Investors should not aggregate Scope 3 into overall emissions, says FTSE

The data firm has identified two key Scope 3 categories for disclosure in each sector.

FTSE has cautioned investors against using Scope 3 emissions data to construct an overall carbon footprint due to significant gaps and variability in corporate disclosures, according to a paper published on Thursday.

The ESG data giant said investors “should generally refrain from aggregating Scope 3 emissions with Scope 1 and 2 data for most use cases and treat them as separate, though complementary metrics”.

It added that investors should distinguish between upstream and downstream Scope 3 emissions when possible.

Scope 3 emissions are considered the hardest to monitor and abate because they happen outside an organisation’s direct control. However, they make up a vast majority of companies’ total emissions, estimated at an average of 80 percent. (Read Responsible Investor’s feature on Scope 3 emissions data here.)

Scope 3 or indirect emissions have been incorporated into decarbonisation-focused investment products over the past few years, most commonly in Europe’s Paris-aligned and Climate-transition Benchmarks. FTSE launched its own line of climate benchmarks in 2021.

The data provider’s intervention also comes amid the implementation of regulations in a number of jurisdictions which would require companies and financial institutions to report their emissions, including Scope 3.

Understanding which part of the value chain the Scope 3 emissions originate from is key, according to FTSE. This is because significant downstream emissions could result in material transition risks as cleaner alternatives emerge.

By contrast, upstream emissions tend to be linked to the energy consumption of suppliers and will decline naturally as grids decarbonise over time.

FTSE is also calling on regulators and companies to prioritise the disclosure of “purchased goods and services” emissions over other types of indirect emissions.

There are a total of 15 activity categories for Scope 3 emissions covering upstream and downstream activities, and companies often report on the information that is easiest to collect.

A recent study from Griffiths University showed that 84 percent of companies reported on the “business travel” category despite it accounting for less than 1 percent of their indirect emissions.

FTSE’s paper claims that if companies disclosed just the two most material categories in their sector, it would account for 81 percent of their overall Scope 3 emissions. This is based on a study of the 4,000 large and medium-sized listed companies which make up the FTSE All-World index.

Assessing the most material categories across all 13 industrial sectors, the purchased goods and services category was in the top two across all sectors apart from utilities and real estate. The category covering use of sold products was also among the most material for a majority of the sectors.

Improving the quality and rate of Scope 3 corporate disclosures would lead to direct improvements in Scope 3 estimates for other companies which have not disclosed, FTSE notes.

One of the paper’s co-authors, FTSE research head Jaakko Kooroshy, told RI: “There is a potential win-win here by becoming a bit more prescriptive around the Scope 3 categories companies should at a minimum disclose depending on their sector – with data becoming more comparable for investors, and lower reporting burdens for companies at the same time.

“Regulators and standard setters can help here by providing greater guidance on which Scope 3 categories corporates should cover in their disclosures. In the report, we find that they have so far largely sidestepped this question, instead guiding companies to disclose their most ‘material’ or ‘significant’ emissions.”

Kooroshy said the paper came about after a large asset manager sent a list of questions on Scope 3 to the data provider. “We feel that it’s our job to have answers to questions on this topic.”

He added that the recommendations made in the paper are aligned with FTSE’s policy engagements on the topic.

FTSE’s research comes as an IIGCC-convened working group announced this week that it is working on guidance for investors on how to tackle Scope 3 emissions in their investment portfolio. In a discussion paper, it warned of “perverse outcomes” from trying to address portfolio-level Scope 3 emissions.