They are the most abundant elements in the universe. The use of solar energy or PVs for the everyday electricity needs has distinct advantages: avoid consuming resources and degrading the environment through polluting emissions, oil spills and toxic by-products. A one-kilowatt PV system producing 150 kWh each month prevents 75 kg of fossil fuel from being mined. 150 kg of CO2 from entering the atmosphere and keeps 473 litres of water from being consumed. Electricity from fuel cells can be used in the same way as grid power: to run appliances and light bulbs and even to power cars since each gallon of gasoline produced and used in an internal combustion engine releases roughly 12 kg of CO2, a GHG that contributes to global warming.

2. PEOPLE, POWER AND POLLUTION Over millions of years ago plants covered the earth, converting the energy of sunlight into living tissue, some of which was buried in the depths of the earth to produce deposits of coal, oil and natural gas. The past few decades, however, have experienced many valuable uses for these complex chemical substances, manufacturing from them plastics, textiles, fertiliser and the various end products of the petrochemical industry. Indeed, each decade sees

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

134

Abdeen Mustafa Omer

increasing uses for these products. Renewable energy is the term used to describe a wide range of naturally occurring, replenishing energy sources. Coal, oil and gas, which will certainly be of great value to future generations, as they are to ours, are non-renewable natural resources. The rapid depletion of non-renewable fossil resources need not continue. This is particularly true now as it is, or soon will be, technically and economically feasible to supply all of man’s needs from the most abundant energy source of all, the sun. The sunlight is not only inexhaustible, but, moreover, it is the only energy source, which is completely nonpolluting. Industry’s use of fossil fuels has been blamed for warming the climate. When coal, gas and oil are burnt, they release harmful gases, which trap heat in the atmosphere and cause global warming. However, there has been an ongoing debate on this subject, as scientists have struggled to distinguish between changes, which are human induced, and those, which could be put down to natural climate variability. Nevertheless, industrialised countries have the highest emission levels, and must shoulder the greatest responsibility for global warming. However, action must also be taken by developing countries to avoid future increases in emission levels as their economies develop and populations grow, as clearly captured by the Kyoto Protocol [4]. Notably, human activities that emit carbon dioxide (CO2), the most significant contributor to potential climate change, occur primarily from fossil fuel production. Consequently, efforts to control CO2 emissions could have serious, negative consequences for economic growth, employment, investment, trade and the standard of living of individuals everywhere. Scientifically, it is difficult to predict the relationship between global temperature and GHG concentrations. The climate system contains many processes that will change if warming occurs. Critical processes include heat transfer by winds and tides, the hydrological cycle involving evaporation, precipitation, runoff and groundwater and the formation of clouds, snow, and ice, all of which display enormous natural variability. The equipment and infrastructure for energy supply and use are designed with long lifetimes, and the premature turnover of capital stock involves significant costs. Economic benefits occur if capital stock is replaced with more efficient equipment in step with its normal replacement cycle. Likewise, if opportunities to reduce future emissions are taken in a timely manner, they should be less costly. Such a flexible approach would allow society to take account of evolving scientific and technological knowledge, while gaining experience in designing policies to address climate change [4]. The World Summit on Sustainable Development in Johannesburg in 2002 committed itself to ‘‘encourage and promote the development of renewable energy sources to accelerate the shift towards sustainable consumption and production’’. Accordingly, it aimed at breaking the link between resource use and productivity. This can be achieved by the followings: • • • • •

Trying to ensure economic growth does not cause environmental pollution. Improving resource efficiency. Examining the whole life-cycle of a product. Enabling consumers to receive more information on products and services. Examining how taxes, voluntary agreements, subsidies, regulation and information campaigns, can best stimulate innovation and investment to provide cleaner technology.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Energy Use, Environment and Sustainable Development

135

The energy conservation scenarios include rational use of energy policies in all economy sectors and the use of combined heat and power systems, which are able to add to energy savings from the autonomous power plants. Electricity from renewable energy sources is by definition the environmental green product. Hence, a renewable energy certificate system, as recommended by the World Summit, is an essential basis for all policy systems, independent of the renewable energy support scheme. It is, therefore, important that all parties involved support the renewable energy certificate system in place if it is to work as planned. Moreover, existing renewable energy technologies (RETs) could play a significant mitigating role, but the economic and political climate will have to change first. Climate change is real. It is happening now, and GHGs produced by human activities are significantly contributing to it. The predicted global temperature increase of between 1.5 and 4.5oC could lead to potentially catastrophic environmental impacts [5]. These include sea level rise, increased frequency of extreme weather events, floods, droughts, disease migration from various places and possible stalling of the Gulf Stream. This has led scientists to argue that climate change issues are not ones that politicians can afford to ignore, and policy makers tend to agree [5]. However, reaching international agreements on climate change policies is no trivial task as the difficulty in ratifying the Kyoto Protocol has proved. Therefore, the use of renewable energy sources and the rational use of energy, in general, are the fundamental inputs for any responsible energy policy. However, the energy sector is encountering difficulties because increased production and consumption levels entail higher levels of pollution and eventually climate change, with possibly disastrous consequences. At the same time, it is important to secure energy at an acceptable cost in order to avoid negative impacts on economic growth. To date, renewable energy contributes as much as 20% of the global energy supplies worldwide [5]. Over two thirds of this comes from biomass use, mostly in developing countries, some of it unsustainable. Yet, the potential for energy from sustainable technologies is huge. On the technological side, renewables have an obvious role to play. In general, there is no problem in terms of the technical potential of renewables to deliver energy. Moreover, there are very good opportunities for RETs to play an important role in reducing emissions of GHGs into the atmosphere, certainly far more than have been exploited so far. However, there are still some technical issues to address in order to cope with the intermittency of some renewables, particularly wind and solar. Yet, the biggest problem with relying on renewables to deliver the necessary cuts in GHG emissions is more to do with politics and policy issues than with technical ones [5]. For example, the single most important step governments could take to promote and increase the use of renewables is to improve access for renewables to the energy market. This access to the market needs to be under favourable conditions and, possibly, under favourable economic rates as well. One move that could help, or at least justify, better market access would be to acknowledge that there are environmental costs associated with other energy supply options and that these costs are not currently internalised within the market price of electricity or fuels. This could make a significant difference, particularly if appropriate subsidies were applied to renewable energy in recognition of the environmental benefits it offers. Similarly, cutting energy consumption through end-use efficiency is absolutely essential. This suggests that issues of end-use consumption of energy will have to come into the discussion in the foreseeable future [6]. However, RETs have the benefit of being environmentally benign when developed in a sensitive and appropriate way with the full involvement of local communities. In addition, they are diverse, secure, locally based and abundant. In spite of the enormous potential and

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

136

Abdeen Mustafa Omer

the multiple benefits, the contribution from renewable energy still lags behind the ambitious claims for it due to the initially high development costs, concerns about local impacts, lack of research funding and poor institutional and economic arrangements [7]. Hence, an approach is needed to integrate renewable energies in a way that meets high building performance requirements. However, because renewable energy sources are stochastic and geographically diffuse, their ability to match demand is determined by adoption of one of the following two approaches [8]: the utilisation of a capture area greater than that occupied by the community to be supplied, or the reduction of the community’s energy demands to a level commensurate with the locally available renewable resources.

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

2.1. Energy and Population Growth Urban areas throughout the world have increased in size during recent decades. About 50% of the world’s population and approximately 7.6% in more developed countries are urban dwellers [9]. Even though there is evidence to suggest that in many ‘advanced’ industrialised countries there has been a reversal in the rural-to-urban shift of populations, virtually all population growth expected between 2000 and 2030 will be concentrated in urban areas of the world. With an expected annual growth of 1.8%, the world’s urban population will double in 38 years [9]. With increasing urbanisation in the world, cities are growing in number, population and complexity. At present, 2% of the world’s land surface is covered by cities, yet the people living in them consume 75% of the resources consumed by mankind [10]. Indeed, the ecological footprint of cities is many times larger than the areas they physically occupy. Economic and social imperatives often dictate that cities must become more concentrated, making it necessary to increase the density to accommodate the people, to reduce the cost of public services, and to achieve required social cohesiveness. The reality of modern urbanisation inevitably leads to higher densities than in traditional settlements and this trend is particularly notable in developing countries. Generally, the world population is rising rapidly, notably in the developing countries. Historical trends suggest that increased annual energy use per capita, which promotes a decrease in population growth rate, is a good surrogate for the standard of living factors. If these trends continue, the stabilisation of the world’s population will require the increased use of all sources of energy, particularly as cheap oil and gas are depleted. The improved efficiency of energy use and renewable energy sources will, therefore, be essential in stabilising population, while providing a decent standard of living all over the world [10]. Moreover, energy is the vital input for economic and social development of any country. With an increase in industrial and agricultural activities the demand for energy is also rising. It is, however, a well-accepted fact that commercial energy use has to be minimised. This is because of the environmental effects and the availability problems. Consequently, the focus has now shifted to non-commercial energy resources, which are renewable in nature. This is bound to have less environmental effects and also the availability is guaranteed. However, even though the ideal situation will be to enthuse people to use renewable energy resources, there are many practical difficulties, which need to be tackled. The people groups who are using the non-commercial energy resources, like urban communities, are now becoming more demanding and wish to have commercial energy resources made available for their use. This

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Energy Use, Environment and Sustainable Development

137

is attributed to the increased awareness, improved literacy level and changing culture [10]. The quality of life practiced by people is usually represented as being proportional to the per capita energy use of that particular country. It is not surprising that people want to improve their quality of life. Consequently, it is expected that the demand for commercial energy resources will increase at a greater rate in the years to come [10]. Because of this emerging situation, the policy makers are left with two options: either to concentrate on renewable energy resources and have them as substitutes for commercial energy resources or to have a dual approach in which renewable energy resources will contribute to meet a significant portion of the demand whereas the conventional commercial energy resources would be used with caution whenever necessary. Even though the first option is the ideal one, the second approach will be more appropriate for a smooth transition [10].

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

2.2. Energy and Environmental Problems Technological progress has dramatically changed the world in a variety of ways. It has, however, also led to developments of environmental problems, which threaten man and nature. During the past two decades the risk and reality of environmental degradation have become more apparent. Growing evidence of environmental problems is due to a combination of several factors since the environmental impact of human activities has grown dramatically because of the sheer increase of world population, consumption, industrial activity, etc., throughout the 1970s most environmental analysis and legal control instruments concentrated on conventional effluent gas pollutants such as SO2, NOx, CO2, particulates, and CO (Table 1). Recently, environmental concerns has extended to the control of micro or hazardous air pollutants, which are usually toxic chemical substances and harmful in small doses, as well to that of globally significant pollutants such as CO2. Aside from advances in environmental science, developments in industrial processes and structures have led to new environmental problems. For example, in the energy sector, major shifts to the road transport of industrial goods and to individual travel by cars has led to an increase in road traffic, and hence, a shift in attention paid to the effects and sources of NOx and volatile organic compound (VOC) emissions. Environmental problems span a continuously growing range of pollutants, hazards and ecosystem degradation over wider areas. The main areas of environmental problems are major environmental accidents, water pollution, maritime pollution, land use and sitting impact, radiation and radioactivity, solid waste disposal, hazardous air pollutants, ambient air quality, acid rain, stratospheric ozone depletion and global warming (greenhouse effect, global climatic change) (Table 2). The four more important types of harm from man’s activities are global warming gases, ozone destroying gases, gaseous pollutants and microbiological hazards (Table 3). The earth is some 30oC warmer due to the presence of gases but the global temperature is rising. This could lead to the sea level rising at the rate of 60 mm each decade with the growing risk of flooding in low-lying areas (Figure 4). At the United Nations Earth Summit at Rio in June 1992 some 153 countries agreed to pursue sustainable development [11]. A main aim was to reduce emission of carbon dioxide and other GHGs. Reduction of energy use in buildings is a major role in achieving this. Carbon dioxide targets are proposed to encourage designers to look at low energy designs and energy sources. The biomass energy sources have significant potential in the fight against climate change.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

138

Abdeen Mustafa Omer Table 1. EU criteria pollutant standards in the ambient air environment

Pollutant CO NO2 O3 SO2 PM10 SO2 + PM10 Pb Total suspended particulate (TSP) HC

EU limit 30 mg/m2; 1h 200 μg/m2; 1h 235 μg/m2; 1h 250-350 μg/m2; 24 h 80-120 μg/m2; annual 250 μg/m2; 24 h 80 μg/m2; annual 100-150 μg/m2; 24 h 40-60 μg/m2; annual 2 μg/m2; annual 260 μg/m2; 24 h 160 μg/m2; 3 h

Table 2. Significant EU environmental directives in water, air and land environments

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Environment Water

Air

Land

Directive name Surface water for drinking Sampling surface water for drinking Drinking water quality Quality of freshwater supporting fish Shellfish waters Bathing waters Dangerous substances in water Groundwater Urban wastewater Nitrates from agricultural sources Smokes in air Sulphur dioxide in air Lead in air Large combustion plants Existing municipal incineration plants New municipal incineration plants Asbestos in air Sulphur content of gas oil Lead in petrol Emissions from petrol engines Air quality standards for NO2 Emissions from diesel engines Protection of soil when sludge is applied

Problems with energy supply and use are related not only to global warming that is taking place, due to effluent gas emission mainly CO2, but also to such environmental concerns as air pollution, acid precipitation, ozone depletion, forest destruction and emission of radioactive substances. These issues must be taken into consideration simultaneously if

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Energy Use, Environment and Sustainable Development

139

humanity is to achieve a bright energy future with minimal environmental impacts. Much evidence exists, which suggests that the future will be negatively impacted if humans keep degrading the environment (Table 4). The clamour all over the world for the need to conserve energy and the environment has intensified as traditional energy resources continue to dwindle whilst the environment becomes increasingly degraded. Table 3. The external environment Damage NOx, SOx

Manifestation Irritant Acid rain land damage Acid rain fish damage Global warming Rising sea level Drought, storms Increased ultra violet Skin cancer Crop damage Pontiac fever Legionnaires

CO2

O3 destruction

Legionnellosis

Design Low NOx burners Low sulphur fuel Sulphur removal Thermal insulation Heat recovery Heat pumps No CFC’s or HCFC’s Minimum air conditioning Refrigerant collection Careful maintenance Dry cooling towers

Table 4. Global emissions of the top fourteen nations by total CO2 volume (billion of tons)

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Rank 1 2 3 4

Nation USA Russia China Japan

CO2 1.36 0.98 0.69 0.30

200

Rank 6 7 8 9

Nation India UK Canada Italy

CO2 0.19 0.16 0.11 0.11

Rank 11 12 13 14

Nation Mexico Poland S. Africa S. Korea

Global change (mm)

100

0 1900

1950

2000

Figure 4. Change in global sea level.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

2050

Years

CO2 0.09 0.08 0.08 0.07

140

Abdeen Mustafa Omer

Probability density

2 1.5

1990-2030 1900-2100

1 0.5 0 1

2

3

4

5

6

7

8

Global mean temperature change (oC)

Figure 5. Global mean temperature changes over the period of 1990-2100 and 1990-2030.

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

During the past century, global surface temperatures have increased at a rate near 0.6oC/century and the average temperature of the Atlantic, Pacific and Indian oceans (covering 72% of the earth surface) have risen by 0.06oC since 1995. Global temperatures in 2001 were 0.52oC above the long-term 1880-2000 average (the 1880-2000 annually averaged combined land and ocean temperature is 13.9oC). Also, according to the USA Department of Energy, world emissions of carbon are expected to increase by 54% above 1990 levels by 2015 making the earth likely to warm 1.7-4.9oC over the period 1990-2100, as shown in Figure 5. Such observation and others demonstrate that interests will likely increase regarding energy related environment concerns and that energy is one of the main factors that must be considered in discussions of sustainable development.

2.3. Environmental Transformations In recent years a number of countries have adopted policies aimed at giving a greater role to private ownership in the natural resource sector. For example, in the UK the regional water companies have been privatised and have been given a considerable degree of control over the exploitation of the nation’s regional water resources. Similar policies have been followed in France and other European countries. Typically, a whole range of new regulatory instruments such as technological standards accompanies such privatisation on water treatment plants, minimum standards on drinking water quality, price controls and maximum withdrawal quotas. While some of these instruments address problems of monopolistic behaviour and other forms of imperfect competition, the bulk of regulatory measures is concerned with establishing ‘good practices’ aimed at maintaining the quality of the newly privatised resources as a shorthand. Society has to meet the freshwater demands of its population and its industry by extracting water from the regional water resources that are provided by the natural environment (lakes, rivers, aquifers, etc.). These water resources are renewable but potentially destructible resources. While moderate amounts of human water extractions from a given regional water system can be sustained for indefinite periods.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Energy Use, Environment and Sustainable Development

141

Excessive extractions will change the geographical and climatic conditions supporting the water cycle and will diminish the regenerative capacity of the regional water system, thereby reducing the potential for future withdrawals. Typically, recovery from any such resource degradation will be very slow and difficult, if not impossible; resource degradation is partially irreversible [12]. To make sustainable water extraction economically viable, the sustainable policy has to break even (all costs are covered by revenues) while unsustainable policy has to be unprofitable (costs exceed revenues): (1+r) vt-1 = 5yt + vt

(1)

Where: r is the interest rate, t=year, y is the revenue. (1+r) vt-1 > 105yt

(2)

(1+r) vt-1 < [105/(105-5)] vt

(3)

The term [105/(105-5)] is to define the natural productivity factor of the water resource as (1+g) = [105/(105-5)]; g is the natural productivity rate. Rate g will be close to zero if the sustainable extraction level is much smaller than the unsustainable level. Using g, the equation can be as follows:

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

vt > (1+r)/(1+g) vt-1

(4)

Regulatory measures that prevent resource owners from adopting certain unsustainable extraction policies are a necessary pre-condition for the effective operation of a privatised natural resource sector. Unregulated water privatisation would result in an inflationary dynamics whose distributional effects would threaten the long-term viability of the economy. This inflationary dynamics is not due to any form of market imperfection but is a natural consequence of the competitive arbitrage behaviour of unregulated private resource owners.

3. SUSTAINABILITY CONCEPT Absolute sustainability of electricity supply is a simple concept: no depletion of world resources and no ongoing accumulation of residues. Relative sustainability is a useful concept in comparing the sustainability of two or more generation technologies. Therefore, only renewables are absolutely sustainable, and nuclear is more sustainable than fossil. However, any discussion about sustainability must not neglect the ability or otherwise of the new technologies to support the satisfactory operation of the electricity supply infrastructure. The electricity supply system has been developed to have a high degree of resilience against the loss of transmission circuits and major generators, as well as unusually large and rapid load changes. It is unlikely that consumers would tolerate any reduction in the quality of the service, even if this were the result of the adoption of otherwise benign generation technologies. Renewables are generally weather-dependent and as such their likely output can

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

142

Abdeen Mustafa Omer

be predicted but not controlled. The only control possible is to reduce the output below that available from the resource at any given time. Therefore, to safeguard system stability and security, renewables must be used in conjunction with other, controllable, generation and with large-scale energy storage. There is a substantial cost associated with this provision. It is useful to codify all aspects of sustainability, thus ensuring that all factors are taken into account for each and every development proposal. Therefore, with the intention of promoting debate, the following considerations are proposed: (1) (2) (3) (4) (5) (6) (7)

Long-term availability of the energy source or fuel. Price stability of energy source or fuel. Acceptability or otherwise of by-products of the generation process. Grid services, particularly controllability of real and reactive power output. Technological stability, likelihood of rapid technical obsolescence. Knowledge base of applying the technology. Life of the installation – a dam may last more than 100 years, but a gas turbine probably will not. (8) Maintenance requirement of the plant.

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

3.1. Environmental Aspects Environmental pollution is a major problem facing all nations of the world. People have caused air pollution since they learned to how to use fire, but man-made air pollution (anthropogenic air pollution) has rapidly increased since industrialisation began. Many volatile organic compounds and trace metals are emitted into the atmosphere by human activities. The pollutants emitted into the atmosphere do not remain confined to the area near the source of emission or to the local environment, and can be transported over long distances, and create regional and global environmental problems. The privatisation, and price liberalisation in energy fields has to some secured (but not fully). Availability and adequate energy supplies to the major productive sectors. The result is that, the present situation of energy supplies is for better than ten years ago (Table 5). Table 5. Classifications of data requirements

Existing data

Future data

Plant data Size Life Cost (fixed and var. O&M) Forced outage Maintenance Efficiency Fuel Emissions All of above, plus Capital costs Construction trajectory Date in service

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

System data Peak load Load shape Capital costs Fuel costs Depreciation Rate of return Taxes System lead growth Fuel price growth Fuel import limits Inflation

Energy Use, Environment and Sustainable Development

143

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

A great challenge facing the global community today is to make the industrial economy more like the biosphere, that is, to make it a more closed system. This would save energy, reduce waste and pollution, and reduce costs. In short, it would enhance sustainability. Often, it is technically feasible to recycle waste in one of several different ways. For some wastes there are powerful arguments for incineration with energy recovery, rather than material recycling. Cleaner production approach and pollution control measures are needed in the recycling sector as much as in others. The industrial sector world widely is responsible for about one third of anthropogenic emissions of carbon dioxide, the most important greenhouse gas. Industry is also an important emitter of several other greenhouse gases. And many of industry’s products emit greenhouse gases as well, either during use or after they become waste. Opportunities exist for substantial reducing industrial emissions through more efficient production and use of energy. Fuel substitutions, the use of alternative energy technologies, process modification, and by revising materials strategies to make use of less energy and greenhouse gas intensive materials. Industry has an additional role to play through the design of products that use less energy and materials and produce lower greenhouse gas emissions. Development in the environmental sense is a rather recent concern relating to the need to manage scarce natural resources in a prudent manner- because human welfare ultimately depends on ecological services. The environmental interpretation of sustainability focuses on the overall viability and health of ecological systems- defined in terms of a comprehensive, multiscale, dynamic, hierarchical measure of resilience, vigour and organisation. Natural resource degradation, pollution and loss of biodiversity are detrimental because they increase vulnerability, undermine system health, and reduce resilience. The environmental issues include: • • • • •

Global and transnational (climate change, ozone layer depletion). Natural habitats (forests and other ecosystems). Land (agricultural zones). Water resources (river basin, aquifer, water shed). Urban-industrial (metropolitan area, air-shed).

Environmental sustainability depends on several factors, including: • • •

Climate change (magnitude and frequency of shocks). Systems vulnerability (extent of impact damage). System resilience (ability to recover from impacts).

Economic importance of environmental issue is increasing, and new technologies are expected to reduce pollution derived both from productive processes and products, with costs that are still unknown. This is due to market uncertainty, weak appropriability regime, lack of a dominant design, and difficulties in reconfiguring organisational routines. The degradation of the global environment is one of the most serious energy issues. Various options are proposed and investigated to mitigate climate change, acid rain or other environmental problems. Additionally, the following aspects play a fundamental role in developing environmental technologies, pointing out how technological trajectories depend both on exogenous market conditions and endogenous firm competencies:

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

144

Abdeen Mustafa Omer (1) Regulations concerning introduction of Zero Emission Vehicles (ZEV), create market demand and business development for new technologies. (2) Each stage of technology development requires alternative forms of division and coordination of innovative labour, upstream and downstream industries are involved in new forms of inter-firm relationships, causing a reconfiguration of product architectures and reducing effects of path dependency. (3) Product differentiation increases firm capabilities to plan at the same time technology reduction and customer selection, while meeting requirements concerning network externalities. (4) It is necessary to find and/or create alternative funding sources for each research, development and design stage of the new technologies. Action areas for producers: • • •

•

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

•

•

•

•

Management and measurement tools- adopting environmental management systems appropriate for the business. Performance assessment tools- making use of benchmarking to identify scope for impact reduction and greater eco-efficiency in all aspects of the business. Best practice tools- making use of free help and advice from government best practice programmes (energy efficiency, environmental technology, and resource savings). Innovation and ecodesign- rethinking the delivery of ‘value added’ by the business, so that impact reduction and resource efficiency are firmly built in at the design stage. Cleaner, leaner production processes- pursuing improvements and savings in waste minimisation, energy and water consumption, transport and distribution, as well as reduced emissions. Tables (6-8) indicate energy conservation, sustainable development and environment. Supply chain management- specifying more demanding standards of sustainability from ‘upstream’ suppliers, while supporting smaller firms to meet those higher standards. Product stewardship- taking the broadest view of ‘producer responsibility’ and working to reduce all the ‘downstream’ effects of products after they have been sold on to customers. Openness and transparency- publicly reporting on environmental performance against meaningful targets; actively using clear labels and declarations so that customers are fully informed; building stakeholder confidence by communicating sustainability aims to the workforce, the shareholders and the local community.

Figure 6 presents the link between resources and productivity- sustainable production and consumption. With the debate on climate change, the preference for real measured data has been changed. The analyses of climate scenarios needs an hourly weather data series that allows for realistic changes in various weather parameters. By adapting parameters in a proper way, data series can be generated for the site. Weather generators should be useful for:

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Energy Use, Environment and Sustainable Development • • •

145

Calculation of energy consumption (no extreme conditions are required). Design purposes (extremes are essential), and Predicting the effect of climate change such as increasing annually average of temperature.

This results in the following requirements: •

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

• •

Relevant climate variables should be generated (solar radiation: global, diffuse, direct solar direction, temperature, humidity, wind speed and direction) according to the statistics of the real climate. The average behaviour should be in accordance with the real climate. Extremes should occur in the generated series in the way it will happen in a real warm period. This means that the generated series should be long enough to assure these extremes, and series based on average values from nearby stations.

Growing concerns about social and environmental sustainability have led to increased interest in planning for the energy utility sector because of its large resource requirements and production of emissions. A number of conflicting trends combine to make the energy sector a major concern, even though a clear definition of how to measure progress toward sustainability is lacking. These trends include imminent competition in the electricity industry, global climate change, expected long-term growth in population and pressure to balance living standards (including per capital energy consumption). Designing and implementing a sustainable energy sector will be a key element of defining and creating a sustainable society. In the electricity industry, the question of strategic planning for sustainability seems to conflict with the shorter time horizons associated with market forces as deregulation replaces vertical integration. Sustainable low-carbon energy scenarios for the new century emphasise the untapped potential of renewable resources. Rural areas can benefit from this transition. The increased availability of reliable and efficient energy services stimulates new development alternatives. It is concluded that renewable environmentally friendly energy must be encouraged, promoted, implemented, and demonstrated by full-scale plant especially for use in remote rural areas. Table 6. Classification of key variables defining facility sustainability Criteria Stakeholder satisfaction Resource base impacts Ecosystem impacts

Intra-system impacts Standard expectations met Relative importance of standard expectations Change in intra-system resource bases Significance of change Change in intra-system ecosystems Significance of change

Extra-system impacts Covered by attending to extra-system resource base and ecosystem impacts Resource flow into/out of facility system Unit impact exerted by flow on source/sink system Significance of unit impact Resource flows into/out of facility system Unit impact exerted by how on source/sink system Significance of unit impact

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

146

Abdeen Mustafa Omer

Alternatively energy sources can potentially help fulfil the acute energy demand and sustain economic growth in many regions of the world.This is the step in a long journey to encourage a progressive economy, which continues to provide us with high living standards, but at the same time helps reduce pollution, waste mountains, other environmental degradation, and environmental rationale for future policy-making and intervention to improve market mechanisms. This vision will be accomplished by: •

• •

•

‘Decoupling’ economic growth and environmental degradation. The basket of indicators illustrated shows the progress being made (Table 9). Decoupling air and water pollution from growth, making good headway with CO2 emissions from energy, and transport. The environmental impact of our own individual behaviour is more closely linked to consumption expenditure than the economy as a whole. Focusing policy on the most important environmental impacts associated with the use of particular resources, rather than on the total level of all resource use. Increasing the productivity of material and energy use that are economically efficient by encouraging patterns of supply and demand, which are more efficient in the use of natural resources. The aim is to promote innovation and competitiveness. Investment in areas like energy efficiency, water efficiency and waste minimisation. Encouraging and enabling active and informed individual and corporate consumers Table 7. Energy and sustainable environment

Technological criteria Primary energy saving in regional scale

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Technical maturity, reliability Consistence of installation and maintenance requirements with local technical known-how Continuity and predictability of performance

Energy and environment criteria Sustainability according to greenhouse gas pollutant emissions Sustainable according to other pollutant emissions Land requirement

Sustainability according to other environmental impacts

Social and economic criteria Labour impact

Market maturity Compatibility with political, legislative and administrative situation Cost of saved primary energy

Table 8. Positive impact of durability, adaptability and energy conservation on economic, social and environment systems Economic system Durability Meeting changing needs of economic development Energy conservation and saving

Social system Preservation of cultural values Meeting changing needs of individuals and society Savings directed to meet other social needs

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Environmental system Preservation of resources Reuse, recycling and preservation of resources Preservation of resources, reduction of pollution and global warming

Energy Use, Environment and Sustainable Development

Sustainable production polices – primarily targeted at producers

Structural change and innovation polices – designed to change the market conditions

147

Sustainable consumption policies – primarily targeted at consumers

Figure 6. Link between resources and productivity.

On some climate change issues (such as global warming), there is no disagreement among the scientists. The greenhouse effect is unquestionably real; it is essential for life on earth. Water vapour is the most important GHG; next is carbon dioxide (CO2). Without a natural greenhouse effect, scientists estimate that the earth’s average temperature would be – 18oC instead of its present 14oC. There is also no scientific debate over the fact that human activity has increased the concentration of the GHGs in the atmosphere (specially CO2 from combustion of coal, oil and gas). The greenhouse effect is also being amplified by increased concentrations of other gases, such as methane, nitrous oxide, and CFCs as a result of human emissions. Most scientists predict that rising global temperatures will raise the sea level and increase the frequency of intense rain or snowstorms. Climate change scenarios sources of uncertainty, and factors influencing the future climate are:

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

• • • •

The future emission rates of the GHGs. The effect of this increase in concentration on the energy balance of the atmosphere. The effect of these emissions on GHGs concentrations in the atmosphere, and The effect of this change in energy balance on global and regional climate. Table 9. The basket of indicators for sustainable consumption and production

Economy-wide decoupling indicators 1. Greenhouse gas emissions 2. Air pollution 3. Water pollution (river water quality) 4. Commercial and industrial waste arisings and household waste not cycled Resource use indicators 5. Material use 6. Water abstraction 7. Homes built on land not previously developed, and number of households Decoupling indicators for specific sectors 8. Emissions from electricity generation 9. Motor vehicle kilometres and related emissions 10. Agricultural output, fertiliser use, methane emissions and farmland bird populations 11. Manufacturing output, energy consumption and related emissions 12. Household consumption, expenditure energy, water consumption and waste generated

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

148

Abdeen Mustafa Omer

3.2. Wastes Waste is defined as an unwanted material that is being discarded. Waste includes items being taken for further use, recycling or reclamation. Waste produced at household, commercial and industrial premises are control waste and come under the waste regulations. Waste Incineration Directive (WID) emissions limit values will favour efficient, inherently cleaner technologies that do not rely heavily on abatement. For existing plant, the requirements are likely to lead to improved control of: • • •

NOx emissions, by the adoption of infurnace combustion control and abatement techniques. Acid gases, by the adoption of abatement techniques and optimisation of their control. Particulate control techniques, and their optimisation, e.g., of bag filters and electrostatic precipitators.

The encouragement of greater energy use is an essential component of development. The waste and resources action programme has been working hard to reduce demand for virgin aggregates and market uptake of recycled and secondary alternatives (Figure 7). The programme targets are: • •

To deliver training and information on the role of recycling and secondary aggregates in sustainable construction for influences in the supply chain, and To develop a promotional programme to highlight the new information on websites.

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

0 -200 -400

Scenario 1

Emission reduction -600 (kgCO2/BDton)

Scenario 2 Scenario 3

-800

Scenario 4

-1000 -1200 1

2

3

4

5

6

7

8

*1 Large steam power (LSP) *2 Small steam power (SSP) *3 Brayton cycle power (BCP) *4 Bio-oil conversion power (B-CP) *5 Gasification power (GP) *6 Small steam CHP (SSCHP) *7 Turboden cycle CHP (TCCHP) *8 Entropic cycle CHP (ECCHP) Figure 7. Comparison of thermal biomass usage options, CHP displacing natural gas as a heat source.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Energy Use, Environment and Sustainable Development

(a)

149

(b)

* 49% actual ethanol energy content, energy content in cattle feed by-product reflects chemical energy content, not lifecycle energy displacement. ** Energy savings in the refinery due to the higher value of ethanol compared to gasoline. Figure 8. The lifecycle energy balance of corn and Switchgrass reveal a paradox: corn, as an ethanol feedstock requires less energy for production, i.e., more of the original energy in starch is retained in the ethanol fuel. Nevertheless, the switchgrass process yields higher GHG emissions. This is because most of the process energy for switchgrass process is generated from GHG emission neutral biomass residue.

Lifecycle analysis of several ethanol feedstocks shows the emission displacement per ton of feedstock is highest for corn stover and switchgrass (about 0.65 tons of CO2 per ton of feedstock) and lowest for corn (about 0.5 ton). Emissions due to cultivation and harvesting of corn and wheat are higher than those for lignocellulosics, and although the latter have a far higher process energy requirement (Figure

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

150

Abdeen Mustafa Omer

8). GHG emissions are lower because this energy is produced from biomass residue, which is carbon neutral.

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

4. ENVIRONMENTAL AND SAFETY ASPECTS OF COMBUSTION TECHNOLOGY This review is aimed to introduce historical background for the sustainability concept development. Special reference is given to the resource depletion and its forecast. In the assessment of global energy, water and environment resources attention is focussed in on the resource consumption and its relevancy to the future demand. In the review of the sustainability concept development special emphasise is devoted to the definition of sustainability and its relevancy to the historical background of the sustainability idea. The recent assessment of sustainability is reflecting the normative and strategic dimension of sustainability. Special attention is devoted to the most recent development of the concept of sustainability science. A new field of sustainability science emerging that seeks to understand the fundamental character of interactions between nature and society. Such an understanding must encompass the interaction of global processes with the ecological and so characteristics of particular places and sectors. With a view toward promoting research necessary to achieve such advances, it was proposed an initial set of core questions for sustainability science. The definition of sustainability concept involves an important transformation and extension of the ecologically based concept of physical sustainability to the social and economic context of development. Thus, terms of sustainability cannot exclusively be defined from an environmental point of view or basis of attitudes. Rather, the challenge is to define operational and consistent terms of sustainability from an integrated social, ecological, and economic system perspective. In this respect the weak and strong sustainability concept are discussed. In order to introduce measuring of sustainability the attention is devoted to the definition of respective criteria. There have been a number of attempts to define the criterions for the assessment of the sustainability of the market products. Having those criterions as bases, it was introduced a specific application in the energy system design. Measuring sustainability is a major issue as well as a driving force of the discussion on sustainability development. Special attention in this review is devoted to the potential sustainable development options. In this respect a following options are taken into a consideration: prevention of the energy resource depletion with scarcity index control; efficiency assessment; new and renewable energy sources; water pollution mitigation, water desalination technologies environment capacity for combustion products; mitigation of nuclear treat to the environment. Most industrialised countries are in addition becoming more and more dependent on external supplies of conventional energy carriers i.e., fossil fuels. Energy for heating and cooling can be replaced by new renewable energy sources.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Energy Use, Environment and Sustainable Development

151

Table 10. Representative sulphur contents of coals [13] Source Ayrshire, Scotland Lancs. /Cheshire, UK S. Wales, UK Victoria, Australia Pennsylvania, USA Natal, S. Africa Bulgaria

Rank Bituminous Bituminous Anthracite Lignite Anthracite Bituminous Lignite

Sulphur content (%) 0.6 Up to 2.4 Up to 1.5 Typically 0.5 0.7 Up to 4.2 2.5

4.1. Sulphur in Fuels and its Environmental Consequences Coal is formed from the deposition of plant material according to the peat to anthracite series: Vegetation

Peat Lignite (brown coal) Sub-bituminous coal Bituminous coal

Anthracite

Organic sulphur is bonded within the organic structure of the coal in the same way that sulphur is bonded in simple thio-organics, e.g., thiols. Sulphur contents of coals vary widely, and Table 10 gives some examples.

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

4.2. Control of SO2 Emissions Emissions will also, of course, occur from petroleum-based or shale-based fuels, and in heavy consumption, such as in steam raising. There will frequently be a need to control SO2 emissions. There are, broadly speaking, three ways of achieving such control: • • •

Pre-combustion control: involves carrying out a degree of desulphurisation of the fuel. Combustion control: incorporating into the combustion system something capable of trapping SO2. Post-combustion control: removing SO2 from the flue gases before they are discharged into the atmosphere.

Table 11 gives brief details of an example of each. Throughout the energy generation process there are impacts on the environment on local, national and international levels, from opencast mining and oil exploration to emissions of the potent greenhouse gas carbon dioxide in ever increasing concentration. Recently, the world’s leading climate scientists reached an agreement that human activities, such as burning fossil fuels for energy and transport, are causing the world’s temperature to rise.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

152

Abdeen Mustafa Omer Table 11. Examples of SO2 control procedures

Type of control Pre-combustion

Fuel Fuels from crude oil

Post-combustion Combustion

Coal or fuel oil Coal

Details Alkali treatment of crude oil to convert thiols RSSR, disulphides; solvent removal of the disulphides Alkali scrubbing of the flue gases with CaCO3/CaO Limestone, MgCO3 and/or other metallic compounds used to fix the sulphur as sulphates

4.3. The Control of NOx Release by Combustion Processes Emission of nitrogen oxides is a major topic in fuel technology. It has to be considered even in the total absence of fuel nitrogen if the temperature is high enough for thermal NOx, as it is in very many industrial applications. The burnt gas from the flame is recirculated in two ways: • • •

Internally, by baffling and restricting flow of the burnt gas away from the burner, resulting in flame re-entry of part of it. Externally, by diverting up to 10% of the flue gas back into the flame. Some of the available control procedures for particles are summarised in Table 12.

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Table 12. Particle control techniques Technique Gravity settlement

Principle Natural deposition by gravity of particles from a horizontally flowing gas, collection in hoppers

Cyclone separator

Tangential entry of a particle-laden gas into a cylindrical or conical enclosure, movement of the particles to the enclosure wall and from there to a receiver

Fabric filters

Retention of solids by a filter, filter materials include woven cloth, felt and porous membranes Passage of particle-laden gas between electrodes, application of an electric field to the gas, resulting in acquisition of charge by the particles and attraction to an electrode where coalescence occurs, electrical resistivity of the dust an important factor in performance

Electrostatic precipitation

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Application Removal of coarse particles (>50 µm) from a gas stream, smaller particles removable in principle but require excessive flow distances Numerous applications, wide range of particles sizes removable, from = 5 µm to = 200 µm, poorer efficiencies of collection for the smaller particles Used in dust removal for over a century Particles down to 0.01 µm removable, extensive application to the removal of flyash from pulverised fuel (pf) combustion

Energy Use, Environment and Sustainable Development

153

140

Distribution factor (%)

120 100 80 60 40 20 0 1

2

3

4

5

Particle size (mm)

Figure 9. The variation of distribution factor against particle size for coal undersizes in a classifier. The sizes correspond to mid-point for ranges.

Figure 9 shows the variation of distribution factor with particle size.

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

5. GREEN HEAT The ground is as universal as air and solar radiation. Over the past twenty years, as the hunt for natural low-carbon energy sources has intensified, there has been an increased endeavour to investigate and develop both earth and ground water thermal energy storage and usage. Geothermal energy solutions, although well known, are another in our armoury of renewable energy sources that are within our immediate grasp to use and integrate with an overall energy policy. For high temperature heat storage with temperatures in excess of 50oC the particular concerns were: • • • •

Clogging of wells and heat exchangers due to fines and precipitation of minerals. Water treatment to avoid operational problems resulting from the precipitation of minerals. Corrosion of components in the groundwater system. Automatic control of the ground water system.

As consumers in less-developed countries increase their capacity of electricity and green power, developed nations are starting to realise the benefits of using low-grade thermal energy for green heat applications that do not require high-grade electricity. This shift will not only benefit renewable energies that are designed for space conditioning, but also will contribute to the global mix of green power and green heat capacity. Earth energy (also called geothermal or ground source heat pumps or GeoExchange), which transfers absorbed solar

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

154

Abdeen Mustafa Omer

heat from the ground into a building for space heating or water heating. The same system can be reversed to reject heat from the interior into the ground, in order to provide cooling. A typical configuration buries polyethylene pipe below the frost line to serve as the head source (or sink), or it can use lake water and aquifers as the heat medium. An advantage is gained from the necessity to provide filtered fresh air for ventilation purposes by providing every dwelling with a heat recovery mechanical ventilation system. Incorporation of a heating/cooling coil within the air-handling unit for each of the five blocks allows for active summertime cooling (i.e., collecting heat in summer), which along with the use of roof mounted solar panels to provide domestic hot water produces as well tempered and well engineered hybrid low energy scheme at very low carbon emissions. Today, the challenge before many cities is to support large numbers of people while limiting their impact on the natural environment.

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Table 13. Effects of urban density on city’s energy demand Positive effects Transport: • Promote public transport and reduce the need for, and length of, trips by private cars. Infrastructure: • Reduce street length needed to accommodate a given number of inhabitants. • Shorten the length of infrastructure facilities such as water supply and sewage lines, reducing the energy needed for pumping. Thermal performance: • Multi-story, multiunit buildings could reduce the overall area of the building’s envelope and heat loss from the buildings. • Shading among buildings could reduce solar exposure of buildings during the summer period. Energy systems: • District cooling and heating system, which is usually more energy efficiency, is more feasible as density is higher. Ventilation: • A desirable flow pattern around buildings may be obtained by proper arrangement of high-rise building blocks.

Negative effects Transport: • Congestion in urban areas reduces fuel efficiency of vehicles. Vertical transportation: • High-rise buildings involve lifts, thus increasing the need for electricity for the vertical transportation. Ventilation: • A concentration of high-rise and large buildings may impede the urban ventilation conditions. Urban heat island: • Heat released and trapped in the urban areas may increase the need for air conditioning. • The potential for natural lighting is generally reduced in high-density areas, increasing the need for electric lighting and the load on air conditioning to remove the heat resulting from the electric lighting. Use of solar energy: Roof and exposed areas for collection of solar energy are limited.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Energy Use, Environment and Sustainable Development

155

6. EFFECTS OF URBAN DENSITY Compact development patterns can reduce infrastructure demands and the need to travel by car. As population density increases, transportation options multiply and dependence areas, per capita fuel consumption is much lower in densely populated areas because people drive so much less. Few roads and commercially viable public transport are the major merits. On the other hand, urban density is a major factor that determines the urban ventilation conditions, as well as the urban temperature. Under given circumstances, an urban area with a high density of buildings can experience poor ventilation and strong heat island effect. In warm-humid regions these features would lead to a high level of thermal stress of the inhabitants and increased use of energy in air-conditioned buildings. However, it is also possible that a high-density urban area, obtained by a mixture of high and low buildings, could have better ventilation conditions than an area with lower density but with buildings of the same height. Closely spaced or high-rise buildings are also affected by the use of natural lighting, natural ventilation and solar energy. If not properly planned, energy for electric lighting and mechanical cooling/ventilation may be increased and application of solar energy systems will be greatly limited. Table 13 gives a summary of the positive and negative effects of urban density. All in all, denser city models require more careful design in order to maximise energy efficiency and satisfy other social and development requirements. Low energy design should not be considered in isolation, and in fact, it is a measure, which should work in harmony with other environmental objectives. Hence, building energy study provides opportunities not only for identifying energy and cost savings, but also for examining the indoor and outdoor environment.

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

6.1. Energy Efficiency and Architectural Expression The focus of the world’s attention on environmental issues in recent years has stimulated response in many countries, which have led to a closer examination of energy conservation strategies for conventional fossil fuels. Buildings are important consumers of energy and thus important contributors to emissions of greenhouse gases into the global atmosphere. The development and adoption of suitable renewable energy technology in buildings has an important role to play. A review of options indicates benefits and some problems [14]. There are two key elements to the fulfilling of renewable energy technology potential within the field of building design; first the installation of appropriate skills and attitudes in building design professionals and second the provision of the opportunity for such people to demonstrate their skills. This second element may only be created when the population at large and clients commissioning building design in particular, become more aware of what can be achieved and what resources are required. Terms like passive cooling or passive solar use mean that the cooling of a building or the exploitation of the energy of the sun is achieved not by machines but by the building’s particular morphological organisation. Hence, the passive approach to themes of energy savings is essentially based on the morphological articulations of the constructions. Passive solar design, in particular, can realise significant energy and cost savings. For a design to be successful, it is crucial for the designer to have a good understanding of the use of the building. Few of the buildings had performed as

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

156

Abdeen Mustafa Omer

expected by their designers. To be more precise, their performance had been compromised by a variety of influences related to their design, construction and operation. However, there is no doubt that the passive energy approach is certainly the one that, being supported by the material shape of the buildings has a direct influence on architectural language and most greatly influences architectural expressiveness [15]. Furthermore, form is a main tool in architectural expression. To give form to the material things that one produces is an ineluctable necessity. In architecture, form, in fact, summarises and gives concreteness to its every value in terms of economy, aesthetics, functionality and, consequently, energy efficiency [16]. The target is to enrich the expressive message with forms producing an advantage energy-wise. Hence, form, in its geometric and material sense, conditions the energy efficiency of a building in its interaction with the environment. It is, then, very hard to extract and separate the parameters and the elements relative to this efficiency from the expressive unit to which they belong. By analysing energy issues and strategies by means of the designs, of which they are an integral part, one will, more easily, focus the attention on the relationship between these themes, their specific context and their architectural expressiveness. Many concrete examples and a whole literature have recently grown up around these subjects and the wisdom of forms and expedients that belong to millennia-old traditions has been rediscovered. Such a revisiting, however, is only, or most especially, conceptual, since it must be filtered through today’s technology and needs; both being almost irreconcilable with those of the past. Two among the historical concepts are of special importance. One is rooted in the effort to establish rational and friendly strategic relations with the physical environment, while the other recognises the interactions between the psyche and physical perceptions in the creation of the feeling of comfort. The former, which may be defined as an alliance with the environment deals with the physical parameters involving a mixture of natural and artificial ingredients such as soil and vegetation, urban fabrics and pollution [17]. The most dominant outside parameter is, of course, the sun’s irradiation, our planet’s primary energy source. All these elements can be measured in physical terms and are therefore the subject of science. Within the second concept, however, one considers the emotional and intellectual energies, which are the prime inexhaustible source of renewable power [18]. In this case, cultural parameters, which are not exactly measurable, are involved. However, they represent the very essence of the architectural quality. Objective scientific measurement parameters tell us very little about the emotional way of perceiving, which influences the messages of human are physical sensorial organs. The perceptual reality arises from a multitude of sensorial components; visual, thermal, acoustic, olfactory and kinaesthetics. It can, also, arise from the organisational quality of the space in which different parameters come together, like the sense of order or of serenity. Likewise, practical evaluations, such as usefulness, can be involved too. The evaluation is a wholly subjective matter, but can be shared by a set of experiencing persons [19]. Therefore, these cultural parameters could be different in different contexts in spite of the inexorable levelling on a planet- wide scale. However, the parameters change in the anthropological sense, not only with the cultural environment, but also in relation to function. The scientifically measurable parameters can, thus, have their meanings very profoundly altered by the non-measurable, but describable, cultural parameters. However, The low energy target also means to eliminate any excess in the quantities of material and in the manufacturing process necessary for the construction of our built environment. This claims for a more sober, elegant and essential expression, which is not

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Energy Use, Environment and Sustainable Development

157

jeopardising at all, but instead enhancing, the richness and preciousness of architecture, while contributing to a better environment from an aesthetic viewpoint [20]. Arguably, the most successful designs were in fact the simplest. Paying attention to orientation, plan and form can have far greater impact on energy performance than opting for elaborate solutions [21]. However, a design strategy can fail when those responsible for specifying materials for example, do not implement the passive solar strategy correctly. Similarly, cost-cutting exercises can seriously upset the effectiveness of a design strategy. Therefore, it is imperative that a designer fully informs key personnel, such as the quantity surveyor and client, about their design and be prepared to defend it. Therefore, the designer should have an adequate understanding of how the occupants or processes, such as ventilation, would function within the building. Thinking through such processes in isolation without reference to others can lead to conflicting strategies, which can have a detrimental impact upon performance. Likewise, if the design intent of the building is not communicated to its occupants, there is a risk that they will use it inappropriately, thus, compromising its performance. Hence, the designer should communicate in simple terms the actions expected of the occupant to control the building. For example, occupants should be well informed about how to guard against summer overheating. If the designer opted for a simple, seasonally adjusted control; say, insulated sliding doors were to be used between the mass wall and the internal space. The lesson here is that designers must be prepared to defend their design such that others appreciate the importance and interrelationship of each component. A strategy will only work if each individual component is considered as part of the bigger picture. Failure to implement a component or incorrect installation, for example, can lead to failure of the strategy and consequently, in some instances, the building may not liked by its occupants due to its poor performance.

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

6.2. Energy Efficiency Energy efficiency is the most cost-effective way of cutting carbon dioxide emissions and improvements to households and businesses. It can also have many other additional social, economic and health benefits, such as warmer and healthier homes, lower fuel bills and company running costs and, indirectly, jobs. Britain wastes 20 per cent of its fossil fuel and electricity use. This implies that it would be cost-effective to cut £10 billion a year off the collective fuel bill and reduce CO2 emissions by some 120 million tons. Yet, due to lack of good information and advice on energy saving, along with the capital to finance energy efficiency improvements, this huge potential for reducing energy demand is not being realised. Traditionally, energy utilities have been essentially fuel providers and the industry has pursued profits from increased volume of sales. Institutional and market arrangements have favoured energy consumption rather than conservation. However, energy is at the centre of the sustainable development paradigm as few activities affect the environment as much as the continually increasing use of energy. Most of the used energy depends on finite resources, such as coal, oil, gas and uranium. In addition, more than three quarters of the world’s consumption of these fuels is used, often inefficiently, by only one quarter of the world’s population. Without even addressing these inequities or the precious, finite nature of these resources, the scale of environmental damage will force the reduction of the usage of these fuels long before they run out.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

158

Abdeen Mustafa Omer

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Throughout the energy generation process there are impacts on the environment on local, national and international levels, from opencast mining and oil exploration to emissions of the potent greenhouse gas carbon dioxide in ever increasing concentration. Recently, the world’s leading climate scientists reached an agreement that human activities, such as burning fossil fuels for energy and transport, are causing the world’s temperature to rise. The Intergovernmental Panel on Climate Change has concluded that ‘‘the balance of evidence suggests a discernible human influence on global climate’’. It predicts a rate of warming greater than any one seen in the last 10,000 years, in other words, throughout human history. The exact impact of climate change is difficult to predict and will vary regionally. It could, however, include sea level rise, disrupted agriculture and food supplies and the possibility of more freak weather events such as hurricanes and droughts. Indeed, people already are waking up to the financial and social, as well as the environmental, risks of unsustainable energy generation methods that represent the costs of the impacts of climate change, acid rain and oil spills. The insurance industry, for example, concerned about the billion dollar costs of hurricanes and floods, has joined sides with environmentalists to lobby for greenhouse gas emissions reduction. Friends of the earth is campaigning for a more sustainable energy policy, guided by the principle of environmental protection and with the objectives of sound natural resource management and long-term energy security. The key priorities of such an energy policy must be to reduce fossil fuel use, move away from nuclear power, improve the efficiency with which energy is used and increase the amount of energy obtainable from sustainable, renewable sources. Efficient energy use has never been more crucial than it is today, particularly with the prospect of the imminent introduction of the climate change levy (CCL). Establishing an energy use action plan is the essential foundation to the elimination of energy waste. A logical starting point is to carry out an energy audit that enables the assessment of the energy use and determine what actions to take. The actions are best categorised by splitting measures into the following three general groups: (1) High priority/low cost: These are normally measures, which require minimal investment and can be implemented quickly. The followings are some examples of such measures: • Good housekeeping, monitoring energy use and targeting waste-fuel practices. • Adjusting controls to match requirements. • Improved greenhouse space utilisation. • Small capital item time switches, thermostats, etc. • Carrying out minor maintenance and repairs. • Staff education and training. • Ensuring that energy is being purchased through the most suitable tariff or contract arrangements. (2) Medium priority/medium cost: Measures, which, although involve little or no design, involve greater expenditure and can take longer to implement. Examples of such measures are listed below: • New or replacement controls. • Greenhouse component alteration e.g., insulation, sealing glass joints, etc.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Energy Use, Environment and Sustainable Development

159

•

Alternative equipment components e.g., energy efficient lamps in light fittings, etc. (3) Long term/high cost: These measures require detailed study and design. They can be best represented by the followings: • Replacing or upgrading of plant and equipment. • Fundamental redesign of systems e.g., CHP installations. This process can often be a complex experience and therefore the most costeffective approach is to employ an energy specialist to help.

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

6.3. Policy Recommendations for a Sustainable Energy Future Sustainability is regarded as a major consideration for both urban and rural development. People have been exploiting the natural resources with no consideration to the effects, both short-term (environmental) and long-term (resources crunch). It is also felt that knowledge and technology have not been used effectively in utilising energy resources. Energy is the vital input for economic and social development of any country. Its sustainability is an important factor to be considered. The urban areas depend, to a large extent, on commercial energy sources. The rural areas use non-commercial sources like firewood and agricultural wastes. With the present day trends for improving the quality of life and sustenance of mankind, environmental issues are considered highly important. In this context, the term energy loss has no significant technical meaning. Instead, the exergy loss has to be considered, as destruction of exergy is possible. Hence, exergy loss minimisation will help in sustainability. In the process of developing, there are two options to manage energy resources: (1) End use matching/demand side management, which focuses on the utilities. The mode of obtaining this is decided based on economic terms. It is, therefore, a quantitative approach. (2) Supply side management, which focuses on the renewable energy resource and methods of utilising it. This is decided based on thermodynamic consideration having the resource-user temperature or exergy destruction as the objective criteria. It is, therefore, a qualitative approach. The two options are explained schematically in Figure 10. The exergybased energy, developed with supply side perspective is shown in Figure 11. The following policy measures had been identified: • • • •

•

Clear environmental and social objectives for energy market liberalisation, including a commitment to energy efficiency and renewables. Economic, institutional and regulatory frameworks, which encourage the transition to total energy services. Economic measures to encourage utility investment in energy efficiency (e.g., levies on fuel bills). Incentives for demand side management, including grants for low-income households, expert advice and training, standards for appliances and buildings and tax incentives. Research and development funding for renewable energy technologies not yet commercially viable.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

160

Abdeen Mustafa Omer • • •

Continued institutional support for new renewables (such as standard cost-reflective payments and obligation on utilities to buy). Ecological tax reform to internalise external environmental and social costs within energy prices. Planning for sensitive development and public acceptability for renewable energy.

Energy resources are needed for societal development. Their sustainable development requires a supply of energy resources that are sustainably available at a reasonable cost and can cause no negative societal impacts. Energy resources such as fossil fuels are finite and lack sustainability, while renewable energy sources are sustainable over a relatively longer term. Environmental concerns are also a major factor in sustainable development, as activities, which degrade the environment, are not sustainable. Hence, as much as environmental impact is associated with energy, sustainable development requires the use of energy resources, which cause as little environmental impact as possible. One way to reduce the resource depletion associated with cycling is to reduce the losses that accompany the transfer of exergy to consume resources by increasing the efficiency of exergy transfer between resources i.e., increasing the fraction of exergy removed from one resource that is transferred to another [22]. Buildings are significant users of energy and materials in a modern society and, hence, energy conservation in buildings plays an important role in urban environmental sustainability. The admission of daylight into buildings alone does not guarantee that the design will be energy efficient in terms of lighting. There are also a number of methods, which help reduce the lighting energy use, which, in turn, relate to the type of occupancy pattern of the building.

Supply side View Electricity

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Demand side view Transport

Energy supply

Pumping

Solar

Energy use

Wind Biomass

Heating Hydro Cooling

Objective criteria: Resource Quantitative Approach

Objective criteria: Economic Quantitative Approach

Figure 10. Supply side and demand side management approach for energy.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Energy Use, Environment and Sustainable Development

Solar Wind Biomass Biogas

Exergy values

Constraints: 1. Economics 2. Environment 3. Social Acceptance

Exergy Destruction Minimisation

161 Electricity use: Pumping Heating Lighting

Figure 11. Exergy based optimal energy model.

As explained above, exergy efficiency may be thought of as a more accurate measure of energy efficiency that accounts for quantity and quality aspects of energy flows. Improved exergy efficiency leads to reduced exergy losses. Most efficiency improvements produce direct environmental benefits in two ways. First, operating energy input requirements are reduced per unit output, and pollutants generated are correspondingly reduced. Second, consideration of the entire life cycle for energy resources and technologies suggests that improved efficiency reduces environmental impact during most stages of the life cycle. Quite often, the main concept of sustainability, which often inspires local and national authorities to incorporate environmental consideration into setting up energy programmes have different meanings in different contexts though it usually embodies a long-term perspective. Future energy systems will largely be shaped by broad and powerful trends that have their roots in basic human needs [23]. Combined with increasing world population, the need will become more apparent for successful implementation of sustainable development. Heat has a lower exergy, or quality of energy, compared with work. Therefore, heat cannot be converted into work by 100% efficiency. Some examples of the difference between energy and exergy are shown in Table 14.

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Table 14. Qualities of various energy sources Source Water at 80oC Steam at 120oC Natural gas Electricity/work

Energy (J) 100 100 100 100

Exergy (J) 16 24 99 100

CQF 0.16 0.24 0.99 1.00

The terms used in Table 14 have the following meanings: Carnot Quality Factor (CQF) = (1-To/Ts)

(5)

Exergy = Energy (transferred) x CQF

(6)

Where To is the environment temperature (K) and Ts is the temperature of the stream (K). Various parameters are essential to achieving sustainable development in a society. Some of them are as follows:

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

162

Abdeen Mustafa Omer • • • • • • •

Public awareness. Information. Environmental education and training. Innovative energy strategies. Renewable energy sources and cleaner technologies. Financing. Monitoring and evaluation tools.

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

The development of a renewable energy in a country depends on many factors. Those important to success are listed below: (1) Motivation of the population The population should be motivated towards awareness of high environmental issues, rational use of energy in order to reduce cost. Subsidy programme should be implemented as incentives to install renewable energy plants. In addition, image campaigns to raise awareness of renewable technology. (2) Technical product development To achieve technical development of renewable energy technologies the following should be addressed: • Increasing the longevity and reliability of renewable technology. • Adapting renewable technology to household technology (hot water supply). • Integration of renewable technology in heating technology. • Integration of renewable technology in architecture, e.g., in the roof or façade. • Development of new applications, e.g., solar cooling. • Cost reduction. (3) Distribution and sales Commercialisation of renewable energy technology requires: • Inclusion of renewable technology in the product range of heating trades at all levels of the distribution process (wholesale, retail). • Building distribution nets for renewable technology. • Training of personnel in distribution and sales. • Training of field sales force. (4) Consumer consultation and installation To encourage all sectors of the population to participate in adoption of renewable energy technologies, the following has to be realised: • Acceptance by craftspeople, marketing by them. • Technical training of craftspeople, initial and follow-up training programmes. • Sales training for craftspeople. • Information material to be made available to craftspeople for consumer consultation. (5) Projecting and planning Successful application of renewable technologies also requires: • Acceptance by decision makers in the building sector (architects, house technology planners, etc.).

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Energy Use, Environment and Sustainable Development

163

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

• • •

Integration of renewable technology in training. Demonstration projects/architecture competitions. Renewable energy project developers should prepare to participate in the carbon market by: – Ensuring that renewable energy projects comply with Kyoto Protocol requirements. – Quantifying the expected avoided emissions. – Registering the project with the required offices. – Contractually allocating the right to this revenue stream. • Other ecological measures employed on the development include: – Simplified building details. – Reduced number of materials. – Materials that can be recycled or reused. – Materials easily maintained and repaired. – Materials that do not have a bad influence on the indoor climate (i.e., nontoxic). – Local cleaning of grey water. – Collecting and use of rainwater for outdoor purposes and park elements. – Building volumes designed to give maximum access to neighbouring park areas. – All apartments have visual access to both backyard and park. (6) Energy saving measures The following energy saving measures should also be considered: • Building integrated solar PV system. • Day-lighting. • Ecological insulation materials. • Natural/hybrid ventilation. • Passive cooling. • Passive solar heating. • Solar heating of domestic hot water. • Utilisation of rainwater for flushing. Improving access for rural and urban low-income areas in developing countries through energy efficiency and renewable energies will be needed [24]. Sustainable energy is a prerequisite for development. Energy-based living standards in developing countries, however, are clearly below standards in developed countries. Low levels of access to affordable and environmentally sound energy in both rural and urban low-income areas are therefore a predominant issue in developing countries. In recent years many programmes for development aid or technical assistance have been focusing on improving access to sustainable energy, many of them with impressive results. Apart from success stories, however, experience also shows that positive appraisals of many projects evaporate after completion and vanishing of the implementation expert team. Altogether, the diffusion of sustainable technologies such as energy efficiency and renewable energies for cooking, heating, lighting, electrical appliances and building insulation in developing countries has been slow.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

164

Abdeen Mustafa Omer

Energy efficiency and renewable energy programmes could be more sustainable and pilot studies more effective and pulse releasing if the entire policy and implementation process was considered and redesigned from the outset. New financing and implementation processes are needed which allow reallocating financial resources and thus enabling countries themselves to achieve a sustainable energy infrastructure. The links between the energy policy framework, financing and implementation of renewable energy and energy efficiency projects have to be strengthened and capacity building efforts are required [25].

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

7. CONCLUSIONS There is strong scientific evidence that the average temperature of the earth’s surface is rising. This is a result of the increased concentration of carbon dioxide and other GHGs in the atmosphere as released by burning fossil fuels. This global warming will eventually lead to substantial changes in the world’s climate, which will, in turn, have a major impact on human life and the built environment. Therefore, effort has to be made to reduce fossil energy use and to promote green energies, particularly in the building sector. Energy use reductions can be achieved by minimising the energy demand, by rational energy use, by recovering heat and the use of more green energies. This study was a step towards achieving that goal. The adoption of green or sustainable approaches to the way in which society is run is seen as an important strategy in finding a solution to the energy problem. The key factors to reducing and controlling CO2, which is the major contributor to global warming, are the use of alternative approaches to energy generation and the exploration of how these alternatives are used today and may be used in the future as green energy sources. Even with modest assumptions about the availability of land, comprehensive fuel-wood farming programmes offer significant energy, economic and environmental benefits. These benefits would be dispersed in rural areas where they are greatly needed and can serve as linkages for further rural economic development. The nations as a whole would benefit from savings in foreign exchange, improved energy security, and socio-economic improvements. With a nine-fold increase in forest – plantation cover, a nation’s resource base would be greatly improved. The international community would benefit from pollution reduction, climate mitigation, and the increased trading opportunities that arise from new income sources. The non-technical issues, which have recently gained attention, include: (1) Environmental and ecological factors e.g., carbon sequestration, reforestation and revegetation. (2) Renewables as a CO2 neutral replacement for fossil fuels. (3) Greater recognition of the importance of renewable energy, particularly modern biomass energy carriers, at the policy and planning levels. (4) Greater recognition of the difficulties of gathering good and reliable renewable energy data, and efforts to improve it. (5) Studies on the detrimental health efforts of biomass energy particularly from traditional energy users. Two of the most essential natural resources for all life on the earth and for man’s survival are sunlight and water. Sunlight is the driving force behind many of the renewable energy technologies. The worldwide potential for utilising this resource, both directly by means of the solar technologies and indirectly by means of biofuels, wind and hydro technologies is vast. During the last decade interest has been refocused on renewable energy sources due to the increasing prices and fore-seeable exhaustion of presently used commercial energy sources.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Energy Use, Environment and Sustainable Development

165

REFERENCES [1] [2] [3] [4]

[5] [6]

[7] [8] [9] [10] [11]

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

[12]

[13] [14] [15]

[16] [17] [18] [19]

World Energy Outlook. International Energy Agency. OECD Publications. 2 rue Andre Pascal. Paris. France. 1995. Energy use in offices. Energy Consumption Guide 19 (ECG019). Energy efficiency best practice programme. UK Government. 2000. DETR. Best practice programme-introduction to energy efficiency in buildings. UK Department of the Environment. Transport and the Regions. 1994. Bos, E., My, T., Vu, E., and Bulatao R. World population projection: 1994-95. Edition, published for the World Bank by the John Hopkins University Press. Baltimore and London. 1994. DEFRA, Energy Resources. Sustainable Development and Environment. UK. 2002. Levine M., and Hirose M. Energy efficiency improvement utilising high technology: an assessment of energy use in industry and buildings. Report and Case Studies. London: World Energy Council. 1995. IPCC. Climate change 2001 (3 volumes). United Nations International Panel on Climate Change. Cambridge University Press. UK. 2001. Parikn, J., Smith, K., and Laxmi, V. Indoor air pollution: a reflection on gender bias. Economic and Political Weekly. 1999. UNIDO. Changing courses sustainable industrial development, as a response to agenda 21. Vienna. 1997. WRI (World Resource Institute). World Resources: A guide to the Global Environment. People and the Environment. Washington. USA. 1994. Boulet, T. Controlling air movement: a manual for architects and builders. McGrawHill, p.85-138, New York: USA. 1987. Erreygers, G. Sustainability and stability in a classical model of production. In: Faucheux, S., Pearce, D., and Proops J. (eds). Models of sustainable development. Cheltenham. 1996. Meffe, S., Perkson, A., and Trass, O. Coal beneficiation and organic sulphur removal. Fuel 75: 25-30. 1996. BS 5454. Storage and exhibition archive documents. British Standard Institute. London. 1989. Lazzarin, R. D’Ascanio, A., and Gaspaella, A. Utilisation of a green roof in reducing the cooling load of a new industrial building. In: Proceedings of the 1st International Conference on Sustainable Energy Technologies (SET), p. 32-37, Porto: Portugal. 1214 June 2002. David, E. Sustainable energy: choices, problems and opportunities. The Royal Society of Chemistry 2003; 19: 19-47. Zuatori, A. An overview on the national strategy for improving the efficiency of energy use. Jordanian Energy Abstracts 2005; 9 (1): 31-32. Anne, G., and Michael, S. Building and land management. 5th edition. Oxford: UK. 2005. Randal, G., and Goyal, R. Greenhouse technology. New Delhi: Narosa Publishing House. 1998.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

166

Abdeen Mustafa Omer

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

[20] Yadav, I., and Chauadhari, M. Progressive floriculture. Bangalore: The house of Sarpan, p.1-5, 1997. [21] EIBI (Energy in Building and Industry). Constructive thoughts on efficiency, building regulations, inside committee limited, Inside Energy: magazine for energy professional. UK: KOPASS, p.13-14. 1999. [22] Erlich, P. Forward facing up to climate change, in Global Climate Change and Life on Earth. R.C. Wyman (ed), Chapman and Hall, London. 1991. [23] Omer, A. M. Green energies and the environment. Renewable and Sustainable Energy Reviews 12: 1789-1821. 2008. [24] Omer, A. M. Energy demand for heating and cooling equipment systems and technology advancements. In: Natural Resources: Economics, Management and Policy, p.131-165. 2008. [25] Omer, A. M. Ground-source heat pumps systems and applications. Renewable and Sustainable Energy Reviews 12: 344-371. 2008.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

In: Environmental Cost Management Editor: Randi Taylor Mancuso

ISBN 978-1-60741-815-3 © 2009 Nova Science Publishers, Inc.

Chapter 4

A GAME-THEORETIC ANALYSIS OF ENVIRONMENTAL BEHAVIOUR AT THE CORPORATE AND GLOBAL LEVEL Richard Fairchild and Baris Yalabik School of Management, University of Bath, UK

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

ABSTRACT With our planet’s environment facing increasing threat of irreparable damage, academics, practitioners, and policy-makers are becoming more focused on the incentives of individuals, corporations, and governments to act in the interests of the environment. Since the environment is a public good, private incentives may be misaligned. Hence, game theory provides an ideal tool to examine environmental problems. In this paper, we review the existing game-theoretic approach to the environmental behaviour of corporations and governments. The literature reveals that, at the corporate level, environmental incentives are driven by market forces (the existence of ‘green’ consumers and investors), and regulation. Hence, game-theoretic approaches within the industrial organisation field are particularly appropriate. At the global level, where governments make international environmental agreements (IEAs), the situation resembles a prisoner’s dilemma, where each nation is tempted to break the IEA, and ‘free-ride’ on the other nations’ abatement efforts. After reviewing the literature, we make our own contributions, at both the corporate and global levels. At the corporate level, we develop a benchmark monopoly model of corporate environmental behaviour. We then compare our results with those of Fairchild’s (2008) duopoly model, and Bagnoli and Watts (2003) oligopoly model. This provides an insight into the inter-relationship between market structure, consumers’ environmental preferences, and corporate environmental behaviour. Next, we develop a behavioural game theoretic approach to global environmental agreements, in order to determine whether psychological factors, such as empathy, guilt and anger, can mitigate governmental free-riding, and sustain IEAs.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

168

Richard Fairchild and Baris Yalabik Finally, we discuss future research, specifically noting that a gap in the literature should be filled by developing a model that combines corporate and global environmental incentives.

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

1. INTRODUCTION The finely-tuned balance of our planet’s environment is facing the increasing threat of irreparable damage, through pollution, carbon emissions, and natural resource depletion. Hence, it is becoming important for academics, practitioners, and policy-makers to understand the incentives of individuals, corporations, and governments to act in the interests of the environment. Since the environment is a public good, private incentives may be misaligned. Traditionally, economists have considered environmental problems from a standard microeconomic viewpoint, treating environmental problems as a case of market failure, to be addressed by governmental regulation. Recently, however, scholars have begun to recognise that strategic interactions are important. For example, at the corporate level, product market competition may drive ‘green’ production practices. At the national level, governments may be considered as strategic players, both in terms of regulation, and in making environmental agreement with other players. Hence, game theory provides an ideal tool to examine environmental problems. This is the focus of this chapter. We begin by reviewing the existing game-theoretic approach to the environmental behaviour of corporations and governments. The literature reveals that, at the corporate level, environmental incentives are driven by market forces (the existence of ‘green’ consumers and investors), and regulation. Hence, game-theoretic approaches within the industrial organisation field are particularly appropriate. At the global level, where governments make international environmental agreements (IEAs), the situation resembles a prisoner’s dilemma, where each nation is tempted to break the IEA, and ‘free-ride’ on the other nations’ abatement efforts. After reviewing the literature, we make our own contributions, at both the corporate and global levels. At the corporate level, we develop a benchmark monopoly model of corporate environmental behaviour. We then compare our results with those of Fairchild’s (2008) duopoly model, and Bagnoli and Watts (2003) oligopoly model. This provides an insight into the inter-relationship between market structure, consumers’ environmental preferences, and corporate environmental behaviour. Next, we develop a behavioural game theoretic approach to global environmental agreements, in order to determine whether psychological factors, such as empathy, guilt and anger, can mitigate governmental free-riding, and sustain IEAs. Finally, we discuss future research, specifically noting that a gap in the literature should be filled by developing a model that combines corporate and global environmental incentives.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

A Game-theoretic Analysis of Environmental Behaviour …

169

2. GAME THEORY AND CORPORATE ENVIRONMENTAL POLICY 2.1. Literature Review In this section, we consider the literature relating to the corporate sector’s incentives to behave in an environmentally-friendly manner. Blinder (1987) states;

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

“If the law says that the firm can emit up to 500 tons of glop per year, it has no reason to spend a penny to reduce its discharges to 499 tons.”

This is consistent with Milton Friedman’s argument that a firm’s sole responsibility is towards its shareholders. There is a keen debate about the effect of ethical behaviour on shareholder value. For example, Hillman and Keim (2001) argue that ethical behaviour may be bad for shareholders. Regardless, we observe firms being increasingly more inclined towards behaving responsibly from an environmental point of view, in many cases going above and beyond requirements set by regulations. Hence, an important question is, what motivates a business to make costly efforts to produce in an environmentally manner, and particularly to overcomply? In this section, we begin by reviewing the general literature in this area, before focussing on the game-theoretic approaches that have been developed. Williamson et al (2006) identify two possible motives for corporate environmental behaviour, which they describe as the “business case” and the “business performance” motives. The business case motive “stresses the benefits to shareholders of voluntary (or beyond compliance) behaviour when firms become more appealing to employees, customers, suppliers, communities and socially responsible investors. The emphasis on voluntary practices is compatible with a view that regulatory compliance will not bring about the change required for sustainable development.” In contrast, business performance emphasises cost reduction and efficiency. Williamson et al (2006) conduct a survey of the environmental practices in 31 manufacturing small and medium-sized enterprises (SMEs) in the UK. They find that the key drivers of the environmental policies of these SMEs are regulation and business performance motives. An important finding of their survey is that “there was no evidence that manufacturing SMEs would voluntarily go beyond compliance.” In contrast, Miles and Covin (2000) argue that “the social, economic and global environment of the 1990s has resulted in environmental performance becoming an increasingly important component of a company’s reputation.” These authors view reputation as an intangible asset that can create market value. Furthermore, superior environmental performance can give a company reputational and competitive advantage. Chen et al (2006) provide evidence from Taiwan consistent with this view: “This study found that the performances of the green product innovation were positively correlated to the corporate competitive advantage. Therefore, the result meant that the investment in the green product innovation and green process innovation was helpful to the businesses.” Lyon and Maxwell (1999) examine the development of regulation in relation to the corporate sector’s environmental policies over the last three decades. During the 1970’s and 1980’s, the regulatory approach was one of “command and control,” where tough and inflexible legal standards were defined and enforced rigorously. However, regulation became

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

170

Richard Fairchild and Baris Yalabik

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

market based in the late 1980s, with an emerging voluntary approach by businesses during the 1990’s. According to Lyon and Maxwell (1999), this increase in the voluntary approach may have arisen as a reaction to the increasing trend in ethical and moral feelings of ‘green’ consumers and investors. They note that, in the product market, “firms can differentiate their products by improving their environmental qualities, and thereby charge a higher price,” while in the financial markets, “there is some empirical evidence that stock prices respond to unfavourable news about corporate pollution, so green investors may be an increasingly important factor determining corporate environmental activity.” Maxwell et al. (2000) suggest a different view: Corporations get involved in environmental activity and self-regulation (or at least purport that they do so) to pre-empt costly regulations that may be put forth by policy makers.

2.1.1. “Green” Behaviour and Product Differentiation One stream of literature bases its discussion on the idea that at least some customers will be willing to pay a price premium for the products of firms that are environmentally friendly. Arora and Gangopadhyay (1995) convincingly make this argument by noting that, keeping all else equal, a particular customer would prefer a “green” product over one that is not. Therefore, there must be a certain surplus which the firm can charge for this product without losing this particular customer. This means that firms may voluntarily invest in the environment, resulting in over-compliance with existing regulations. Arora and Gangopadhyay (1995) develop a vertical product quality model, in which a policy-maker sets minimum quality standards, and competing firms overcomply in their environmental behaviour, as a reaction to “green” consumers. That is, they engage in excessive environmental activity in an attempt to differentiate themselves. They find that higher consumer income levels result in improved environmental emissions. They also find, surprisingly, that a government standard on emissions will be accompanied by increased sales. This increase is driven by the higher level of emissions control and an accompanying increase in consumer utility as a result of the standard. However, whether or not this increase in sales is accompanied by an increase in profits is not discussed31. Bagnoli and Watts (2003) utilize the Cournot and Bertrand competition models to show that, when “green” consumers exist, competition can reduce the amount of environmentally (or socially) responsible investment. Intuitively, this occurs because competition lowers the prices charged by firms not investing in the environment, which results in sales lost by the firms which do invest. This result seems to support Shleifer (2004) who asks: “does competition destroy ethical behaviour?” Similar to Bagnoli and Watts (2003), Kanniainen and Pietarila (2006) present a spatial differentiation model of competing firms’ incentives to behave in a socially responsible manner (their results are equally valid if the responsibility is of the environmental nature). Their results support Bagnoli and Watts’ (2003) finding that environmental investment can be reduced when competition is more intense, but also suggest that some competition is still necessary for the most efficient level of investment.

31

Probably not, since the firm that was operating below the requirements of the new standard already had the option of operating there without the standard being imposed.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

A Game-theoretic Analysis of Environmental Behaviour …

171

Fairchild (2008) takes a similar approach to Arora and Gangopadhyay (1995). He assumes that investors and consumers value environmentally clean behaviour. Therefore, consumers are prepared to pay a price-premium on an environmentally friendly firm’s products, while investors are prepared to pay a premium on the firm’s shares. He finds that an increase in environmentally friendly behaviour can be induced by a combination of government subsidies and increased environmental awareness of all parties involved.

2.1.2. Other Corporate Environmental Incentives There are streams of literature that consider other incentives that firms have for behaving in socially responsible ways. We mention these streams below and direct the reader to Lyon and Maxwell (2007) for a detailed review of these literatures. Games between corporations and regulators have been examined in some detail. The point of consideration here is not only the efficiencies of certain types of regulations, but also issues such as mobilizing public opinion (Baron 2005), pre-empting regulatory threats (see, for example, Maxwell, Lyon, and Hackett 2000), and agreements between industries and regulators (Dawson and Segerson 2001, Manzini and Mariotti 2003, Lyon and Maxwell 2003). Green behaviour is also existent in decisions by external investors and the labour market. For instance, one might expect larger investments in firms that are environmentally friendly (Baron 2007). Also, the desire of employees to work in environmentally sensitive firms may drive the cost of labour for firms (Brekke and Nyborg 2004). Finally, corporate disclosure of environmental liability information, as it relates to compliance and market response, has been analyzed in detail (Li et al 1997).

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

2.2. Game-theoretic Models of Corporate Sector’s Environmental Behaviour In this section, we develop a benchmark monopoly model of corporate environmental behaviour, which we proceed to compare with Fairchild’s (2008) duopoly model, and Bagnoli and Watt’s (2003) oligopoly model.

2.2.1. Our Benchmark Monopoly Model Consider a monopolist operating in a market of consumers who can observe, with some efficiency, the environmentally harmful emissions of the firm. The consumers are also pricesensitive, so we assume the demand for the firm’s product to be: D(p, E) = a – bp – kE

(1)

In the above demand function, p is the per-unit price charged by the firm and E is the amount of emissions per unit of goods produced. The parameters a, b, and k are properties of the consumer market; a is the market size and b is the sensitivity of the market to the firm’s price. On the other hand, the parameter k can be interpreted as the sensitivity of the market to the firm’s emissions. As the firm’s emissions increase, its demand is decreased by an amount kE; a large value of k means demand is influenced substantially by any change in emissions and a small value

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

172

Richard Fairchild and Baris Yalabik

of k means consumers might not be very responsive to changes in emissions. We assume that k cannot be influenced by the firm, but it can be adjusted by a policy maker to induce the desired environmental response by the firm. For example, the policy maker might utilise advertising or education to influence the value of k. We also assume that the policy maker can utilise fines or penalties to reduce emissions by the firm. Therefore, the firm’s margin becomes: p – c – mE

(2)

where c represents the per-unit cost of production and m is the rate (fines) paid by the firm for the emissions resulting from each unit produced. Given our model, the policy maker has the option to influence the firm through either changing k, or m, or both. Thus, in Section 2.2.1.4, we will discuss the effect of changing k and/or m on the emissions of the firm. We assume that the firm currently has per-unit emissions of E0, and the firm can invest in reducing these emissions (perhaps through the education of its employees or through investment in cleaner technologies). To be specific, the cost of reducing per-unit emissions to a level E1 will cost: t(E0 – E1)2

(3)

where t determines the magnitude of the cost involved in making an investment. According to this cost function, it gets increasingly difficult to attain improvements in emissions as more investment is made (the marginal “return” from investment is decreasing as a function of the investment made). Bringing terms together, the firm’s profit function can be stated as:

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

∏(p, E) = (a – bp – kE)( p – c – mE) – t(E0 – E)2

(4)

2.2.1.1. Optimal Price Maximizing (4) with respect to price, we obtain the following result: RESULT 1. Let p*(E) be value of p that maximizes (4), given a certain value of E. Then,

p * (E ) =

a + bc 1⎛ k⎞ + E ⎜m − ⎟ 2b 2⎝ b⎠

(5)

PROOF. Taking the first derivative of (4) with respect to price, we obtain the first order condition:

∂Π (p, E ) = 0 ⇔ − b(p − c − mE ) + (a − bp − kE ) = 0 ∂p Solving for p, we obtain (5). The second derivative of (4) with respect to price is -2b < 0, so (5) is a maximum. □

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

A Game-theoretic Analysis of Environmental Behaviour …

173

Examining (5), we can make several observations. First, given a certain level of emissions, we see that increased fines result in increased price. This happens because, if the firm has no control over emissions, its marginal cost is increasing as fines are increased. Therefore, marginal revenue must also increase. Second, increased consumer sensitivity to emissions results in a reduced price. This happens since a larger k means customers are less willing to buy the firm’s product due to its emissions and the firm needs to lower prices to ‘sweeten the deal’. Finally, higher emissions by the firm may mean lower or higher prices, based on the relative magnitude of fines (m) with respect to the relative importance of the environment for the consumers when compared to price (k/b). If fines are high, then increased emissions are accompanied by an increase in price while if customers give importance to the environment then increased emissions will be accompanied by a decrease in price; if fines are high then the firm will want to pass on the increased cost of emissions to the customers but if sensitivity is high then the firm will want to make up for the lost demand through a lower price.

2.2.1.2. Optimal Emissions Level Substituting the expression in (5) for price and simplifying, we can rewrite (4) in the form:

1 ⎛ a − bc E(k + mb ) ⎞ 2 Π (E ) = ⎜ − ⎟ − t (E 0 − E ) b⎝ 2 2 ⎠ 2

(6)

Optimizing (6) with respect to E and including the boundary condition 0 ≤ E* ≤ E0, we obtain the following result:

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Result 2. Let E* be the value of E that maximizes (6). Then, (i) if k < 2 tb − mb , then

⎧ ⎪0 ⎪ ⎪ * E = ⎨Eˆ ⎪ ⎪E 0 ⎪ ⎩

if if

⎛k ⎞⎛ a − bc ⎞ E 0 ≤ ⎜ + m ⎟⎜ ⎟ ⎝b ⎠⎝ 4t ⎠ a − bc ⎛k ⎞⎛ a − bc ⎞ ⎜ + m ⎟⎜ ⎟ < E0 ≤ k + mb ⎝b ⎠⎝ 4t ⎠ otherwise

where

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

174

Richard Fairchild and Baris Yalabik

⎞⎛ a − bc ⎞ ⎛k 2 tE 0 − ⎜ + m ⎟⎜ ⎟ ⎠⎝ 2 ⎠ . ⎝b ˆE = 2 ( k + mb ) 2t − 2b (ii) Otherwise, if k ≥ 2 tb − mb , then .

⎧ ⎪ ⎪0 E* = ⎨ ⎪ ⎪ ⎩E 0

(a − bc )⎛⎜ k + mb ⎞⎟

if

⎝ 2 ⎠ (k + mb)2 + bt 4 otherwise E0 ≤

Proof. Taking the first derivative of (6) with respect to E, we obtain the first order condition:

dΠ (E ) ⎛ k + mb ⎞⎛ a − bc ⎞ (k + mb ) = −⎜ E − 2tE + 2tE 0 = 0 ⇔ E = Eˆ ⎟⎜ ⎟+ dE 2b ⎝ b ⎠⎝ 2 ⎠ 2

Taking the second derivative, we obtain:

d 2 Π (E ) (k + mb ) = − 2t . 2b dE 2 Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

2

The second derivative is negative when k < 2 tb − mb and non-negative when

k ≥ 2 tb − mb . Therefore, Eˆ is a maximum when k < 2 tb − mb and a minimum when k ≥ 2 tb − mb . Now, we consider the two cases separately: (i) Let k < 2 tb − mb . Then, looking at the boundary conditions, we obtain:

⎛k ⎞⎛ a − bc ⎞ 1 Eˆ ≥ 0 ⇔ E 0 ≥ ⎜ + m ⎟⎜ ⎟ and ⎝b ⎠⎝ 4 ⎠ t

a − bc . Eˆ ≤ E 0 ⇔ E 0 ≤ k + mb Finally, noting that

a − bc ⎛k ⎞⎛ a − bc ⎞ 1 ⇔ k < 2 tb − mb , ⎜ + m ⎟⎜ ⎟ ≤ ⎝b ⎠⎝ 4 ⎠ t k + mb

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

A Game-theoretic Analysis of Environmental Behaviour …

175

we obtain E* as stated in the result.

ˆ is a minimum and that profit is maximized (ii) Let k ≥ 2 tb − mb . This means that E either at E = 0 or at E = E0. Substituting 0 and E0 for E in (6), we obtain: 1 ⎛ a − bc ⎞ 1 ⎛ a − bc (k + mb )E 0 ⎞ 2 − ⎟ ⎜ ⎟ − tE 0 ≥ ⎜ b⎝ 2 ⎠ b⎝ 2 2 ⎠ (a − bc )⎛⎜ k + mb ⎞⎟ ⎝ 2 ⎠ ⇔ E0 ≤ (k + mb)2 + bt 4 2

2

Π E =0 ≥ Π E = E ⇔ 0

According to Result 2, the firm will choose to make an investment in E only if the initial level of emissions is low enough. Otherwise, the firm prefers to keep its level of emissions. In addition, when the firm does invest, it might invest only partially (if k is small) or fully (if k is large). We will have more to say about the response of the firm to changes in parameters in the next section, where we perform a sensitivity analysis.

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

2.2.1.3. Sensitivity Analysis In this section, we consider the optimal solution for E as laid out in the previous section and observe how the optimal value of E responds to changes in the problem parameters. In particular, we consider changes in the environmental sensitivity of consumers (k), fines (m), and the initial level of emissions of the firm (E0). We start with Result 3 below and then explain the result with the help of figures. Result 3. Let k < 2 tb − mb . (i)

⎧ˆ ⎪E if then E = ⎨ If E 0 ≤ 2 tb ⎪⎩0 a − bc

If E 0 >

a − bc 2 tb

*

⎧ˆ ⎪E

then E = ⎨ *

if

⎪⎩E 0

4btE 0 −m a − bc otherwise k≤

a − bc − mb E0 otherwise k≤

(ii) Moreover, let

a − bc ⎞ ~ a − bc ⎛ k + mb E= +2 ⎜ ⎟. 4 ⎝ 2 tb k + mb ⎠ Then,

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

(7)

176

Richard Fairchild and Baris Yalabik

if

~ E 0 ≥ E then

if

~ E 0 < E then

dEˆ ≥ 0 and dk dEˆ < 0 and dk

Proof. (i) First, let E 0 ≤

a − bc 2 tb

dEˆ ≥0 dm dEˆ

⎧ˆ ⎪E E =⎨ ⎪⎩E 0 *

if

a − bc − mb . E0 otherwise k≤

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

ˆ with respect to k, we have: (ii) Taking the derivative of E

dEˆ = dk

(k + mb)2 ⎞⎟ + ⎛ k + m⎞⎛⎜ 2tE − ⎛ k + m⎞⎛ a − bc ⎞⎞⎟ 1 ⎛ a − bc ⎞⎛ ⎜ − ⎜ 2 t − ⎟⎜ ⎟⎟ ⎜ ⎟⎜ 0 ⎜ ⎟ b ⎝ 2 ⎠⎜⎝ 2b ⎟⎠ ⎝ b ⎝b ⎠⎝ 2 ⎠ ⎠ ⎠⎝ ⎛ (k + mb)2 ⎞⎟ ⎜ 2t − ⎜ 2b ⎟⎠ ⎝

2

~ ≥ 0 ⇔ E0 ≥ E0

ˆ with respect to m, we have: Taking the derivative of E

dEˆ = dm

(k + mb)2 ⎞⎟ + (k + mb)⎛⎜ 2tE ⎛ a − bc ⎞⎛⎜ −⎜ 2 t − ⎟ ⎜ 0 2b ⎟⎠ ⎝ 2 ⎠⎜⎝ ⎝ ⎛ (k + mb)2 ⎞⎟ ⎜ 2t − ⎜ 2b ⎟⎠ ⎝

⎛k ⎞⎛ a − bc ⎞ ⎞ − ⎜ + m⎟⎜ ⎟ ⎟⎟ ⎝b ⎠⎝ 2 ⎠ ⎠

2

~ ≥ 0 ⇔ E0 ≥ E0

Figure 1 summarizes Result 3 by depicting the relationship between the parameters k and m for given ranges of E0. First, for large values of E0, increases in k and/or m can result in an increase in E*. In words, this means that if the firm’s initial level of emissions is high, then

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

A Game-theoretic Analysis of Environmental Behaviour …

177

increases in customer sensitivity to the environment and/or increases in fines may cause a firm to invest less than it would if those pressures were less. Intuitively, this happens because, when initial emissions are high, the effects of increased pressures on either the demand or the profit margin or the firm are considerable and the firm prefers to reduce its output and raise its price over making a substantial investment in the environment to counter these effects (since our firm is a monopoly, there are no market-share concerns). Second, pressures do have the intended effect if E0 is small; increases in k and/or m are accompanied by decreases in E*. This happens because less of an investment is required to counter the effects of the increased pressures. Third, an observation of (8) above reveals that the firm’s response to market pressures works in the same direction as its response to an increase in fines. Therefore, a policy maker may choose to induce the firm to be more environmentally friendly through any combination of market pressures and regulations depending on the policy maker’s cost of creating these effects. Result 4 completes the sensitivity analysis of E* by considering the case when

k ≥ 2 tb − mb . Result 4. Let k ≥ 2 tb − mb . Then,

dE * dE * ≤ 0 and ≤0 dk dm PROOF. Let k ≥ 2 tb − mb . Then, we have:

1 ⎛ a − bc ⎞ 1 ⎛ a − bc (k + mb )E 0 ⎞ 2 − ⎟ . ⎜ ⎟ − tE 0 ≥ ⎜ b⎝ 2 ⎠ b⎝ 2 2 ⎠ 2

Π E =0 ≥ Π E = E ⇔ Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

0

2

Note that the left-hand-side of the above inequality is independent of k and m. Considering the right-hand-side, 2 E ⎛ a − bc (k + mb)E 0 ⎞ d ⎡ 1 ⎛ a − bc (k + mb)E 0 ⎞ ⎤ − − ⎟ ⎥=− 0⎜ ⎟ WCC > WDD > WCD , where W represents the welfare of the country, the first letter in the subscript represents that country’s strategy (D or C), and the second letter represents the rival’s strategy. In this case, we have a prisoner’s dilemma. This is because each party’s dominant strategy is to defect

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

186

Richard Fairchild and Baris Yalabik

(whatever the other party does), so that, in equilibrium, both parties defect (free-ride). Both parties would be better off cooperating. Hence, we face a prisoner’s dilemma. In practical terms, this model says that, although both states may make a voluntary agreement to ‘clean-up’ environmental emissions at cost (which would maximise social welfare), there is an incentive for each to defect, so that global pollution remains as bad as ever (hence welfare is lower). The factors that contribute to this dismal outcome are a) the game is a one-shot game, b) and the agreement cannot be enforced due to the lack of a supranational agency and a weak global legal system. In spite of the dismal outcome of this one-shot prisoner’s dilemma for the global environment, Endres argues that, in reality, the situation may not be so bad. We observe some success in environmental agreements. Further, the analysis suggests that there may be some solutions to the problem. Game-theory addresses both of these factors. Endres proceeds to consider two major ways in which the prisoner’s dilemma can be used to analyse cooperative international agreements; a) dynamic games (also referred to as supergames), and risky payoffs. Endres considers whether repeated interaction in the prisoner’s dilemma framework can solve the defection problem through punishment threats (the ‘supergame’ approach34). A critical consideration is whether the planning horizon is finite or infinite. In the first case, punishment strategy is not enforceable or credible, since endgame effects cause the game to unravel to the present round of play, such that all parties play immediate mutual defection. However, in the infinitely repeated game, the punishment strategy is effective. Endres considers the ‘grim trigger’ strategy, whereby the nations agree to cooperate while the other is cooperating. However, if, at any stage, a nation defects, the other nation will punish by defecting forever. Each nation’s incentive to cooperate is then driven by a cost-benefit analysis of defection, which weighs the short-term gains from unilaterally defecting against the long-term benefits of infinite future mutual cooperation. The equilibrium is therefore affected by the discount factor that each nation applies to future payoffs. Endres and Ohl (2000), and Endres and Ohl (2002) consider whether mutual cooperation can be sustained in a one-shot environmental game (without the need to appeal to punishment threats in a supergame framework). Endres and Ohl (2000) argue that if nations are riskaverse, then the risk associated with environmental negotiations may drive mutual cooperation. The authors consider the same ordering of expected welfare as above, but with this ordering of risk;

σ DD > σ CD = σ DC > σ CC . Hence, mutual defection maximises risk, while mutual cooperation minimises risk. Given that risk-averse nations maximise expected utility, consisting of a combination of positive expected return minus risk, it is possible that mutual cooperation can be induced by sufficiently high risk-aversion. Hence, a policy implication is that, if nations are sufficiently

34

A ‘supergame’ is a repeated version of a one-shot game, played over several time-periods. This approach has been used extensively to examine, for example, whether mutual cooperation can be sustained in equilibrium in a (finitely or infinitely) repeated prisoner’s dilemma (in contrast to the mutual defection equilibrium of the one-shot prisoner’s dilemma).

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

A Game-theoretic Analysis of Environmental Behaviour …

187

risk-averse regarding environmental outcomes, mutual cooperation may be sustainable even in a one-shot game. Endres and Ohl (EO 2002) employ another approach to examine the possibility of mutual cooperation in a one-shot environmental game. That is, they analyse a two-nation game in which the countries simultaneously choose between cooperation (emissions-reduction) and defection (free-riding on the other nation’s efforts). Furthermore, if a nation cooperates it chooses between two possible environmental policy instruments,35 an efficient policy instrument I 1 , or an inefficient policy instrument I 2 . An interesting aspect of this analysis is that the authors do not model the problem as a prisoner’s dilemma. Rather, they consider two alternative formulations; the game of chicken, and the stag-hunt game. The authors begin by considering the instruments in isolation. In the first case, only the efficient instrument I 1 is available. In this case, the payoffs are such that the nations play a game of chicken, as follows. Home-/Foreign Country

Cooperation ( I 1 )

Defection

Cooperation ( I 1 )

h/h

c/i

Defection

i/c

b/b

With b < c < ..... The game thus has the following multiple equilibria; either the home country cooperates and the foreign country defects, or vice versa. Next, EO only consider the inefficient instrument I 2 . In this case, the payoffs are such

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

the nations play a stag hunt game as follows. Home-/Foreign Country

Cooperation ( I 2 )

Defection

Cooperation ( I 2 )

e/e

a/d

Defection

d/a

b/b

In this case, the multiple equilibria are: both nations cooperate, or both nations defect (therefore, in contrast to the chicken game, mutual cooperation is possible). EO then allow the nations to choose between policy instruments I 1 or I 2 . This expands the nations’ strategy choices by combining the chicken and stag-hunt games as follows.

35

Home-/Foreign Country

Cooperation ( I 1 )

Cooperation ( I 2 )

Defection

Cooperation ( I 1 )

h/h

f/g

c/i

Cooperation ( I 2 )

g/f

e/e

a/d

Defection

i/c

d/a

b/b

As noted by Endres and Ohl (2002), there is an increasing recognition that equilibria of global environmental games may be affected by nations’ choice of environmental policy instruments. For example, see Endres (1997), Endres and Finus (1998, 1999).

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

188

Richard Fairchild and Baris Yalabik It can easily be seen that cooperation with inefficient policy instrument I 2 is a

dominated strategy for both nations. Therefore, eliminating this strategy, the game degenerates to the previous chicken game. Therefore, the multiple equilibria are, the home country cooperates and chooses the efficient instrument I 1 , and the foreign country defects, or vice versa (hence, mutual cooperation cannot be achieved). EO focus on the interesting case where 2e > i + c; that is, mutual cooperation with the choice of inefficient policy instrument I 2 maximises social welfare. Hence, the unilateral cooperation equilibrium {D; C , I 2 )} does not maximise welfare. Next, EO consider whether the welfare-maximising equilibrium (mutual cooperation with the choice of inefficient policy instrument I 2 ) can be achieved by imposing a fairness criterion.36 Their approach is as follows. They firstly assume that the two countries attempt to ‘overcome’ independent optimisation, instead agreeing to carry out the social welfaremaximising cooperation strategy combination I 2 , I 2 . To support this argument, EO appeal to

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Schelling’s 1960 ‘focal point’ equilibrium. However, the agreement is not binding. If both nations expect the other to renege on the agreement, we end up reverting to the dismal cooperation/defection equilibrium. At this stage, EO transform the payoffs of the game by introducing the following adaption rule. Given the agreement, if the foreign country breaks the agreement by choosing I 1 instead of I 2 , the home country punishes the foreign country by defection. If the foreign country chooses defection, then hold on to the proposal. Obeying these rules forces the foreign country back to cooperation. We note that the mutual cooperation outcome of the model is enforced by a ‘focal point’ argument (focussing on the outcome with equitable payoffs e,e), combined with a punishment threat (reminiscent of the supergame approach). In section 3.2, we review more rigorous behavioural game-theoretic approaches, in which fairness and reciprocity are explicitly incorporated into the players’ payoffs and optimisation in a one-shot framework without punishment threats. Finally in this section, we review one more attempt at enforcing mutual cooperation in equilibrium in a global environmental game. Kuisman (1998) considers various games that may be applied to global environmental problems. The complete list of possible games that she considers is as follows; chicken, prisoner’s dilemma, deadlock, deadlock type, leader, stag hunt, harmony and hero. She argues that these games do not provide an adequate evaluation of rational environmental policies. Kuisman (1998) argues, “As to environmental issues, the games recounted above have preference orderings which do not fit in with author’s theory of prudent environmental policies.” For example, she argues that, in the prisoner’s dilemma or in chicken “it is difficult to conceive how the lone defector actor X or i could gain by polluting its national environment, except that its domestic private companies would gain alleged economic competitiveness.” Kuisman is thus motivated to develop the following game of ‘Paradox.’

36

Hence, EO begin to consider behavioural aspects of environmental games. We review behavioural approaches (with particular focus on fairness) more fully in section 3.2.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

A Game-theoretic Analysis of Environmental Behaviour … 1\2 Cooperate Defect

Cooperate 4, 4 2, 3

189

Defect 3, 2 1, 1

In the game of paradox, cooperation is the dominant strategy. Therefore, the equilibrium is mutual cooperation, and this maximises social welfare. Hence, Kuisman describes this as a “self-evident policy prescription: cooperation should be the option in all circumstances. Any actor choosing cooperation will come out on top.” It is interesting to note that Kuisman has the following in mind in developing this game; “This optimism requires the trust and information of the other actor’s true (enlightened) motives and intentions…” . To put it succinctly, actors must trust one another and rely on their rationality and good intentions in the face of common and grave threats.” In the next section, we review behavioural game-theoretic models that explicitly incorporate reciprocal motives such as fairness and trust.

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

3.2. Behavioural Game-theoretic Approaches to Global Environmental Games Our review of the literature on global environmental problems suggests that international agreements are beset by free-rider problems, in which self-interested nations exert abatementefforts lower than the social optimum, and in which such agreements consist of very few countries, and are inherently unstable. Researchers often analyse the situation as a prisoner’s dilemma, in which nations have a temptation to defect from an IEA. Furthermore, much research has been carried out to investigate the role of punishment threats in enforcing IEAs in a supergame framework. However, an emerging area of research analyses the role of reciprocal motives (such as fairness, trust and empathy) in supporting IEAs, and reducing free-rider incentives. We previously discussed how Endres and Ohl (2002) and Kuisman (1998) have sketched the first such behavioural approaches to global environmental games. In this section, we review some more rigorous approaches (see, for example, Hoel and Schneider 1997, Jeppesen and Andersen 1998, Peters and Schuler 2006, Lang et al 2007, Lange and Vogt 2003). The approaches that we review are based on the idea that players are not purely selfinterested, but may care about other players’ welfare. For example, Peters and Schuler incorporate commitment and fairness motives into Barrett’s (1994) model of IEA formation and stability. Barrett’s (1994) model consists of N identical countries that simultaneously decide whether to form an IEA (and act cooperatively to maximise the countries’ joint benefits), or to stay out of the IEA, and maximise their private utility functions. Specifically, the benefit function is

Bi (Q) =

b[aQ −

Q2 ] 2

N

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

190

Richard Fairchild and Baris Yalabik A country’s abatement-cost function is

cq 2 C (q) = . 2 It can be shown that, inside the IEA, global emission abatement in the cooperative solution is

QC =

a.N N + c/b

whereas the non-cooperative Nash solution (for countries outside the IEA) is

Q0 =

a. . N (1 + c / b)

Barrett (1994) analyses the size and stability of the IEA. His dismal finding is that, if

c / b ≥ 1, the IEA consists of no more than 3 countries. If c / b < 1, the IEA consist of more than 3 countries. His analysis is based on nations’ self-interest. Jeppesen and Andersen (1998) consider the effect of incorporating fairness and commitment into Barrett’s analysis. They employ Rabin’s (1993) idea of fairness. Specifically, they incorporate into each government’s utility function a loss-function from not joining an agreement. The authors consider two specifications;

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

f1 (n) = 10 − 2n, and f 2 (n) = 20 − 4n, Note that, according to these loss functions, the larger the number of countries signed-up to an IEA, the greater the feeling of loss for a country staying out of the IEA. In the second loss function, the marginal feeling of loss is higher than in the first loss function. Jeppesen and Andersen (1998) demonstrate that, adding the loss function increases the size and stability of the IEA. In similar vein, Hoel and Schneider (1997) examine the role of social norms in enhancing the size and stability of IEAs. They consider countries whose utility consists of income minus environmental costs. In addition, countries suffer non-environmental costs if they choose not to join the IEA. Within these non-environmental costs, the authors include the social norm effects of not joining. Indeed, they argue that “Social norms and conventions may play an important role in sustaining international environmental agreements… A government may feel uncomfortable if it breaks the social norm of sticking to an agreement of reduced emissions, even if in strict economic terms it may benefit from being a free-rider.” Peters and Schuler (2006) consider the effects of equity and fairness on the size of an IEA coalition. These authors employ the inequity-aversion approach of Fehr and Schmidt (1999) in order to capture the following idea. If concerns for inequity are small, we have the dismal outcome of the Barrett (1994) model; the IEA is very small. As inequity concerns increase,

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

A Game-theoretic Analysis of Environmental Behaviour …

191

the more each country dislikes heterogeneity. Therefore, countries become more alike by choosing similar abatement strategies (driving higher abatement efforts and larger IEAs). Similarly, Lange and Vogt (2003) consider the effect of fairness and equity on abatement efforts and IEA formation. Specifically, they employ the ERC model37 of Boltton and Ockenfels (2000). Firstly, they incorporate ERC into an N-country prisoner’s dilemma of pollution-abatement in which countries can either cooperate or defect. ERC supports a cooperative equilibrium. Secondly, they consider an abatement game in which countries can choose abatement efforts from a continous interval. Interestingly, now ERC cannot improve on the standard inefficient Nash equilibrium under self-interest. Finally, Lange and Vogt (2003) consider the effect of ERC on coalition formation. They find that the presence of ERC countries increases the size of the coalition and leads to efficiency gains, with the possibility of a stable agreement with full cooperation. Lange et al (2008) focus on the effects of the self-serving use of equity on climate negotiations. Employing Nash bargaining, these authors demonstrate that, by pushing selfserving concerns for equity, a country can increase its bargaining power. Lang et al consider a world-wide survey of agents involved in international climate negotiations which supports the notion that equity concerns are very important. Further empirical research by Lange et al (2007) emphasises the importance of equity to people involved in international climate policy. Hence, in contrast to the dismal results of the standard environmental models (in which governmental self-interest drives free-rider problems, and small unstable IEAs, and in which agreements can only be enforced by punishment threats), the behavioural models reviewed in this section provide a more optimistic viewpoint, whereby reciprocity, fairness, equity, and social norms can result in more pollution-abatement efforts, and larger and more stable IEAs. Although several behavioural approaches of reciprocity have been employed in the literature (eg; social norms, and fairness models, such as Fehr and Schmidt’s (1999) inequityaversion model, Bolton and Ockenfels (2000) ERC, and Rabin’s (1993) fairness model), we believe that a fruitful area is lacking in the literature. That is, researchers have not yet considered applying Sally’s (2000) empathy approach. This provides the motivation for our behavioural model in section 4.

4. THE MODEL We consider a behavioural game consisting of two countries, i∈{A, B}. Country i is governed by government i, and produces output using corporate sector i. The corporate sector emits toxic waste (pollution) as a by-product of production. All players are risk-neutral. Each government controls its manufacturing sector’s output of pollution. In our analysis, we demonstrate the standard result that total non-cooperative emission reduction (of the two countries) is less than the socially optimal level of reduction (due to the free-rider problem). We thus consider the possibility that the governments can sign an international agreement to produce the socially-optimal level of emission-reduction.

37

ERC stands for equity, reciprocity and Cooperation.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

192

Richard Fairchild and Baris Yalabik

Note that, in our game, the corporate sector is passive. The game is played between the two governments (thus we assume that the welfare of each country is given by the welfare of the government). Compared to the existing research, our model provides two major contributions. First, we consider indirect emission-reduction (that is, government i cannot directly reduce emissions, but must influence the corporate sector to do so). Secondly, we incorporate the behavioural factors of empathy, anger and guilt into the governments’ utility functions. In our analysis, the governments simultaneously decide whether to ‘stand-alone’ in their abatement efforts (the non-cooperative decision), or to exert socially-optimal abatement efforts according to the IEA. The timeline of the game is as follows: Date 0: We take as given that the two nations have signed a (non-binding) international environmental agreement (IEA) whereby each agrees to exert the socially optimal level of abatement-efforts. Date 1: Each nation simultaneously makes an unobservable decision to cooperate (that is, stick to the IEA at date 2: the effort stage) or defect (that is, make the privatelyoptimal effort decision). Date 2: If a government has decided to cooperate, it exerts the socially optimal effort level agreed in the IEA. If it defects, it exerts effort to maximise its own utility function, given its expectation of the rival’s effort decision.

Specifically, each government simultaneously exerts effort ei , with cost-of-effort38 2

C (e) = ei , in attempting to reduce the corporate sector’s emissions. The global level of

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

pollution is P = P − δ (e A + e B ), where δ represents the effectiveness of the government’s pollution-reducing efforts. Therefore, if each government exerts zero emission-reducing efforts, the global level of pollution is at the level, P . Increasing governmental efforts reduces emission levels, with the effect of these efforts being given by δ . In equilibrium, we consider

δ (e A + e B ) ∈ [0, P ].

We solve the game by backward induction.

4.1. Governmental Abatement Efforts (Date 2) Governments A and B payoff functions are, respectively:

U A = ∏ A +θ ∏ B

38

(1)

β would be a measure of the ease of exerting effort. However, we capture this in the effectiveness parameter δ . Therefore, for ease of analysis, and to economise on notation, we set β = 1.

It is possible to include a parameter

β

into the cost-of-effort function, such that

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

C ( e) = β e 2 ,

where

A Game-theoretic Analysis of Environmental Behaviour …

U B = ∏ B +θ ∏ A

193 (2)

where 2

(3)

2

(4)

∏ A = X − P − eA − a A ∏ B = X − P − eB − a B

In (1) and (2), θ ∈ [0,1) represents each government’s empathy level39. That is, it represents a weighting that each government places on the other government’s payoff. When θ = 0, this represents standard self-interested preferences, where each player is only

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

interested in its own payoff, without regard for the other player’s payoff. Increasing θ implies that each player becomes more empathetic, considering the other player’s payoff to an increasing extent. We assume that θ can never reach unity (each government cares about its own payoff more than the other government’s payoff). In (3) and (4), the first term represents the government’s utility from general activities, the second term represents its disutility from global pollution, the third term is the cost of abatement-efforts, and the final term is an anger parameter, representing government i' s disutility from the other government having a higher payoff. Specifically, the anger function is ai = A if ∏ ~ i > ∏ i , and ai = 0 if ∏ ~ i ≤ ∏ i . This approach is analogous to the inequity-aversion model of Fehr and Schmidt (1999), but, specifically in our model, it represents the anger at cooperating, and then finding that the other government has reneged on the agreement. Furthermore, by combining empathy with the anger function, a government that reneges on the agreement and unilaterally defects to obtain a higher payoff than its rival suffers a loss that we interpret as guilt. Substituting (3) and (4) into (1) and (2), and substituting for pollution P, we obtain;

U A = (1 + θ )( X − P − P δ (e A + e B )) − e A − θe B − a A − θa B

(5)

U B = (1 + θ )( X − P − P δ (e A + e B )) − e B − θe A − a B − θa A

(6)

2

2

2

2

Note that total welfare is

W = U A +UB.

(7)

Recall that we take as exogenously given that the governments have signed a (nonbinding) IEA at date 0 agreeing to exert the socially optimal level of abatement-effort at date 2. At date 1, they decide simultaneously whether to ‘cooperate’ (that is, stick to the agreement 39

In Sally’s (2001) empathy game, players’ levels of effective empathy are endogenously derived as part of the solution of the game. In our model, we simplify the approach by taking the level of empathy as exogenouslygiven. Future research will develop endogenous empathy levels in our environmental game.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

194

Richard Fairchild and Baris Yalabik

at date 2), or ‘defect’ (renege on the agreement at date 2). A date 2 defector maximises its own utility. Hence, at date 2, we consider 4 possible combinations of cooperation/defection decision; both governments cooperate, unilateral cooperation (either government A cooperates and government B defects, or vice versa), or both governments defect. If both governments chose ‘cooperate’ at date 1, the agreement is such that both governments choose the socially-optimal effort levels at date 2 (in order to maximise equation 7). In this case, we obtain each government’s effort level by solving

∂W ∂W = 0, and = 0. ∂e A ∂e B If both governments chose ‘defect’ at date 1, each government chooses its effort level to maximise (5) and (6) respectively. In this case, we obtain each government’s effort level by solving

∂U A ∂U B = 0, and = 0. ∂e A ∂e B Finally, consider the case where only one party (say government B) defects at date 1. Now, since efforts are independent, government A exerts the cooperative effort level, found

∂W = 0, and government B exerts the non-cooperative level, found by solving ∂e A

by solving

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

∂U B = 0. ∂e B Substituting these effort levels into the P equation, we obtain our first result. Lemma 1: The effect of the governments’ cooperate/defection decisions on abatementeffort levels, and pollution is as follows; If both governments chose cooperate at date 1, the governments’ socially optimal (firstbest) effort levels are e A

P

FB

FB

= eB

FB

= δP . The first-best level of pollution is

= P − 2δ P . 2

2

If government A chose defect, while government B chose cooperate, at date 1,

e A * = δP , e B * =

(3 + θ )δ 2 P 2 (1 + θ )δP , and P = P − . 2 2

If both governments chose defect at date 1,

P = P − (1 + θ )δ 2 P 2 .

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

e A * = eB * =

(1 + θ )δP , and 2

A Game-theoretic Analysis of Environmental Behaviour …

195

θ = 1 (full empathy), each government’s optimal effort level is identical in all 3 cases in lemma 1: that is e A = e B = δP , regardless of whether they We note the following. When

are mutually cooperating, mutually defecting, or unilaterally defecting. Similarly, in all 3 cases, P = P − 2δ P in all 3 cases when θ = 1. Furthermore, we observe from lemma 1 that we need to restrict the effectiveness 2

parameter to δ ≤

2

1 , in order to obtain non-negative pollution in our optimisation. 2P

4.2. Governmental Cooperation/defection Decision (Date 1) We now move back to date 1 to consider each government’s simultaneous cooperation/defection decision. We solve the following normal form game: A\B C D

C G1, G2 G5, G6

D G3, G4 G7, G8

We substitute the optimal effort and equilibrium pollution levels from lemma 1 into the utility functions (5) and (6) to obtain the following payoffs from the different combinations of cooperation/defection decisions, as follows;

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

U i = (1 + θ )( X − P + δ 2 P 2 ).

(G1,G2)

U A * = (1 + θ )[ X − P +

δ 2P 2 (3 + θ )δ 2 P 2 ] − δ 2 P 2 − θ (1 + θ ) 2 − A. 2 4

(G3)

U B * = (1 + θ )[ X − P +

(3 + θ )δ 2 P 2 δ 2P 2 ] − θδ 2 P 2 − (1 + θ ) 2 − θA. 2 4

(G4)

U A * = (1 + θ )[ X − P +

(3 + θ )δ 2 P 2 δ 2P 2 ] − θδ 2 P 2 − (1 + θ ) 2 − θA. 2 4

(G5)

U B * = (1 + θ )[ X − P +

δ 2P 2 (3 + θ )δ 2 P 2 ] − δ 2 P 2 − θ (1 + θ ) 2 − A. 2 4

(G6)

U i * = (1 + θ )[ X − P + (4(1 + θ ) − (1 + θ ) ) 2

δ 2P 2 4

].

(G7, G8)

Examination of equations (G1), (G2), (G7), and (G8) reveal that the anger parameter does not appear when the players have symmetric payoffs (that is, if they both cooperate or both

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

196

Richard Fairchild and Baris Yalabik

defect). However, if one defects unilaterally, then the anger parameter A appears in the unilateral cooperator’s payoff. Furthermore, the unilateral cooperator’s anger parameter appears in the unilateral defector’s payoff, multiplied by the unilateral defector’s empathy; that is θA (we interpret this as the unilateral defector’s guilt). Before deriving the equilibrium of the game for the entire range of empathy parameters θ ∈ [0,1], it is instructive to consider two polar cases; θ = 0 (pure self-interest), and θ = 1 (full empathy). Case 1:

θ = 0 (pure self-interest).

The payoffs become;

Ui = X − P + δ 2P 2. U A* = X − P +

2

− A.

(G3’)

UB* = X − P +

5δ 2 P 2 . 4

(G4’)

U A* = X − P +

5δ 2 P 2 . 4

(G5’)

UB* = X − P + Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

δ 2P 2

(G1’,G2’)

Ui* = X − P +

δ 2P 2 2

− A.

3δ 2 P 2 . 4

(G6’)

(G7’, G8’)

Since (G4’) > (G2’), (G8’) > (G6’), (G5’) > (G1’), and (G7’) > (G3’), it is clear that each firm’s dominant strategy is to defect. Therefore, the equilibrium is mutual defection. However, both firms would have been better off under mutual cooperation (hence, this represents a prisoner’s dilemma). This prisoner’s dilemma illuminates the free-riding process behind the non-stability of IEAs. We begin by considering the situation where both governments are considering whether to cooperate (ie stick to the IEA). Given that one decides to cooperate, then, by defecting (free-riding), its rival can increase its own payoff, and (as a by-product) reduce its rival’s payoff. Given this defection, its rival is better off defecting (free-riding) too. In equilibrium, they both defect, the IEA is destroyed, and both are worse off (and pollution is higher than under the IEA).

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

A Game-theoretic Analysis of Environmental Behaviour … Case 2:

197

θ = 1 (full empathy).

In the case of full empathy, it can be shown that, in the absence of anger, all payoffs (G1) – (G8) are identical; U i * = 2( X − P ) + 2δ P , for all combinations of C,D. This is due to 2

2

each player weighting its rival’s payoff equally to its own. Therefore, in the absence of anger, each player is indifferent between C and D. When we incorporate anger, then (G3), (G4), (G5) and (G6) all become

U i * = 2( X − P ) + 2δ 2 P 2 − A. Now, we obtain multiple equilibria {D,D} and {C,C}. The intuition is that, if government i is expecting its rival to cooperate, guilt will prevent government i from defecting. On the other hand, if government i is expecting its rival to defect, anger will ensure that government i defects too. Hence, under full empathy, θ = 1, a cooperative equilibrium is sustainable for any positive anger (although mutual defection is another possible equilibrium). Comparing these two polar cases, it is suggested that, as we increase the empathy parameter from 0 towards 1, there will be a critical level of anger at which we switch from the equilibrium of mutual defection to the multiple equilibrium of {C,C} and {D,D}. We derive a critical value for the anger parameter, AC . By analysing the payoffs (G1) (G8), we derive the following equilibria of the cooperate/defect game: Proposition 1:

(1 − θ ) 2 δ 2 P 2 , the equilibrium is {D,D} 4θ (1 − θ ) 2 δ 2 P 2 If A > AC = , the multiple equilibria are {D,D} and {C,C}. 4θ

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

If A ≤ AC =

Proposition 1a) demonstrates that, for low levels of anger/guilt, empathy between nations is not enough to sustain cooperation. Since each government strictly assigns an empathy parameter less than 1 to the other government, each government’s self-interested utility gain from defection outweighs its empathetic loss from ‘stealing’ utility from the other. Proposition 1b) demonstrates that, for a sufficiently high level of anger/guilt (given the empathy parameter), multiple equilibria exist, with the possibility of mutual cooperation. Furthermore, the critical anger level is negatively related to the empathy parameter;

∂Ac (θ ) < 0, with Ac (θ => 0) => ∞, and Ac (θ => 1) => 0. The implication of this ∂θ is that empathy is not sufficient on its own to drive cooperation (since each government weights its own payoff more than its rival’s. We require anger/guilt to support cooperation. Diagram 1 demonstrates the results stated in proposition 1.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

198

Richard Fairchild and Baris Yalabik

Critical Anger (alpha) as a function of empathy (theta) 5 4.5

Critical Anger (Ac)

4 3.5 3 2.5 2 1.5 1 0.5 0 0.05

0.1

0.2

0.3

0.4

0.5

0.6

0.7

0.8

0.9

1

Empathy (Theta)

The diagram demonstrates the critical value of the anger parameter as a function of empathy,

AC (θ ) =

(1 − θ ) 2 δ 2 P 2 , 4θ

as

in

proposition

1.

Thus,

it

is

confirmed

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

diagrammatically that AC ' (θ ) < 0. To the left of the line, the equilibrium is {D,D}. To the right of the line, the multiple equilibria are {D,D} and {C,C}. This can be analysed from two possible perspectives. For a given level of empathy, cooperation is not sustainable if the anger/guilt level is too low (since each empathetic player puts less weight on her rival’s payoff than her own, and hence the free-riding incentives outweigh empathetic feelings). For a sufficiently high level of anger/guilt, mutual cooperation is sustainable (although mutual defection is also an equilibrium). Alternatively, we can state that, for a given level of anger, empathy must be sufficiently high for mutual cooperation to be an equilibrium. If empathy is too low, government B may be angry about government A’s defection, but government A’s guilt is too low to prevent government A defecting. A policy implication arising from our analysis is that sufficiently high levels of empathy and anger/guilt are required in order to achieve mutual cooperation. Regarding the former, empathy (fellow-feeling) between nations might be relatively easy to promote. However, how can we promote/create anger and guilt? In order to answer this, we appeal to the analysis of Sacconi (2006, 2007), and Jeppesen and Andersen (1998), who argue that we need to create a setting of mutual obligations and trust. In particular, Sacconi (2006, 2007) appeals to the social contract as a means of promoting mutal obligations between stakeholders relating to

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

A Game-theoretic Analysis of Environmental Behaviour …

199

CSR40. However, Sacconi (2006, 2007) develops his work by arguing that the Social Contract account of CSR requires a repeated game framework, with punishment threats, to sustain cooperation in equilibrium. In contrast, we argue that empathy, anger and guilt can sustain such cooperation in a one-shot game. Furthermore, note that we have found multiple equilibria (C, C or D, D). This supports the analysis of Jeppesen and Andersen (1998). They discuss how the mutual cooperation equilibrium C, C can be enforced by social capital (trust/reputation etc). However, following Jeppesen and Andersen, we only consider a one-shot game, and so do not consider the effect of social capital. A policy implication of proposition 1b) is that, for low empathy, IEA’s are not stable/self-enforcing, and need to be sustained through punishment threats, or legal sanctions. However, when empathy is high, cooperation can be sustained (that is, IEAs may be stable) through behavioural/emotional factors such as empathy/guilt/anger/trust, without resorting to legal sanctions. A further implication of proposition 1b) follows from the result of multiple equilbria (D,D) or (C,C). Since welfare is maximised under (C,C), we may believe that governments will coordinate on (C,C) (that is, it is a focal point equilibrium). However, it is not clear how this may happen. Perhaps, global education to increase ‘green’ awareness (for example, the Live 8 concerts) may focus attention on mutual cooperation. Furthermore, consideration of the empathy parameter θ has powerful policy implications. Following Sally (2001), we can consider the empathy parameter as relating to geographical and psychological closeness (for example, similar cultures). In our model, we have only considered two countries, but the intuitive results can be extended to many countries or groups of countries. Our analysis then suggests that countries that are geographically or psychologically close may be prepared to ‘over-comply’ in abatement efforts (therefore, IEAs become sustainable without punishment threats or legal sanctions). However, countries that are more ‘distant’ (geographically or culturally) face more free-riding temptations (in which case, IEAs are not stable). In practical terms, this may affect the developed countries’ attitudes towards abatementefforts to help third world countries (it is argued that third world countries may face more problems from global emissions, and find it more costly to deal with). We argue that events such as Live 8 may be important in increasing empathy between developed and developing nations (thereby promoting IEAs).

5. CONCLUSION, POLICY IMPLICATIONS AND FUTURE RESEARCH In this chapter, we made two main contributions to the literature on theoretical approaches to environmental issues. First, we provided a review of the current literature discussing the corporate and global “games” that firms and countries play. Second, we contributed our own models of these games and utilised some of the existing models to

40

Note that Sacconi focuses his analysis on corporate CSR. However, we believe that his approach could be fruitfully extended to global and inter-governmental environmental behaviour, whereby we consider a social contract for the planet.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

200

Richard Fairchild and Baris Yalabik

observe when firms or countries will be willing to invest in behaving in environmentally friendly ways. On the corporate side, we examined firm behaviour under three different competitive scenarios and noted that competition for environmentally conscious consumers can induce better environmental behaviour by firms. However, we also realized that competition alone is not a sufficient condition for making environmental investments; in many cases additional mechanisms, such as fines or subsidies, might be necessary for firms to react in socially optimal ways. Considering strategies of countries in protecting the environment, we found that both some level of empathy and some anger/guilt may be necessary for countries to participate in international agreements without going into “free-rider” mode. Once again, similar to the corporate side, we find that a single mechanism does not guarantee environmentally friendly behaviour by the parties. Following the arguments in the last two paragraphs, our results suggest that more research investigating the effects of incentive mechanisms for environmentally friendly behaviour is needed. A single mechanism is, in many cases, not sufficient as a source of pressure. In addition, the overuse of a certain mechanism can cause inefficiencies elsewhere. For example, overuse of emissions penalties will prevent harmful emissions but may require a firm to either cut volume or raise prices so that this hurts the consumer market. The moderate use of multiple mechanisms, for example emissions penalties combined with public education, seems to produce better results. Similar problems exist on the global side. However, the use of multiple mechanisms can be presumed to be more expensive from the point of view of a policy maker. Therefore, different mechanisms should be investigated to see which ones can reach the desired results more efficiently. Another gap in literature is the apparent disconnect between the corporate and the global sides of the environmental economics literature. In this chapter we have demonstrated that considerable work has been done on either side, but we are not aware of any papers that consider both global games and regional/corporate games as part of a bigger framework. For example, the current global literature considers the corporate sector as a black box although one might expect that the representatives of a country negotiating an international environmental protection treaty would certainly consider the requirements and constraints of its corporate sector while making a decision. Similarly, the literature investigating the corporate side assumes the policy maker can impose any penalty or provide any subsidy to the corporate sector although we might presume that policy makers might be constrained by the international agreements they have made. There is no clear alignment of objectives between the two games and this makes for an interesting “super-game” to be examined.

REFERENCES Arora, S. and S. Gangopadhyay (1995). “Toward a Theoretical Model of Voluntary Overcompliance,” Journal of Economic Behavior and Organization, 28 (3): 289-309. Bagnoli, M. and S. G. Watts (2003). “Selling to Socially Responsible Consumers: Competition and the Private Provision of Public Goods,” Journal of Economics & Management Strategy, 12 (3): 419–445.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

A Game-theoretic Analysis of Environmental Behaviour …

201

Baron, D. P. (2007). “Corporate Social Responsibility and Social Entrepreneurship,” Journal of Economics and Management Strategy, 16: 683-718. Barrett (1994). “Self-enforcing International Environmental Agreements.” Oxford Economic Papers, 46, 878-94. Blinder, A.S. (1987). Hard Heads, Soft Hearts. (Addison Wesley Publishing Company, Inc.) Bolton and Ockenfels (2000). “ERC: A Theory of Equity, Reciprocity, and Competition”, American Economic Review, 90 (1): 166-193. Brekke, K. A. and K. Nyborg (2004). “Moral Hazard and Moral Motivation: Corporate Social Responsibility as Labor Market Screening,” Working paper, Ragnar Frish Center, University of Oslo. Chen, Y.-S., L. Shyh-Bai and C.-T. Wen (2006). “The Influence of Green Innovation Performance on Corporate Advantage in Taiwan.” Journal of Business Ethics 67, 331339. Dawson, N. L. and K. Segerson (2001). “Voluntary Agreements with Industries: Participation Incentives with Industry-Wide Targets,” in E. Orts and K. Deketelaere (eds.), Environmental Contracts: Comparative Approaches to Regulatory Innovation in theUnited States and Europe. Boston: Kluwer Law International. Endres, A. (2004) “Game Theory and Global Environmental Policy.” Poiesis Prax, 3: 123139. Endres, A. and C. Ohl (2000). “Taxes versus Quotas to Limit Global Environmental Risks: New Insights into an Old Affair.” Environmental Economics and Policy Studies 3: 399 – 423. Endres, A. and C. Ohl (2002). “Introducing ‘Cooperative Push’: How Inefficient Environmental Policy (Sometimes!) Protects the Global Commons Better”, Public Choice, 111 (3-4): 285-302. Fairchild, R. (2008). “The Manufacturing Sector’s Environmental Motives: A Game-theoretic Analysis.” Journal of Business Ethics, 79: 333-344. Fehr, E. and K.M. Schmidt (1999). “A Theory of Fairness, Competition, and Cooperation”, Quarterly Journal of Economics, 114 (3): 817-868. Hanley, N., and H. Folmer (1998). Game Theory and the Environment (published by Edward Elgar). Hillman, A.J. and Keim, G.D (2001). “Shareholder Value, Stakeholder Management, and Social Issues: What is the Bottom Line?”. Strategic Management Journal, 22, 125-139. Hoel, M. and K. Schneider (1997). “Incentives to Participate in an International Environmental Agreement”, Environmental and Resource Economics, 9 (2): 153-170. Jeppesen, T., and P.Andersen (1998). “Commitment and Fairness in Environmental Games,” in Game Theory and the Environment (eds: Hanley, N, and H. Folmer). Kanniainen, V, and E. Pietarila (2006) “Corporate Social Responsibility: Can Markets Control?” HEER Discussion Papers. Kuisman, H.O. (1998). “Environmental Issue Area and Game Theory”, The Environmentalist 18: 77-86. Lange, A. and C. Vogt (2003)., “Cooperation in International Environmental Negotiations Due to a Preference for Equity”, Journal of Public Economics, 87 (9-10): 2049-2067. Lange, A., C. Vogt, and A. Ziegler (2007). ‘On the Importance of Equity in International Climate Policy : An Empirical Analysis.’ Energy Economics 29; 545-562.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

202

Richard Fairchild and Baris Yalabik

Lange, A., A. Loschel, C Vogt, and A. Ziegler (2008). “On the Self-serving Use of Equity Principles in International Climate Negotiations.” Centre for European Economic Research Working Paper. Li, Y., G. D. Richardson, D. B. Thornton (1997). “Corporate Disclosure of Environmental Liability Information: Theory and Evidence”, Contemporary Accounting Research, 14 (3): 435-474. Lyon, T.P and J.W. Maxwell (1999). “Voluntary Approaches to Environmental Regulation: A Survey,” in M. Francini and A. Nicita (eds.), Environmental Economics: Past, Present and Future (Ashgate Publishing Limited, USA). Lyon, T. P. and J. W. Maxwell (2003). “Self-Regulation, Taxation, and Public Voluntary Environmental Agreements,” Journal of Public Economics, 87: 1453- 1486. Lyon, T.P. and J.W. Maxwell (2007). “Corporate Social Responsibility and the Environment: A Theoretical Perspective”, Indiana University working paper. Manzini, P. and M. Mariotti (2003). “A Bargaining Model of Voluntary Environmental Agreements,” Journal of Public Economics, 87: 2725-2736. Maxwell, J. W., T. P. Lyon, S. C. Hackett (2000). “Self-Regulation and Social Welfare: The Political Economy of Corporate Environmentalism,” Journal of Law and Economics, 43 (2): 583-618. Miles, M.P., and J.G. Covin (2000). “Environmental Marketing: A Source of Reputational, Competitive, and Financial Advantage”, Journal of Business Ethics, 23 (3): 299-312. Peters, W., and C. Schuler (2007). “Can Heterogeneous Countries form Homogenous International Environmental Agreements?” European University Viadrina Working Paper. Rabin, M. (1993). “Incorporating Fairness into Game Theory and Economics”, American Economic Review, 83 (5): 1281-1302. Sacconi, L. (2006) “A Social Contract Account for CSR as an Extended Model of Corporate Governance (1): Rational Bargaining and Justification.” Journal of Business Ethics 68: 259-281. Sacconi, L. (2007). “A Social Contract Account for CSR as an Extended Model of Corporate Governance (II): Compliance, Reputation and Reciprocity.” Journal of Business Ethics 75: 77-96. Sally, D. (2001). “On Sympathy and Games”, Journal of Economic Behavior and Organization, 44 (1): 1-30. Schelling, T.C. (1960). “The Retarded Science of International Strategy”, Midwest Journal of Political Science, 4 (2): 107-137. Shleifer, A. (2004). “Does Competition Destroy Ethical Behavior?”, American Economic Review, 94 (2): 414-418. Williamson, D., G. Lynch-Wood, and J.Ramsay (2006). “Drivers of Environmental Behaviour in Manufacturing SMEs and the Implications for CSR.” Journal of Business Ethics 67, 317-330.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

In: Environmental Cost Management Editor: Randi Taylor Mancuso

ISBN 978-1-60741-815-3 © 2009 Nova Science Publishers, Inc.

Chapter 5

SUSTAINABLE ENERGY: CHALLENGES OF IMPLEMENTING NEW TECHNOLOGIES Abdeen Mustafa Omer* Nottinghamshire, United Kingdom

ABSTRACT

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Sudan is an agricultural country with fertile land, plenty of water resources, livestock, forestry resources, and agricultural residues. Energy is one of the key factors for the development of national economies in Sudan. An overview of the energy situation in Sudan is introduced with reference to the end uses and regional distribution. Energy sources are divided into two main types; conventional energy (woody biomass, petroleum products, and electricity); and non-conventional energy (solar, wind, hydro, etc.). Sudan possesses a relatively high abundance of sunshine, solar radiation, moderate wind speeds, hydro, and biomass energy resources. Application of new and renewable sources of energy available in Sudan is now a major issue in the future energy strategic planning for the alternative to the fossil conventional energy to provide part of the local energy demand. Sudan is an important case study in the context of renewable energy. It has a long history of meeting its energy needs through renewables. Sudan’s renewables portfolio is broad and diverse, due in part to the country’s wide range of climates and landscapes. Like many of the African leaders in renewable energy utilisation, Sudan has a well-defined commitment to continue research, development, and implementation of new technologies. Sustainable low-carbon energy scenarios for the new century emphasise the untapped potential of renewable resources. Rural areas of Sudan can benefit from this transition. The increased availability of reliable and efficient energy services stimulates new development alternatives. It is concluded that renewable environmentally friendly energy must be encouraged, promoted, implemented, and demonstrated by full-scale plant especially for use in remote rural areas.

*

17 Juniper Court, Nottingham NG7 4EU, Nottinghamshire, UK

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

204

Abdeen Mustafa Omer

Keywords: Sudan, energy, consumption patterns, renewable energy potential, sustainable development, impacts on environment, mitigations

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

1. INTRODUCTION Sudan is the largest country in African continent, with a tropical climate, and an area of approximately 106 square miles (2.5 x 106 km2). It lies between latitudes 3°’N and 23°’N; and longitudes 21° 45’ ’E and 39°’E. This large area enjoys a variety of climates, from desert regions in the north, to tropical in the south, and makes it a favourable environment for all activities of integrated agricultural investment from production to processing industries [1]. Sudan is a relatively sparsely populated country. The total population according to the census 2004 was 34.3 x 106 inhabitants. The annual growth rate is 2.8%, and population density is 14 persons per square kilometre [1]. Sudan is rich in land and water resources [2]. Sudan has a predominately continental climate, which roughly divides, into three climatological regions: Region 1 is situated north of latitude 19°’N. The summers are invariably hot (mean max. 41°C and mean min. 25°C) with large variation; low relative humidity averages (25%). Winters can be quite cool. Sunshine is very prevalent. Dust storms occur in summer. The climate is a typical desert climate where rain is infrequent and annual rainfall of 75-300 mm. The annual variation in temperature is large (max. and min. pattern corresponding to winter and summer). The fluctuations are due to the dry and rainy seasons. Region 2 is situated south of latitude 19°’N. The climate is a typical tropical continental climate. Region 3 comprises the areas along the Red Sea coast and eastern slopes of the Red Sea hills. The climate is basically as in region 1, but is affected by the maritime influence of the Red Sea. Two main air movements determine the general nature of the climate. Firstly, a very dry air movement from the north that prevails throughout the year, but lacks uniformity; and secondly, a major flow of maritime origin that enters Sudan from the south carrying moisture and bringing rain. The extent of penetration into the country by airflow from the south determines the annual rainfall and its monthly distribution. The average monthly rainfall for Sudan indicates the decreasing trend in the rainfall, as well as in the duration as one moves generally from the south towards the north and from east towards west. The total size of the land of Sudan is 6 x 108 Feddans (Feddan = 1.038 acres = 0.42 hectares). The land use in the country is classified into four main categories. There are arable land (8.4 x 106 hectares), pasture (29.94 x 106 hectares), forest (108.3 x 106 hectares), and about 38.22 x 106 hectares used for other purposes. Water resources are estimated at 84 x 109 cubic meters (m3), this including the river Nile and its tributaries. Underground water is estimated at 26 x 1010 cubic meters, only 1% of this amount is currently being utilised. The annual average rainfall ranges from about 1 mm in the northern desert to about 1600 mm in the equatorial region. The total annual rainfall estimated at 1093.2 x 109 m3. Sudan’s economy remains essentially agricultural, with annual agricultural production, estimated as 15 x 106 tonnes mainly sugar, wheat, sorghum, cotton, millet, groundnut, sesame, tobacco, and fruits [2]. Sudan is also viewed as one of the potentially richest nations in livestock [2], approximately 103 x 106 head (70 x 106 sheep and goats, 30 x 106 cattle, and

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Sustainable Energy: Challenges of Implementing New Technologies

205

3 x 106 camels) [3]. Sudan has a great wealth of the wild life- birds, reptiles, and fishes. Sudan possesses great potentialities for industrialisation since it is rich in agricultural raw materials resources. Since the government realised the importance of industrialisation for economic development, there were many attempts by the state to improve the performance of this sector through different industrial policies. Energy is an essential factor in the development movement, since it stimulates and supports the economic growth, and development. The energy crisis in mid seventies, and substantial increase in oil prices that followed, has put a heavy financial burden on the less developed countries (LDC’s). Sudan is not exception. The fossil fuels, especially oil and natural gas, are finite in extent, and should be regarded as depleting assets, and since that time the efforts are oriented to search for new sources of energy. Most of the political and resources are directed to establish sources of energy, many of which now face serious environmental and other constraints, rather than the biomass sources which are increasingly being regarded as a central parts of long solutions to the energy environment dilemma. However, increasing energy service levels with the same environmental goals would imply stronger exploitation of biomass energy sources and stronger measures for exploiting the potential of energy conservation. In recent years, Sudan has increased efforts to exploit renewable energy sources and reduce its dependence on oil. Wind, solar and biomass offers a variety of renewable options that are well suited to the African climate. A number of renewable energy initiatives are under way in Sudan that can contribute to rural development while also addressing climate mitigation.

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

2. ENERGY SITUATION Tables 1 to 7 show energy profile, consumption, and distribution among different sectors in Sudan. Sudan like most of the oil importing countries suffered a lot from sharp increase of oil prices in the last decades. The oil bill consumes more than 50% of the income earnings. Sudan meets approximately 87% of its energy needs with biomass, while oil supplies 12%, and the remaining 1% is produced from hydro and thermal power. The household sector consumed 60% of the total electricity supplies [4]. The total annual energy consumed is approximately 11 x 109 tonnes of oil, with an estimated 43% lost in the conversion process [5]. The heavy dependence on biomass threatens the health and future of domestic forests, and the large quantities of oil purchased abroad causes Sudan to suffer from serious trade imbalances. Poverty and iniquity in the basic services are the major components that hindered rural development. Unless being addressed now, non-of the great goals of the international and nation community peace, human rights, environment, and sustainable development will be achieved or even progressed. Energy is a vital prime mover to the development whether in urban or rural areas. The rural energy needs are modest compared to urban. A shift to renewables would therefore help to solve some of these problems while also providing the population with higher quality energy, which will in turn, improve living standards and help reduce poverty. For proper rural development the following must be considered: • •

Analyse the key potentials and constraints development of rural energy. Assess the socio-technical information needs for decision-makers and planners in rural development.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

206

Abdeen Mustafa Omer • •

Utilise number of techniques and models supporting planning rural energy. Design, import and interpret different types of surveys to collect relevant information and analyse them to be an input to planners.

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Renewable energy technologies such as solar, wind, etc., become more important since there are local resources, and infinite source of energy. Renewable energy are needed, especially in rural areas and small communities. Renewable sources of energy are regional and site specific. The renewable strategy is well integrated in the National Energy Plan [6], and clearly spelled out in the National Energy Policy, but this is not enough. It has to be integrated in the regional development plans. The role of renewable is big in solving essential life problems especially in rural areas for people and their resource development like the availing of energy for the medical services for people and animal, provision of water, education, communication and rural small industries [7]. A new renewable fuels programme in Sudan aims to improve environmental standards while making better use of domestic resources, providing an economic stimulus to the rural economy, and reducing CO2 emissions. This study discusses Sudan’s current energy system, and describes plans for expanding and improving Sudan’s emerging portfolio of renewable energy options. The poor situations of conventional energy supplies to Sudanese people are characterised by high dependence on biomass woody fuels (firewood, and charcoal). More than 70% of the total Sudanese population live in rural and isolated communities characterised by extreme poverty and power social, and economical activity [8]. The unavailability and the acute shortages of the conventional energy supply (petroleum and electricity) to rural people forced them to use alternatives available energy sources like biomass [9]. This situation caused serious environmental degradation beside the poor unsatisfactory services of some basic needs such as: • • • •

Food security. Water supply. Health care. Communications.

In order to raise rural living standards, the per capita energy availability must be increased, through better utilisation of the local available energy resources as shown in Table 8. The rural energy requirements are summarised in Table 9. The suitable energy source, needed for the above rural requirements must be of diffuse low cost types rather than large central installation. Also, those technologies must be appropriate, environmentally, socially and economically acceptable. The urgent problem for rural people development is to increase the energy available per capita. Since it is necessary to rise up the present level of extreme poverty and better basic need services. Due to the present limitations, and sharp shortages or unavailability of both electricity and petroleum products to rural people, some renewable energy technologies based on utilising locally available energy; materials and skills are alternate energy options to rural development [10]. These technologies are not for complete rural electrification (although they can), but they are applied as energies stand alone systems providing energy sources to some rural basic needs. It is necessary that a vigorous programme for renewable energies should be

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Sustainable Energy: Challenges of Implementing New Technologies

207

set up immediately (the challenge is to provide a framework enabling markets to evolve along a path that favours environmentally sustainable products and transactions). In Sudan, electricity reaches only about 30% of the population, mainly in urban areas. The investment needed to fund the extension and improvement of these services is great. Table 1. Annual energy consumption pattern in Sudan from different energy sources (106 MWh) Sector Residential Transportation Industries Agricultural Others* Total

Energy 4640 610 340 151 277 6018

Percent (%) 77.2% 10.0% 5.7% 2.5% 4.6% 100.0%

*Others are commercial, services, constructions and Quranic schools.

Table 2. Annual biomass energy sources available in Sudan (106 tonnes) Source Natural and cultivated forestry Agricultural residues Animal wastes Water hyacinth and aquatic weeds Total

Energy 2.9 5.2 1.1 3.2 13.4

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Table 3. Annual biomass energy consumption in Sudan (106 tonnes) Sector Residential Industries Others* Total

Energy 4549 169 209 4927

Percent of total (%) 92.0% 3.4% 4.6% 100.0%

*Others are commercial, constructions and Quranic schools.

Table 4. Power output of present hydropower plants (109 Watts) Station Rosaries Sennar Khashm El Girba Total

Power 275 15 13 303

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

208

Abdeen Mustafa Omer Table 5. Annual electricity consumption in Sudan (106 MWh)

Sector Transportation Agricultural Industries Residential Total

Energy 3.2 22.4 6.4 48.0 80.0

Percent of total (%) 4% 28% 8% 60% 100%

Table 6. Annual petroleum product consumption in Sudan (106 MWh) Sector Transportation Industries Agricultural Residential Others* Total

Energy 601 138 148 55 60 1002

Percent of total (%) 60.0% 13.8% 14.8% 5.5% 5.9% 100.0%

* Others are commercial and services.

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

3. MAJOR ENERGY CONSUMING SECTORS Sudan is still considered between the 25 most developing African countries. Agriculture is the backbone of economic and social development in Sudan. About 80% of the population depend on agriculture, and all other sectors are largely dependent on it. Agriculture contributes to about 41% of the gross national product (GNP) and 95% of all earnings. Agriculture determines for the last 30 years the degree of performance growth of the national economy. Among the renewable energy sources, biomass seems one of the most interesting because of its share of the total energy consumption of the Sudan is high at 87% and the techniques for converting it to useful energy are not necessarily sophisticated. Fuelwood, animal wastes, agricultural crop residues and logging wastes have been used through direct burning in the Sudan for many years.

3.1. Agriculture Sector During the last decades, agriculture contributed by about 41% to the Sudan GNP. This share remained stable till 1984/85 when Sudan was seriously hit by drought and desertification, which led to food shortages, deforestation, and also, by socio-economic effects caused the imposed civil war. The result dropped the agriculture share to about 37%. Recent development due rehabilitation and improvement in agricultural sector in 1994 has raised the share to 41%. This share was reflected in providing raw materials to local industries and an increased export earning besides raising percentage of employment among population.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Sustainable Energy: Challenges of Implementing New Technologies

209

Table 7. Percentage of the total annual electricity consumption by states States Khartoum, Central and East states Red Sea state Northern states Darfur states Kordofan states Southern states

Percent (%) 85.8% 4.5% 4.0% 3.1% 2.3% 0.3%

Table 8. Energy sources for rural area Source Solar energy Biomass energy Wind energy Mini and micro hydro Geothermal

Form Solar thermal, and solar PV Woody fuels, and non woody fuels Mechanical types, and electrical types A mass water fall, and current flow of water Hot water

Table 9. Energy required in Sudan rural area

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Rural energy Domestic Agricultural process Crop process and storage Small and medium industries Water pumping Transport

Activity Lighting, heating, cooking, and cooling Land preparation, weaving, harvesting, and sowing Drying, grinding, and refrigeration Power machinery Domestic use Schools, clinics, communications, radio, televisions, etc.

3.2. Industrial Sector The industrial sector is mainly suffering from power shortages, which is the prime mover to the large, medium and small industries. The industrial sector was consuming 5.7% of the total energy consumption, distributed as fellows: 13.8% from petroleum products, 3.4% from biomass and 8% from electricity.

3.3. Domestic Use Household is the major energy consumer. It consumed 92% of the total biomass consumption in form of firewood and charcoal. From electricity this sector consumed 60% of the total consumption, and 5.5% of petroleum products.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

210

Abdeen Mustafa Omer

3.4. Transport Sector The transportation sector was not being efficient for the last two decades because of serious damage happened to its infrastructure (roads, railways, boats, etc.). It consumed 10% of the total energy consumption and utilised 60% of the total petroleum products supplied.

3.5. Energy Sector

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

The present position for most people in Sudan for obtaining the needed energy forms (heat, light, etc.) is provided by firewood. Cooking is largely done by wood from forests or its derivative, charcoal. Cattle dung, and agriculture waste being used to lesser extent. Human, animal, and diesel or gasoline engines provide mechanical power. Some cooking and lighting is done by kerosene. It should be recognised that this situation is unlikely to be charged for the next one or two decades. However, because of the need to increase energy availability and also to find alternatives to the rapidly decreasing wood supplies in many rural areas. It is necessary that a vigorous programme reaching into alternative renewable energies should set up immediately. There should be much more realism in formation of such programme, e.g., it is no use providing a solar powered pump at a price competitive with a diesel for some one who can not ever offered a diesel engine. The renewable energy technology systems (RETs) are simple, from local materials, clean energy, reliable and sustainable. Specialist on their applications carried out socio-economic and environmental studies. The output of the studies pointed out that, they are acceptable to the people and have measured remarkable impacts on the social life, economical activities and rural environment [11, and 12].

3.6. Household Sector Agriculture is the source of a considerable sum of hard currency that is needed for the control of balance of payment in the country’s budget, as well as it is the major source of raw materials for local industry. Biomass resources contributed to play a significant role in energy supply in Sudan as in all other developing countries. Biomass resources should be divided into residues or dedicated resources, the latter including firewood and charcoal from forest resources as shown in Table 10. Approximately 13 x 106 m3 of biomass are consumed per year as shown in Table 10. To avoid resource depletion, Sudan is currently undergoing a reforestation programme of 1.05 x 106 hectares. Biomass residues are more economically exploitable and more environmentally benign than dedicated biomass resources. There exist a variety of readily available sources in Sudan, including agricultural residues such as sugar cane bagasse, and molasse, cotton stalks, groundnut shells, tree/forest residues, aquatic weeds, and various animal wastes as shown in Table 2. Direct burning of fuel-wood and crop residues constitute the main usage of Sudan biomass, as is the case with many developing countries. However, the direct burning of biomass in an inefficient manner causes economic loss and adversely affects human health. In

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Sustainable Energy: Challenges of Implementing New Technologies

211

order to address the problem of inefficiency, research centre around the country are have investigated the viability of converting the resource to a more useful form, namely solid briquettes and fuel gas. Briquetting is the formation of a char (an energy-dense solid fuel source) from otherwise wasted agricultural and forestry residues. One of the disadvantages of wood fuel is that it is bulky and therefore requires the transportation of large volumes. Briquette formation allows for a more energy-dense fuel to be delivered, thus reducing the transportation cost and making the resource more competitive. It also adds some uniformity, which makes the fuel more compatible with systems that are sensitive to the specific fuel input [21]. Special attention should therefore be given to reviewing forest resources, plantation programmes and the possibilities of substitution of fuelwood for commercial fuels or for other fuels such as biogas. Table 10. Annual biomass energy consumption pattern in Sudan (103 m3)

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Sector Residential Industrial Commercial Quranic schools Total Percent (%)

Firewood 6148 1050 32 209 7439 54%

Charcoal 6071 12 284 0 6367 46%

Total 12219 1062 316 209 13806

Percent (%) 88.5% 7.7% 2.3% 1.5% 100.0%

Briquetting of agricultural residues in Sudan started since 1980, where small entrepreneur constructed a briquetting plant using groundnut shells in Khartoum. The second plant was introduced in Kordofan (western Sudan), and the plant capacity of 2 tonnes per hour with maximum 2000 tonnes per season. Another, prototype unit was brought, and worked in Nyala with capacity of 0.5 tonnes per hour (i.e., 600 tonnes per season). In central Sudan, a briquetting plant of cotton stalks was installed at Wad El Shafie with capacity of 2 tonnes per hour (i.e., 2000 tonnes per season). The ongoing project in New Halfa is constructed to produce 1200 tonnes per season of bagasse briquettes [22]. A number of factories have been built for carbonisation of agricultural residues, namely cotton stalks. The products are now commercialised. More than 2000 families have been trained to produce their cooking charcoal from the cotton stalks. In Sudan, most urban households burn charcoal on traditional square ‘‘Canun’’ stove that has very low fuel-to-heat conversion efficiencies. The following prototypes were all tried and tested in Sudan: • • • • • •

The metal clad Kenyan Jiko. The vermiculite lined traditional Kenyan Jiko. The all-ceramic Jiko in square metal box. The open draft Dugga stoves. The controlled draft Dugga stoves. The Umeme Jiko ‘‘Canun Al Jadeed’’.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

212

Abdeen Mustafa Omer

Local traditional stoves were tested, improved, invested, and commercially used in Sudan [23]: • • •

Traditional muddy stoves. Bucket stoves. Tin stoves.

The aim of any modern biomass energy systems must be:

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

• To maximise yields with minimum inputs. • Utilisation and selection of adequate plant materials and processes. • Optimum use of land, water, and fertiliser. • Create an adequate infrastructure and strong R & D base. Gasification is based on the formation of a fuel gas (mostly CO and H2) by partially oxidising raw solid fuel at high temperatures in the presence of steam. The technology, initially developed for use with charcoal as fuel input, can also make use of wood chips, groundnut shells, sugar cane bagasse, and other similar fuels to generate capacities from 3 to 100 kW for biomass systems. Three gasifier designs have been developed to make use of the diversity of fuel inputs and to meet the requirements of the product gas output (degree of cleanliness, composition, heating value, etc.). Another area in which rural energy availability could be secured where woody fuels have become scarce, are the improvements of traditional cookers and ovens to raise the efficiency of fuel saving and also, by planting fast growing trees to provide a constant fuel supply. The rural development is essential and economically important since it will eventually lead to better standards of living, people’s settlement, and self sufficient in the following: • • •

Food and water supplies. Better services in education and health care. Good communication modes.

Furthermore, Sudan is investigating the potential to make use of more and more of its waste. Household waste, vegetable market waste, and waste from the cotton stalks, leather, and pulp; and paper industries can be used to produce useful energy either by direct incineration, gasification, digestion (biogas production), fermentation, or cogeneration. The use of biomass through direct combustion has long been, and still is the most common mode of biomass utilisation as shown in Tables 11, 12, and 13. Examples for dry (thermo-chemical) conversion processes are charcoal making from wood (slow pyrolysis), gasification of forest and agricultural residues (fast pyrolysis), and of course, direct combustion in stoves, furnaces, etc. Wet processes require substantial amount of water to be mixed with the biomass. Wood energy is, for many countries, one of the few locally available sources of energy, which they can afford. Its substitution by imported fossil fuels, as has often been carelessly recommended, should attentively be evaluated to avoid undesirable political, economic and social consequences. This will also contribute to the amelioration of environmental conditions by replacing conventional fuels with renewable energies that produce no air pollution or GHGs. The availability of data on biomass is a critical problem.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Sustainable Energy: Challenges of Implementing New Technologies

213

Table 11. Biomass residues, current use and general availability Type of residue Wood industry waste Vegetable crop residues Food processing residue Sorghum, millet, and wheat residues Groundnut shells Cotton stalks Sugar, bagasse, molasses Manure

Current use / availability No residues available Animal feed Energy needs Fodder, and building materials Fodder, brick making, direct fining oil mills Domestic fuel considerable amounts available for short period Fodder, energy need, ethanol production (surplus available) Fertiliser, brick making, plastering (Zibala)

Table 12. Effective biomass resource utilisation Subject Utilisation and land clearance for agriculture expansion

Utilisation of agricultural residues

Tools Stumpage fees Control Extension Conversion Technology Briquetting Carbonisation Carbonisation and briquetting Fermentation Gasification

Constraints Policy Fuel-wood planning Lack of extension Institutional Capital Pricing Policy and legislation Social acceptability

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Table 13. Agricultural residues routes for development Source Agricultural residues

Agricultural, and animal residues

Process Direct

Product Combustion

Processing

Briquettes

Processing

Carbonisation (small scale)

Carbonisation Fermentation

Briquettes carbonised Biogas

Direct

Combustion

Briquettes

Direct combustion

Carbonisation Carbonisation Fermentation

Carbonised Briquettes Biogas

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

End use Rural poor Urban household Industrial use Industrial use Limited household use Rural household (self sufficiency) Urban fuel Energy services Household Industry (save or less efficiency as wood) (similar end use devices or improved) Use Briquettes use Use

214

Abdeen Mustafa Omer

4. HYDROPOWER Hydropower plants are classified by their rated capacity into one of four regimes: micro (< 50 kW); mini (50-500 kW); small (500 kW-5 MW); and large (> 5 MW). The numbers of hydropower plants are given in Table 4, accounting for about 1% of total hydropower available in Sudan. Hydro potential is promising in Sudan. A number of prospective areas have been identified by surveys and studies carried for exploration of mini-hydropower resources in Sudan. Mini and micro hydro can be utilised or being utilised in Sudan in two ways: • Using the water falls from 1 m to 100 m; energy can be generated, and small power can be generated up to 100 kW. • Using the current flow of the Nile water i.e., the speed of the Nile water. The water speed can be used to run the river turbines (current river turbines), and then water can be pumped from the Nile to the riverside farms. There are more than 200 suitable sites for utilisation of current river turbines along the Blue Nile and the main Nile [24].

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

The total potential of mini-hydro shows 67000 MWh for southern region, 3785 MWh in Jebel Marra area, and 44895 MWh in El Gezira and El Managil canals. Small-scale hydro plants (under 5 MW) are more environmentally benign than the large-scale hydro projects that often involve huge dams and permanent restructuring of the landscape. These smaller plants are perfectly suited for some regions of Sudan where there is plenty of rainfall and mountainous or hilly lands cope such as Jebel Marra. Table 7 lists the current distribution of electric power for different states in Sudan (mainly from hydro 55%, and thermal generation 45%).

5. SOLAR ENERGY Sunlight is the driving force behind many of the renewable energy technologies. The worldwide potential for utilising this resource, both directly by means of the solar technologies and indirectly by means of bio-fuels, wind and hydro technologies is vast. The sun is a sphere of intensely hot gaseous matter with a diameter of 1.39 x 106 km and, is on average, a distance of 1.5 x 1018 km from earth [13]. Energy occurring in the sun comes from the thermonuclear reaction; the reaction causes the reduction in solar mass by approximately 4 x 109 kgs-1, and simultaneously releases energy at a rate of 3.85 x 1023 kW. However, only 1.79 x 104 kW of solar energy is received by the earth [14]. Solar energy is an inexhaustible source of energy. The solar constant is defined as the amount of energy, which received at the outer fringe of the earth’s atmosphere 1.35 kWm-2 [15]. The solar radiation before reaches the earth surface affected by many factors i.e., absorption, scattering, and reflection. Sudan has been considered as one of the best countries for exploiting solar energy. Sunshine duration is ranging from 8.5 to 11 hours per day, with high level of solar radiation regime at an average of 20 to 25 MJm-2 day-1 on the horizontal surface as shown in Table 14. The annual daily mean global radiation ranges from 3.05 to 7.62 kWhm-2 day-1. However, Sudan has an average of 7-9 GJm-2 year-1, equivalent to 436-639 Wm-2 year-1 [15].

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Sustainable Energy: Challenges of Implementing New Technologies

215

The country strives hard to make use of technologies related to renewable sources in rural areas where it is appropriate and applicable. Sudan already has well-established solar thermal applications. The most promising solar energy technologies are related to thermal systems; industrial solar water heaters in the residential sector and in larger social institutions, such as nurseries, hospitals, and schools. Solar cookers, solar dryers for peanut crops, solar stills, solar driven cold stores to store fruits and vegetables, solar collectors, solar water desalination, solar ovens and solar commercial bakers. Solar photovoltaic system (PV): solar PV for lighting, solar refrigeration to store vaccines for human and animal use, solar PV for water pumping, solar PV for battery chargers, solar PV for communication network, microwave receiver stations, radio systems in airports, VHF and beacon radio systems in airports, and educational solar TV posts in some villages [16].

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

6. WIND ENERGY POTENTIAL The use of wind as a source of power has a long history. Wind power has been used in the past for water pumping, corn grinding, and provision for power for small industries. In areas of low population density where implementation of a central power system would be uneconomical, the decentralised utilisation of wind energy can provide a substantial contribution to development [17, 18 and 19]. The use of the wind machine is divided into two; one is the use of small-scale wind machines for water pumping or electricity generation, and the other is the use of large-scale wind machines for generating electricity (big wind machines or wind farms). However, the wind machine can be used for pumping water, electricity generation or any other task. A programme of wind power for generating electricity as well as for pumping water appears to be attractive for rural development, e.g., lights, radios, and televisions. Wind electric generators can be utilised to meet the power requirements of isolated settlements. Wind energy is found to match well with the demand pattern of the loads, high load during the day for illumination. Wind energy has considerable resources in Sudan where the annual average wind speeds exceeds 5 ms-1 in the most parts north latitude 12°’N (at the coastal area along the Red Sea), and along the Nile valley (from Wadi Halfa to Khartoum, and south of Khartoum covering the El Gezira area). While the southern regions have the poorest potential because of the prevailing low wind speeds. Many designs of wind machines have been suggested and built in Sudan as shown in Table 15. In Sudan, wind energy is today mainly used for water pumping. Wind has not yet been significantly exploited for power generation. Experience in wind energy in Sudan was started since 1950’s, where 250 wind pumps from Australian government, had been installed in El Gezira Agricultural Scheme (Southern Cross Wind Pumps). But, gradually disappeared due to a lack of spare parts and maintenance skills combined with stiff competition from relatively cheep diesel pumps. However, the government has recently begun to recognise the need to reintroduce wind pump technology to reduce the country’s dependence on foreign oil. This increases economic security, given high and/or fluctuating oil prices, and it helps to reduce the trade deficit. Using wind power also allows for pumping in rural areas where transportation of oil might be difficult. In general, it is not easy to design wind energy conversion systems when they have to be installed in remote locations. Firstly, in most cases, wind speeds, and wind directions

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

216

Abdeen Mustafa Omer

measurements are not available for these sites. Secondly, the wind nature of wind speeds and directions makes difficult the computation of the size of such systems. The design and estimation of the performance of all wind energy systems requires the knowledge of wind speeds data, which have been measured over a long period of time. In the last 15 years the Energy Research Institute (ERI) installed 15 Consultancy Services Wind Energy Developing Countries (CWD 5000 mm diameter) wind pumps around Khartoum area, Northern state, and Eastern state. Now ERI with cooperation of Sudanese Agricultural Bank (SAB) introduced 60 wind pumps to be use for water pumping in agricultural schemes, but not yet manufactured due to lack of financial support.

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Table 14. Correlation of solar radiation with other weather parameters in Sudan (Yearly averages) Station

Mean temp. (ºC)

Port Sudan Shambat Wad Medani El Fasher Abu Na’ama Ghazala Gawazat Malakal Juba Dongola Toker Hudeiba Aroma El Showak Zalingei Babanusa Kadugli

28.4 29.7 28.4 25.8 28.2 27.2 27.9 27.6 27.2 28.8 29.3 29.1 26.3 24.5 28.2 27.5

Sunshine duration (h) 9.0 9.9 9.8 9.6 8.8 9.3 7.8 7.8 10.5 7.3 10.0 9.6 9.7 8.8 8.9 8.5

Solar radiation (MJm-2 day-1) 20.87 22.82 22.84 22.80 21.90 21.72 19.90 19.59 24.06 17.60 22.37 21.40 22.90 22.98 21.73 21.30

Wind velocity (ms-1) 5.1 4.5 4.5 3.4 3.1 3.0 2.8 1.5 4.6 4.1 4.0 4.2 4.1 2.7 2.8 2.7

Relative humidity (%) 65 31 40 33 46 43 54 66 27 53 25 37 39 39 48 48

Table 15. Number of wind pumps installed for irrigation purpose in Sudan Location Tuti island Jebel Awlia Soba Shambat Toker (eastern Sudan) Karima (northern Sudan) Total

No. of pumps 2 1 4 4 (one was locally manufactured) 2 (both locally manufactured) 2 (both locally manufactured) 15

The maximum extractable monthly mean wind power per unit cross sectional area, P, is given by:

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Sustainable Energy: Challenges of Implementing New Technologies P = 0.3409 V3

217 (1)

Where: P is the wind power Wm-2; and V is the average wind speed ms-1. The amount of power extracted from the wind depends generally on the design of the wind rotor. In practice the wind machine power will be lost by the aerodynamic affects of the rotor. An important problem with wind pump system is matching between the power of the rotor, and that of the pump. In general the wind pump systems consist of the following items: • The wind rotor. • Transmission. • The pump. The overall efficiency of the system is given by the multiplication of the rotor efficiency, transmission efficiency, and the pump efficiency.

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

ηOverall = ηrotor x ηtransmission x ηpump

(2)

For wind pumps though efficiency is important, a more suitable definition is the number of gallons of water pumped per day per dollar. A sizing of wind pump for drinking and irrigation purposes usually requires an estimation of hourly, daily, weekly, and monthly average output. The method for making such estimation is combining data on the wind pump at various hourly average wind speeds with data from a wind velocity distribution histogram (or numerical information on the number of hours in the month that wind blows within predefined speed). The result is given in Table 16, which gives the expected output of wind pump in various wind speeds, and the statistical average number of hours that the wind blows within each speed range. Generally it is concluded that wind pump system have a potential to fulfil water lifting needs, both in Khartoum area and even in remote rural areas, both for irrigated agriculture and water supply for man and livestock. This conclusion is based on: • • •

Studies of several agencies dealing with the feasibility of wind pumps. The history of water pumping in the Gezira region for drinking purposes. The national policy of Sudan vis a vis wind energy.

Sudan is rich in wind; mean wind speed of 4.5 ms-1 are available over 50% of Sudan, which is well suited for water lifting and intermittent power requirements, while there is one region in the eastern part of Sudan that has a wind speed of 6 ms-1 which is suitable for power production. In areas where there is wind energy potential but no connection to the electric grid the challenge is simplicity of design, and higher efficiency [20]. Because of this potential for fulfilment of rural water pumping needs, it is recommended to continue the development of wind pumping in Sudan. The most obvious region to start with seems to be the northern regions because of a combination of:

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

218

Abdeen Mustafa Omer • • •

Favourable wind regime. Shallow ground water level 5-10 meters depth. Existing institutional infrastructures.

The research and development in the field of wind machines should be directed towards utilising local skills and local available materials. Local production of wind machines should be encouraged in both public and private organisations. Decision-making and policy formulation at all environmental levels, i.e., conservation, protection and rehabilitation and environmental management are more or less a male preserve. Table 16. Wind speeds versus wind pump discharges Wind speeds (ms-1) 3.0 3.5 4.0 4.5 5.0 5.5 6.0 6.5 7.0

Annual duration (h) 600 500 500 400 500 450 450 300 300

Output rate (m3h-1) 0.3 1.4 2.3 3.0 3.7 4.3 4.7 5.2 5.7

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

7. BIOGAS Presently, Sudan uses a significant amount of kerosene, diesel, firewood, and charcoal for cooking in many rural areas. Biogas technology was introduced to Sudan in mid seventies when GTZ designed a unit as a side-work of a project for water hyacinth control in central Sudan. Anaerobic digesters producing biogas (methane) offer a sustainable alternative fuel for cooking that is appropriate and economic in rural areas. In Sudan, there are currently over 200 installed biogas units, covering a wide range of scales appropriate to family, community, or industrial uses. The agricultural residues and animal wastes are the main sources of feedstock for larger scale biogas plants. There are in practice two main types of biogas plant that have been developed in Sudan; the fixed dome digester, which is commonly called the Chinese digester (120 units each with volumes 7-15 m3). The other type is with floating gasholder known as Indian digester (80 units each with volumes 5-10 m3). The solid waste from biogas plants adds economic value by providing valuable fertiliser as by products. Biogas technology can not only provide fuel, but also important for comprehensive utilisation of biomass forestry, animal husbandry, fishery, evolutions the agricultural economy, protecting the environment, realising agricultural recycling, as well as improving the sanitary conditions, in rural areas. The introduction of biogas technology on wide scale has implications for macro planning such as the allocation of government investment and effects on the balance of payments. Factors that determine the rate of acceptance of biogas

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Sustainable Energy: Challenges of Implementing New Technologies

219

plants, such as credit facilities and technical backup services, are likely to have to be planned as part of general macro-policy, as do the allocation of research and development funds [21].

8. SUGAR CANE BIOMASS Residuals from the sugar cane industry represent by far the most important source of current and potential biomass resources in Sudan. The sugar industry in Sudan goes back fifty years and Sudan has been one of the world’s leading sugar producers. Sugar cane plantations cover one-fifth of the arable land in Sudan. In addition, to raw sugar, Sudan enterprises produce and utilise many valuable cane co-products for feed, food, energy and fibre. At present, there are 5 sugar factories as illustrated in Table 17. Sugar cane bagasse and sugar cane trash already provide a significant amount of biomass for electricity production, but the potential is much higher with advanced cogeneration technologies. Most sugar factories in Sudan, as elsewhere in the developing world, can produce about 15-30 kWh per tonne of cane. If all factories were fitted with biomass gasifiercombined cycle systems, 400-800 kWh of electricity could be produced per tonne of cane, enough to satisfy all of Sudan’s current electricity demand. In Sudan there are no alcohol distilleries since 1983. The three factories were disappeared with Islamic Laws. The current circumstances suggest that Sudan should consider expanding production for use as transportation fuel, but this option has not yet been pursued. The alcohol is used for a variety of applications, mainly for medical purposes and rum production. Blending with gasoline would also have direct environmental advantages by substituting for lead as an octane enhancer.

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Table 17. Annual sugarcane bagasse available in Sudan (103 tonnes) Factory Kenana El Genaid New Halfa Sennar Asalaia Total

Design capacity 300 60 75 100 100 635

Yearly bagasse 266 53 65 58 60 502

9. GEOTHERMAL ENERGY In Sudan [25] geothermal resources have identified, and the following sites are expected to have a significant potential: • • • •

Volcanic Jebel Marra area. The Red Sea littoral (Suwakin area). Volcanic territories. Some other remote areas.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

220

Abdeen Mustafa Omer

Scientific studies are needed on the above sites for the geothermal energy availability, and then the economic and social visibility studies can be done.

10. ACHIEVEMENTS In 1991, Sudan created the Ministry of Higher Education and Scientific Research (MHESR) to take responsibility for all matters relating to non-conventional/renewable energy. It undertakes the role of renewable energy policymaking, planning, promotion, and coordination. In recent years Energy Research Institute (ERI)-National Centre for Research (NCR)-MHESR has overseen the development of a broad base of technologies including biogas plants, solar thermal and PV systems, wind turbines, small and micro hydropower units, energy from urban and industrial wastes, and even improved cooking stoves. Table 18 summarises the potential and the current status of renewable energy development in Sudan. Under the present federal system, Sudan is divided into 26 federal states. This made regional development planning a more important tool for the utilisation of natural resources particularly planning for the utilisation of renewable energy sources. The role of renewable energy is big in solving essential live problems especially in rural areas for people and their resource development like the availing of energy for the medical services for people and animal, provision of water, education, communication and rural small industries. Consequently the energy plan includes: •

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

•

• • • •

Installation of 200 solar pumps in the rural areas every year to achieve selfsatisfaction of drinking water in areas suitable for solar applications. Utilisation of solar energy in the telecommunications to cover by the end of the plan all existing airports, and the railway stations, the remote hospitals and microwave stations through the installation of 300 units. Lighting of rural areas at a level of 2 MW every year starting with 50 kW (8 MW for 10 years of the programme). Popularise the use of solar refrigerators by the installation of 300 units per year for vaccines and medicines preservation for human beings and animals. Supply distilled water by producing 1000 m3 of distilled water every year. Solar water heating in hotels, hospitals, and relevant industries through the installation of 500 units every year. Table 18. Renewable energy achievements in Sudan

Source/system Industrial solar heaters (16 m2 - 80 m2) Solar cookers Solar stills (1 m2 - 10 m2) Solar dryers PV solar refrigerators (120 W - 250 W) PV communication systems

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Status (units as of July 2000) 150 2000 100 10 200 30

Sustainable Energy: Challenges of Implementing New Technologies PV solar water pumps (1.5 kW - 5.5 kW) PV solar lighting systems (40 W - 1.5 kW) Wind pumps (diameters 2.4 m - 7.4 m) Wind generators (research facilities) Biomass gasifiers Improved stoves Briquetting plants (600-2000 tonnes per season) Biogas plants Current driven turbines

•

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

• • • •

221

120 1000 25 4 3 25000 5 200 10

Disseminate the use of solar cookers in the northern states for household use through the production of 1000 units every year. Production of 60 wind pumps for Sudan rural areas. Production of 200 current driven pumps per year. Installation of 50 biogas units per year. Support research and development for: Biomass gasifiers (stand-alone). Biomass combustion/gasifier. Bagasse based cogeneration. Ethanol production from sugar cane. Floating pumps. Wind generators. Solar collectors. Solar dryers.

11. PRIVATISATION AND PRICE LIBERALISATION IN ENERGY SOURCE SUPPLIES The strategy of price liberalisation and privatisation in some products of agriculture, industry, and energy sectors implemented over the last two years, and has some extent (a positive result) on government deficit and restriction of imports. The investment law approved recently has a cleaner statement and rules on the above strategy in particular to agriculture and industry areas. In case of the agriculture the strategy was encouraging and area wise was increased (irrigated or rained), and hence the agricultural increased. The privatisation, and price liberalisation in energy fields has to some secured (but not fully). Availability and adequate energy supplies to the major productive sectors. The result is that, the present situation of energy supplies is for better than ten years ago. The investment law has also encourage the participation of the investors from the national level as well as from the international friendly and sisters’ countries to invest in energy sources supply such as: • •

Petroleum products (import in particular) in the northern states. Electricity generation (in some states) through providing large diesel engine units.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

222

Abdeen Mustafa Omer

Table 19. Annual amount of emissions from industrial processes in Sudan (106 tonnes) Emissions Liquid Gas Gas flaring Cement manufacturing Total Per capita CO2 emissions

106 tonnes 3320 N.A. N.A. 84 3404 0.15

The readily implementation of electricity price liberalisation has some extent release the National Electricity Corporation (NEC) from the heavy dependency of government subsidies, and a noticeable improved of the NEC management, and electricity supplies are achieved.

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

12. ENVIRONMENT ASPECTS Environmental pollution is a major problem facing all nations of the world. People have caused air pollution since they learned to how to use fire, but man-made air pollution (anthropogenic air pollution) has rapidly increased since industrialisation began. Many volatile organic compounds and trace metals are emitted into the atmosphere by human activities. The pollutants emitted into the atmosphere do not remain confined to the area near the source of emission or to the local environment, and can be transported over long distances, and create regional and global environmental problems. A great challenge facing the global community today is to make the industrial economy more like the biosphere, that is, to make it a more closed system. This would save energy, reduce waste and pollution, and reduce costs. In short, it would enhance sustainability. Often, it is technically feasible to recycle waste in one of several different ways. For some wastes there are powerful arguments for incineration with energy recovery, rather than material recycling. Cleaner production approach and pollution control measures are needed in the recycling sector as much as in others. The industrial sector world widely is responsible for about one third of anthropogenic emissions of carbon dioxide, the most important greenhouse gas [26]. Industry is also an important emitter of several other greenhouse gases. And many of industry’s products emit greenhouse gases as well, either during use or after they become waste. Opportunities exist for substantial reducing industrial emissions through more efficient production and use of energy. Fuel substitutions, the use of alternative energy technologies, process modification, and by revising materials strategies to make use of less energy and greenhouse gas intensive materials. Industry has an additional role to play through the design of products that use less energy and materials and produce lower greenhouse gas emissions. From the Tables 19 and 20, it is noticed that most of CO2 emissions in Sudan were from land-use change, representing 92% of emissions. On the other hand the emissions of CO2 from industrial represent only 8%, which is mainly from burning liquid and gas petroleum products. The per capita CO2 emission in Sudan was estimated at 0.15 x 103 tonnes, which is considered very low compared to average of Africa which is 1.03 x 103 tonnes per capita CO2 (world per capita is 4.21 x 103 tonnes) [26]. Gas flaring is the practice of burning off gas

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Sustainable Energy: Challenges of Implementing New Technologies

223

released in the process of petroleum extraction and processing, and the CO2 emissions from it all negligible. Nevertheless, and due to increasing momentum in oil industry and oil products, and the future increase in petroleum products consumption in Sudan. It is expected in the coming decades that the emissions of greenhouse gases from oil industry and use will certainly exceed by large figure if certain measures of mitigation are not under taken. Energy efficiency is the most cost-effective way of cutting carbon dioxide emissions and improvements to households and businesses. It can also have many other additional social, economic and health benefits, such as warmer and healthier homes, lower fuel bills and company running costs and, indirectly, jobs. Most of the used energy depends on finite resources, such as coal, oil, gas and uranium. Table 20. Annual greenhouse gas emissions from different sources in Sudan (106 tonnes) CO2 emission from land use change

CH4 from anthropogenic sources Solid waste

3800

47

Oil and gas production N.A.

Agriculture

Livestock

1

1100

Chlorofluorocarbons

N.A.

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

13. ENVIRONMENTAL POLICIES AND INDUSTRIAL COMPETITIVES The industrial development strategy in Sudan gives priority to the rehabilitation of the major industrial areas with respect to improvement of infrastructure such as roads, water supply, power supply, sewer systems and other factors. This strategy also takes into consideration the importance of incorporating the environmental dimension into economic development plans. However, the relationship between environmental policies and industrial competitiveness has not been adequately examined. For the near future, the real issue concerns the effectiveness of environmental expenditures in terms of reduction of pollution emissions per unit of output. A number of issues relevant to this central concern are presented as follows: (1) Implementing ecologically sustainable industrial development strategies: Agenda 21 for achieving sustainable development in the 21st century calls on governments to adopt National Strategies (NS) for sustainable development that ‘‘build on and harmonise the various sectoral, social and environmental policies that are operating in the country’’ [24]. NS focuses almost exclusively on development issues and does not integrate industrial and environmental concerns. It does not consider industrial specific environmental objectives or time frames for achieving them. Moreover, it does not specify how specific industrial subsectors and plants will meet environmental objectives. Finally, it is formulated with minimal involvement of industrial institutions and private sector associations. To bring together industrial development and environmental objectives it is necessary to: •

Establish environmental goals and action plans for the industrial sector.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

224

Abdeen Mustafa Omer • •

Develop an appropriate mix of policy instruments that support the goals of those plans. Design appropriate monitoring and enforcement measurements to realise those goals.

(2) Applying cleaner production processes and techniques: Traditional approaches to pollution reduction have been based on the application of end of pipe technologies in order to meet discharge standards. However, the growing recognition that reduction at source is a potentially more cost effective method of abatement is resulting in replacing end of pipe technologies with cleaner production processes. Major constraints in adopting cleaner production methods relate to: • • •

Lack of awareness about the environmental and financial benefits of cleaner production activities. Lack of information about techniques and technologies. Inadequate financial resources to purchase imported technologies.

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

A coordinated effect by industry, government and international organisations can go a long way in overcoming these constraints. In this context key questions that need to be addressed are as follows: (a) Need for local capacity building, information dissemination, training and education. (b) Need for subsectoral demonstration projects. (c) Need for increased cooperation with environmental market sectors in developed countries. (d) Need for life cycle analysis and research on environmentally compatible products. (3) Implementing environmental management systems: Environmental management systems (EMSs) are necessary to enable plant to achieve and demonstrate sound environmental performance by controlling the environmental impact of their activities, products and services. The basic tools to ensure compliance with national and/or international requirements and continually improve its environmental performance include: • • •

Environmental auditing. Environmental reporting, and Environmental impact assessments.

In addition, the adoption of EMS may require extensive training of corporate staff. A practical and effective means of doing this is through the design and support

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Sustainable Energy: Challenges of Implementing New Technologies

225

of joint capacity strengthening programmes by industry association and bilateral and multilateral agencies. (4) Managing and conserving water resources: It is estimated that by year 2025, there will be a global crisis in water resources. Accelerated growth of industry will lead to increase in industrial water use. Moreover, major industrial water pollutant load is expected to increase considerably in the near future. Therefore, to better manage water resources by industry, there is a real need for integrating demand trend and use patterns. The main elements of an industrial management strategy can be identified as follows: • Analytical services. • Promotional services. • Services for the development of industry and water supply infrastructure. (5) Using market based instruments (MBIs) to internalise environmental costs: As complements to command and control measures for resource conservation and pollution prevention in industry. MBIs represent a useful and efficient cost effective policy measures that internalise environmental costs. A plant’s decision to invest in clean production depends primarily on the following factors: (a) Relative costs of pollution control in overall production costs. (b) Price elasticities of supply and demand for intermediary and final goods, and (c) Competitive position of plant in a particular industrial sector.

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

(6) Counteracting threats from eco-labelling requirements: The increasing export orientation of production makes it necessary to maintain competitive position in world markets. The emergence of a wide variety of ecolabelling requirements and lack of timely information on multitude of scheme may adversely affect certain export sectors. Needed initiatives to counteracting perceived threats could be presented as follows: • • • •

Information dissemination. Life cycle analysis. Establishing certification centres. Infrastructure support.

(7) Implementing the United Nations (UN) framework convention on climate change: The UN climate change convention entered into force on 21st March 1994. The convention objective is the stabilisation of greenhouse gas concentration in the atmosphere at safe levels. For industry, responding to this convention will undoubtedly be a major challenge. Industry will be directly affected. Sudan as party

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

226

Abdeen Mustafa Omer to this convention is obliged to take a number of actions and cooperates effectively in order to meet this challenge. Sudan has to contribute to the common goal of reducing greenhouse gases emissions by taking precautionary measures to mitigate causes and anticipate impacts of climate change. However, there may not be adequate means to do so, and Sudan will therefore require international assistance. The main requirements are: •

• •

Access to best energy-efficient technologies available on the world market, where such technologies are relevant to our natural resources endowments, our industrial requirements and are cost effective. Building an energy-efficient capital stock by accelerating the development of low energy intensity processes and equipment. Strengthening national capabilities for energy-efficient design and manufacturing.

Areas where technical expertise to implement the convention is necessary include: •

• •

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

•

•

Preparing national communications on greenhouse gas emissions. The communications are supported to contain an assessment of the magnitudes and sources of greenhouse gases as well as identification of reduction methods. Supporting technology transfer for improvement in the efficiency of fuel based power generation. Promotion technology transfer for the use of renewable sources of energy such as biomass, wind, solar, hydro, etc. Developing and implementing technology transfer for energy efficiency programmes in industry, in complementarities with cleaner production/pollution prevention measures. Analysing the impact of climate change response measures on the economic and industrial development of the country, with the view to identifying economically viable technology options for reducing greenhouse gas emissions from the production and consumption of energy.

(8) Addressing concerns of small and medium scale industry (SMI): Small and medium scale enterprises not only contribute to productivity growth and employment but are also important as collective sources of localised pollution loading such as organic wastes in water effluent, as well as hazardous wastes, heavy metal sludge, solvents, waste oils, acidic and alkaline wastes, photo wastes, etc. Often, these wastes are disposed of in unsafe manure and are extremely difficult to monitor. The cost of control in relation to output is too high, so even a modest increase in the costs (of environmental regulations) may threaten prevention and control may be well known and easily available, there is no guarantee that they will be adopted. Moreover, even when policy measures are in place, their enforcement

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Sustainable Energy: Challenges of Implementing New Technologies

227

and monitoring is a real problem for SMI sector on account of their large numbers and diversity. It is clear that environment problems of SMIs require special attention and special measures to address their particular problems.

14. PETROLEUM INDUSTRY POLLUTION AND GREENHOUSE GASES EMISSIONS IN SUDAN The activities of oil exploration in Sudan began in late 1950s in the coastal areas of Red Sea. The results of exploration indicated that there is considerable amount of natural and liquefied gases in Suwakin and Bashair, and the quantities were estimated between 45-326 x 109 cubic meters. According to the increasing oil industry activities in Sudan such as production, refining and export/consumption, and if we consider the entire fuel cycle, namely: exploration, extraction, preparation/transformation, transportation, storage, pollution, including the increase in greenhouse gases, as result of petroleum industry will be very significant in the forthcoming future. In the year 1997 about 2 x 109 tonnes of petroleum products were burnt in Sudan. This amount will be doubled in the year 2010. There is a shortage of information concerning the area of greenhouse gases recording in Sudan.

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

15. CLIMATE CHANGE, GLOBAL WARMING AND THE ENHANCED GREENHOUSE EFFECT Industry’s use of fossil fuels has been blamed for our warming climate, when coal, gas and oil are burned, they released harmful gases, which trap heat into atmosphere and cause global warming. However, there has been ongoing debate on this subject, as scientists have struggled to distinguish between changes, which are human induced, and those, which could be put down to natural climate variability. Industrialised countries have the highest emission levels, and must shoulder the greatest responsibility for global warming. But action must also be taken by developing countries to avoid future increases in emission level as their economics develop and population grows. Rising concentrations of greenhouse gases (GHGs) enhance atmospheric absorption of infrared radiation (IR) with the potential to cause global warming and associated climate change. Human activities that emit carbon dioxide (CO2), the most significant contributor to potential climate change, occur primarily from fossil fuels to produce energy that sustain economics, and powers socio-economic development. Consequently, efforts to control CO2 emissions could have serious, negative consequences for economic growth, employment, investment, trade and the standard living for individuals everywhere. Scientifically it is difficult to predict the relation between global temperature and greenhouse gas concentrations. The climate system contains many processes that will change if warming occurs. Critical processes include heat transfer by winds and currents, the hydrological cycle involving evaporation, precipitation, runoff and groundwater, and the formation of clouds, snow, and ice, all of which display enormous natural variability. The equipment and infrastructure for energy supply and use are designed with long lifetimes, and the premature turnover of capital stock involves significant costs. Economic benefits occur if

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

228

Abdeen Mustafa Omer

capital stock is replaced with more efficient equipment in step with its normal replacement cycle, and if opportunities to reduce future emissions are taken wherever in the world they are least costly, such flexible approaches would also allows society to take account of evolving scientific and technological knowledge, and to gain experience in designing policies to address climate change.

16. MITIGATION MEASURES Mitigation measures that could be under taken to influence the effect of oil industry and use that may contribute in decreasing greenhouse gases (GHGs) emissions and decelerate the threat of global climate change may include the following: • • • • • •

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

•

Controlling GHGs emissions by improving the efficiency of energy use, changing equipment and operating procedures. Controlling GHGs emission detection techniques in oil production, transportation and refining processes in Sudan. More efficient use of energy-intensive materials and changes in consumption patterns. A shift to low carbon fuels, especially in designing new refineries. The development of alternative energy sources (e.g., biomass, solar, wind, hydroelectrical and cogeneration). The development of effective environment standards, policies, laws and regulations particularly in the field of oil industry. Activating and supporting environmental and pollution control activities within the Ministry of Energy and Mining (MEM) to effectively cope with the evolving oil industry in Sudan.

17. POLICY DEVELOPMENT The non-technical issues, which have recently gained attention include:

• • • • • •

Environmental and ecological factors e.g., carbon sequestration, reforestation and revegetation. Biomass as CO2 neutral replacement for fossil fuels. Greater recognition of the importance of renewable energy, particularly modern biomass energy carriers, at the policy and planning levels. Greater recognition of the difficulties of gathering good and reliable renewable energy data, and efforts to improve it. Studies on the detrimental health efforts of renewable energy particularly from traditional energy users. Greater awareness of the need to internalise the externality cost of conventional energy carriers to place them on more equal terms with alternative energy sources.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Sustainable Energy: Challenges of Implementing New Technologies

229

18. THE FUTURE (1) In the most of the developing countries, the governments acknowledge that, renewable energy can resolve many pressing problems. Yet, the matter stops at this level ‘‘Acknowledgement’’. Much more is needed, like laws regulating and encouraging business, tax concessions, both to investors and customers, and most of all, a sustained, coordinated and well-planned official publicity campaign to enlight, inform and educate the public at a large. (2) To avoid the problems of fuel altogether (uncertain availability and skyrocketing prices), and minimise spare-parts, solar and wind pumps are proposed to replace diesel engines in the predominant irrigation areas. (3) Local manufacture, whenever possible, is to be emphasised to avail renewable energy devices since limited funds are the main constraints in commercialisation and dissemination of the technology. Low cost devices as well as reliable devices have to be provided. (4) Embarking on conservation energy and reduction of pollution of environment to be undertaken without delay:

• •

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

•

To save on fossil fuel for premium users/export. To accelerate development of new and/or remote lands otherwise deprived of conventional energy sources. As a preventive measure against shortage of future energy supply against prospective national energy demand.

(5) Launching of public awareness campaigns among investor’s particularly small-scale entrepreneurs and end users of renewable energy technologies to highlight the importance and benefits of renewables. (6) To direct Sudan resources away from feeding wars and the arms industry towards real development, this will serve the noble ends of peace and progress. (7) The energy crisis is a national issue and not only a concern of the energy sector, and the country has to learn to live with the crisis for a long period, and develop policies, institutions and manpower for longer term, more effective solutions. (8) To invest in research and development through the existing specialised bodies e.g., Energy Research Institute (ERI). (9) To encourage co-operation between nations, a fact this will be much easier in this era of information and the communications revolution. (10) Government should give incentives to encourage the household sector to use renewable energy technologies instead of conventional energy. (11) Promotion research and development, demonstration and adaptation of renewable energy resources (solar, wind, biomass, and mini-hydro, etc.) amongst national, regional, and international organisations which seek clean, safe, and abundant energy sources. (12) Execute joint investments between the private-sector and the financing entities to disseminate the renewables with technical support from the research and development entities.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

230

Abdeen Mustafa Omer (13) Promotion the general acceptance of renewable energy strategies by supporting comprehensive economic energy analysis taking account of environmental benefit. (14) Availing of training opportunities to personnel at different levels in donor countries and other developing countries to make use of their wide experience in application and commercialisation of renewable energy technologies. (15) To encourage the private-sector to assemble, install, repair and manufacture renewable energy devices via investment encouragement, more flexible licensing procedures.

19. RECOMMENDATIONS Recommendations may be classified into three broad categories: policy, institutional and enterprise levels. (1) Policy level action: At the policy level, the following aspects may be considered: • • • •

Giving priority to pollution prevention rather than pollution control. Using market based instrument complements to command and control measures. Recognising small and medium scale industry (SMI) as a special case in environmental legislation. Adopting proper industrial sitting and relocation policies.

(2) Institutional level actions:

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

• • • •

Setting up environmental extension services for small and medium scale industry (SMI). Creating information dissemination cells. Facilitating common waste treatment facilities. Promoting outreach from large plants to small and medium scale industry (SMI).

(3) Enterprise level actions: • •

Supporting demonstrations of the financial environmental benefits of pollution prevention measures. Promoting self-initiated demonstrations at enterprises through the provision of grants to enterprises.

Throughout the energy generation process there are impacts on the environment on local, national and international levels, from opencast mining and oil exploration to emissions of the potent greenhouse gas carbon dioxide in ever increasing concentration.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Sustainable Energy: Challenges of Implementing New Technologies

231

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

20. CONCLUSIONS Sudan as an agricultural country has a good rational of energy from agricultural residues, forestry resources, and animal wastes. Sudan has an excellent annual mean solar radiation of 5.44 kW h m-2 day-1 which could be of strategic important in substituting for oil, electricity, wood and charcoal; in assisting in rural development, and in improving the quality of life in rural areas. Sudan is rich in wind; about 50% of Sudan’s area is suitable for generating electricity (annual average wind speed more than 5 ms-1), and 75% of Sudan’s area is suitable for pumping water (annual average wind speed 3-5 ms-1). Production of bio-fuels such as ethanol from sugar cane, takes advantages of year-round cultivation potential in a tropical country like Sudan. Benefits extend from local to regional to national to global. Local rural economies benefit through new economic opportunities and employment in the agricultural sector. Urban regions benefit through cleaner air and health improvements. The nation benefits through substituting domestic resources for costly imported gasoline. The world benefits from reduced CO2 emissions. In a country with a population dense, there are extreme pressures on energy and waste systems, which can stunt the country’s economic growth. However, Sudan has recognised the potential to alleviate some of these problems by promoting renewable energy and utilising its vast and diverse climate, landscape, and resources, and by coupling its solutions for waste disposal with its solutions for energy production. Thus, Sudan may stand at the forefront of the global renewable energy community, and presents an example of how non-conventional energy strategies may be implemented. Sudan’s energy system is in the midst of a transition away from fossil fuels towards a more sustainable energy system based on biomass and other renewable options. Biogas plants offer renewable options that are relatively inexpensive and well suited to rural areas. Hydropower will continue to play a role in smaller-scale energy supply. There is also potential for expanding wind and solar applications in Sudan, particularly in rural areas. Energy efficiency brings health, productivity, safety, comfort and savings to the homeowner, as well as local and global environmental benefits. The use of renewable energy resources could play an important role in this context, especially with regard to responsible and sustainable development. It represents an excellent opportunity to offer a higher standard of living to the local people, and will save local and regional resources. Implementation of renewable energy technologies offers a chance for economic improvement by creating a market for producing companies, maintenance and repair services.

REFERENCES [1] [2] [3]

Omer, A.M. 1995. Rainfall patterns in Sudan. NETWAS News 2 (7): 4-7. Omer, A.M. 1998. Sudan energy background; an overview. Renewable Energy 14 (14): 467-472. Omer, A.M. 1999. Sudan Experience in Biomass Energy. Khartoum: Sudan.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

232 [4] [5] [6] [7]

[8] [9] [10]

[11] [12]

[13] [14] [15]

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

[16]

[17] [18] [19]

[20] [21] [22] [23]

[24]

Abdeen Mustafa Omer Energy Research Institute (ERI). 1987. Renewable Energy Resources Potential in Sudan. Khartoum: Sudan. Omer, A.M. 1997. Review of Hydropower in Sudan. Khartoum: Sudan. National Energy Administration (NEA). 1985. The National Energy Plan 1985-2000. Khartoum: Sudan. Omer, A.M. 1994. Renewable energy technology applications in the Sudan. In Proceedings of the 3rd World Renewable Energy Congress. Reading, UK, 11-16 September. Oxford: Elsevier Science Ltd. Omer, A.M. 1996. Renewable energy potential and future prospect in Sudan. Agriculture and Development in Arab World 3 (1): 4-13. Omer, A.M. 1996. Biogas technology and environment. Regional Energy News 2(4): 25. Omer, A. M. 1995. Solar energy technology applications in the Sudan. In Proceedings of the 1st Jordanian Mechanical Engineering Conference. Amman, Jordan, 25-28 June. Amman: Jordanian Mechanical Engineering Association. National Energy Administration (NEA). 1983. Renewable Energy Assessment for the Sudan. Khartoum: Sudan. National Energy Administration (NEA). 1983. A Pre-investment Study for Fuel Production from Agricultural Wastes for Power Generation and Household Consumption. Khartoum: Sudan. Duffie, J. A., and Beckman, W. A. 1980. Solar Engineering of Thermal Process. New York: Wiley Interscience. Kirtikara, K. 1983. Solar radiation and measurement. In Proceedings of Seminar on Solar Energy and Applications. Bangkok: Thailand. Omer, A. M. 1990. Solar Atlas for Sudan. P. G. Thesis. University of Khartoum (UOK). Khartoum: Sudan. Omer, A. M. 1996. Solar energy potential and future prospect in Sudan. In Proceedings of the 4th World Renewable Energy Congress. Denver, USA, 15-21 June. Oxford: Elsevier Science Ltd. Omer, A. M. 1997. Compilation and evaluation of solar and wind energy resources in Sudan. Renewable Energy 12 (1): 39-69. Omer, A. M. 1998. Horizons of using wind energy and establishing wind stations in Sudan. Dirasat 25 (3): 545-552. Omer, A.M. 1993. Wind speeds and wind power potential in Sudan. In Proceedings of the 4th Arab International Solar Energy Conference. Amman, Jordan, 20-25 November. Amman: Renewable Energy Research Centre. Joop, V.M.; Paul, H.; and Omer, A.M. 1987. Evaluation of Sudan Wind Energy Project. The Netherlands: CWD-ERC. Omer, A.M. 1999. Biomass Energy Potential and Future Prospect in Sudan. Khartoum: Sudan. National Energy Administration (NEA). 1991. Energy Handbook. Khartoum: Sudan. Elamin, S.M.E. 1995. Towards Participative Approach for the Design of Appropriate Energy Technology in Sudan Rural Settings. M.Sc. Thesis. University of Khartoum (UOK). Khartoum: Sudan. Omer, A.M. 1998. Renewable Energy Potential and Environmentally Appropriate Technologies in Sudan. Khartoum: Sudan.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Sustainable Energy: Challenges of Implementing New Technologies

233

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

[25] Omer, A.M. 1998. Renewable energy resources in Sudan. In Proceedings of the 5th World Renewable Energy Congress. Florence, Italy, 19-25 September. Oxford: Elsevier Science Ltd. [26] World Resource Institute (WRI). 1994. World Resources: A Guide to the Global Environment, People and the Environment.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved. Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

In: Environmental Cost Management Editor: Randi Taylor Mancuso

ISBN 978-1-60741-815-3 © 2009 Nova Science Publishers, Inc.

Chapter 6

MARKET VALUATION OF THE LONG-RUN EFFECTS OF ADOPTION OF EFFECTIVE ENVIRONMENTAL COST STRATEGIES Charlotte J. Wright* School of Accounting, William S. Spears School of Business, Oklahoma State University, Stillwater, OK 74078, USA

Royce D. Burnett Department of Accounting, School of Business, University of Miami, Coral Gables, FL 33136, USA

Charlene Sinkin

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Accounting Department, College of Business, Bryant University, Smithfield, RI 02917, USA

ABSTRACT Eco-efficiency refers to the paradigm that firms can achieve long-run economic gains as a consequence of strategically managing environmental efficiencies (Porter 1991; Porter and van der Linde 1995a, 1995b). Environmental cost strategies involve management of the cost of production while minimizing the impact on the environment. In an efficient cost management system, inefficient use of environmental inputs and/or outputs, including pollution and waste, are reduced or eliminated through process improvements and innovation. By incorporating the efficient use of the environment into the firm’s strategic planning, management establishes a direct link between the firm’s environmental goals and its profitability (Brady et al. 1999; Ekins 2005) and firm value (Sinkin et al. 2008), Our study examines whether investors recognize and incrementally value the long-run benefits of the adoption of eco-efficient business strategies. Firms that adopt eco-efficient business strategies and thereby reduce costs and increase profits should be more highly valued in the long run than similar firms that do not adopt eco*

Corresponding author. Tel: 405-744-8611; E-mail: [email protected]

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

236

Charlotte J. Wright, Royce D. Burnett and Charlene Sinkin efficient business strategies. Our results support the hypothesis that the market recognizes the long-run benefits of adopting eco-efficient business strategies.

Keywords: eco-efficiency, Porter Hypothesis, environmental management strategy

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

I. INTRODUCTION The Porter Hypothesis (Porter 1991; Porter and van der Linde 1995a, 1995b) refers to the paradigm that adoption of environmentally directed business strategies leads to lower costs and increased profitability in the long run. This is often referred to as eco-efficiency which rests on the premise that firms can achieve long-run economic gains as a consequence of effectively managing environmental. In an eco-efficient management system, inefficient use of environmental inputs and/or outputs, including pollution and waste, are inefficiencies that can be reduced or eliminated through process improvements and innovation. Efficient cost management strategies are aimed at stimulating creativity and innovation (Pava and Krausz 1996). According to the World Business Council on Sustainable Development (WBCSD) (2000) eco-efficiency is achieved by the delivery of competitively priced goods and services while progressively reducing ecological and environmental impacts. In other words, ecoefficiency is a management control process designed to reduce environmental intensity and increase environmental productivity while at the same time reducing costs and creating value (Huppes and Ishikawa 2005). There is broad support for the Porter Hypothesis in the research literature (Meyer 1992; Mohr 2002; Xepapadeas and Zeeuw 1999; Epstein and Roy 1997; Dowell et al. 2000; Blumberg et al. 1997; Peck and Sinding 2003). Feldman et al. (1997) posit that, when firms effectively signal the adoption of eco-efficiency, they are viewed as having created value for shareholders through reduction of their risk profile. However, research examining the impact of environmental compliance on stock return performance and firm value has been mixed (Hassel et al. 2005; Cormier et al. 1993; Belkaoui 1976; Jaggi and Freedman 1982; Stevens 1984; Klassen and McLaughlin 1996; Hirl 1998; Freedman and Jaggi 1982; Jaggi and Freedman 1992; Berthelot et al. 2003). Sinkin et al. (2008) conclude that the adoption of ecoefficient cost strategies is initially reflected in the market valuation of firms’ securities. This study examines the long-run incremental effect of the adoption of environmental cost management strategies on firm value. The purpose of our study is to extend Sinkin et al. (2008) by examining the extent to which investors incrementally value the long-run benefits of the adoption of eco-efficient business strategies. Margolis and Walsh (2003) call for research exploring the role of corporations in the furtherance of social, including environmental, causes and the ramifications for shareholder wealth maximization. Since the Porter Hypothesis suggests that adoption of effective environmental cost management strategies benefits all corporate stakeholders, eco-efficiency provides a unique opportunity to pursue this research agenda. We posit that any increases in firm value associated with adoption of eco-efficient business strategies should persist beyond the current accounting period and should be reflected in the market valuation of firms’ book values. Tests of this model support the hypothesized relationship.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Market Valuation of the Long-Run Effects of Adoption …

237

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

II. LITERATURE REVIEW AND HYPOTHESIS DEVELOPMENT According to Porter’s Hypothesis the adoption of environmentally directed business strategies will lead to lower costs and increased profitability in the long run. The traditional environmental management paradigm assumes the relationship between environmental preservation and economic performance is driven by regulation (Porter 1991, Burnett et al. 2007a). In that model new environmental regulations are inevitably associated with higher costs and offer little or no stimulus for technological or process innovation. Porter (1991) and Porter and van der Linde (1995a, 1995b) contend that pollution is a form of economic inefficiency and environmental regulations signal companies of the need to improve. Porter suggests that, if properly designed, environmental regulations actually motivate innovations that, at a minimum, offset any resultant costs thereby encouraging eco-efficient behavior. Firms that recognize the relationship between environmental regulation and efficiency more effectively identify trade-offs between business and environmental concerns (Walley and Whitehead 1994). Effective environmental cost management strategies seek to maximize the effectiveness of business processes while minimizing their impacts on the environment (Burnett et al. 2007a). Fundamental to this approach is adoption of a management philosophy that stimulates the search for environmental improvements that yield parallel economic benefits (President’s Council on Sustainable Development 1996a, 1996b; WBCSD 2000). This is often referred to as an eco-efficient management strategy. Eco-efficiency is increased by activities that create economic value while continuously reducing ecological impacts and the use of natural resources (DeSimone and Popoff 1997). Under an effective environmental management strategy, pollution and waste would be identified as inefficiencies in the production process in that they constitute non value-added costs which should be reduced or eliminated through process improvements and technological innovation. Any resulting cost savings should, at a minimum, offset any implementation costs (Porter 1991; Porter and van der Linde 1995a, 1995b; Boyd and McClelland 1999). By incorporating the efficient use of the environment into the firm’s strategic planning, management establishes a direct link between the firm’s environmental goals and its profitability (Brady et al. 1999; Ekins 2005). By applying lean production techniques to environmental inputs and outputs, management is able to obtain a competitive advantage (Russo and Fouts 1997; King and Lennox 2002). The adoption of an efficient environmental cost management system has been cited as an indication of superior management quality (Blumberg et al. 1997; Russo and Fouts 1997; Konar and Cohen 2001; Blank and Daniel 2002). Thus, as the evidence builds for eco-efficiency, there is an incentive for management to obtain and use more information about environmental activities and their costs (Burnett and Hansen 2008). Eco-efficiency does not occur at a single point in time, rather it is a long-run process that involves management adopting an environmentally effective cost management strategy as an integral component of their overall business planning (DeSimone and Popoff 1997). Ecoefficiency relies on a cost management control system to assign an economic value to the outcomes generated through the adoption of technological innovations designed to manage environmental performance. A key component of these actions is that, over time, both environmental costs and degradation will be reduced to levels lower than those that would have been obtained under traditional environmental management approaches (Burnett et al.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

238

Charlotte J. Wright, Royce D. Burnett and Charlene Sinkin

2007b). Such a strategy is not simply a matter of companies making nominal efforts to improve existing practices; rather, involves the adoption of an integrated management philosophy aimed at the stimulation of creativity and innovation (Pava and Krausz 1996). Adoption of eco-efficient business strategies involves operations beyond company boundaries in that management must look both upstream and downstream and involve the entire supply and product value chain (Shrivastava 1995; DeSimone and Popoff 1997). Indeed, Al-Tuwaijri et al. (2004) suggest the adoption of innovative pollution reduction strategies will also promote industrial competitiveness when managers change their outlook on environmental cost management to a long term focus that aligns with a market based proxies of economic performance. Eco-efficiency has found broad support in the research literature. For example, Meyer (1992) examines the relationship between the pursuit of environmental quality and economic growth by comparing states with strict environmental laws to those having more lax requirements and identifies a consistent association between increased environmentalism and economic growth. Mohr (2002) identifies regulatory-induced innovations that simultaneously reduce pollution and increase productivity. Xepapadeas and Zeeuw (1999) note both productivity and profitability effects related to regulatory-induced fixed asset investment and production process modifications. Consistently, Epstein and Roy (1997) posit that, although environmental improvements may be spurred by regulation, it is possible for corporations to use regulatory mandates as an impetus for pursuing product and process innovations that have the potential to yield substantial benefits to both the environment and the firm. Dowell et al. (2000) examine a sample of 86 firms operating in countries with lax environmental standards, and observe that positive market valuation occurred for companies that voluntarily adopted more stringent environmental policies. In a descriptive study, Blumberg et al. (1997) detail the experiences of a number of companies that adopted eco-efficient business strategies and experienced enhanced earnings. Peck and Sinding (2003) report similar results for companies in the mining industry. Environmental reporting is integral to the evaluation and communication of the environmental impacts of economic activity (Holland 2003). Management communicates information regarding firms’ environmental performance through both mandatory and voluntary disclosures. Financial statements are the primary source of mandatory disclosures including disclosures promulgated by the Financial Accounting Standards Board (FASB) and the Securities and Exchange Commission (SEC). According to Statement of Financial Accounting Standards (SFAS) No. 5, “Accounting for Contingencies,” companies’ financial statements must reflect information regarding environmental incidents that are likely to result in significant future debts. Various SEC regulations require 10K and MD&A disclosure information regarding costs of compliance with environmentally directed legislative and pending legal matters. Gamble et al. (1995) indicate that the overall quality of mandatory environmental disclosures appearing in financial statements and SEC filings is low. Hughes et al. (2001) note that, due to the reporting requirements under SFAS No. 5, poor US environmental performers tend to make the most extensive financial statement disclosures. As a consequence of this focus on past negative environmental events, financial statements are not an effective source of information regarding firms’ current efforts to achieve ecoefficiency (Sinclair and Walton 2003). Corporate environmental reports (CERs) are the primary source of voluntary environmental information (Beets and Souther 1999). These free-standing reports are

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Market Valuation of the Long-Run Effects of Adoption …

239

specifically aimed at conveying information about companies’ effects on the environment (Marshall and Brown 2003) including information regarding environmental activities and environmental strategies (Lober et al. 1997; Willard 2002). CERs play a central role in achieving the external and internal communication critical to achieving eco-efficiency (Holland 2003; Brady et al. 1999; Sinclair and Walton 2003; Blumberg et al. 1997). Cormier et al. (2005) and Cormier and Magnan (2003, 2004, 2007) note that managers use CERs to disclose the adoption of eco-efficient business strategies and that such disclosures serve to reduce the information asymmetry between management and external stakeholders. Neu et al. (1998) and Roberts (1992) observe that firms with high levels of political exposure, an active posture toward environmental responsibility, and strong economic performance consistently make voluntary disclosures regarding their eco-efficient activities. Clarkson et al. (2008) suggest that the disclosure of actual performance indicators in CERs can convey critical information to assess a firm’s long term environmental performance. These findings are consistent with accounting research indicating that managers consistently use voluntary financial-related disclosures to signal positive performance externally (Lev 1992; Lang and Lundholm 1996; Ravid and Saring 1991; Chiang 2005). Overall research examining the impact of environmental performance on stock return performance and firm value has been mixed. Hassel et al. (2005) conclude that, while there is a relationship between financial and environmental performance, positive environmental performance is negatively associated with security performance, indicating that, in the long run, investors view environmental activities as being carried out at the expense of increased future profits. Cormier et al. (1993) examine the impact of pollution levels on firms’ security prices and conclude that the greater the level of pollution produced by a firm, the lower its market valuation. Belkaoui (1976), Jaggi and Freedman (1982), Shane and Spicer (1983), Freedman and Jaggi (1986), and Jaggi and Freedman (1992) examine the market reaction to various mandatory environmental disclosures and conclude that the market reacts to the information; however, it is unclear whether the reaction is positively or negatively related to the information disclosed. Berthelot et al. (2003) conclude that, while capital market responses to environmental financial statement disclosures are mixed, disclosures regarding accidents, fines, penalties or other government actions are consistently associated with negative returns. Sinkin et al. (2008) examine the relationship between environmental performance and firm value and note a positive relationship, however they do not consider the incremental long-run effects. The long-run effect of adoption of eco-efficient cost management strategies may help to explain these seemingly inconsistent results.41 Margolis and Walsh (2003) review 127 studies published from 1972-2002 that examine the relationship between various aspects of corporate social performance (including environmental) and financial performance. Margolis and Walsh (2003) conclude that, while the majority of these studies report a positive relationship between social and financial performance, there is nevertheless a gap in our understanding of the conditions under which corporate involvement mitigates social woes without reducing corporations’ effectiveness as economic instruments. However, the Porter Hypothesis suggests that (by reducing environmental degradation while achieving lower costs, increased output and increased profitability) adoption of eco-efficiency yields benefits to all corporate stakeholders. 41

A long term perspective to environmental strategies is necessary since the full extent of environmental induced costs may not be apparent in a single period (Esty and Winston 2006).

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

240

Charlotte J. Wright, Royce D. Burnett and Charlene Sinkin

According to Ohlson (1995), earnings and book values are critical determinants of firm value. Achieving eco-efficiency is an on-going process therefore any increase in firm value resulting from adoption of eco-efficient business strategies should persist beyond the current accounting period. Kanna and Damon (1999), King and Lenox (2002), and Johnston (2005) conclude that, while capital expenditures for voluntary environmental improvements have a negative impact on current earnings, they appear to be positively related to long-run financial performance. Since book values are a source of firm value beyond the current accounting period, this long-term effect should be reflected in the market valuation of firms’ book values. In order to explore the market’s assessment of the long-term effects of adoption of effective environmental cost management strategies, we test the following hypothesis: H1: The book values of firms adopting eco-efficient management strategies are valued more highly by investors than the book values of non eco-efficient firms. The next section of this paper describes our sample selection and methodology used to test this hypothesis.

III. METHODOLOGY

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Sample Selection McCafferty (1996) concludes that Fortune 500 firms are likely to adopt leading-edge environmental processes and practices. Consistently, Gray et al. (2001) determine that larger firms are more likely to be involved in environmentally related activities than their smaller counterparts. Accordingly, our initial set of firms includes those appearing on the 2003 Fortune 500 listing42. We considered limiting the sample to specific industries; however, while certain industries may be more environmentally intense, adoption of eco-efficient management strategies is not limited to any particular industry (President’s Council on Sustainable Development 1996a, 1996b; WBCSD 2000). Microsoft Corporation provides an example of a firm in the business services industry that we classify as being eco-efficient. Microsoft’s 2003 CER includes the following description of some of their environmental efforts: At Microsoft, we follow strict policies to ensure that we remain in full compliance with international environmental regulations and the environmental requirements of each country where we do business. All Microsoft divisions have specific responsibilities for compliance, as do our vendors. We extend our environmental efforts by the use of recycled office products, as well as recycled paper in Microsoft brochures, software manuals, and other publications. We also purchase and use many new products that contain recycled content. Our environmental principles are an important component of our buying decisions, and we believe the same is true for our customers.

42

At the time we contacted Fortune, the most recent contact data available was for 2003; therefore, our initial sample consists of the 2003 Fortune 500 firms.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Market Valuation of the Long-Run Effects of Adoption …

241

Packaging for our hardware and software products is also designed to reduce environmental impact, including the elimination of plastic shrink-wrap from Microsoft packages and software manuals, promoting the use of compact discs (CDs) for computer programs, and using online paperless manuals. We also prohibit the use of old-growth trees in our packaging. We design our products, both software and hardware, to comply with worldwide environmental regulations. For example, we use no heavy metals, such as lead and cadmium, in the packaging or plastics of any Microsoft products. Our hardware products are designed with consideration of the environment in mind, and we restrict the use of toxic substances in manufacturing operations. Microsoft contracts out for manufacturing throughout the world, and we encourage our vendors to follow good environmental practices. (p. 17)

Also:

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Microsoft has made energy conservation a priority, both in new construction and in renovations of existing buildings, investing in construction methods that provide long-term energy savings. Conservation methods implemented recently during construction of buildings on our corporate campus—from efficient lighting that consumes 40 percent less energy to adjustable-speed motors for our heating, ventilation, and air-conditioning systems—will result in electric energy savings of 2.5 million kWh each year. Over the past two years, we have reduced per-employee energy consumption at our Seattle-area facilities by nearly 10 percent. (p. 16)

Microsoft’s description of their environmental strategies is consistent with the adoption of eco-efficiency. We found similar information in the CERs of other non-manufacturing industry companies. Therefore, we concluded that our initial sample should include large firms from a variety of different industries. Verfaillie and Bidwell (2000) identify various indicators that a firm has adopted effective environmental cost strategies. These indicators fall into four broad categories: external recognition; monitoring and public reporting; value indicators; and environmental influence indicators. Environmental influence indicators include parameters relating to items such as emission releases, water contamination, toxic substance abatement, and energy consumption. Information about these parameters may be available relating to a single environmental intervention, however, such data is not consistently available at the firm level on an ongoing basis (Huppes and Ishikawa 2005; Beets and Souther 1999). Due to this issue and in consideration of the breadth of activities that Fortune 500 companies are engaged in, we were unable to construct environmental influence indictors that could be applied across all of the companies in our sample. Therefore, we were unable to use environmental influence indicators. We utilize external recognition and monitoring and public reporting in identifying a sample of eco-efficient firms. Additionally, we use value indicators as a validation check. These are described below.

External Recognition Indicators The International Organization for Standardization (ISO) is a non-governmental organization consisting of a network of the national standards institutes of 157 countries with

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

242

Charlotte J. Wright, Royce D. Burnett and Charlene Sinkin

a Central Secretariat in Geneva, Switzerland, that coordinates the system. The principal activity of the ISO is the development of technical standards, with perhaps the most widely recognized environmental standard being ISO 14001. ISO 14001 is designed to ensure that certified companies systematically address the environmental impacts of their operations. In order for a company to be ISO certified it must undergo a rigorous comprehensive review and evaluation. Adoption of an environmental management system that integrates environmental and economic management is central to achieving ISO 14001 certification (Marshall and Brown 2003; Thornton 2000; Webb 2001). Given that eco-efficiency requires the adoption of an environmental cost management system which incorporates efficient use of the environment into the firm’s strategic planning (DeSimone and Popoff 1997; Brady et al. 1999; Ekins 2005), we concluded that ISO 14001 certification is evidence of the adoption of eco-efficient business practices. Thus, we use ISO 14001 certification as an external recognition indicator43. This is supported by Thornton (2000), Verfaillie and Bidwell (2000), Marshall and Brown (2003), and Holland (2003). We performed a comprehensive review of the 2003 Fortune 500 companies’ websites, financial statements, and other Internet sources and identified 135 firms that had achieved ISO 14001 certification44.

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Monitoring and Public Reporting Indicators Communication is central to signaling the adoption of eco-efficient cost management strategies (WBCSD 2000), and CERs have been associated with the adoption of eco-efficient business strategies (Holland 2003; Brady et al. 1999; Sinclair and Walton 2003; Blumberg et al. 1997; Cormier et al. 2005; Cormier and Magnan 2003, 2007). Therefore we utilize the issuance of a CER as a monitoring and public reporting indicator and, thus, as evidence of the adoption of eco-efficiency. In order to identify firms that issued a CER we purchased a database containing contact information for all 2003 Fortune 500 companies and contacted each firm via telephone and/or email inquiring whether they published a CER in 2003. If the initial contact did not result in a response, we followed up with telephone calls, emails and, when necessary, a comprehensive review of firms’ websites. Through this process we identified 95 firms that issued a CER in 2003. We then compared the list of ISO 14001 certified firms with the list of CER issuers and found that 92 of the 95 CER issuers were ISO 14001 certified. We concluded that issuance of a CER along with ISO 14001 certification provides compelling evidence that a firm has adopted ecoefficient cost management strategies (Marshall and Brown 2003; Holland 2003). Upon further examination we found that the three CER issuers that are not ISO 14001 certified are financial institutions. Due to the nature of their operations, financial institutions are not likely candidates for ISO 14001 certification; however, after review of their CERs, websites and other Internet data we found each of these firms had received a number of 43

A number of accounting research studies utilize environmental ratings; however Ilinitch et al. (1998) observe that the more popular ratings rely on the public’s reaction to environmental events rather than on precise measurement of actual outcomes. Therefore, we do not to use environmental rating scores to measure external recognition. 44 Webb (2001) indicates that ISO 14001 certification focuses on sustainability and therefore involves an on-going process including establishment of an environmental management system, full process documentation, review and audit. Accordingly we assume that, in order for a firm to be currently ISO 14001 certified, they must have either been certified or in the process in 2003.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Market Valuation of the Long-Run Effects of Adoption …

243

environmental awards and commendations. Klassen and McLaughlin (1996) indicate that external environmental awards are typically granted after extensive examination of process operations and may be interpreted as reflecting the quality of underlying environmental cost management systems. We concluded that, for these financial firms, externally granted awards and commendations could justifiably serve as valid external recognition indicators. Accordingly we included the three financial firms in our sample of eco-efficient firms. Thus, the initial test sample includes 95 firms while the initial control sample consists of 405 firms. It is possible that the control group includes firms that are in fact eco-efficient but failed to meet our criteria. For example, the 40 ISO 14001 certified firms that did not issue a CER in 2003 are classified as control firms. Since firms that issue CERs may not necessarily issue a report every year, it is possible that one or more of these 40 firms may have issued a CER in some year other than 2003. We concluded that leaving these firms in the control group is acceptable since misclassification of eco-efficient firms into the control group actually lessens the likelihood of finding results to support our hypothesis.

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Value Indicators We use value indicators as a form of validity check for our classification scheme. Verfaillie and Bidwell (2000) and Helminen (2000) indicate that gross margin and value added (net sales minus cost of goods purchased) are higher for eco-efficient firms than for non eco-efficient firms. Results from parametric t-tests and nonparametric Wilcoxon twosample tests indicate that the firms we have classified as eco-efficient exhibit significantly higher gross margin and value added when compared to the sample non eco-efficient firms (p zero. Observing β1 > zero is evidence of an incremental association with market value, after controlling for earnings, book value of equity, leverage, and industry effects. Any increase in firm value resulting from adoption of eco-efficient management strategies should persist beyond the current accounting period and should be reflected in the market valuation of firms’ book values. Since book value represents the source of future earnings, we interact ADOPTit with BVit and include this variable in the model as a measure of the incremental market value that investors assign to the book values of firms which have effective environmental management systems. One may interpret the variable as reflecting investors’ assessment of the long-run benefits of adoption of effective environmental cost management strategies. In order to examine the incremental long-run effect of the adoption of eco-efficient management strategies and test H1, we estimate the following model:

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

Pit = a 0 + a1 BVit + a 2 EPS it + β1 [ADOPTit × BVit ]+ β 2 ( Levit ) + η it

(3)

All of the variables are as previously defined. Observing β1 > zero is evidence of incremental long-term firm value from the adoption of eco-efficient business practices. Table 2 reports descriptive statistics for each of the variables.45 A correlation matrix is also provided. Table 2. Descriptive Statistics and Correlation Matrix

Variable

Mean

Pit BVit EPSit Levit

2.8171 0.1030 0.1359 1.34791

45

Panel A: Descriptive Statistics (n=431) Median Standard Maximum Deviation 2.2518 1.9638 12.6243 0.0717 0.1140 1.1792 0.1302 0.4689 8.5585 0.6880 2.9235 26.4928

Minimum 0.3963 0.0002 -2.1956 0.0000

A comparison of the independent variables for eco-efficient firms versus non eco-efficient firms using both two sample t-tests and Wilcoxon Rank Sum tests revealed no significant differences in mean values.

Environmental Cost Management, Nova Science Publishers, Incorporated, 2009. ProQuest Ebook Central,

Market Valuation of the Long-Run Effects of Adoption …

247

Table 2. (Continued)

Pit BVit EPSit Levit

Panel B: Correlation Matrix (n=431) Pit BVit EPSit Levit 1.000 0.5772*** 0.1452*** 0.1532*** 0.5366*** 1.000 0.0308 0.4686*** 0.5744*** 0.1806*** 1.000 0.2072*** -0.1191*** -0.0018 -0.0561 1.000

ADOPTit 0.1263*** -0.0278 -0.0043 -0.0313

ADOPTit

0.1407***

1.000

0.0363

0.0192

0.0772

Notes: In the matrix, numbers above the diagonal represent Pearson correlations, and numbers below the diagonal represent Spearman correlations. Significance levels: * ρ < 0.1, ** ρ < 0.05, *** ρ < 0.01. Variable definitions: Pit = stock price per share for firm i at time t divided by book value of equity per share; BVit = 1 divided by book value of equity per share; EPSit = earnings per share divided by book value of equity per share; Levit = long-term debt/equity; ADOPTit = dichotomous variable that is assigned a value of 1 for firms adopting eco-efficient management strategies and zero otherwise.

Copyright © 2009. Nova Science Publishers, Incorporated. All rights reserved.

IV. RESULTS AND ANALYSIS The first step in the analysis involves the estimation of equation (3) for the full sample of 431 firms. These results are provided in Table 3. We repeated the analysis for the reduced sample of 310 firms. These results appear in Table 4. The variable of interest is (ADOPTit x BVit). Since book value represents the source of future earnings, we include this variable as a measure of the incremental market value that investors assign to eco-efficient firms’ book values. One may interpret the variable as reflecting investors’ assessment of the long-run benefits of eco-efficiency. For the full sample of 431 firms, the coefficient on (ADOPTit x BVit) is 7.378. This coefficient is positive and significant (p