What is PCAF? The Role of Carbon Accounting in the Financial World

What is PCAF?

PCAF (Partnership for Carbon Accounting Financials) was initiated in 2015 by a group of Dutch financial institutions. The organization's vision, which is to create a common language and methodology among financial institutions, ensuring consistent calculation and reporting of emissions financed through loans and investments, has rapidly become a global collaboration in the ensuing years. 

Today, PCAF works with over 600 financial institutions, continuously increasing this number with new participants each year.

PCAF acts as a standard for sustainability in the financial sector. In short, when a bank or fund manager wants to calculate the emissions of the companies in its portfolio and report this to its stakeholders, it can use the methods set out by PCAF. This facilitates comparison and reporting across different institutions; regulatory bodies can also clearly see the carbon balance of the financial sector.

The Importance of PCAF

Today, carbon management has become a critical issue in the financial sector, along with various other sectors. PCAF is an initiative that allows institutions such as banks, insurance companies, and asset managers to consistently measure and report the greenhouse gas emissions resulting from the projects and investments they finance. 

While the direct carbon emissions of financial institutions (for example, from energy usage in their buildings) represent a small portion of their total emissions, the emissions of the companies they finance through lending and investment are much larger. According to a study, the financed emissions of global banks are more than 700 times their own operational emissions. For this reason, banks and asset managers need standards like PCAF to understand their actual environmental impacts. 

PCAF facilitates risk management and strategic planning by transparently illuminating this large financial greenhouse gas pool. For example, banks like ABN AMRO have calculated the carbon impact of home loans using PCAF; when it became apparent that home loans had the highest carbon impact, they promoted new loan products that enhance energy efficiency. This way, they have both expanded their portfolios and contributed to climate goals.

How Does PCAF Work? (Methodology and Measurement Principles)

The core of PCAF is the Financing Emissions Standard (Part A). This standard details the emission calculation steps for banks covering 7 key asset classes (bonds, loans, project finance, commercial real estate, residential mortgages, vehicle loans, etc.). The fundamental principle is as follows: A bank or fund is responsible for the carbon emissions of a company it finances in proportion to the financing it provides. In other words, if a company produces a total of 100 tons of emissions and the bank has provided 40% of the company's investments, then 40 tons is attributed to the bank's carbon account. This method allocates emissions fairly according to financial share.

In practice, PCAF recommends the following steps:

• First, a definition of the internal portfolio is made (which types of loans and investments will be included). 

• Next, data is collected: Emission data sets are obtained from debtor companies; if data is unavailable, estimates based on industry averages or financial metrics are used. PCAF proposes to assign a quality score of 1-5 to each data source. Using high-quality data (1-2) in reporting is more reliable. 

• Then, emissions are calculated and the portfolio total is derived according to PCAF’s guidelines. The bank typically reports the resulting figures under the Scope 3 categories of the Greenhouse Gas Protocol, "15. Investment Activities" (PCAF is based on Scope 3).

• The calculated emissions are shared with the public and regulators as part of annual sustainability reports or TCFD/SBTi documents.

PCAF Data Scoring System

Financial institutions utilize a specially developed scoring methodology while evaluating the carbon footprint of their loan and investment portfolios. 

The scoring ranges from 1 to 5:

Score 1 – Very high accuracy: It has the highest level of transparency. Data sources are completely reliable, and the methods and assumptions used in the calculation process are fully disclosed.

Score 2 – High accuracy: Based on data obtained from solid and reliable sources. Methods and assumptions are clearly and comprehensively presented.

Score 3 – Moderate accuracy: Data are reasonably reliable. The logic and assumptions of the calculation have largely been shared.

Score 4 – Moderately low accuracy: Based on more reliable sources, but still has some uncertainties and gaps. Method descriptions have been provided to some extent.

Score 5 – Low accuracy: The data used is unreliable or has significant deficiencies. The calculation methods and assumptions are not sufficiently clear.

The methodology of PCAF has been designed in alignment with other frameworks, such as the Corporate Climate Disclosures (TCFD) and Science-Based Targets (SBTi). For instance, TCFD reporting requires financial institutions to disclose financing-related risks; PCAF materializes this. In addition, the obtained emission data can also be shared in international reports like CDP. This way, PCAF supports financial institutions in being prepared for regulations and developing green financing strategies.

Benefits of PCAF to the Financial Sector

PCAF offers multiple benefits to financial institutions:

Risk Management

By identifying the largest sources of emissions in the portfolio, precautions can be taken to be sensitive to climate risk. For instance, reducing credit issuance in high-carbon sectors or defining conditional loans reduces risk. PCAF produces outputs that comply with the Corporate Sustainability Reporting Directive (CSRD) and TCFD requirements.

Regulatory Preparedness

Carbon reporting obligations for the financial sector are increasing in Europe and around the world. PCAF prepares institutions for these regulations by providing a transparent and technical framework. Incorporating PCAF data into existing governance and internal audit processes protects institutions should transactions be questioned in the future.

Reporting and Reputation

Over 600 financial institutions (banks, insurance companies, asset managers, etc.) that are members of PCAF disclose their calculations. This allows investors and the public to monitor the climate performance of these institutions. Transparent reporting attracts new investors and provides an advantage in accessing sustainable funds. For instance, large funds reporting to CDP direct their financing flows towards more environmentally friendly companies.

Investment Decisions

PCAF data simplifies the measurement of the carbon footprint of investment portfolios. Institutions can rebalance their portfolios according to net-zero targets. In addition, internal 'carbon pricing' calculations can be related to PCAF outputs. Thus, it becomes possible to increase the financing cost of high carbon emitting investments.

Innovation

Institutions that obtain emission data can develop new financial products like green bonds and carbon credits. For example, ABBank has offered special loan packages for energy-efficient building projects following PCAF calculations.

Common Challenges

The biggest challenge in implementation is the lack of data and its accuracy. Collecting emission data from debtor companies can be difficult; many do not provide this data or fail to report accurately. In such cases, banks use estimates based on sector averages or financial metrics. The data quality scoring proposed by PCAF shows banks which data is reliable.

Furthermore, the implementation of PCAF requires inter-departmental coordination within institutions: Risk management, sustainability, accounting, and information technology teams need to work collaboratively. Therefore, internal governance and training become crucial.

Lastly, emission factors from different sources may be inconsistent; PCAF's continuously updated methodology (for example, the addition of sovereign debt credit) aims to reduce these inconsistencies.

Practical Tips for Implementing PCAF

Prioritize: Instead of covering all activities at once, start with the portfolio components that have the highest carbon emissions. Energy, transportation, and raw material sectors are generally priority areas. In this step, you can reduce the complexity of measurement by categorizing your portfolio into a few areas.

Data Strategy: Request annual emission reports from your debtor companies. If you do not receive satisfactory results, you can use the sector averages published by PCAF. For instance, you can obtain the amount of electricity generated from an energy company to calculate tCO₂. Using PCAF's data quality score (1-5) system will be beneficial to document the accuracy of the data.

Tools and Resources: Utilize open-source calculation tools (such as the PCAF Emission Library) or commercial carbon-accounting platforms. These software automate calculations based on financing shares. Additionally, download PCAF's own "Disclosure Checklist"; from 2025 onward, the reports of new members will be evaluated using this checklist.

Internal Communication: Present results not only in sustainability reports but also regularly to the board of directors and unit heads. Relate the significance of financed emissions to company strategies. This way, credit policies can be adjusted according to carbon targets, and the entire institution can mobilize.

Set Targets: After measurement, always set reduction targets. For instance, determine clear metrics such as reducing portfolio carbon intensity by %X annually or achieving a net-zero loan infrastructure by a certain date. Plan to collaborate with clients to achieve these targets (offering green bonds, encouraging low-carbon investments, etc.). PCAF measurements can be directly used to set SBTi-compatible targets.

In conclusion, PCAF…

In conclusion, PCAF is a strong first step for financial institutions. Measuring financed emissions helps you manage risks, ensure regulatory compliance, and gain investor trust. 

The first step to start: Identify the carbon-intensive sectors in your portfolio and begin measuring according to PCAF guidelines. 

CarbonSmart and PCAF

At CarbonSmart, we stand by the financial sector with our PCAF module. 

With the integrated module in the Corporate Carbon Footprint Management Platform, you can conduct your PCAF calculations quickly and systematically, and publish comprehensive reports by combining these calculations with your corporate carbon footprint data!