A paper from the University of Pennsylvania has outlined how one surprising factor could be reducing the value of various firms, and getting a handle on the issue would be a smart move for shareholders, employees, and customers.
What's happening?
In a news release from the Finance Centers at the Wharton School, professors Robert Stambaugh and Luke Taylor broke down what they described as the "carbon burden" of businesses, which essentially puts a valuation on the carbon pollution a firm produces.
Stambaugh noted that this forward-looking valuation has two future dimensions. First, the rising global temperature is impacted significantly by a firm's emissions path. Second, the annual pollution of a firm has negative climate consequences for years to come.
Taylor looked at two examples of highly polluting businesses, American Electric Power and NextEra Energy. Despite having similar pollution levels in 2023, AEP has a much smaller carbon burden than NextEra because it is predicted its emissions will fall in the future.
Why is the carbon burden an issue for businesses?
According to the research, the baseline estimate of the carbon burden is 131% of a firm's total equity value, and Stambaugh believes this presents a huge financial risk for businesses.
"For example, consider the risk reflecting uncertainty about how firms' carbon emissions may be taxed in the future," Stambaugh said. "Firms with large carbon burdens are more exposed to this uncertainty, especially the firms also less able to pass the tax on to price-sensitive customers."
Meanwhile, the professor also noted there are social and ethical concerns surrounding the carbon burden, and not tackling it could seriously impact market value.
"We already knew that climate change is a big problem, but we were still shocked by how large our estimates of the carbon burden are," Taylor added. "I didn't expect firms' negative value to society through their carbon emissions to be on the same order of magnitude as firms' financial value to their shareholders."
What can businesses do to reduce their carbon burdens?
If firms want to reduce the pollution they produce to help the planet and improve business prospects, there are a few avenues they can explore.
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For example, if a firm relies on vehicles for operations, it could look toward electric versions that produce no tailpipe pollution and don't rely on dirty fuels.
Furthermore, businesses can look at how they source energy to reduce their carbon burdens. Instead of relying on the polluting grid for electricity, for example, they could invest in renewable technology such as solar panels. This could save a business money on electricity bills in the long-term, too, and make a firm more resilient in the face of extreme weather.
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