The Australian Government has released its Climate Change Plan to secure a 'clean energy future' in Australia. The main objective of the Climate Change Plan is to achieve the Government's original commitment to reduce carbon pollution by 5% from 2000 levels by 2020, as well as the new commitment to reduce emissions by 80% from 2000 levels by 2050.

In terms of economic reform in Australia, it is the most politically sensitive and significant since the introduction of the GST. For renewable energy, it is the largest public investment of funds the industry sector has ever seen in Australia.

With any economic and environmental reform of this nature and scale there are risks and opportunities for business. This paper provides an overview of two of the four key elements in the Climate Change Plan – the carbon pricing mechanism and innovation in renewable energy - and discusses some of the key risks and opportunities for business arising from these elements of the Plan.

Summary

There are a number of significant issues that liable entities, and other interested parties, will need to consider in order to understand the risks and opportunities arising from the Climate Change Plan. Some of the key issues we recommend that entities should consider include:

  •  determine liability under the carbon pricing mechanism. There is scope for the transfer of liability to other entities and in the case of Unincorporated Joint Ventures the apportionment of liability;
  • identify risks and opportunities for the 'pass-through' of costs down the supply chain under existing contracts;
  • review systems and programs to meet liabilities under the mechanism. A number of options are available and entities that can efficiently manage the cost of compliance will be at a competitive advantage;
  • ensure current corporate due diligence process determine the extent of the target entities exposure, and the adequacy of the target's systems to more effectively and efficiently manage the cost of their emissions; and
  • consider the potential for incorporating clean technology and energy efficiency into current, and proposed projects. Reduced emissions and energy efficiency are likely to facilitate a more streamlined approval pathway and make a project more bankable. 

For entities in the Renewable Energy Sector the concept of 'competitive grants programs' is not a new one. We have successfully advised a number of entities in this process, such as the Solar Flagships Program, and can assist your business so that it is best positioned to take advantage of the significant public investment of funds in this Industry Sector.

The Government intends to release draft legislation to underpin the carbon pricing mechanism for comment by 31 July 2011. Liable entities and interested parties would be well advised to be in a position to make a submission to the Government by this date.

Carbon Pricing Mechanism

The carbon pricing mechanism will comprise two key stages.

The first stage is a 'fixed price period' (commonly referred to as the 'carbon tax') commencing on 1 July 2012 for three years. During this period liable companies will be required to pay a fixed price per tonne of carbon emitted. The starting price is $23 a tonne of carbon emissions which will rise annually by 2.5% (in real terms). It is estimated that the carbon price will rise to $24.15 a tonne on 1 July 2013 and further to $25.40 on 1 July 2014.

Liable entities will be able to purchase carbon permits from the Government at the fixed price and these will be automatically surrendered. Carbon permits freely allocated may be surrendered, traded or sold to the Government in certain circumstances. Neither purchased permits or freely allocated permits can be banked for future use.

The second stage is a 'flexible price period' (commonly referred to as a 'cap-and-trade' or 'emissions trading scheme') commencing on 1 July 2015. Under this scheme liable entities will be required to purchase and surrender 'carbon permits' equal to their annual emissions. The price of carbon permits during the 'flexible price period' will be determined by the market, however the Government has introduced some measures to provide price certainty during the first three years by including a 'price floor' for carbon permits of $15 (rising annually by 4% in real terms each year) and a price ceiling of $20 (rising annually by 5% in real terms) above the expected international price.

Additional certainty on the price of carbon permits will be provided by the Government setting emission caps for the first five years of the 'flexible price period' in 2014. Thereafter the Government will set pollution caps on an annual basis for a projected 5 year period. The Government must consider, amongst other matters, Australia's international climate change obligations and the recommendations on pollution caps made by the Climate Change Authority in setting pollution caps. If the Parliament does not accept the pollution caps proposed by the Government, default levels consistent with the 2020 emissions reduction target of 5 per cent will be established.

Carbon permits during the 'flexible price period' will be allocated by auctioning and unlimited banking of permits will be allowed.

In terms of coverage, the carbon pricing mechanism will from its commencement cover four of the six greenhouse gases under the Kyoto Protocol. A broad range of emission sources including the stationary energy, industrial processes, fugitive emissions and emissions from non-legacy wastes will be covered. Transport fuels will be excluded from the carbon pricing mechanism, however, the mechanism will apply to domestic aviation, domestic shipping, rail transport and non-transport use of fuels. In addition, agricultural and land sector emissions will not be covered.

Ultimately, the Government estimates that about 500 companies will be liable to pay for carbon emissions under the carbon pricing mechanism. In general, a threshold of 25,000 tonnes of CO2-e will apply for determining whether a facility will be covered by the mechanism. The liable entity for direct emissions from a facility will generally be the person with operational control over that facility. The operator of a facility will be able to apply for a liability transfer certificate to transfer liability for emissions from that facility in specified circumstances.

Liable entities will not be able to be able to buy international units to meet its carbon emission liabilities in the 'fixed priced period'. During the 'flexible price period', however, liable entities may meet up to 50% of its obligations by acquiring international units from 'credible international carbon markets'. There is also scope for liable entities to meet up to 5% of their emissions obligations by acquiring carbon credit units under the Carbon Farming Initiative during the 'fixed price period'. There is no limit on the surrender of carbon credit units during the 'flexible price period'.

The compliance year under the carbon price mechanism will be the Australian financial year. During the 'fixed price period' liable entities will be required to surrender 75% of their emissions obligation by 15 June of the relevant compliance year, with a 'true-up' for the remainder of the obligation by 1 February following the compliance year. During the 'flexible price period' emissions obligations for each compliance year must be met by 1 February following the compliance year.

If a liable entity fails to meet its emissions obligations it will need to pay an 'emissions charge'. During the 'fixed price period' the 'emissions charge' will be 1.3 times the fixed price for carbon permits and during the 'flexible price period' it will be double the average price of permits for that year. The following governance initiatives are proposed for the carbon pricing mechanism:

  • the establishment of a Climate Change Authority to advise on the emission reduction targets under the emissions trading scheme.  The Authority will make its first set of recommendations in 2014 for the pollution caps for the first five years of the emissions trading scheme;
  • the establishment of a Clean Energy Regulator to administer the carbon pricing mechanism; and
  • the engagement of the Productivity Commission to undertake reviews relating to industry assistance, fuel tax arrangements and carbon pollution reduction activities internationally.  

Innovation in Renewable Energy

The Government intends to provide significant levels of financial support for innovation in renewable energy and other low-pollution technologies to transform Australia's energy sector and 'tackle climate change'. Key support for innovation in renewable energy includes the establishment of:

  • the Clean Energy Finance Corporation to invest $10 billion into two streams. The 'renewable energy stream' will invest in renewable technologies and the 'clean energy stream' will invest more broadly in, for example, low-emissions cogeneration technology. It is expected that the Corporation will utilise a variety of funding tools such as commercial loans, concessional loans, loan guarantees and equity investments. The Corporation will have an independent board comprising experts in banking, investment management and renewable investment strategy. The board will be responsible for setting the investment strategy for funds being invested. Details of the Corporation's investment mandate, or as the Industry has described it the criteria for 'picking winners', are yet to be published. The Prime Minister will appoint the Chair of the Clean Energy Finance Corporation to report back to the Government by early 2012 on various matters, including the proposed investment mandate for the Corporation;
  • the new independent statutory body called the Australian Renewable Energy Agency (know as ARENA) to provide funding for projects through a range of competitive grants programs. ARENA will administer $3.2 billion in existing programs and it will also receive future funding from discretional dividends paid by the Clean Energy Finance Corporation and potentially a share of future carbon pricing mechanism revenue; and
  • the Clean Technology Program comprising three key components – an Investment Program, Food and Foundries Investment Program and Innovation Program. In brief, the Programs will invest approximately $1.2 billion over seven years from 2011-12 in clean technology initiatives by way of competitive grants.

These renewable energy measures are in addition to existing measures such as the legislated Renewable Energy Target of achieving 20% of Australia's electricity supply from renewable sources by 2020.  Despite the Industry acknowledging that the proposed investment will help 'turbo-charge' the development of renewable energy, the Industry has admitted it will still be a 'challenge' to meet this Target by 2020.

Key Risks and Opportunities

The broad implications of the carbon pricing mechanism for liable entities has been well publicised and there are a number of significant issues that liable entities, and other interested parties, will need to understand in order to be in a position to comment on the draft legislation to underpin the carbon pricing mechanism which the Government intends to release by 31 July 2011.

As a starting point entities will need to determine their potential liability under the carbon price mechanism. While, as outlined above, the general principle will be that the person with operational control over the facility will be the liable entity. There is also scope for the operator of a facility to apply to transfer liability for emissions from that facility to another entity. If the facility is operated by an Unincorporated Joint Venture and no one person has operational control over the facility, the emissions liability for that facility will be allocated between the joint venture participants in proportion to their interest in the facility.

Entities will need to determine their risks and opportunities for the 'pass-through' of the cost of complying with the mechanism down the supply chain under existing contracts. At this stage, the carbon price mechanism does propose any legislative mechanism or basis for passing costs on through the supply chain and this will be a matter for commercial negotiation between parties. In this regard, one of the fundamental issues in terms of 'pass-through' arising under the previous Carbon Pollution Reduction Scheme (CPRS) was whether the CPRS was a tax or not as this had direct implication for commercial contracts which allocated the cost of a new tax to a particular party. There is still uncertainty as to whether the 'carbon price' during the 'fixed price period' will be considered to be a tax under existing contracts.

For commercial contracts pending finalisation or future contracts, cost pass-through mechanisms will need to be carefully drafted to ensure that the contractual provisions give effect to the parties intention for dealing with the costs arising from the carbon price mechanism.

Despite the significant risks and liability arising from putting a price on carbon emissions, the carbon price mechanism will also represent an opportunity for liable entities. Ultimately, an entity which better understands its obligations under the mechanism, and has the systems and programs in place to meet these obligations, will be at a competitive advantage to efficiently manage the cost of their carbon emissions with the potential to gain market share or increase their profit margins.

For entities seeking to invest in industry sectors which will be liable under the carbon price mechanism, it will be crucial for the corporate due diligence process to determine the extent of the liable entities exposure under the mechanism and the adequacy of the companies systems and programs to not only comply with this liability but to more effectively and efficiently manage the cost of their emissions.

For entities in the Renewable Energy and Clean Energy Sector the concept of 'competitive grants programs' is not a new one. We have successfully advised a number of entities involved in 'competitive grants programs' in the renewable energy sector, such as the Solar Flagships Program.

Companies should take steps to keep abreast of the status, and to liaise with the key players which will comprise the Clean Energy Finance Corporation, ARENA and the Clean Technology Programs. It is important to identify at an early stage what government funding will be available and to create a strategy to take advantage of these funds. In this regard, the Prime Minister will appoint the Chair of the Clean Energy Finance Corporation to report back to the Government by early 2012 on various matters, including the proposed investment mandate for the Corporation. Companies would be well advised to start positioning themselves now so that they are in the best position possible to tender for the competitive grants issued by the Corporation.

Next steps

The Government intends to release draft legislation for comment by 31 July 2011 with a view to introducing legislation to underpin the carbon price mechanism into Parliament in the second half of 2011.