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Carbon Business Accounting: The Impact of Global Warming on the Cost and
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Carbon Business Accounting: The Impact
of Global Warming on the Cost and
Management Accounting Profession
JANEK T. D. RATNATUNGA*
KASHI R. BALACHANDRAN**

The concentrations of greenhouse gases in the atmosphere have risen

dramatically, leading to the possibility of costly disruption from rapid
climate change. This calls for greater attention and precautionary meas-
ures to be put in place, both globally and locally. Governments, busi-
ness entities and consumers would be affected by the extent to which
such precautionary measures are incorporated in their decision-making
process.
Business entities need to consider such issues as trading in carbon
allowances (or permits), investing in low–carbon dioxide (CO2) emission
technologies, counting the costs of carbon regularity compliance, and
passing on the increased cost of carbon regulation to consumers
through higher prices. Such considerations require information for
informed decision making. This paper reports on a qualitative research
study undertaken to consider the impact of the Kyoto Protocol mecha-
nisms on the changing information paradigms of cost and managerial
accounting.
It is demonstrated that the information from strategic cost manage-
ment systems will be particularly useful in this new carbon economy,
especially in evaluating the ‘‘whole-of-life’’ costs of products and ser-
vices in terms of carbon emissions. Similarly, the study discusses how
strategic management accounting information would facilitate decisions
on business policy, human resource management, marketing, supply
chain management, and finance strategies and the resultant evaluation
of performance.

1. The Emerging Paradigm of Carbonomics

The Kyoto Protocol is the original international regulatory response to global
warming, under which more than 150 countries agreed to strive to decrease

*University of South Australia

**New York University

333
334 JOURNAL OF ACCOUNTING, AUDITING & FINANCE

carbon dioxide (CO2) emissions. Whilst alternative social constructions have

been debated for the reduction of carbon emissions, such as that agreed to at the
recent Applied Power and Economics Conference (APEC) in Sydney (Mackey
[2007]),1 the Kyoto Protocol remains the international standard. Under Kyoto, a
country can emit more CO2 than its assigned amount only if it can simultane-
ously sequester the equivalent amount in ‘‘Ôallowable’’ carbon sinks (such as
trees, plankton, soils, and water bodies).
The Kyoto Protocol has developed various alternative social constructions
(or mechanisms) for reducing carbon emissions that would enable industrial
countries with quantified emission limitation and reduction commitments to
acquire greenhouse-gas reduction credits. Among these mechanisms is the estab-
lishment of an International Emission Trading (IET) scheme. Here countries can
trade in the international carbon credit (allowances) market. Countries with sur-
plus credits can sell them to countries with quantified emission limitation and
reduction commitments under the Kyoto Protocol (see Appendix A for a detailed
discussion of the measurement and assurance issues in carbon-emissions trading).
In countries subject to strict CO2 emissions-reduction targets, the existence
of such mechanisms would necessitate a number of lifestyle changes (from
organizations and individuals in that country) to achieve a substantial decrease in
CO2 emissions. Examples of the lifestyle changes that are required by govern-
ments, organizations, and individuals to reduce CO2 emissions were listed in
TIME magazine (2007). A few of the recommended carbon-reduction methods
for business including changing light bulbs to low emission, switching off lights
at quitting time, letting employees work close to home, and buying green power.
Carbon reduction methods for individuals include flying a straight course
between locations, hanging up clothes to line dry, and insulating residential water
heaters.
On an individual level, in recent years, there has been a significant shift
from ‘‘localization’’ to ‘‘globalization,’’ especially with the opening up of China,
India, and the Eastern bloc (Levitt [2006]). However, as more people are encour-
aged to work closer to home, buy produce from the local farmer, and host a
‘‘green wedding’’ (e.g., by buying wine and other items locally) (TIME [2007]),
then a shift back to localization due to carbon-related reasons is possible. We
have termed such a shift in world trade as ‘‘carbalization.’’

1. The United States and Australia signed this Sydney agreement. The other signatories to this
APEC agreement, such as China, Japan, Canada, and Indonesia, have already signed the Kyoto Proto-
col. Since Australia’s ratification of Kyoto in 2007, the United States is the only major industrial
country (among the very small group of countries overall) that is still not a signatory to the Kyoto
Protocol. Developing countries, including China, India, and Indonesia, have ratified the protocol but
are exempted from reducing CO2 emissions under the present agreement, despite their large popula-
tions and high emissions levels. China ranks behind only the United States in carbon emissions, and
in some rankings is the number one emitter (Netherlands Environmental Assessment Agency, see
http://www.mnp.nl/en/index.html). Australia, even though it is now a signatory, has not, as yet,
agreed to any reduction targets, despite being the largest per capita polluter.
CARBON BUSINESS ACCOUNTING 335

Carbalization is based on the concept of product-distance (in miles or kilo-

meters)—that is, the distance a product travels to get to its place of final pur-
chase for consumption. Separate studies by the oil giant BP (formerly British
Petroleum) and the German Institute for Physics and Atmosphere released earlier
this year revealed that the world’s shipping could have a more serious impact on
global warming than air travel.2 Although CO2 emissions on a per-kilogram basis
were significantly lower for shipping when compared with air freight, it is dis-
tance that has been targeted as most imports of fast-moving consumer goods
(FMCGs) are imported primarily via shipping lines. An example is given of
imported bottled water from Europe using approximately 80 kg of CO2 emissions
per metric tons of bottles to be shipped to Australia, whereas from Egypt it is
70 kg and from nearby Fiji only 20 kg (Perkins [2007]). The message from such
analyses is similar to the TIME magazine (2007) recommendations, that is, buy
from sources where the product or service originates as close as possible to point
of purchase.
A report produced by the Business Roundtable on Climate Change in Aus-
tralia found that early action by companies to reduce CO2 emissions would add
the equivalent of US$1.8 trillion to gross domestic product (GDP) by 2050 and
create more than 250,000 jobs (Weekes [2007]). Nevertheless, the governments
in many industrial countries (that are or will be subject to emissions-reduction
targets) are concluding that mandatory or voluntary carbon costs will eventually
flow on to prices and industry competitiveness. Recently, China (the second-
biggest polluter behind the United States) has stated that economic considerations
come first and thus will consider reducing carbon emissions only as a secondary
issue. Thus, Chinese products will continue to be ‘‘cheaper,’’ not only due to
cheap labor, but also due to the exclusion of carbon costs. Countries that import
such products will not only adversely affect the economic viability of their own
country’s businesses, but also will be the target of the Chinese ‘‘dumping’’ car-
bon emissions on them. The only way (other than forcing China to accept their
responsibilities by negotiation) is to place a countervailing tax on such imports
(similar to that placed when companies ‘‘dump’’ products via transfer pricing)
based on a fair allocation of carbon costs to Chinese products.
It is clear that carbonomics and carbalization will produce winners and los-
ers in both the product and allowances markets, as well as in organizations and
countries. In the products and services market, the winners will be the ‘‘low car-
bon intensity’’ firms and those that can pass on their carbon costs. Some of these
firms could earn windfall profits. The losers will be ‘‘high carbon intensity’’
firms and those that are unable to pass on their carbon costs. In the allowances
market, the winners would include those countries that are on track for meeting

2. Annual emissions from shipping made up 5 percent of the global total, while the aviation
industry, which is subject to far greater scrutiny, contributes only 2 percent (Vidal [2007]). CO2
emissions from ships do not come under the Kyoto Protocol, and therefore, only a few studies have
been undertaken.
336 JOURNAL OF ACCOUNTING, AUDITING & FINANCE

Kyoto standards. These countries (and companies within them) will have a
higher proportion of required allowances allocated free and could earn windfall
profits from the sale of these allowances. The losers will include countries a long
way from Kyoto compliance, that is, those that will need to purchase a higher
proportion of allowances from the market. In the rest of this paper, we discuss
how the impact of carbonomics, especially the (global) costs of CO2 emissions
can be captured by accounting systems, how they can be built into the cost and
prices of different products and services. We also will discuss ways that carbono-
mics affect the strategic decision information systems of business organizations.

2. Carbon Business Accounting

From the discussion earlier on carbonomics, carbalization, and carbon-
emissions trading, it can be seen that business entities will need to consider new
business practices to take advantage of (or at least not be disadvantaged by) the
mandatory carbon-rationing and trading schemes under the Kyoto Protocol. The
existence of a carbon-rationing and trading market has the potential to affect an
organization’s business strategy, financial performance, and ultimately value.
Thus, accountants and other business information providers need to consider
measurements and strategies outside of conventional paradigms.
This requires a good understanding of a number of elements of cost manage-
ment and management accounting, and also of economics and business finance in
an integrated manner, such as the economic modeling of demand and supply of
carbon credits and allowances, forward and spot pricing, financial analysis, cost
analysis and risk analysis, risk management of reputation, business support, cash
flow and business value, capital allocation, and the (possible) International Finan-
cial Reporting Standards (IFRS) directives for financial reporting of carbon-
emissions management and related transactions. In addition, taxation issues of direct
carbon taxes, value-added taxes (VAT), and goods and services taxes (GST), as well
as transfer pricing implications of carbon trading, need also to be considered.
This paper focuses specifically on strategic cost management (SCM) and
strategic management accounting (SMA), which are referred to collectively as
‘‘business accounting.’’ First, the paper demonstrates that some of the classic
ideas of cost accounting may be central to the study of carbon costs. The costing
scheme proposed in the paper is shown to be a good fit with the traditional life-
cycle analysis of overhead cost allocations, where the overhead in question is the
costs of reducing global warming. It is demonstrated that if the overhead is allo-
cated in a precise fashion over the life of a product or service, goods and ser-
vices that seem to be low cost from a product costing viewpoint become high cost
from a life-cycle viewpoint and perhaps should not be manufactured or provided.
Next, the paper reports on a structured qualitative research study that was
undertaken at thirty-one research symposiums in twelve countries (638 respond-
ents) to canvass the views of practitioners regarding the wider implications of
CARBON BUSINESS ACCOUNTING 337

carbon costs (and potential revenues) on SCM and SMA tools, techniques, and
practices. Some key issues, especially those relating to the impact of carbon-
emissions management on lean manufacturing, life-cycle costing, marketing com-
munication, and cost of capital are reported in this paper.
A literature review relating to SCM and SMA and pertaining to environmen-
tal cost accounting is provided in Appendix B. This review elaborates on any
conceptual frameworks that could be developed to help in the coding and classi-
fication of the data for carbon accounting.

2.1 Carbon Strategic Cost Management

Traditional cost management relates to accounting for direct and indirect
costs3 and to the assignment of these costs to such objects as products, services,
customers, and organizational processes. A cost can be attached directly to a cost
object if it is traceable solely to that cost object; and if not, it is allocated (see
Sharma and Ratnatunga [1997] for a comprehensive discussion of costing sys-
tems). Recent discussions in the cost accounting literature have focused mainly
on the allocation of indirect costs; that is, whether using traditional allocation
systems with a single cost driver (such as direct labor) or using activity-based
costing systems (with multiple cost drivers) better describes the cause-effect rela-
tionships found in products, services, customers, and organizational processes
(Cooper and Kaplan [1988]). In product costing, the cost is computed up to the
stage that goods are available for sale. Costs incurred subsequent to the product
being sold are usually not calculated, except in the case in which a product car-
ries a warranty, or some other after-sales service component; then the expected
cost (based on a probability estimate) of that service is incorporated into the cost
(and therefore its price). Some costings may include the cost of money blocked
in accounts receivable, that is, the credit period being treated as an after-sales
service that has a cost associated with it.
Carbon cost management is a subset of the push toward ‘‘environmental cost
accounting’’ (see Mathews [1997]; Adams [2004]) that highlights the cost
impacts beyond those related to a specific cost object, such as a product. Let us
consider a computer printer as an example. The typical environmental costs (both
before and after the sale) are as follows.

2.1.1 Raw Material

The environmental costs are simply the cost of the raw materials, such as
plastics, cartridges, and steel in waste. Much of such raw material is brought into
usable form for manufacturing using significant energy and thus has related CO2
emissions.4 Every time a raw material is used and does not become a product, it

3. These cost categories are based on the nature of the expenditure items, such as the cost of
raw materials, human input (labor), and overhead (rent, depreciation etc.).
4. Such as the energy used in mining and processing the materials.
338 JOURNAL OF ACCOUNTING, AUDITING & FINANCE

becomes waste. Even when such material becomes a saleable product, when it
becomes obsolete, it goes into landfills as waste.

2.1.2 Labor
Labor requires energy to function, such as traveling time to a production fa-
cility and air conditioning at the facility, and thus significant CO2 emissions are
associated with its use. Before the sale of the product, the typical labor environ-
mental costs would be the labor component of an off-specification product that
becomes waste. After the sale, the labor cost required to recycle the parts is an
environmental-related cost, which also generates CO2 emissions.

2.1.3 Overhead
Utility costs, such as water and energy, are often overlooked in determining
the true cost of waste generation, both before and after a sale. These costs are a
significant item in CO2 emissions management.

2.1.4 Waste Management

The most obvious environmental expenses are the treatment and disposal
costs of waste generated in the production process. Again, these processes
require significant energy and thus have associated CO2 emissions. Other waste
management costs may include the expenses to collect samples, complete paper
work, and pay for permit fees, consulting fees, and (potentially) fines for viola-
tions. The flip side of the hidden costs and impacts of waste generation is the
hidden benefits resulting from actions taken to improve the environmental per-
formance of a particular facility.

2.1.5 Recycling
Recycling is a form of waste management at the obsolescence end of the
product life cycle. This requires a three pronged approach: (1) the opportunity
cost calculation (including the environmental impacts) of recycling components
of existing hardware compared with using new components, (2) locking in recy-
cling cost efficiencies at the design stage of new hardware, and (3) using a cost-
benefit analysis of the first two stages to influence government policy on tax
credits and so on for undertaking such environmentally sustainable programs.
The U.S. Environmental Protection Agency (EPA) has an Environmental
Accounting Project that encourages business to understand the full spectrum of
their environmental costs and integrate these costs into decision making.5

5. See http://www.epa.gov/oppt/library/pubs/archive/acct-archive/index.htm.
CARBON BUSINESS ACCOUNTING 339

There are often conflicts among the different cost categories. A study by
CNW Marketing Research6 says that the total energy cost used in manufacturing,
driving, and recycling a Hybrid Toyota Prius is higher than that of most conven-
tionally powered vehicles. The two-year study (claimed to have been independ-
ently funded) included factors such as the following:
. How many years it took to develop the vehicles
. How the material used was processed and how far these had to travel to
get to manufacturing stage
. How far auto workers traveled, and whether or not they used public
transportation
. The energy used in manufacturing
. The percentage of materials that can be effectively recycled
. The percentage of labor produced by robots versus humans
. Variable estimated lifetime of components
. Cost of fuel used over an estimated lifetime of 100,000 miles
. Expected parts that would need to be repaired

This study showed that hybrid cars, while clearly using less fossil fuel to
run, are environmentally more expensive to manufacture and to recycle than con-
ventional cars (CNW Marketing [2007]). For example, the ‘‘whole-of-life’’ costs
for a Hummer H3 was $1.94 per mile, while the Toyota Prius Hybrid was $3.25
per mile. One of the least-cost cars in the study was the Jeep Wrangler (placed
number three overall in terms of least cost) with $0.60 per mile and the highest-
cost car was the Mercedes Benz Maybach with a cost of $11.58 per mile (de
Fraga [2007]).
Martin (2007) shows why the Toyota Prius has such a high ‘‘whole-of-life’’
cost associated with it in terms of carbon emissions:
Let us consider, for example, the raw material costs of the special electric bat-
tery required by the hybrid. The nickel for the battery for the Toyota Prius is
mined in Sudbury, Ontario, and smelted at nearby Nickel Centre, just north
of the province’s massive Georgian Bay. The smelter has a 1,250-foot-tall
smokestack that is claimed to emit large quantities of sulfur dioxide to the sur-
rounding area. Toyota buys about 1,000 tons of nickel from the facility each
year, ships the nickel to Wales for refining, then to China, where it’s manufac-
tured into nickel foam, and then onto Toyota’s battery plant in Japan. That
alone creates a globe-trotting trail of carbon emissions that from start to finish
is estimated to travel more than 10,000 miles—mostly by container ship, but
also by diesel locomotive. At the end of its life, the battery has to go back to
Japan for recycling, again often traveling large distances and burning more
CO2. (Martin [2007])

6. See http://www.cnwmr.com/nss-folder/automotiveenergy/ (accessed May 6 2007).

340 JOURNAL OF ACCOUNTING, AUDITING & FINANCE

Due to such significant product-distance costs, it is claimed that to date none

of the Prius batteries in Australia have been sent back to Japan for recycling (de
Fraga [2007]). They will most likely go to landfills in Australia. This may be
true of the United States as well.
As expected, Toyota has challenged the CNW study, stating the energy
ratios used in the study pertaining to the manufacture-driving-recycle life cycle
of a car is quite different from other studies conducted by the Argonne National
Laboratory and the Massachusetts Institute of Technology. The latter studies
found that while hybrids require more energy to manufacture and recycle, 80 to
85 percent of the energy is used in driving, where the hybrids have a clear
advantage. The CNW study shows these percentages to be reversed (de Fraga
[2007]), hence disadvantaging the hybrids. The problem with studies of this na-
ture is that the complicated set of assumptions can greatly influence the outcome
(as will individual driving patterns).7
When undertaking a life-cycle costing exercise using carbon allowance costs,
the issue of transaction costing versus opportunity costing needs to be recog-
nized. Some studies may take an opportunity cost approach and determine that
the freely allocated allowances are worth the same as purchased allowances.
Other studies may take a more transactional ‘‘environmental compliance
approach’’ and treat as a ‘‘hard cost’’ only the cost of purchased allowances over
the year.
As pointed out before in discussing CES accounting and assurance (see Ap-
pendix A), many accreditation approaches in the environmental arena have dif-
ferent measurement metrics. These measurement approaches also have a direct
impact on carbon cost calculations. No study or approach can be considered de-
finitive, but there is clearly a need for accurate carbon cost accounting using
life-cycle costing techniques. This accounting should consider not only costs to
bring a product or service to the point of sale, but also the carbon costs before
and after the manufacture of the product or the performance of the service. Such
costs are elaborated in Table 1.
Australia provides another example of life-cycle carbon cost accounting. The
power company, Origin Energy, began changing its environmental practices
when it audited the life cycle of its products, from production to consumption, to
discover it contributed about 30 million tones of carbon dioxide to the environ-
ment (about 8 percent of Australia’s total emissions). Since undertaking the
audit, Origin has invested $20 million in solar energy, spent an extra $500,000
converting to sustainable power for its own use, and signed up 12 percent of its
customers to a ‘‘green-power’’ alternative. The company’s work is audited by

7. In response to criticisms of its approach, CNW revised its methodological assumptions, espe-
cially regarding the average driving miles of a Hummer H3 versus a Prius. This improved the Prius
ranking in 2008 ($2.19, ranked 139) compared with the H3 ($2.30, ranked 154), but a host of con-
ventional cars, off-roaders, and crossover vehicles still outrank the Prius. The Maybach remains the
highest-cost car ($15.96, ranked 284).
 TABLE 1
The Whole-of-Life Impact of Carbon Emission Efficiencies on Costs and Revenues

Areas of Cost Reduction or

Revenue Generation via Efficient
Carbon Cost Management Presale Environmental Impact Postsale Environmental Impacta

Raw Materials Production waste Landfill waste

Human Input Wasted time on rejects and recovery Time to separate recyclable components
Traditional Overhead Expenses
Electricity All of these overhead items have carbon emissions that will affect if the organization is a net-sequester or net-emitter.
Rental Techniques utilized to reduce CO2 emissions via using alternative energy sources etc. will affect the carbon credit cost
Marketing item shown under the Environmental overhead category.
Transportation
Administration
Depreciation of Machinery
After-sale Service Costs
Environmental Overhead
Regulatory Costs Meeting emissions standards Litigation costs of environmental pollution
Waste Management Production waste Landfill waste
Recycling These costs can be reduced via the proper design of components at preproduction stage. Such design costs should be
Amortization of Design Costs amortized over life of product, via life-cycle costing.
Carbon Credits This can be a cost or revenue item depending on if the organiza- Purchase/sale of carbon credits depending on if the
tion is a net-sequester or net-emitter. organization is a net- sequester or net-emitter.
Financing Costs
Stock Holding Costs These costs include those of capital, excess handling, obsoles- These costs include those relating to warranty returns
cence, deterioration, stock administration, and insurance such as excess handling, deterioration, stock
administration, and insurance
Debtors Costs None These costs include those of capital and the risk of
bad debts
Carbon Tax This tax could be an additional cost or revenue item (Tax Credit) depending on if the organization is a net-sequester or
net-emitter
Note:
a
These postenvironmental costs can be incorporated into product costs using probability estimates.
342 JOURNAL OF ACCOUNTING, AUDITING & FINANCE

accounting firm Ernst and Young, which uses the International Auditing and
Assurance Standards Board framework, ISAE 3000 (Walters [2006]).
Such examples show that companies that start managing for environmental
efficiency will automatically cut costs and ultimately boost revenue by selling
credits in the emissions trading markets. In fact, a view is developing in some
businesses that a direct measurable correlation can be made between environ-
mental efficiency and economic results. For example, Westpac, one of Austral-
ia’s large banks, no longer sees carbon costing as an add-on but rather as being
central to its operations. They claim that the reduction of emissions at the bank
have significantly boosted its bottom line (Weekes [2007]).
Life-cycle costing analyses, such the Toyota Prius example illustrated above,
fall within the general area of SCM, a term first encountered in Gupta and Govin-
darajan (1984). Since then, there has been numerous articles and books on SCM
(see, Jones [1988]; Shank and Govindarajan [1989, 1992a, 1992b, 1993a, 1993b];
Simons [1990]; Ratnatunga [1983, 1999]; Ewert and Ernst [1999]). Often, how-
ever, the papers focus on only a few SCM techniques, such as lean accounting,
life-cycle costing, target costing, back-flush costing, activity-based management,
and customer profitability analysis. Despite the vast body of work in the area, and
also the global concern that resulted in the Kyoto Protocol, no paper to date
addresses SCM approaches in efficient carbon management. The research study
reported in this paper, therefore, fills a significant and important gap in literature.
To develop a comprehensive conceptual framework for the area of carbon
management including a coding and classification system required for the quali-
tative research study (detailed in Appendix B), the researchers relied on SCM
documents of the Institute of Certified Management Accountants (ICMA) in Aus-
tralia. This document was a primary basis of the respondents (ICMA members)
at the thirty-one research symposiums to study this issue (see Appendix B for
details of the study). A framework for capturing the summarized views resulting
from the discussions at the symposiums is given in Table 2.

2.2 Carbon Strategic Management Accounting

Once product costs are known, the wider issues of strategic business
accounting (comprising management accounting and business finance) need to be
considered. The term SMA has been in the management accounting literature
since Simmonds (1981) coined the term. However, similar terms such as ‘‘mar-
keting accounting’’ (Ratnatunga [1983]); ‘‘competitor accounting’’ (Ratnatunga
[1983]; Jones [1988] Guilding [1999];) and ‘‘customer accounting’’ (Simmonds
[1986]; Guilding and McManus [2002]) have been used to describe similar prac-
tices. These terms essentially describe practices that occur at the interface
between accounting and other functional areas of business. All of these practices
are geared essentially toward enhancing the competitive advantage of firms (Por-
ter [1980, 1983]). Over the last twenty-five years, been numerous articles and
books have been published on SMA (see Simmonds [1982]; Bromwich [1990];
CARBON BUSINESS ACCOUNTING 343

TABLE 2
Issues in Carbon Strategic Cost Management

SCM Issue Carbon Management Impact

Management Control Employee behavior modification to achieve carbon efficiency targets.

Systems
Production Management Lean production techniques. More attention to the use of energy
in machinery, less materials and time wastage. Just-in-time
philosophy.
Employee Safety Ensuring that low energy work environments do not cause hazardous
working conditions.
Wages and Trade Union May demand more if comfort levels fall. More demands for the
Demands sharing of high carbon windfall profits.
Total Quality Management Carbon efficiency seen as part of quality equation.
Purchasing Management Production resources (components, labor, and overhead) sourced
locally.
Cost Control Lean accounting. Significant attention paid to reduce carbon-emission
costs. More use on back-flush costing methods.
Make or Buy Decisions Consideration given to carbon emissions when considering
alternatives.
Cost Classification Carbon costs classified into direct, indirect, fixed, and variable costs.
Allocating Indirect Costs Variation of ABC by having consideration of ‘‘carbon cost drivers’’
to link emission indirect overhead to products and services.
Life-Cycle Costing Amortization of design costs to make products more carbon friendly
and worker training costs to reduce carbon emissions.
Target Costing Redesigning products and services to meet carbon-emission targets.
Benchmarking Comparing the KPIs of world-class performers in carbon efficiency.
Customer Profitability Segmenting customers by profitability per carbon usage.
Analysis
Process Control and Evaluating the performance of organizational processes, including
Activity-Based white-collar departments in terms of achieving carbon efficiency
Management KPIs.
Efficiency or Productivity Consideration given not only to economic efficiency but also to
carbon usage efficiency.
Price Relationship or Re- Reductions in purchase prices considered via the sale of carbon
covery efficiency credits.
Overall Effectiveness The profitability of the bottom-line figure given in terms of both
economic and environmental effectiveness.
Value-Adding/Non-Value- All reworks, recoveries, errors, etc. considered to be avoidable
Adding Work carbon-emitting activities.
Executive Information Sys- The drill-down facilities to be extended to financial and nonfinancial
tems (EIS) carbon-emitting measures.
Corporate Governance Accountability and transparency issues extended reporting on carbon
management initiatives.
Enforcement and Voluntary and mandatory enforcement of carbon-emission targets.
Compliance
The Strategic Audit Extended to cover the expected future carbon footprint of the
organization due to its production, marketing, logistics, capital
investment, and human resource management (HRM) practices.
Corporate Reputation The evaluation of the organization’s image and brand with regards to
Audit being a responsible carbon citizen of the world.
344 JOURNAL OF ACCOUNTING, AUDITING & FINANCE

Wilson [1991]; Palmer [1992]; Ward [1992]; Morgan [1993]; Ratnatunga, Miller,
Mudalige, and Sohal [1993]; Lord [1996]; Tomkins and Carr [1996]; Ratnatunga
[1999]; Guilding, Cravens, and Tayles [2000]; Cravens and Guilding [2001]; Hoque
[2002]; Roslender and Hart [2003]). Despite this consistent stream of literature in the
area presenting different approaches to SMA, knowledge remains fragmented. Often,
the papers focus on a few SMA techniques, such as supply-chain management, strate-
gic pricing, and competitive position monitoring; and the extent of the use of such
techniques in practice. In spite of the vast body of work in SMA and SCM, no paper
to date addresses approaches to efficient carbon management despite the significant
global concern regarding global warming. The research study reported in this paper,
therefore, fills a significant and important gap in literature.
Table 3 summarizes the impact of SMA on carbon-emissions management
information systems resulting from the thirty-one research symposiums with
ICMA members.
The details provided in Table 3 show that carbon-emissions management cuts
across a wide spectrum of strategic issues, ranging from overall objectives to mar-
keting, new product development, pricing, international business, promotion, sup-
ply chain management, finance, and risk management. Clearly an integrative
approach, such as that suggested by Kaplan and Norton (2000), is required, with
‘‘carbon thinking’’ being an important part of the strategy focus of an organization.
This carbon-focused thinking will require new tools and management practices if
the accounting profession is to remain at the forefront of providing relevant infor-
mation for decision making in this new economic paradigm of carbonomics.

3. Conclusion
The concentrations of greenhouse gases in the atmosphere have risen dra-
matically leading to an out-of-balance greenhouse effect that most scientists
believe will continue to cause a rapid warming of the world’s climate. The possi-
bility of costly disruption from rapid climate change, either globally or locally,
calls for greater attention and precautionary measures to be put in place. Govern-
ments, business entities, and consumers would be affected by the extent to which
such precautionary measures are incorporated in their decision-making processes.
Business entities especially need to consider issues such as trading in carbon
allowances (or permits), investment in low-CO2 emission technologies, counting
the costs of carbon regularity compliance, and passing on the increased cost of
carbon regulation to consumers through higher prices. Consumers need to con-
sider whether, given the choice, they are willing to pay a higher price for CO2-
neutral products and services to play their part in reducing CO2 emissions.
These decisions and their consequences will affect the accounting profession
significantly, especially the business accounting areas of strategic cost manage-
ment and strategic management accounting. Information from the strategic cost
and management accounting systems will be particularly useful in this new
CARBON BUSINESS ACCOUNTING 345

TABLE 3
Issues in Strategic Management Accounting

SMA Issue Carbon Management Impact

Business Policy
Primary Objective Sustainable value creation.
Competitive Advantage Carbon efficiency seen as a marketing mix variable in product
differentiation. An Efficient Carbon Management (ECM) focus is
also taken in cost leadership strategies.
Line of Business ECM seen as a potential line of business.
Competition and Industry Adding a sixth force to Porter’s Five Forces Model: the impact on
Structures the Industry of Carbon regulation (Porter [1980, 1983]).
Gap Analysis Strategies considered to close the gap between current emission
levels and future emission targets.
Environmental Externalities Considered ‘‘internalities’’ in product-market decision making and
human resource management (HRM).
Risk Management Consideration of the impact on cash flows and reputation of the company
as a result of the carbon strategy positioning of the company. Risk vs.
Reward outcomes (e.g., cash flow at risk) should be considered.
Human Resource Management
Corporate Culture A carbon lifestyle culture from grassroots level upward. Low carbon
footprint activities encouraged. Excellence sought in seeking
continuous improvement in ECM.
Empowerment Employees given resources and responsibility to participate in ECM
in lowering the organization’s carbon footprint.
Marketing Strategy
Products and Markets Carbon impact considerations considered systematically in all
product-market strategies.
Marketing Research Undertaken to determine the needs of customers in terms of
participating in reducing carbon emissions and the incremental
price they are willing to pay for this (carbon consciousness).
Market Segmentation Separating customers geographically, demographically, and
psychographically in terms of their carbon consciousness.
Positioning Strategy Consideration of taking an ‘‘active’’ or ‘‘passive’’ positioning in
terms of ECM as a source of competitive advantage.
The Product Life Cycle (PLC) Consideration of the carbon footprint left by product throughout its
life cycle, especially in the decline and obsolescence stages.
Market Penetration Strategies Using carbon efficiency of existing products as an attribute to sell
more to existing carbon conscious customers.
Market Development Strategies Using carbon efficiency of existing products as an attribute to sell
new carbon conscious customers in new segments.
Product Development Incorporating carbon efficiency as an attribute in new product designs to
Strategies keep existing carbon conscious customers loyal to the brand.
Diversification Strategies Leaving industries that have products and markets seen as high
carbon emitting to new industries with better long-term carbon-
sustainable prospects (includes investments in Joint Implementation
[JI] and Clean Development Mechanisms [CDMs] under Kyoto).
Experience Curves Organizations with high experience in ECM products and services
should have lower costs.
Budgeting for Marketing Budgets will incorporate ECM activities as potential revenues and
Activities cost savings. Carbon trading activities could be considered a
separate line of business.
(continued )
346 JOURNAL OF ACCOUNTING, AUDITING & FINANCE

TABLE 3 (Continued )

Product Marketing Strategies

The Product Portfolio (BCG) Star products will have high market share and high market growth
Matrix opportunities in industries with better long-term carbon sustainable
prospects.
New Product Development Designing products and services to meet carbon-emission targets and
(NPD) marketing them as such.
Product Abandonment Product review teams to consider carbon footprint in addition to
Approaches profitability targets.
Inflation The passing on of mandatory carbon costs and taxes as higher prices
to consumers will cause inflation.
Packaging Consideration given to carbon footprint of packaging, in terms of
functionalism, convenience, recyclability, and also image.
After Sales Service The carbon emission in terms of materials, labor, and overhead of
undertaking work due to meeting warranties and other after-sales
services should be costed into the product.
Pricing Strategy
Pricing Analysis Carbon costs, carbon-related competitor activity, and the value of
low-carbon-footprint products to carbon conscious customers
should be considered in such analyses.
Elasticity of Demand The impact on demand due to changes in prices if carbon costs are
incorporated.
Skimming Selling to high carbon conscious customers willing to pay a price
well above costs.
Penetration Absorbing carbon costs of products and services sold to low carbon
conscious customers to develop brand awareness. Productivity
improvements can only be obtained either by lowering costs via
ECM or changing customer carbon consciousness levels.
International Business Strategy
Exporting vs. International Carbon costs can be reduced via JI and CDM investments as per the
Operations Kyoto protocol.
Price Differentials and Competing with countries that do not have carbon costs. Influencing
Carbon Dumping government policy to impose countervailing carbon taxes.
Hedging Policies Ensuring that carbon credits in the overseas country is not devalued
in terms of the parent country carbon credit pricing.

Promotional Strategy
Promotional ‘‘Pull’’ Strategy
(via Advertising etc.)
Promotional ‘‘Push’’ Strategy
(via Sales Force)
Sales Response Functions
Media Selection Strategies
Supply Chain Strategies
Product Distance
An Integrated Marketing Communication (IMC) approach should be
taken to promote how the product or service is reducing carbon
footprint, for example, via purchasing carbon offsets.
Sales force budgets, targets, and incentive schemes geared toward
extolling the attributes and pushing low carbon impact products.
Traveling times on sales calls minimized to reduce carbon
emissions. Biofuel cars used as sales vehicles.
Response of sales volume to carbon-related promotions tracked.
Electronic media given higher priority to print media to reduce paper
usage.
Carbon emission measurements in terms of Product Distance. The
longer the distance and the more players in the channels of
distribution the higher is the carbon costs.
CARBON BUSINESS ACCOUNTING
The Level of Service
Distribution Cost Accounting
Transportation and Simplex
Models
Channel Control
Channel Adaptability
Distribution Cost Control
Performance Evaluation
Strategic Financial StructuresConsideration if carbon-related investments should be financed via
(Gearing)
Weighted Average Cost of
Capital (WACC)
Corporate Performance
Perspectives
Strategic Value Analysis
Valuing Strategic Investments Valuation premium given to investments in ECM, such as invest-
Valuing Strategic Operations These include operational adjustments to incumbent assets, changes
Free Cash Flows
The Business Value
The Balanced Scorecard
Economic Value Added (EVA) A charge against revenue is made for the cost of investments in
347
TABLE 3 (Continued)
The Service-Cost Trade-off required to ensure that the right product
gets to the right place at the right time should consider the carbon
emissions required to provide this level of service.
Computation of carbon-related costs in order processing, warehous-
ing, transportation, credit control, and inventory control.
The use of these models to reduce transportation time and resulting
reduction in carbon emissions.
Consideration of the motivation, relationships, and conflict issues that
arise when channels are asked to on-sell products and services
using ECM approaches themselves.
Consideration of the adaptability of channels to changes in product-
market combinations as a result of reducing carbon footprint.
Using ratio analysis to ensure that, in addition to economic analysis,
ECM in supply chain activities is also evaluated.
debt or equity. Ability to obtain shareholder and debt holder fund-
ing at favorable rates due to the use of such financing in ECM
activities.
If financing of carbon-related investments can be isolated, then calcu-
lating an organization’s carbon-related Cost of Equity and Debt to
calculate its overall Carbon-WACC. The equity and debt market
may value discount carbon intensive businesses (causing high
financing costs) and place a value-premium on low carbon
emitting businesses (causing low financing costs).
Return on Income (ROI) and Residual Income (EVA) used to
evaluate not only economic performance but ECM performance. If
carbon-related revenues and costs can be isolated as a separate line
of business, this will enhance the evaluation.
Calculation of value enhancement (or diminution) due to strategies
relating to carbon-related investments and operations.
ments in alternative energy assets and abatement activities. Exam-
ples are wind, biomass, solar, geothermal, nuclear, and clean coal.
to energy prices, efficiencies in waste management, purchasing,
and sale of carbon credits and carbon-related taxation.
Net cash flows generated by carbon-related activities less investments
in carbon-related noncurrent and current assets
The Net Present Value of expected future cash flows generated by
strategic investments and operations in carbon-related business.
Corporate Report Card to incorporate financial and nonfinancial KPIs
with carbon focus. This could be in addition to, or incorporated
with the customer, innovation, internal business processes, and
financial focus.
carbon-efficient assets. A separate carbon-EVA can be calculated
if carbon-related net-income, investments, and cost of capital can
be isolated.
348 JOURNAL OF ACCOUNTING, AUDITING & FINANCE

economy, termed carbonomics, brought on by global warming. New costing tech-

niques need to be considered to evaluate the whole-of-life costs in terms of car-
bon emissions relating to products and services. Similarly, new thinking will be
required to provide strategic management accounting information for business
policy, human resource management, marketing, new product development, pro-
motional, pricing, international business, supply chain management strategies,
and the resultant evaluation of performance evaluation.
The new paradigm of carbonomics, and the return to localization due to
place-distance carbon-emission costs (termed carbalization) will produce winners
and losers in both the product and allowances markets, as well as in organiza-
tions and countries. The cost management accounting profession must also reen-
gineer itself to be a winner in this new economic paradigm.

APPENDIX A
Measurement and Assurance Issues in Carbon Emissions Trading
One of the mechanisms of the Kyoto Protocol requires an emissions trading (known
also as a cap-and-trade) scheme to be established in a country. It would work like this:
companies are told how much CO2 they can emit (the cap). If they produce less than the
cap, they have surplus credits for sale.8 If they emit more than their cap, they can buy
credits from other businesses that come in under their cap (the trade). Trade takes place
in an over-the-counter market, or via a carbon credit exchange trading market.
One of the earliest such trading schemes is the European Union Emission Trading
Scheme (EU ETS), which is the world’s largest multicountry cap-and-trade system. The
EU has established a cap that limits emissions for its member states, each of which has
been given a specific number of credits. The total amount of credits cannot exceed the
cap, limiting total emissions to that level.
For a cap-and-trade scheme to work, there must be an agreed mechanism for calcu-
lating the quantum of CO2 either emitted by a source or sequestered in a biomass sink
(see Ratnatunga [2007]).9 The CES accounting mechanism must be sufficiently robust that
the carbon trading market has confidence that the amount of carbon sequestered can be
measured and considered to be equivalent in its impact on global warming potential to the
CO2 released to the atmosphere from activities producing greenhouse gases. Confidence
in the CES accounting system is fundamental to building confidence in use of CO2
sequestration in a carbon trading market, thereby underpinning growth and investment in
new carbon sequestration activity (Tandukar [2007]).10
As can be appreciated, the detailed requirements for a CES accounting system are
continually being developed by organizations such as the Intergovernmental Panel on Cli-
mate Change (IPCC [2007]) under the United Nations Framework Convention on Climate

8. Called Renewable Energy Credits (RECs).

9. These measures are referred to as ‘‘carbon emission and sequestration’’ (CES) accounting.
10. Tandukar (2007) states that forestry projects are the largest source of carbon offsets in Aus-
tralia because Kyoto-compliant land (cleared before 1990) is plentiful, the science is available, and
photographs of trees are good for publicity.
CARBON BUSINESS ACCOUNTING 349

Change (UNFCCC). Any CES accounting standard developed by a country or nongovern-

mental organization will need to be consistent with the IPCC principles before carbon
credits generated from carbon sinks can be used in an emissions-trading regime under the
Kyoto Protocol.
In addition to the numbers generated from CES accounting, there is the issue of
assurance of the calculated numbers. Currently, similar to the situation regarding numer-
ous CES accounting methodologies and approaches, the auditing and ranking of environ-
mentally sustainable initiatives is in chaos with dozens of organizations offering assurance
services, but none are being committed to a standardized methodology for auditing or
reporting corporate effort in the carbon-emissions management area (see Walters [2006];
Ratnatunga [2007]). This paper looks beyond these CES accounting and assurance issues
and concerns, and considers the cost and managerial accounting issues that arise if and
when an efficient carbon trading market is established in a country.

APPENDIX B
Accounting for Carbon Trading: A Qualitative Research Study
In the period from mid-2003 to early 2007, thirty-one research symposiums (one-day
each) were undertaken in Australia (eight), Canada (four), India (one), China (one), Lebanon
(two), the Philippines (one), Papua New Guinea (two), Indonesia (four), Sri Lanka (four),
Malaysia (two), Singapore (one), and United Arab Emirates (one). Countries were chosen
based on the location of an established branch of the Institute of Certified Management
Accountants (ICMA). The participants were self-selecting—the symposiums were advertised
only to members of the ICMA, and participants had to pay a fee for attending. In all, 638
respondents at the levels of cost accountant, management accountant, business analyst, chief
financial officer, and chief executive officer (or similar) participated in the study.11
The literature review undertaken before the commencement of this research study,
the coding and classification of the data, the data collection, and the discussion at the
symposiums will now be addressed.

B.1 Literature Review

There is now a significant body of literature in the academic journals in the area of
corporate social responsibility (CSR) (see Lantos [2001]; Matten and Crane [2005];
Shank, Manulland, and Hill [2005]; Ratnatunga, Vincent, and Duvall [2005]; PJCCFS
[2006]); sustainability reporting (see European Commission [2001]; Global Reporters
[2004]; Amalric and Hauser [2005]; De Bakker, Groenewegen, and Den Hond [2005];
KPMG [2005]; Ratnatunga, Vincent, and Duvall [2005]; Salzmann, Ionescu-Somers, Steger
[2005]; GRI [2007]; DEH [2005]; CPA Australia [2005]; FEE [2006]; NIVRA [2007];
Mock, Strohm, and Swartz [2007]); environmental accounting (Mathews [1997]; Adams
[2004]); and links between CSR, environmental reporting, and financial performance

11. Members of the ICMA (Australia) must have a degree in accounting, specialist training in
management accounting, and at least five-years relevant experience. A majority of members also
have a masters in accounting or a masters of business administration.
350 JOURNAL OF ACCOUNTING, AUDITING & FINANCE

(Preston and O’Bannon [1997]; Waddock and Graves [1997]; Orlitzky [2001, 2005];
Orlitzky, Schmidt, and Rynes [2003]; Hopkins [2005]; Ratnatunga et al. [2005]; Shank,
Manulland, and Hill. [2005]). Surprisingly, however, very little academic literature dealt
specifically with the new information requirements in business organizations brought about
by the Kyoto Protocol.
Some reports from governmental (COAG [2006]; Stern [2006]; DPMC [2007];
DEFRA [2007]; EC [2007]; IPCC [2007]; NSW Greenhouse Office [2007]) and nongo-
vernmental organizations (NGOs) (such as IETA [2002]; IGCC [2006]; ISO [2006]; CCE
[2007]; RGGI [2007]; World Business Council for Sustainable Development [2007]) deal
with issues of carbon trading in general terms, but again, no academic research is refer-
enced in these reports.
Early academic work specifically on the impact of the Kyoto Protocol on accounting
information and reporting systems was undertaken by Freedman and Jaggi (2005) in
studying the accounting disclosures of the largest global public firms from polluting
industries. A year later, Kundu (2006) looked at the financial aspects of carbon trading in
a professional journal article. Since then little research had been published in academic or
professional accounting journals until Callon (2008) discussed the many controversies
regarding carbon trading schemes and related measurement schemes. Much of the limited
recent academic literature, however, considered mainly the problems caused by environ-
mental accounting issues on conventional accounting reporting (see also Cook [2008];
Lohmanna [2008]). No literature available in the academic journals deals specifically with
the impact of carbon trading on cost management and managerial accounting theory and
practice, that is, on leading rather than lagging indicators.
Undertaking an empirical-descriptive study of practices in the field is futile, because
the area is so new and there are little (if any) practices to report. What is required, there-
fore, is Ôtheory buildingÕ research of a normative or prescriptive nature. Such theory build-
ing research is just starting in financial accounting. This study looked instead at the cost
management and management accounting area (referred to collectively as ÔBusiness
AccountingÕ) by undertaking structured Ôqualitative research studyÕ and canvassing the
views of practitioners in the area. The literature pertaining to the areas of SCM and SMA
are covered in the main text.

B.2 Coding and Classification of Data

Whilst quantitative studies emphasize the measurement and analysis of causal rela-
tionships between variables, the word ÔqualitativeÕ implies an emphasis on process and
meanings that are not rigorously examined or measured in terms of quantity, amount, in-
tensity, or frequency. Inquiry is purported to be within a value-free framework (see Den-
zin and Lincoln [1994]). The relationships being looked for are not statistical, but
descriptive. This requires one to view the data set from an experiential perspective from
the beginning.
The biggest obstacle in qualitative research is the coding and classification of data.
As opposed to quantitative research, qualitative hypotheses and theories often emerge
from the data set while the data collection is in progress and after data analysis started
(Morse and Field [1995]).
After the collection of the data, researchers usually have what is termed a ‘‘scissor
party’’ to cut out the individual data bits and then begin the laborious task of ‘‘scanning
the data for categories of phenomena and for relationships among the categories’’ (see
CARBON BUSINESS ACCOUNTING 351

Goetz and LeCompte [1981]; Carney, Joiner, and Tragou [1997]). Strauss and Corbin
(1998) also emphasize that theoretical categories are elaborated on during open and axial
coding procedures. Many qualitative researchers have, therefore, to continually examine
the collected data (which, in the case of this study, consisted of transcriptions of inter-
views), for descriptions, patterns, and relationships between categories, and tack backward
and forward between literature and data, which then leads to the development of a number
of theoretical categories (Spiggle [1994]). In this process, the researchers involved with
the study, independently develop categories, and then collectively look at each other’s
individual category sets for some agreed order in the classification.
This research study avoided this tacking back and forth aspect of the coding and classi-
fication process by approaching the data collection in a very structured manner. This was
done by using the classification framework provided in the syllabuses (theory) of the two
Institute of Certified Management Accountants (ICMA) subjects covering the syllabuses of
ÔStrategic Cost Management (SCM)Õ and ÔStrategic Management Accounting (SMA)Õ. The
reason for using this theoretical framework for coding and classification purposes (rather
than allow the classifications to emerge from the data) is elaborated in the main text.

B.3 Data Collection and Discussion at the Symposiums

The tools and techniques of SCM and SMA as well as issues of global warming and
carbon trading and the impact of these on the business accounting profession was the
focus of discussion at the symposiums. The theory of SCM and SMA were first discussed
in the seminars, and then the carbon-related issues were addressed and participant views
canvassed. Although the discussion of issues was free flowing, the researchers guided the
discussion to the carbon-emissions area. In the seminars there were always at least two
researchers who were involved in the project present, and the main consensus of the dis-
cussion was agreed by the researchers and the seminar participants and then summarized
and captured and classified electronically at the seminar. The key points extracted from
the symposiums are presented in Tables 2 and 3. Whilst not all issues listed in the Tables
were discussed at every seminar, every issue was discussed in at a minimum of three of
the thirty-one seminars conducted. Some key issues—especially those relating to the
impact of carbon-emissions management on lean manufacturing, life-cycle costing, mar-
keting communication, and cost of capital—were discussed in almost all seminars.

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