A new phase in the evolution of natural capital accounting
Global leaders convened on July 13 at the Institute of Chartered Accountants in England and Wales event in London to launch the new Natural Capital Protocol.
According to the Natural Capital Coalition, the protocol is a framework designed to help generate trusted, credible, and actionable information for managers to drive and inform business decisions.
In a 2013 report commissioned by the Natural Capital Coalition, half of all existing corporate profits would be at risk if the costs associated with natural capital were to be internalized through market mechanisms, regulation, and/or taxation. For example, a water shortage would have a catastrophic impact on over 40% of Fortune 100 companies.
Today, natural capital and our dependence on it is largely invisible in corporate accounts and decision-making. That's about to change with the launch of the Natural Capital Protocol and the Natural Capital Industry Sector Guidances.
About natural capital and accounting
Natural capital can be thought of as the stock of physical natural resources—including forests, soil, water, and air—and the ecosystem services that they provide within each country.
Natural capital assets generally fall into two categories: those which are non-renewable and traded, such as fossil fuel and mineral “commodities” and those which provide finite renewable goods and services for which no price typically exists, such as clean air, groundwater, and biodiversity.— Natural Capital at Risk: The Top 100 Externalities of Business
There are two main branches of accountancy: management and financial. Management accounting relates to internal decision-making and financial accounting to corporate reporting for external purposes. Natural capital accounting impacts both management and financial accounting.
Natural capital accounting for management accounting can be defined as the identification, collection, and analysis of information for internal decision-making. An example of this is managing risk of the supply of raw materials throughout the supply chain. Doing this leads to enhanced business risks and assessments of opportunities.
The United Nations reports that natural capital accounting for financial accounting deals with accounting for and reporting on environment-related market transactions and events that affect, or are likely to affect, the financial position of an enterprise and is often regulated. For example, on April 15, 2014, the European Parliament adopted the directive on disclosure of nonfinancial and diversity information by certain large companies, requiring companies to disclose relevant and material key performance indicators concerning environmental aspects, social and employee-related matters, human rights and bribery issues in their management reports.
Is natural capital coming of age in business?
The concept of accounting for natural capital has been around for over 30 years, but only recently has its adoption started to grow. At the launch of the protocol, the coalition stated that 50 companies participated in the pilot phase of the development of the protocol and over 500 companies has signed up to implement the protocol. Many of the companies are household names—such as Coca-Cola, TATA Group, Dow Chemical, Hugo Boss, Natura, Nestlé, and Shell.
According to the authors of the protocol, implementation by many companies is due to factors such as increasing risks of natural resource scarcity, habitat decline, population growth, changing consumer preferences, innovative environmental markets, and increasing competitive advantage around managing sustainability issues.
Governments and regulators are also stepping up as they realize that Gross Domestic Product (GDP) looks only at part of economic performance such as income, but says nothing about wealth and assets that are underlying this income. For example, when a country exploits its minerals or oil reserves, it is actually depleting wealth. The same holds true for overexploiting fisheries or degrading clean water resources. These declining assets are currently invisible in GDP and therefore, not measured.
In the UK, the The Office for National Statistics (ONS) in partnership with the Department for Environment, Food and Rural Affairs (Defra), is producing innovative ecosystem accounts in working toward incorporating natural capitals into UK environmental accounts by 2020. In March of 2015, ONS published a NCA 2020 roadmap of its goals and objectives. You can review the report here. In addition, XBRL is also being discussed to become the digital information standard for capturing the data.
About the Natural Capital Protocol
The Natural Capital Protocol is a standardized framework designed to help business managers make better, more informed decisions. Designed to help companies understand their relationship with nature, the protocol helps managers measure, value, and integrate natural capital into current processes.
The protocol provides guidance on all types of of valuations, whether quantitative, qualitative, or monetary—depending on which is most appropriate for the decision you are attempting to inform. Its framework guides users through four logical stages, nine steps, and focuses on four principles, as shown in the image below.
Source: "NATURAL CAPITAL PROTOCOL PRINCIPLES AND FRAMEWORK." (2015). Natural Capital Coalition. Retrieved from: http://www.naturalcapitalcoalition.org/js/plugins/filemanager/files/NCC_....
In summary, the protocol focuses on improving internal decision-making and drives a new phase in the evolution of natural capital accounting.
To learn more about the protocol, please visit naturalcapitalcoalition.org.