14 The Business of TCA

Assessing Risks and Dependencies Along the

Supply Chain
Tobias Bandel, Jan Köpper, Laura Mervelskemper,
Christopher Bonnet and Arno Scheepens

Introduction
Climate change, resource scarcity, consumer awareness, and new regulations
trigger practice changes in global supply chains regarding environmental and
social aspects. These better practices go along with additional costs, which,
based on current accounting schemes, could negatively impact the economic
performance of companies. This causes a dilemma for the private sector: while
trying to comply with these new requirements, the companies get financially
punished as the higher costs for sustainable measures reduce their profits. True
Cost Accounting (TCA) can be used to show the benefits of better practices at
the company or supply chain levels, not only using sustainability language but
in tangible financial terms. This chapter presents the experience of different
actors from the corporate and financial sectors in applying TCA. The first case
study offers a corporate perspective on assessing the True Cost of various
regional and global supply chains, the second case study discusses a bank’s
experience with TCA, the third case study provides insights into the True Cost
considerations from an insurance sector view, and the fourth case study shares
the experience of a financial auditor.
A key finding from all case studies is that a true cost assessment across entire
supply chains is possible, allowing for an assessment that crosses private and
financial sector initiatives, integrating sustainable performance into financial
market requirements. However, although data and models to assess the true
cost of ecological or natural capital aspects already exist, there is still a sub-
stantial need for further research regarding social and human capital aspects such
as health. The following four case studies demonstrate how TCA is a valuable
tool for agri-food companies, banks, insurances, and financial auditors.

Case Study 1: Assessing the True Cost of Various Regional and

Global Supply Chains
What are the true costs of food production, and what can be done to reduce
these externalities to society? How can we quantify and monetize better farm-
ing practices to show that sustainably produced food costs society and taxpayers
210 Bandel, et al.
less? These questions arose in 2014 when various companies had identified
financial and reputational exposure and started to assess their true cost profile.
The initial motivation to conduct true cost assessments was based purely on
pioneering entrepreneurial spirit, trying to secure and further develop their
future business cases by minimizing current and future risks.
In November 2019 Boston Consulting Group (BCG) published a report
(Boston Consulting Group, 2019) about how to secure the future of German
agriculture. The key finding was that today’s German agricultural system causes
externalities—that is, costs to the society and the environment, amounting to
€90 billion. This is in addition to another €10 billion of subsidies and other
direct payments, which are currently borne by society, in the form of taxpayers.
This €100 billion only covers externalities related to climate, air, water, soil,
livestock, and ecosystem services from the German agricultural sector. Social
aspects are not covered. The study assumed that more sustainable production
would reduce the costs to society. At the same time, Christian Heller, CEO of
the Value Balancing Alliance presented to the European Business and Nature
Summit in Madrid on how today’s costs to society will become costs to busi-
nesses over time (Heller, 2019).
The cumulative experience of conducting true cost assessments with the fol-
lowing companies are included in this case study: Alnatura, Bauck, Demeter,
Eosta, GLS Bank, Haciendas Bio, Hipp, Lebensbaum, Martin Bauer, Rapunzel,
Tradin, Triodos, and Weleda. The assessments analyzed products and supply
chains covering a variety of agricultural products from different origins worldwide
and were conducted by Soil & More Impacts (SMI), in some cases in collaboration
with EY. The focus was to assess the impact on natural capital aspects (biodiversity,
climate, soil and water) (Natural Capital Coalition, 2016). Selected social and
human capital aspects were analyzed as well. The intention of these pilot assess-
ments was not only to generate true cost value but also to test the model for its
applicability and scalability to global complex supply chains.
Priority was given to primary data available through existing audits such as
organic, Fairtrade, Rainforest/UTZ, or financial accounts. To maximize the
comparability and acceptance in the food and agricultural market, commonly
used impact assessment models, reference values and monetization factors
were used such as the Cool Farm Tool (Hillier et al., 2011), the RUSLE
(Revised Universal Soil Loss Equation) (Renard, 1997), Aqueduct maps
(Gassert et al., 2014), ClimWat (Muñoz and Grieser, 2006), CropWat (Smith,
1992), the DALY (Disability-adjusted life year) concept (Homedes, 1996) and
EcoMatters (van Maurik et al., 2016). In most cases, the assessed supply chains
were benchmarked against the common practice in the region, a baseline, or
an improved scenario.
The overall finding was that despite the fact that TCA is a rather young and
developing science, the most commonly used approaches, assumptions, and
models seem to be good and detailed enough to generate meaningful results,
identifying and highlighting strengths and weaknesses, costs and benefits of the
different products and supply chains.
 The Business of TCA 211
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Figure 14.1 Calculated external costs in €/hectare for an organic farm in Germany.

The following figures show selected results from true cost assessments of the
participating companies.
Figure 14.1 shows the true cost assessment of a cereal- and vegetable-pro-
ducing German organic farm. The external cost due to CO2 emissions was
nearly offset by the amount of CO2 sequestered. The major benefit of this farm
was generated due to humus (soil) build-up. Overall, that farm created an
external benefit of €1,401/hectare. This is a weighted average across the entire
crop rotation which could be broken down to external costs and benefits per
kilogram of product, factoring in the yield. From a scientific and modelling
perspective, one of the key learnings was that the entire crop rotation of a farm
needs to be assessed in order to identify the real external costs or benefits of a
farming system.
Figure 14.2 shows the true cost result in €/hectare of an intensively managed
vegetable farm which generates external costs of €702/hectare. Figure 14.3
illustrates the same farm after implementing some better practices such as
intercropping and improved compost management, resulting in a reduction of
the external costs to €106/hectare.
As the currently prevailing standard accounting and economic valuation sys-
tems do not consider these positive or negative externalities, there is no direct
financial incentive for better practices, which leads to distorted markets and
false accounting. Therefore, apart from the necessity of political interventions,
it is required that the financial market institutions start considering these
externalities by including them in credit ratings, insurance policies, annual
accounts, and company valuations. In order to foster this process, Soil & More
Impacts and TMG Thinktank for Sustainability started an initiative together
212 Bandel, et al.
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Figure 14.2 Calculated external baseline costs in €/hectare for an intensively managed
vegetable farm in Germany.

600 €

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Figure 14.3 Calculated external scenario costs in €/hectare for an intensively managed
vegetable farm in Germany.

with EY and some market-leading companies to develop guidelines on how to

include both positive and negative externalities in annual reports as a basis to
generate financial incentives for better farming practices.
 The Business of TCA 213
Case Study 2: True Cost Accounting at GLS Bank
Founded in 1974 in Bochum Germany, GLS Bank is the first social-environ-
mental bank globally, with a specific focus on financing the basic needs of
people in line with regenerative environmental practices. Taking these two
focal points as the core of all business activities of GLS Bank, economic sus-
tainability is the logical consequence instead of the key imperative of doing
business. To date, GLS Bank has a staff of 700 employees and a balance sheet
total of around €7 billion.
The need to drastically rethink the current patterns of economic systems
along the lines of planetary boundaries, common goods, and social justice
finally seems to be a common understanding by an increasing number of
market participants, supervisory authorities, and citizens. In line with this, the
European Union, Central Banks, and supervisors have been calling for a more
proactive integration of sustainability-related risks and opportunities into busi-
ness management and target setting. The predominant focus of these initiatives
currently lies on climate-related issues, as the short-, medium-, and long-term
impacts of this challenge are more tangible and have a (better) data basis.
However, this is just the starting point for a wide-ranging revision of how
sustainable business models need to be framed. The interplay between the
buildup, use, and degradation of values, as well as their long-term relevance for
business performance and socio-environmental sustainability needs to be put in
focus.
With a view to understanding, translating, and managing sustainability-rela-
ted risks and opportunities, economic actors in general and financial institutions
in particular need to (re)define the parameters that (will) affect economic value.
As this viewpoint is accompanied by a great opportunity for greater con-
sideration of sustainability aspects, GLS Bank has been engaging in a profound
rethink of risk management and accounting. As the first German socio-envir-
onmental bank, its mission is to redefine capital as a means for positive societal
change and using money to finance a variety of exclusively sustainable projects
and businesses.
Accordingly, the bank defines the value of an economic activity or organi-
zation to lie far beyond financial capital as the core driver of short- to long-
term value creation. Rather, value is created, sustained, and strengthened by
mutual impacts on and across multiple capitals: human capital, social capital,
natural capital, financial capital, intellectual capital, and production capital.
These capitals and their interactions represent the true values that determine an
organization’s holistic value creation or degradation and therefore its future
viability and competitiveness.
In this context, TCA represents a concrete methodology for a far more
holistic view on value drivers by integrating quantified sustainability aspects
into the well-known logic of financial accounting, following a similar under-
standing of the dependency of capitals: in times of globally scarce raw materials
such as soil and water, it is of strategic importance not only for the agricultural
214 Bandel, et al.
sector, but also for national economies as a whole, to take a close look at the
availability and use of vital resources such as soil, water, and energy and, if
necessary, to intervene with effective measures to secure these resources.
Whether and at what price raw materials can be processed and traded in the
future is determined based on the agricultural practices applied today. Those
who take appropriate care of, for example, soil and water today will be able to
offer agricultural products competitively and in line with planetary boundaries
in the future. In turn, it can be argued that sustainable investments in multiple
capitals lower economic risks.
GLS sees its mission to strive for a (more) sustainable future and to
implement a more holistic view of sustainability-related risks and therefore
engages in TCA. Considering the first aspect, the market-based approach of
TCA monetizes harmful activity and financially rewards sustainable activity,
thus making the conservation of resources financially attractive and lever-
aging sustainable behavior. Regarding the second aspect, the approach of
TCA provides an opportunity to improve risk and opportunity management
in the lending process. Former intangible or invisible risks and return
potentials are given a monetary value and, as a result, can be considered
when assessing the creditworthiness and credit default risk of a project or
organization.
As a first pilot, GLS Bank and GLS Treuhand have applied the method of
TCA together with Soil & More Impacts for three organic partner farms. The
results show that the current agriculture practices generate high costs: while
organic farms generate an average profit of around €720/hectare, the conven-
tional comparable farms cause net costs averaging €3,670/hectare. These costs
have so far been paid by society—either directly, for example through higher
water treatment costs, or indirectly in terms of environmental damage. In the
medium term at the latest, these costs will also return to the farmers and their
land when assets like soil fertility are destroyed or political countermeasures are
taken that will affect farmers. In the ongoing criticism of agriculture and the
debate about the need for agricultural transformation, TCA reveals that organic
agriculture provides valuable socio-environmental services and makes a bene-
ficial contribution to society.
The application of TCA might not lead to a fundamental change in the
granting of loans by GLS Bank. The bank instead aims to create a leverage
effect that can be achieved when other banks without a normative view on
sustainability act in the same way, realizing the financial risks of sustainability
aspects and thus considering them when granting loans. In return, this can help
to steer capital towards sustainable agriculture.
Although not all ecosystem services or capitals can nor should be (fully)
monetized, the view of manifold impacts opens the playground for business
decisions that are multidimensional with a high probability of identifying cur-
rent and future risks and opportunities. Hence, TCA paves the way to under-
stand and disclose social and ecosystem services that have tangible impacts on
the viability of business models.
 The Business of TCA 215
Case Study 3: The Research of Allianz in Assessing Natural
Capital for Risk Management Solutions in the Insurance Sector
Allianz Global Corporate & Specialty (AGCS) is the Allianz Group’s dedicated
carrier for corporate and specialty insurance business. AGCS provides an
insurance and risk consultancy across the whole spectrum of specialty, alter-
native risk transfer and corporate business. Their role as the leading corporate
insurance company demands an in-depth awareness and understanding of the
emerging sustainability-related trends that impact their clients and their opera-
tions. To do this, AGCS has built a dedicated team of experts in sustainability
risks from an industrial insurance perspective.
AGCS supports its clients to identify and assess material risks along their
value chain and identify and design risk management solutions in a colla-
borative manner. Environmental, social, and governance (ESG) factors are
increasingly relevant in risk management, and the sustainable use of natural
capital is one important element. By many scientific and macro-economic
indicators, it is becoming increasingly evident that natural capital is being
depleted at a far faster rate than the planet can replenish it, and with con-
sequences that extend well beyond the direct effects on the environment.
Consequently, businesses face new risks from the ongoing depletion of
natural capital.
In 2018 AGCS published an exploratory report “Measuring And Managing
Environmental Exposure: A Business Sector Analysis Of Natural Capital Risk”
(Allianz, 2018b) outlining potential exposure to natural capital risks, based on
an analysis of 2,500 companies across 12 industry sectors. The report compares
and analyzes selected sectors and assigns each of them to one of three risk
categories: danger zone (sectors where risks are generally greater than mitiga-
tion), middle zone (sectors where risks are roughly matched to mitigation), or
safe haven (sectors that generally do not seem to face high risks and/or are
reasonably well prepared for risk). According to the study, the following sectors
have been assigned to the following risk categories:

 Danger zone: Oil and gas; mining; food and beverage; transportation
 Middle zone: Automotive, chemical, clothing, construction, manufactur-
ing, pharmaceutical, and utilities
 Safe haven: Telecommunications

Natural capital risk assessment is expected to become increasingly important

for corporates as numerous liability and business interruption cases have been
revealed around the globe. These types of losses are expected to increase unless
these risks are mitigated.
A significant number of companies have started to address natural capital risk
in their enterprise risk management. Factoring natural capital costs into business
decision-making can help companies to anticipate potential threats. For exam-
ple, when opening a new plant, factors such as future water availability and the
216 Bandel, et al.
emerging emissions regime should be considered. Natural capital risk exposure
will become increasingly important, as it is expected that companies will have
to actively disclose these risks to governmental agencies and investors as both
risks and related management expectations evolve.
“With threats to the environment coming from many different areas, there
will be no such thing as business as usual in future,” says Chris Bonnet, Head of
ESG Business Services from Allianz and co-author of the report. “Companies
need to understand, quantify and even monetize their dependence on natural
capital and the impacts their operations have on it to ensure their organizations
are resilient and future-proof.” More information about natural capital risk and
the report insights can be found in Allianz (2018a).

Case Study 4: Natural Capital Inclusion for Sustainable

Innovation and Risk Management: The Perspective of a
Sustainable Industrial Design Engineer from EY Climate
Change and Sustainability Services
Back in the 1930s the Hawthorne Works in Chicago had commissioned a
study to look into worker productivity in the factory under varying conditions.
Researchers saw that productivity increased with changes in light intensity.
However, the workers fell back into lower productivity as soon as the study
ended. The conclusion was drawn that the light intensity was not the cause for
the increase in productivity, but rather the increased attention on individual
workers and their performance.
Traditionally the attention of the financial sector with regards to the perfor-
mance of companies has been on their financial/economic performance. In
recent years, there has been a steady increase in attention to non-financial
information, also in the financial sector. The realization that non-financial
information is just as important, or perhaps even more important than financial
information to evaluate the potential for long-term value creation of companies
has spurred the disclosure of all kinds of different non-financial metrics and
other performance indicators in sustainability reports, integrated annual reports,
and sometimes even in financial statements.
According to the Global Investor survey conducted by EY in 2018, nearly
all investors who responded to the survey (97%) say that they conduct an
evaluation of non-financial disclosures; just 3% of respondents say they con-
duct little or no review. At the same time, investors’ clients are increasingly
asking about non-financial information and expecting it to be integrated into
mandates. Furthermore, non-financial information plays an increasingly
important role in the investment decision-making process, and nearly all
respondents (96%) say that such information has played a pivotal role. In
interviews, investors stressed the importance that sustainability disclosures play
in determining appropriate market valuations. Therefore, companies should
focus on ensuring that their non-financial information has the same level of
scrutiny as financial information.
 The Business of TCA 217
Sustainability aor CSR rankings produced by a third party

Corporate website

Social media channels

Sustainability Accounting Standards Board indicators

ESG ratings or assessments from investemnt data providers

Press coverage and business commentary

Equity research and advice prepared by broker-dealers

CSR or sustainability report

Annual report

Integrated report

0% 10% 20% 30% 40% 50% 60% 70% 80% 90% 100%

Essential Very useful Somewaht useful Not very useful

Figure 14.4 Survey results: How useful do you find the following sources of non-
financial information when making an investment decision? (adapted from
the Global Investor Survey, EY, 2018).

Investors are requesting broader and higher-quality non-financial information

from companies, and seeking consistent, investment-grade information to support
their decision-making. For investors, the most useful non-financial reports come
from companies that understand material non-financial risks and opportunities
which are most important to their industry and business model. Investors report
that, governance aspects aside, the main non-financial factors in investment deci-
sion-making are related to supply chain, human rights, and climate change risks.
Respondents also say that non-financial information must be standardized to
create a useful basis of comparison, to establish benchmarks and to mark trends.
Investors say that national regulators are best suited (70%) to lead efforts to
close the gap between investors’ need for non-financial information. In

Climate-related disclosures in financial reports as

recommended by TCFD
Seperate sustainability and financial reporting
Statements and metrics on expected future performance and
links to nonfinancial risks
Sector or industry-specific reporting criteria and KPIs
Company-defined reports integrating financial and
nonfinancial information
Company disclosures based on what mgmt believes is most
material to the company's value creation strategy
Integrated reports following International Integrated
Reporting Frameworks (IIRC)
Perspective accounting standards for nonfinancial
information
0% 10% 20% 30% 40% 50% 60% 70% 80% 90% 100%

Very beneficial Somewhat beneficial Not beneficial

Figure 14.5 Survey results: How beneficial would each of the following reports or dis-
closures be to your investment decision-making? (adapted from the Global
Investor Survey, EY, 2018).
218 Bandel, et al.
addition, investors are looking for intelligent collaboration among themselves,
regulators, and organizations such as trade groups and non-governmental
organizations to establish appropriate and effective reporting standards.
In the agri-food sector, it is known that at least some material environmental (and
social) impacts and dependencies (risks) occur at the farm level. Large national and
multinational food and beverage companies rely on vast amounts of natural (and
social) capital, such as agricultural land, biodiversity, healthy soils, etc. mainly through
purchasing agricultural products from a large number of agricultural suppliers.
In order to identify, quantify, and eventually mitigate the associated impacts
and risks associated with the environmental impacts and dependencies, large
food and beverage product companies will need to obtain data on the non-
financial performance of their supply chain in order to report reliably on their
own non-financial performance. But most importantly, it is essential that this
information is then also utilized to improve the non-financial performance,
similar to what we are used to with financial performance information. Both
for non-financial performance reporting as well as strategic decision-making, it
is essential that the data that companies collect to use for these purposes is
reliable. Obtaining assurance can provide the increased credibility and reliability
of non-financial information, similar to financial information.
Business activities can lead to multiple different environmental impacts that
can occur locally and/or globally and measuring these impacts is always com-
plex. Scientific research and development have led to standardized methods for
assessing impacts, but the way that they are applied often leaves room for
“manipulation,” which can have a large effect on the identified non-financial
risks and opportunities portrayed in the reporting of companies.
Given the previously discussed trends and developments, there is an emer-
ging need for standardized TCA, which brings together the different environ-
mental (and social) impacts into a single monetary unit, allowing for full
integration with annual reports, integrated reports, as well as strategic decision-
making for companies and investors to better balance their financial perfor-
mance with their non-financial performance. Therefore the main need for the
coming decade is to develop and align a sector-specific, highly automated,
standardized method, approach and guidelines in order to eventually come to
sector-specific reporting standards for non-financial information similar to the
standards already available for financial reporting.
The real benefit of TCA is in “turning on the light” with regards to the
required transition towards a sustainable society. The attention that the financial
sector is giving to non-financial performance of assets spurs companies to think
about their non-financial performance. The pilots that EY involved in the True
Cost: from Cost to Benefit project confirmed that farms are open to supplying
non-financial information to their clients if they are able to. By “turning on the
light”, movement towards a more sustainable way of doing business is already
visible. If we can manage to turn on the light on a larger scale, where stan-
dardization plays an essential role, we should be able to see a bigger movement
towards more sustainable production and consumption.
 The Business of TCA 219
Conclusion
These case studies showcase the versatility in application and use of TCA across
different business players and emphasize the potential TCA has in becoming a
relevant tool for assessing impacts and dependencies in the financial sector.
By using TCA for analyzing and evaluating the environmental impact of
different agricultural management practices, agri-food companies can base their
supply chain decisions on comparable and transparent results. Value-driven
corporations like the GLS Bank can substantiate their mission and correspond-
ing decisions with monetary figures of their impact. Insurance providers have
realized that capital dependencies and impacts are highly interconnected, lead-
ing to immense natural capital risks that are barely considered in existing tools
used by the financial and insurance industry. In addition, financial auditors like
EY are increasingly acknowledging the need for a standardized way of assessing
the long-term value and impact of companies to create a comprehensible basis
for investors and other readers of annual reports. Even though TCA is a young
field, it is built on existing scientific knowledge and can be further developed,
standardized, and integrated into practical tools. With this, it can be a powerful
lever for transformative change towards a new definition of value—based on
capitals thinking—in the business world.

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