Environmental Accounting

Author: Seakle KB Godschalk - Environmental Management

( Article Type: Explanation )

Environmental accounting is a management tool that integrates the financial implications of environmental issues in the financial management systems of organisations. This enhances more effective decision-making in order to promote environmental and economic sustainability.

Components of Environmental Accounting

Environmental accounting includes several components:

Environmental Management Accounting (EMA)

EMA is broadly defined as the identification, collection, analysis and use of two types of information for internal decision-making:

This management tool identifies the environmental footprint of an organisation, as well as the financial implications thereof.

EMA is becoming increasingly relevant as international experience shows that by applying EMA methodology, companies can track close to 20% of total annual operating costs not currently recognised as environmental costs, and realise the large embedded savings potential and revenue gains.

Currently, most of these environmental costs are hidden in ‘overhead’ accounts. This prevents proper attention being given to these costs, while it may also lead to incorrect product and pricing decisions.

The potential of EMA as a company-level decision-making tool should not be underestimated. An EMA system should preferably be linked to the organisation’s accounting and/or other information system to optimise available information and avoid duplication and confusion.

The International Federation of Accountants (IFAC) recently issued an International Guidance Document on Environmental Management Accounting, which serves as a useful tool for implementing EMA.

EMA can be used in combination with cleaner production and material flow cost accounting. This can result in powerful synergies.

Environmental cost modelling and resource economics

• Environmental cost information can be used to develop environmental cost models to predict costs of various nvironmental options or liabilities for environmental cleanup. 
• Environmental cost models can be powerful tools to help identify areas of wastage and potential savings.
• On a regional or national level, such models can incorporate monetary values for ecosystem services and assets to serve as decision-support tools.

Some practical examples

• A leading lens manufacturing company in Japan was confident that its production yield rate was very high at 99%. An analysis of the losses of glass during the various stages of its production processes revealed that the cost of the loss of glass and associated costs amounted to 32% of total production costs. The company implemented several measures including changing specifications for the raw lenses to be provided by its supplier. After this initial success the company introduced EMA measures in more than 20 production facilities globally. In addition to significant reductions in adverse environmental impacts the company realised savings of US$ 11 million during 2008.

• In an Austrian brewery, Murauer Bier, over the period 1995-2000, applied EMA principles to both the use of raw materials as well as the generation of waste. This resulted in a 19% reduction of fresh water used per unit product, a 30% reduction of fuel oil used per unit product, and a 32% reduction in waste water per unit product. This effort saved the medium-sized company approximately US$ 186,000. 

• Raytheon, an electronics and aerospace company in the United States, used EMA to support a supply chain initiative. This led to the outsourcing of material management functions. This resulted in significant scrap reductions, savings of $ 680,000 per year, and streamlined purchasing and delivery of materials. 

Environmental Financial Accounting (EFA)

EFA refers to the way in which environmental issues impact on the financial statements of companies and the accounting ‘rules’ that govern the recognition and disclosure of these issues in the balance sheet, income statement and related aspects of the annual financial report.

This enables financial analysts and users of financial statements to understand the financial and other business impacts of environmental issues on the company. There are no specific accounting standards for EFA, although several of the International Accounting Standards refer to environmental aspects in passing.

Environmental Reporting

The need for organisations to report on their environmental performance is widely recognised.

The purpose of environmental reporting is to provide information beneficial to stakeholders in their decision-making. This also includes communities and environmental stakeholders. 

Environmental reporting is a component of triple-bottom-line or sustainability reporting, addressing economic, environmental and social performance.

The most widely used method for environmental reporting is the Global Reporting Initiative (GRI) Guidelines for Sustainability Reporting, a voluntary system that is also recommended in the King III report on corporate governance in South Africa.

The Johannesburg Stock Exchange (JSE) has included compliance with the King III Report in its listing requirements. The King III Report requires integration between financial and sustainability reporting.

Several stock exchanges have developed indices to measure effective reporting, including environmental aspects. Examples are the FTSE4 Good Ethical Investment Index and the JSE Socially Responsible Investment Index (SRI).

Auditing for environmental aspects in the financial statements and External assurance of sustainability reports

The consideration of environmental matters in the audit of financial statements is a logical consequence of EFA. International Audit Practice Statement 1010 covers this component of environmental accounting.

The King III Report strongly recommends that companies have their sustainability reports externally assured. Such assurance can be indicator-based (assessing the accuracy of the data reported and the systems generating these data) or content-based (focusing on whether the material issues have been included, all significant stakeholders have been consulted and how the report has responded to the concerns raised by stakeholders).

The way forward

 Environmental accounting is a fairly new interdisciplinary approach that integrates environmental and accounting issues. Substantial development of this field has still to take place. This includes aspects such as what should be considered environmental costs, and how to bridge the gap between physical information (environmental) and financial information (accounting).

The ’language barrier‘ between accountants and environmentalists will have to be narrowed. Different levels and boundaries of environmental accounting can be applied.

Environmental accounting contributes to enhanced environmental performance by organisations, while simultaneously improving operational and financial efficiency, thereby promoting sustainable development. In 2005, the Environmental Management Accounting Network Africa(EMAN-Africa) was established to promote environmental accounting in Africa.