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Aviation & Transport Services
September 2007
A long haul. Aviation and sustainability: Striving towards a “Clean and Green” image Aviation industry: Current state and future outlook The impact of aviation and its contribution to the global greenhouse gas (GHG) emissions is projected very differently in the press around the globe. However, all parties agree that aviation’s contribution to climate change is growing due to the projected traffic growth. Globally, more business communities favour action on climate change, both for environmental and commercial reasons. Although the actual projections as shown in the WRI 2005 figures are only 1.6 % of the global share, the total global warming impact caused by aviation is attributed to a figure which is said to be 2-4 times higher due to additional externalities from aviation emissions such as: 1. Formation of cirrus clouds. 2. Condensation trails (contrails). 3. Aircraft exhaust emissions also result in substantial NOx (nitrogen oxide) emissions. 4. SO2 (sulphur dioxide) emissions and soot. 5. Aircraft emissions are emitted at a higher altitude. 6. Ozone depletion. The aviation industry is at the brink of some serious changes which will affect the industry in the years to come. When it comes to CO2 (carbon dioxide) emissions and global warming, one of the underlying tasks that lie ahead is to free itself from the negative publicity generated in the press. Aviation contributes approximately 1.6% of the global greenhouse gas (GHG) emissions1. So why is aviation being targeted on such a large scale?
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Audit Tax Consulting Financial Advisory
Numbers don’t always tell you the entire story and statistics need to be looked at in the entirety. Currently airlines carry 1.6 billion passengers and up to 30 million tons of freight annually2. As per projected forecasts, the aviation industry will more than double from 2002 levels until 20223, the number of aircraft will double and the RPKs (revenue passenger kilometres) will increase by more than 2.5 times. With a sustained growth of 5-6% for freight, the FTK (freight ton kilometres) is forecast to increase by nearly 3-5% annually4. The result of the above figures gives an estimate for fuel consumption to increase by nearly 1.5 to 2 times. It is the growth rate of emissions from the aviation industry that is a cause of concern. This fast growth rate will have a direct effect on the absolute volumes of GHG emissions from the aviation industry. It is encouraging to see that many aviation companies have taken this issue seriously and have already started doing something about it. With the possibility of an emissions trading system looming around, aircraft operators would need to be prepared for a more defined sustainable strategy to ensure that businesses are not affected. The European Commission (EC) has proposed aviation to be included in the current European Union Greenhouse Gas Emission Trading Scheme (EU ETS). The proposal indicates inclusion of all intra-EU flights by 2011 and all flights arriving/departing from the EU by 2012. Sustainable development Today, it is a long haul for the aviation industry to achieve a green image in the context of global warming. It has indeed become a “hotbed of activity” for the carbon offsetting companies to target aviation emissions and offer carbon-neutral services to the consumers.
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A long haul Aviation and sustainability
Being part of the voluntary market where the statutory bindings and bureaucracy are far less compared to the compliance market is often seen by many as a preferred route to internalise their operational impact. Voluntary markets are also progressing into the next phase very rapidly and stricter independent standards of quality and verification of credits generated are emerging. The United Nations (UN) is also progressing to implement quality standards for the voluntary markets. A voluntary carbon standard has recently been developed by the International Emissions Trading Association (IETA), World Economic Forum (WEF), The Climate Group (CG) and World Business Council for Sustainable Development (WBCSD). The concept of voluntary reductions or offsetting the externalities caused by entities existed before the present mandatory compliance market opened its trading floors. In today’s booming carbon market a lot of “hit and run” offsetting companies have exploited the consumer’s individual impact guilt. This has led to the questioning of these offsetting market practices and the credibility of the voluntary carbon credits. Aviation emission offsets are still very much on the priority list for voluntary reductions. The aviation operators themselves are aware of this development and are engaging in activities at a much faster pace. The involvement of the aviation industry in a carbon pricing mechanism is inevitable. Emissions trading schemes should work as a catalyst in identifying the price of the carbon and marginal cost of abatement across the industry. The inclusion of aviation in the EU ETS will change the dynamics of carbon price and the financial impact of participating in a scheme of this size should
be a priority task in achieving the long term goal of sustainable development.
This would mean going back to the drawing boards and identifying the sustainable solutions that cover the total institutional impact. There have been concerns by many on how sustainability can impact the bottom line performance. Corporate responsibility in today’s businesses creates confidence in investors and retains customers, not to mention the social impact it has on the communities and governments alike.
“In today’s booming carbon market a lot of ‘hit and run’ offsetting companies have exploited the consumer’s individual impact guilt.”
Energy efficiency and innovation is the key. Sound sustainable strategy can add valuable inputs into stimulating innovation (e.g. Pilot techniques, fuel policy, auxiliary power unit use, taxi on one engine, weight reductions), generating ideas and identifying cost saving opportunities. Waste reductions, recycling and energy efficiency all contribute towards cost saving measures.
Sustainable development is the key to maintaining a corporate reputation and to ensure favourable bottom line results in the years to come. Corporate Responsibility (CR) has become an integral part of businesses today and the aviation industry is not far behind. Growing consumer awareness and weather related natural disasters around the globe have only added to customer motivations for reducing individual/corporate carbon footprints.
Technological breakthrough is an important ingredient in the greening of long term aviation. Technological advances can be seen in the use of alternative fuels like bio-fuels for aircrafts and building zeroemission aircrafts. Policy makers should provide clarity and flexibility for the industry to achieve its long term goal.
CR itself has moved beyond just enhancing the brand image and compensating emissions by offsets. To demonstrate environmental stewardship in its true sense, sustainable strategy has to be harmonised with corporate decision making. Mitigations should be coupled with quantifiable reduction targets.
Aviation in the EU ETS The EC published a proposal in early 2007 for the inclusion of aviation in the present EU ETS. The entry of the aviation industry in this scheme would mean that aircraft operators need a sound strategy in place to manage their emissions and fleet efficiency. A financial impact analysis would be imperative in determining the cost structure and benchmarking its position with respect to competitors. Below is a comprehensive analysis of the proposal and it is subject to changes once the final directive is in force. (See Figure 1 below for timeline).
“Energy efficiency and innovation is the key.” The paraphernalia of sustainable strategy should encompass deliverance to total shareholder and stakeholder satisfaction.
Figure 1 Aviation becoming part of EU ETS A proposal for amending the directive 2003/87/EC to include aviation in the EU ETS in 2011 has been submitted to the council of ministers and the European Parliament. Timeline start date 20 Dec 2006
2006 2007 2008 Proposal submited Adoption of directive National implementation
2009
2010
2011
2012
Verification of Ten-kilometre data Benchmarking/ Calculation/Allocation
2008 Application up to Apr 2009
Data reporting
2010
Trading for aircraft operators
01 Jan 2011/01 Jan 2012
Future trading periods
01 Jan 2013 Co-Decision process
2
2013
Approval
Intra-EU Flights
All Flights in/out of EU
Integration
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Proposal The proposed scheme is a semi-open trading scheme in which the aviation sector will be given separate certificates (AVC’s aviation certificates). (See Figure 2 for aviation compliance portfolio). They will be allowed to buy the European allowances and project based credits but the other industries within the EU ETS would not be able to use aviation certificates for compliance. The proposed start for the inclusion of aviation in the EU ETS is 2011 for all Intra-EU flights and 2012 for all international flights to/from the EU. The proposal will undergo discussion and adoption by the EU parliament and the council of ministers under the co-decision process. The adoption of this proposal is expected by end 2007/early 2008. Political obstacles could cause some delays. Most of the issues have been agreed upon but the issues which still need consensus are on the amount of auctioning and determining the baseline. International/domestic laws and legal issues can further delay the process. Importantly, the US has voiced concerns over the inclusion of international flights and has threatened a law suit against the EC. Allocation/auctioning The aviation industry will have its baseline set for the year 2005. This would include the annual average emissions for the period 2004-2006. Allocations will be based on the benchmarking principle: based on these design elements the expected shortage of CO2 certificates in the market will add up to 34 million tons in 2011. “Efficiency measures” will play an important role in ensuring sufficient allocations to aircraft operators. The verification of the tonkilometre data for benchmarking will be from the year 2008. This is assuming the scheme starts on 1 January 2011. Auctioning of allocations as proposed stands at 3%; this is based on average auctioning levels in different member states in the current EU ETS. The council of ministers would have to agree specifically on the auctioning levels which can go up to 10% in the adopted directive. There are talks of 100% auctioning by some parties, adding uncertainty to the allocation process and increasing insecurity of aviation certificates. Issues which might bring additional insecurity in allocations are new entrant reserves, remote area’s special treatment and early actions taken.
Figure 2 Aviation compliance portfolio 100% 90%
Other
80% 70% 60% 50% 40%
Allocated certificates
30% 20% 10% 0%
Compliance portfolio
The compliance portfolio is the total number of certificates needed to comply with the guidelines for the aviation business within the EU ETS scheme; it is the representation of the total amount of CO2 emissions (verified).
The aviation portfolio can consist of: Aviation certificates (AvC’s), EUA’s, CER’s (and ERU’s)
Allocated certificates are being called aviation certificates, other industries are not allowed to comply with aviation certificates. The aviation industry however, is permitted to comply with certificates from other industries.
The portfolio of other industries can consist of: EUA’s, CER’s (and ERU’s)
Efficiency measures In the proposed trading scheme it would “pay” to be efficient for any aircraft operator. Efficiency measures could be described as: • Accelerated fleet renewal. • Retrofitting of aircrafts (e.g. winglets). • Surface treatments (reducing air resistance). • Optimisation of: 1. Timetables. 2. Route Network. 3. Flight Frequencies. 4. Air Traffic Management. 5. ASM (Available Seat Miles). 6. Load factor. • Actual ton/kilometres vs. fuel usage. • Short haul vs. Long haul. Compliance imperatives Compliance to the scheme would cover the design of monitoring, reporting and verification of emissions from individual operators. According to the design of the scheme the aircraft operators would be the responsible entities.
Reporting of the emissions would be based on the actual fuel usage by the airlines (total distance between the origin and the destination). Where actual fuel data is not available a standardised tiered method could be used to estimate emissions. Emission factors to be used for the calculation of emissions are not a complex issue due to the fact that the aviation sector uses a relatively homogeneous fuel. Data from any non-compliant operator and air traffic data might be provided by Eurocontrol. Conclusions The aviation industry is in the spotlight and the expected regulations would have a financial impact on the industry. The path to going green is indeed a long one, but encouraging indicators suggest that the industry has started moving in the right direction. Technological progress is an important element in achieving the long term goal. Unfortunately technology doesn’t keep pace with the demand growth. It is of utmost importance that energy efficiency parameters are identified to capture the rate of growth of aviation externalities. Market based policies would put a price on carbon, so it is vital for all participants to understand the risks and opportunities involved in a new market place. Efficiency measures would assist aircraft operators in developing a track record that favours them in a trading environment and gives the competitive edge in a low profit margin industry.
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Bureaucracy hurdles increase the uncertainty of the anticipated regulations. It is important to understand the indicators that drive the carbon markets. Some aircraft operators would be affected more than others when aviation becomes part of the EU ETS. In this scenario it remains to be seen how involvement in such a scheme affects the aviation economics of: • Market access controls ”freedoms of air”. • Price fixing mechanisms (tariffs).
Emissions risk management structures should be incorporated into the corporate risk management framework. These structures should typically cover risk assessment, control frameworks, developing carbon market expertise pertaining to clear understanding of trading essentials and competitive drivers. It would assist organisations to create a competitive advantage through anticipation and innovative actions on climate change and emissions trading. Compliance knowledge assists in preparing for expected regulations and in making informed decisions.
• Slot allocations. It would be quite apparent that the strategies in such an environment would be different for different players (low cost carriers, full service carriers, regional carriers, charter flights etc.).
Notes 1. WRI: 2005 2. ICAO 2003 3. Airbus 2003 4. IATA 2003
It is the need of the hour for the aviation industry to enhance its CR strategy and incorporate short, medium and long term goals in sustainable development. Participation in a carbon pricing scenario needs complete understanding of risk elements in a compliance market and credibility standards for voluntary markets.
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Contacts For more information, please contact: Pierino Ursone pursone@deloitte.nl Tel: +31 20 5825485 Udeke Huiskamp uhuiskamp@deloitte.nl Tel: +31 20 5825846 Paul O’Neill paoneill@deloitte.co.uk Tel: +44 20 7303 7110 Deloitte Financial Advisory Services Energy Capital Markets Orlyplein 10 1043 DP Amsterdam P.O. Box 59237 1040 KE Amsterdam The Netherlands Tel: +31 20 582 5420 Fax: +3120 582 5460 ecm@deloitte.nl www.deloitte.nl