Measuring the Invisible: How Banks Calculate Financed Emissions

It's a striking statistic: over 95% of a bank's climate impact often stems from the emissions of the companies they finance—their 'financed emissions.' This presents a significant hurdle for financial institutions aiming for NetZero. The crucial question is, how do banks even begin to measure such a substantial part of their carbon footprint? In this, the second of our blog series on financed emissions, we explore the key methodologies and standards used for this complex calculation. Join us as we delve into these essential processes.

How do banks measure financed emissions today?

Banks measure financed emissions today primarily using standardised frameworks and methodologies designed to quantify the greenhouse gas (GHG) emissions linked to their lending, investment, and other financial activities. The goal is to assess the carbon footprint of their portfolios, particularly in relation to the companies or projects they finance. One of the most widely adopted methodologies is from the Partnership for Carbon Accounting Financials (PCAF). 

Here’s an outline of how banks measure financed emissions today:

1. Partnership for Carbon Accounting Financials (PCAF)
PCAF provides a globally recognised standard for measuring and disclosing financed emissions. It helps banks quantify their share of the GHG emissions generated by the companies or assets they finance, based on the amount of financing provided relative to the total capital of the company or asset.

Key Steps in PCAF Methodology:
Asset Class Approach: PCAF uses different approaches depending on the type of asset class (e.g., corporate loans, mortgages, project finance, sovereign bonds, etc.), with tailored calculation methods for each.

Attribution Factor: Banks calculate their share of financed emissions based on the ratio of their financing to the enterprise value of the company or asset they are financing.
For example, if a bank provides a loan covering 10% of a company’s balance sheet, it would attribute 10% of that company’s total emissions to its portfolio.

Emissions Data: Banks rely on emissions data reported by companies or use proxy data when actual data is not available. They often use third-party datasets, emission factors from databases, or estimation models based on sector and geography to estimate emissions.

GHG Protocol: PCAF aligns with the Greenhouse Gas (GHG) Protocol’s standards for Scope 1 (direct emissions), Scope 2 (indirect emissions from energy use), and Scope 3 (other indirect emissions). For financed emissions, banks focus mostly on Scope 1 and Scope 2 emissions of the companies they finance, but Scope 3 can also be included for a more complete picture.

2. Emissions Attribution for Different Asset Classes

PCAF offers specific guidance for measuring financed emissions across various asset classes:

Corporate Loans and Bonds: The emissions are based on the borrower’s enterprise value, using the bank’s exposure to the borrower relative to the borrower’s total equity and debt.

Project Finance: In project finance (e.g., infrastructure or energy projects), emissions are attributed to the project, and the bank’s share of emissions is proportional to its financial contribution relative to the total project financing.

Mortgages and Real Estate: Banks measure emissions related to energy use in residential and commercial buildings they finance. This is based on energy consumption data or average emission factors for buildings.

Sovereign Bonds: The emissions linked to sovereign debt are calculated based on national-level GHG inventories, with the bank’s share determined by its exposure to the country's debt.

3. Emissions Data Sources

Banks require access to emissions data to accurately calculate financed emissions.
They obtain this from:

Reported Emissions: Publicly disclosed emissions data from companies (via sustainability reports or platforms like CDP).

Proxy Data: If direct emissions data is unavailable, banks use industry averages, emission factors, or modelling techniques.

Data Providers: Specialised third-party data providers like MSCI, S&P, and Sustainalytics offer emissions data and estimates for various sectors and geographies.

4. Adjustments and Limitations

While PCAF offers detailed guidance, there are still limitations to measuring financed emissions, particularly around data availability and the accuracy of proxies. 

Some challenges include:

Data Gaps: Very few companies report their emissions, especially in emerging markets or for small / medium enterprises. This leads to reliance on proxies or arbitrary estimates, which are typically inaccurate.

Double Counting: In some cases, financed emissions could be double-counted across multiple financial institutions if they are lending or investing in the same entity. Harmonised disclosure frameworks are helping to address this issue.

5. Disclosure and Reporting

Once financed emissions are calculated, banks disclose them in their sustainability or climate reports as part of their environmental, social, and governance (ESG) reporting. Many institutions are aligning with the Task Force on Climate-related Financial Disclosures (TCFD) framework, which encourages transparent reporting on climate risks, including financed emissions.

6. Net-Zero Commitments

For banks committed to achieving net-zero financed emissions (e.g., by 2050), measuring these emissions is essential. They use the results of their calculations to set reduction targets and to align their portfolios with global climate goals (such as the Paris Agreement). This often involves shifting their financing toward lower-carbon or renewable energy sectors.

In summary, banks measure financed emissions through robust frameworks like PCAF, using data from companies, proxies, and emissions factors. This process helps them track the climate impact of their lending and investment activities, and it is increasingly integral to how they manage and reduce climate-related financial risks.

Navigating the complexities of financed emissions measurement can be challenging. To learn more about how Equifax is supporting financial institutions with accurate emissions data and calculation tools, visit our website or contact us for a demonstration of our Financed Emissions Calculator.