On January 1, 2024 the European Union’s Emission Trading System (EU ETS) has been extended to include the shipping industry. Voyages to and from EU ports (50%) as well as voyages between EU ports (100%) need to report carbon emissions and buy EU carbon allowances (EUA) for each ton of CO2. The implementation is happening in a ramp-up: 40% of carbon emissions on these voyages need to be covered this year, 70% next year, and from 2026 onwards a 100% need to be covered.

EU ETS for shipping is a tough regulation.

In a time where the fuel solution for decarbonization in maritime is still unclear, shipping companies only have limited (albeit important!) options to reduce carbon emissions. They are mostly still burning traditional fuels and EU ETS costs from this can amount to more than one million Euros per vessel per year.

Just avoiding the regulation is not an option (at least if you need to do business in EU waters) as control mechanisms are reliable and penalties can easily double the financial risk.

So the only viable option is to prepare the business for EU ETS and to make sure to pass on the costs to business partners along the value chain. The EU has implemented a “polluter pays” principle in their EU ETS regulation allowing ship owners to make charterers pay, who will make sub-charterers and eventually cargo owners pay, who will finally make the consumer pay for higher costs of shipping due to EU ETS.

However, passing on the costs sounds easy but is a rather complicated process in practice:

• You need to understand which voyage and charter contract will be affected by EU ETS before you enter into that contract. Contracts can be per voyage only, comprise long periods of time, or might come in the form of a contract of affreightment, where it might be a last-minute decision which vessel will perform the transport.

• So for each contract, you need to understand and track whether you are buying EUAs or your counterparty is, whether you need to pay EUAs to a counterparty or whether you are the one who surrenders to the EU, whether you want to invoice cash or adjust a freight rate or whether you need to pay cash; and in what frequency all of this is happening.

• The exact amounts for each payment, invoice or trading obligation must always be precisely linked to the emissions data coming from the vessel. Ideally, these data are already verified by an MRV verifier (this is a step mandated by the EU on an annual basis but might now be helpful for each settlement period).

• BIMCO (the shipping industry’s biggest direct-membership association) has published standard clauses for time charters, voyage charters and ship management agreements that can be used to agree on standards for the different business models and stakeholder perspectives.

• Then there is the necessity to own a Trading Account in the EU’s Union Registry to be able to trade, transfer, or receive EUAs. Applications for these require a KYC process and might take months, depending on the member state.

• Finally, if you are the shipping company that in the end needs to surrender the EUAs to the EU, you also need a Maritime Operator Holding Account (MOHA) for which you cannot choose the member state via which to apply but need to wait for information from the authorities if the responsible shipping company is not registered in an EU member state.

  
  

One and a half months into the year 2024, the regulation leaves many questions open and the majority of the industry is still working on preparations.

1. The MOHA confusion

Let us start with the MOHA confusion that is reaching a new peak while we write this article. On January 30, the EU published the long-awaited list of shipping companies and responsible member states for MOHA applications. The data source for this list is “Thetis MRV” - the EU’s digital tool into which shipping companies have had to report their EU emissions data on an annual basis since 2018. The EU has taken Thetis MRV data from November 2023 as a means to identify the legal entities and the ships they represent. There are significant challenges with this approach:

• If the ship has changed ownership or is a new build after November 2023, then its representation in the list will be wrong or missing.

• If the ship did not trade into the EU in the past but is doing so now, it cannot be found in the list.

• If the responsible shipping company has changed because of EU ETS (as ship owners and ISM managers can now decide whom to give the ultimate responsibility) then the company might not be part of the list.

• The way shipping companies have set up Thetis MRV accounts in the past has not always followed the same pattern: some have listed the single shipping company per vessel, others have reported on a group level. The list thus is not clear on who is ultimately responsible.

There are ways to solve this in all of the cases by referring to authorities in member states where you have the first port call in 2024 (cases one and 2) or by reaching out to the administering authority where the formerly responsible company is listed and notifying it of the change in responsibility (case 3). But still, the list causes confusion.

Finally, the regulation now states that the responsible shipping companies have to apply for the MOHA within 40 days. Looking at the experience from opening trading accounts in 2023 this seems to neglect the administrations’ limited capacity to comply with this deadline.

2. The missing contract clauses

A large share of the shipping companies we are talking to, owners, managers and charterers alike, tell us that they have not yet settled on EU ETS clauses with their counterparties. The last BIMCO proposals (for voyage charters and ship management contracts) were published in December 2023. Companies still need time to evaluate how they want to use these clauses and then start negotiations with the other side.

While this is still going on, ships are already trading into Europe, EUA obligations are being created and ship owners don’t have certainty on how to pass on these costs.

Fortunately, everything is “just” 40% this year - but still, it will be up to mutual goodwill that business partners will find an agreeable settlement after the fact. Otherwise, legal fighting over money will be the consequence.

3. The organisational challenge

As explained at the beginning of this article, EU ETS needs to be actively managed and monitored: invoices need to be written and followed up, payments need to be made, trading needs to happen, charter agreements have to be negotiated, freight rates calculated, etc.

Many of the companies we are talking to are not yet clear on who in their organisation is going to take care of this. The task touches the responsibilities of several teams: finance & accounting, chartering & operations, top management, ESG managers, procurement and fleet performance.

What needs to be discussed is which team will do what in the EU ETS process. And the challenge is to have a shared understanding of the underlying data per vessel, voyage, charter period, and EU ETS settlement period. It is essential to make these data accessible to everyone in the organisation and serve the different purposes of monthly reporting, data sharing with counterparties, invoicing, etc. Spreadsheets won’t do the trick.

Step by step the industry is coming to terms with that and needs to evaluate three options:

• Build some kind of shared data base and process support internally

• Outsource the whole problem to a ship management company or other service provider

• Buy a specialised software solution for the management of EU ETS

zero44 has built such a solution. Do reach out to us to learn more!