Environmental Law ReSource : Environmental Lawyer & Attorney : Reed Smith Law Firm : Climate Change, Sustainability

The final draft of the CRC Regulations provides that where a franchisee

• carries out it franchise business under the franchisor’s name,
• using premises exclusively for that business, 
• and the franchisor ‘agrees’ the internal or external appearance of the premises which is similar to other premises covered by other franchise agreements

then the fuel supplies to the franchisee for each compliance year for CRC will be the franchisor’s fuel supply. So when it comes to reporting and buying allowances to cover the franchisor group’s carbon emissions under CRC the franchisor must include the franchisee’s CRC fuel consumption.

For a franchisor to assess its CRC compliance requirements for phase 1 (which starts on 1 April 2010) the franchisor must determine:

• which companies in its group were operating in the UK on 31 December 2008 ;
• which franchise agreements were in existence for franchise businesses in the UK on 31 December 2008;
• whether any of those group companies and franchisees had a half hourly electricity meter in the qualification year being the calendar year 2008; and
• locate records of its own group companies and its franchisees electricity consumption through half hourly meters in 2008. 
   

If 2008’s electricity consumption was above 6,000 MWh it will have to comply with CRC in full. Between 3,000 and 6,000 MWh of electricity consumed in 2008 will give it reporting obligations under CRC but not the full compliance obligations applying from 1 April 2011 requiring it to buy carbon allowances, etc. It’s worth noting that even the existence of one half hourly meter in 2008 gives companies the obligation to provide contact details online.

Where landlords supplied 2008’s electricity either to companies in the franchisor’s group or to the franchisees themselves then the landlords will be responsible for any CRC compliance obligations and not their tenants.

By the way, some franchisor groups may be able to take advantage of the new provisions in the CRC Regulations enabling them to split large groups of companies into separate groups for compliance purposes. But note: it is not possible to do so in a way that leaves part of the group outside the CRC! If the groups cannot be split for compliance purposes then the group will have extra reporting requirements for any subsidiaries that are high enough consumers of electricity that would have to comply if they were a single entity without a group structure.

The use of “franchise” in the CRC Regulations means that many vertical distribution agreements would be caught as well as true franchise arrangements. Many pre-existing contracts may not provide for the costs of CRC to be recovered by the franchisor. Companies involved may want to review these provisions.

Also, groups with parent companies outside the UK will have to nominate a UK subsidiary company to comply with the CRC.

When does this information first need to be made available? By the deadline for registration for the CRC which is 30 September 2010.

What's next? Full CRC compliance including reporting on fuels consumed, keeping records, buying allowances, surrendering allowances following the end of each CRC compliance year and reviewing their franchise agreements to see whether any CRC costs can be passed on to the franchisees.

This posting is short and has been simplified somewhat compared to the CRC Regulations; it is based on the final draft of the Regulations laid before Parliament. To address and discuss CRC issues, Reed Smith is hosting a series of client workshops and seminars. Please contact your usual Reed Smith attorney or the author if you would like details on upcoming events or further advice related to CRC.

What will a CRC allowance be? Will an allowance be private property or an administrative grant or a licence? And are the Regulations going to create the method and mechanism for trading allowances? Properties and companies are going to be bought and sold and organisations will have to offload or acquire allowances. Contracts are almost certainly going to have to cover buying and selling them so to do that well for clients we need to know what these allowances are. That will help us to understand the best way for the parent company in a UK group to sell its allowances to the buyer when the property is sold by a subsidiary. 

There are other questions that need to be addresses:

• At some point we need to know how the sale of allowances will be treated in tax terms? Could this affect the structure of a deal? 
• Will it be different if the parent company owning the allowances is registered in a jurisdiction other than the UK?
• Can they be charged to a bank lending money secured on property? If they are not how will a bank deal with a sale?
• What will happen to insolvency practitioners running companies where parent companies hold allowances?

The Financial Markets Law Committee (FMLC) has been looking into a parallel issue because Emissions Allowances under the European Union Emission Trading Scheme (EUAs) have been in existence and traded for some time. The FMLC’s extremely useful paper on the subject is available here. 

By its very nature the trading of EUAs works over a number of jurisdictions and the FMLC concluded that emission allowances have aspects which are administrative grants as well as being private property. Their view is that the lack of certainty about the classification of EUAs could cause problems in the market for trading emissions and it seems likely that the trading of CRC allowances will be similarly hampered if their status is not clarified.

For anyone interested in the detail we really do recommend a read of the FMLC paper.

The main changes to the CRC are as follows-

Qualification –Will still be based on the consumption of electricity in 2008 excluding electricity which tenant occupiers bought from their landlords but catching other indirect supplies. What this means is that if your organisation consumed over 6,000 MWh of electricity through half hourly meters in 2008 and at least one of your half hourly meters is settled on the half hourly market you will have to be fully compliant. Between 3,000 and 6,000 MWh of consumption will lead to you having reporting requirements.

Buying Allowances - There will be no double purchase of allowances in 2011. No allowances will have to be bought to cover the first “footprint” year of the CRC (2010/2011). Reporting only will be required for the first footprint year but in 2011 full compliance starts requiring the purchase of allowances for estimated carbon emissions.

The CRC Organisation - If an organisation is sufficiently large that it has a subsidiary (or sub-group of companies) that would qualify by itself for CRC then it can nominate it as a “significant group undertaking” for separate participation in the CRC. Private equity houses may be pleased to see this because they may be able to disaggregate their groups for compliance purposes (although not if the parent company, taken together with any residual parts of the group, would then fall below the 6,000 MWh threshold).

Franchising - Franchisors are still going to have to take responsibility for the energy consumption of their franchisees although the definition of franchise is changing to exclude premises of the franchisee which are not used exclusively for the franchise. Franchisees will be subject to penalties if they do not provide the data their franchisors need to comply.

Early Action - There was plenty of criticism that organisations that had taken all the steps they could to be energy efficient were going to suffer under the CRC because of their relative position in the performance league tables. The policy decision shows that this has been recognised to a certain extent although we await details of just how much difference this will make.

Penalties - These have been revised. Look for details in a future blog posting.

The calendar year of 2008 is critical for determining whether a UK business will fall into the initial three year phase of the CRC. This will be called the first Qualifying Year in the jargon of the Scheme.

What data do you need for 2008? 

The location of the half hourly electricity meters and copies of your electricity supply agreements for 2008.

Then work out your total electricity consumption for 2008 over the whole of your UK group of companies. Two things are clear.

1. If you or your group consumed over 6,000 MWh of electricity through half hourly meters in 2008 and at least one of these meters is settled on the half hourly market you will have to comply. 

2. If you or your group had no half hourly meters in 2008 you will not have to comply.

If your group consumed between 3,000 and 6,000 MWh of electricity in 2008 through half hourly meters, your group will have reporting requirements to comply with but the obligations will stop short of the full requirement to buy and surrender allowances.

Note that to the extent your 2008 electricity supply came through your landlords, because you are a tenant then it is likely that your landlords will have the compliance burden and will be reviewing the terms of your leases to see if you can be charged for any of the costs they will incur in complying with the CRC.

What will you receive to trigger compliance?

Some time this autumn the EA will send out packs to the billing addresses for each half hourly meter settled on the half hourly market which will trigger registration under the CRC Scheme. We understand the information will cover the 2008 electricity consumption figures for that meter.

Anyone concerned with compliance will want to be sure that the packs get sent to the correct person in their organisation and do not languish on a desk in the accounts or facilities departments.

Compliance officers are going to have a busy time. 2010 is the “footprint year” when all sources of fuel used by the CRC-affected businesses in the UK will have to be monitored and 90% of those fuel sources will have to be recorded. The business will need to prepare “evidence packs” and keep them up to date with all CRC relevant information. After the first year of the CRC Scheme a formal directors report will have to be sent to the EA. 

Figures for fuel supplied can be requested from the energy suppliers but not until February 2011 which is rather late. We recommend that businesses set up their own monitoring of fuel sources (except transport fuel which falls outside the CRC) for the footprint year themselves and do not wait for the suppliers.

The EA have published some FAQs on their website which you might find useful

Further postings will cover the reporting requirements, buying and surrendering of allowances and penalties for failing to comply.

Small Print

We have updated this note to cover the UK Government’s policy decisions following the final consultation on the draft law but await the final Regulations which may, of course, change the detail.

Who will be in the CRC Scheme?

• Businesses that, in 2008, had at least one half hourly electricity meter and consumed over 6,000 MWh of electricity will initially be full participants in the scheme. It has been estimated that this would be equivalent to an electricity bill of £1,000,000.
• Businesses that, in 2008, had at least one half hourly meter but consumed less than 6,000 MWh of electricity will initially have reporting requirements only under the CRC.
• All businesses with half hourly meters will soon receive information packs from the EA which will start the compliance process.

Which companies need to comply?

• Companies in groups count as one undertaking for the CRC and the highest UK parent will have to comply. One or more UK subsidiaries of an overseas parent will generally be grouped as one undertaking for CRC compliance.
• Joint ventures and those with complex corporate structures need to work out now who will have what obligations under the CRC. Joint venture companies’ energy use will be aggregated with the majority shareholder’s own group’s figures.
• For the initial period of the scheme you need to consider the group structure as of 31 December 2008.
• Franchisors will be grouped with their franchisees for CRC purposes where the franchisor specifies how the franchisees’ premises are to be used and equipped. This will apply equally to other businesses running vertical distribution like motor manufacturers being responsible for their authorised dealers.
• Schools, universities and the public sector will fall into the scheme under specific rules.
• Subsequent blog postings will look at some of the complications for groups, joint ventures, franchisors and complex organisations in more detail.
   

What has to be measured and reported on?
Although the qualification for the initial phase of the CRC scheme is based on 2008 electricity consumption, organisations will need to report on 90% of all energy consumed (excluding transport fuel). Small energy sources can be ignored by complex businesses once they have covered 90% of their energy but once the scheme is running there will be compliance complications surrounding this 90% figure.

When does this start to cost money?
There may be immediate costs for businesses in the information gathering exercise for energy consumption, in monitoring, reporting and, shortly, registering under the scheme. However, the first time allowances have to be bought is 2011 but there is a double charge in 2011 where allowances are bought to cover 2010 and 2011. After that there is an annual process for buying and surrendering allowances and receiving refunds.

The initial cost of allowances will be fixed by the government but after the first three years of the scheme, allowances will be auctioned and traded. Costs will then vary in the market place.
 

What should businesses do now?

• Determine whether you need to report or buy allowances. Your electricity suppliers can tell you whether you have any half hourly meters if your records do not show that.
• Consider the implications of your UK group structure as on 31 December 2008.
• Set up an internal system to provide information to the highest UK parent company of your organisation or elect that one sister company will deal with compliance.
• Select a board director to take responsibility for CRC as reports will have to be signed at board level.
• Train and authorise staff to deal with CRC.
• Work out where all your fuel sources are and how you monitor them.
• Take early action to improve your energy efficiency. Not only will this cut your bills now but it will help you to improve your place on the league table of CRC businesses which increases the amount of your refund in due course.
• Take early advice if you have any uncertainties about your organisation and the scheme. Useful advice can be found on the Climate Change pages of the Department of the Environment Food and Rural Affairs website. We can provide advice on the draft Regulations.
• Remember to forecast and plan ahead for the double charge in 2011.
• Investors who have energy contracts for their let properties should review their leases to see if CRC costs can be recovered and new leases being granted should contain new wording so that there can be no doubt about cost recovery.
• Continue to read our CRC blogs by subscribing to the feeds or by e mail
   

Small Print
We have based this note on draft regulations which may, of course, change.