Pursuant to enabling powers introduced under the Climate Change Act 2008, a new system of carbon dioxide emissions trading is set to be introduced into the UK as from 2010. The scheme, known as the Carbon Reduction Commitment ("CRC"), will apply to large non-energy intensive organizations. On March 12, 2009, the Department of Energy and Climate Change launched a consultation on the Draft Order to Implement the CRC. As this is the third consultation on the CRC, it seems unlikely that the program will alter substantially from what has been proposed to date. Consultation on the Draft Order will close on June 4, 2009.

The CRC will apply if (a) an organization has at least one meter settled on the half hourly market; and (b) the total of their half hourly metered electricity consumption is greater than 6,000 megawatt hours ("MWh") per year during 2008. Accordingly the scheme may affect an estimated 20,000 private and public organizations whose annual electricity bills exceed £500,000 a year, including companies that own and occupy large property portfolios such as hotels, retailers, banks as well as property companies. Governmental organizations, local authorities and hospital trusts will also be affected.

The CRC will not extend to emissions covered by Climate Change Agreements ("CCAs") or those dealt with under the EU Emissions Trading Scheme ("EU-ETS") which covers the CO2 emissions of energy intensive sectors of industry including power stations, refineries, iron and steel plants, paper and cement. CCAs, like the EU-ETS, cover the energy intensive sectors of industry. These agreements enable companies to receive up to an 80% discount on the Climate Change Levy (which is a tax levied on those who supply energy to non-domestic consumers (subject to exceptions) and subsequently passed onto such consumers) in return for meeting carbon/energy saving targets. Emissions associated with transportation are also excluded from the CRC.

Special rules will require parent and subsidiary organizations to amalgamate their electricity consumption in assessing whether the CRC applies to them. If they qualify, they will have to participate on a combined basis through the highest parent organization. The CRC will, therefore, affect non-UK companies with UK subsidiaries. Where the highest parent organization is a non-UK company, another UK group member may be nominated subject to the agreement of the Administrator [1] of the scheme. Where one of the subsidiaries of the group satisfies the CRC criteria by itself, it is considered a "principal subsidiary" and is subject to further compliance requirements. Each principal subsidiary will need to be declared on registration for the CRC along with a separate report of each of their total energy use emissions figures.

The CRC scheme is due to start in April 2010 with a three-year introductory period. In April 2011, affected organizations will have to buy allowances to cover their actual energy use during "Phase 1", from April 2010 to March 2011, and their expected energy use for "Phase 2", from April 2011 to March 2012. Reported emissions for Phase 1 will set the baseline against which participants' future performance will be measured. Allowances during the introductory period will be sold at a fixed price of £12 per tonne of carbon dioxide. To calculate how many tonnes are emitted and therefore how many allowances are required, an organization's total energy use will need to calculated. Organizations are advised to consult their energy suppliers, energy bills and meter readings to calculate their total energy consumption. These figures should then be plugged into the CRC registry's online calculator, where a tonnage of total CO2 emissions will be provided. Those affected will need to allocate a minimum of £76,000 to buy allowances for April 2011 but participants will get most of their money back through the recycling of payments.

The Government will publish an annual "league table" ranking CRC participants based on their performance for the year. Revenue from auctioning allowances will then be recycled back to the participants (after deducting the government's administration costs), incorporating a bonus/penalty adjustment of between +10% and -10% in Phase 1, widening annually to reach +50% to -50% by the fifth year of the CRC, depending on their position in the CRC league table. Organizations who reduce their emissions will feature favourably in the league table and may benefit from a bonus payment. Those that fail to reduce energy consumption may lose money and risk damaging their reputation.

Performance in the league is assessed against certain metrics: (1) An Absolute Carbon Reduction Metric (60% of the performance score); (2) An Early Action Metric (20% of the performance score) and (3) A Growth Metric (20% of the performance score). At the end of first year of the CRC, performance will only be judged against the Early Action Metric, as (1) and (3) are dependent on data to be collated as part of the scheme. The criteria for the Early Action Metric metric are (a) the extent that an organization has installed voluntary automatic metering above and beyond the legal minimum at the end of the first year (including those installed before the start of the CRC); and (2) the percentage of an organization's emissions certified under the Energy Efficiency Accreditation Scheme (EEAS) or its successor, the Carbon Trust Standard. To the extent a targeted participant of the scheme has not already done so, it would be worthwhile to install as many automatic meters as possible and seek compliance with the EEAS/CTS now, if an organization wants to score highly in the league table at the end of the first year of the CRC.

After the first year, metrics (1) and (3) will also kick in, and at the end of the introductory period the Early Action Metric will fall away. The weighting of metrics (1) and (3) will therefore change to 75% and 25% respectively. Metric (1) assesses the change in an organization's emissions against the previous five years' average emissions (or a fewer number of years depending on how long a participant has been in the CRC), while metric (3) measures a participant's change in emissions per unit turnover. This metric recognizes the commercial background of each organization, for example where it is expanding but its emissions are increasing at a slower rate. Note that there is only a legal requirement to provide information for the Absolute Metric, however, it is worthwhile disclosing information on the other metrics to ensure the highest score possible is obtained.

Following the introductory period of the CRC, the government will establish a cap on total carbon dioxide emissions in any year, and the government will then auction an equivalent number of allowances. Participants annually will have to surrender sufficient allowances to cover the amount of carbon dioxide they emitted. Additional allowances to make good any shortfalls will have to be purchased from other participants or through the EU-ETS. Those organizations which have purchased more allowances than their emissions may sell them in the secondary market and make a profit, acting as a further incentive for an organization to reduce its energy consumption.

In preparation for the CRC, it would be sensible for all potentially affected businesses to allocate responsibility to an individual to list the buildings within an organization for which it pays the electricity bill and identify all electricity, gas and oil meters; the energy used for which will be part of that organisation's carbon usage. This process for large organizations may take at least six months to complete and should be started now. All organizations with half hourly meters will need to register under the scheme even if they use less than 6000MWh annually, but only those who actually use this amount of energy will need to purchase allowances. If an affected organization fails to comply with the CRC regulations (as currently drafted) it may face financial, reputational and criminal penalties.

Responsibility for the CRC, and how consumption of energy can be reduced by collaborative action will need to be considered in particular by large commercial property landlords and tenants. Further, those who are party to a franchise agreement will also need to consider their role in the CRC as it may be the case (subject to certain exceptions) that the franchisor is responsible for the franchisee's energy consumption. Landlords and franchisors need to address what provisions should be included or should accompany leases and franchise agreements respectively, to ensure that the potential financial burden and risk to reputation, due to poor performance within the CRC, is addressed. More generally, going forwards, the CRC will need to be factored into the due diligence process in all mergers and acquisitions deals.