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EU Carbon Border Tax: Rethinking Supply Chains & Production

Meaningful carbon pricing legislation is now on the horizon. The EU Carbon Border Adjustment Mechanism (CBAM) kicked off on October 1, 2023. Jules Cordillot, Senior Sustainability Consultant at Schneider Electric, outlines the impacts and what actions companies can take to get organized.

Meaningful carbon border tax started October 1, 2023

woman hand drawing on a digital graph on a windowSome 40 countries and more than 20 cities, states, and provinces around the world already use carbon pricing mechanisms. With the world’s largest carbon-pricing system (i.e. the EU Emissions Trading Systems), the EU has intended to reduce emissions and bolster industrial decarbonization for almost 20 years. However, with its new goals to reach climate neutrality by 2050 and cut emissions by at least  55% by 2030, the EU faced a dilemma: how to bring down greenhouse gas (GHG) emissions without putting industries at a competitive disadvantage in the global economy. If the EU mandates industries to reduce emissions, companies located outside the bloc subject to less rigorous carbon regulations, could potentially outcompete those operating within the EU. This phenomenon is known as carbon leakage. The EU ETS has primarily addressed this risk by allocating free allowances to specific firms.

Free quotas, however, have proven to reduce efforts on emissions reduction and limit the incentive to innovate and invest in cleaner production processes. Last year, the EU implemented its Carbon Border Adjustment Mechanism (CBAM), which imposes greenhouse gas (GHG) emissions reporting requirements on sectors such as iron and steel, cement, fertilizers, aluminum, electricity, and hydrogen. This was adopted in conjunction with a plan to gradually phase out free CO2 quotas by 2034. Ultimately, all EU Emission Trading System (ETS) sectors will fall under CBAM by 2030. The transitional phase will begin on October 1.

CBAM will move the goalposts for both importers and suppliers

During the transitional period (October 1, 2023 – December 31, 2025), reporting declarants are required to submit a CBAM report within one month after the end of each quarter, with the first report due on January 31, 2024. The report will have to include the total quantity of each type of goods and the embedded emissions (both direct and indirect), associated to their production. The reporting obligations lie with the importing companies. However, it is the duty of the suppliers to monitor and calculate GHG emissions. The production sites (i.e., suppliers with production sites outside the EU) must make the information necessary for the quarterly reports available after the end of each quarter.

The importers will have to articulate the data required from their suppliers in order to review their enterprise resource planning (ERP) systems to consider new parameters. One significant challenge for companies is the multi-departmental nature of the Carbon Border Adjustment Mechanism (CBAM). It involves various business departments including supply chain, procurement, tax, and environmental, social, and governance (ESG) functions. This complexity necessitates the development and implementation of collaborative systems across business units in both importing companies and suppliers. These systems are required for real-time tracking of import flows, collection of emissions data, and monitoring of production processes.  Aside from avoiding penalties (which can reach up to EUR50 per tonne for unreported emissions), the primary goal of the transitional phase is to gather data and evaluate the quantity of CBAM certificates that companies will need to purchase once the permanent system takes effect on January 1, 2026.

Importers will then surrender the corresponding number of CBAM certificates, with the price calculated depending on the weekly average auction price of EU ETS allowances (today around EUR80-90/tonne of CO2 emitted, but will most likely reach EUR140/tonne by 2030 according to the European Central Bank). This will push companies to reevaluate the supply chains of products manufactured, and how they engage with suppliers. Shifting to less carbon intensive producers will be the end-goal. Not only will this push competition throughout the value chain, but also encourage manufacturers to relocate their production in Europe. Beyond climate objectives, the CBAM has been built as part of a broader effort to build what is referred to as the “EU’s strategic autonomy.”

The expected impact is the acceleration of decarbonization projects. CBAM will provide a competitive advantage to manufacturers with lower emissions production processes. The EU is witnessing a surge in decarbonization projects, not only from large players but also startups. For instance, H2 Green Steel raised EUR 1.5 billion to build a steel plant that will not use coal but hydrogen produced by electrolyzing water with Swedish electricity (almost without CO2). On the other side of the coin, as pointed out in May by the European Central Bank, carbon pricing influences both supply and demand primarily via higher energy prices.

“Kites rise highest against the wind – not with it”

CBAM will impact companies in multiple ways: data collection, sourcing, supply chains, logistics, and even decarbonization strategies. The challenge is big, but so is the climate clock. Carbon prices are the most cost-effective way to fight climate change. Still, companies will need support in getting ready for CBAM. To facilitate communication between suppliers and importers, an Excel-based template has been published by the European Commission on 17 August 2023, together with guidelines for the production sites and set sector-specific dates. Documentation and registration for the training courses takes place via the official CBAM website of the EU. Additionally, a simplified method to report emissions will be allowed until July 31, 2024, using specific country default values, also known as “emissions factors.”

The reporting period begins on October 1. Here are some immediate actions that importers can take: review the supply chain and identify the origins and suppliers of products that will be affected; inform suppliers on the need to report; set up internal systems to collect data and anticipate future expansions of the rules. For suppliers: implement processes for the monitoring and reporting of emissions (activity data, type of fuel used for production, consumption data, purchased precursors, etc.). Above all, develop a long-term emissions reduction strategy for supply chains and products.

Get in touch with Schneider Electric Sustainability Business to get ready for CBAM reporting.

This article was written by Jules Cordillot, Senior Sustainability Consultant, at Schneider Electric.

This article first appeared in the GRESB newsroom. To view, click here.