Booz & Company This document is confidential and is intended solely for the use and information of the client to whom it is addressed. Canberra, May 2009 UNFCCC – CDM Reform Best Practice in Large & Complex Regulatory Environments

UNFCCC - CDM Reform - Submission 4 May 2009.ppt Introduction Regulatory Principles Regulatory Architecture Governance & Decision Rights Intelligence Frameworks Further Information & Discussions

UNFCCC - CDM Reform - Submission 4 May 2009.ppt The CMP has instructed the CDM EB to examine how it can improve the operation of the CDM from a strategic perspective  The EB has elaborated on the decisions of the CMP to provide further detail and context for the strategic improvements which are desired, and issued a Terms of Reference for the review  The overall intent seems to be to enhance the operational efficiency, transparency and consistency of the CDM’s governance structures and administrative processes  In essence, the CDM needs to restore confidence in its integrity while at the same time ensuring that it maintains high levels of integrity and efficiency as it expands in scope and scale over the coming years –Questions over the integrity of the CDM pose a substantial threat to the ongoing expansion of the carbon markets, and hence the necessary flow of private sector funds into abatement activities across the globe –The scale of the CDM is likely to increase dramatically via the post 2012 international policy frameworks which will be agreed and fleshed out over the coming 12 to 24 months  There are substantial challenges ahead for the EB and the Secretariat as the CDM shifts from a relatively small and manageable crediting system to a very large and complex regulated environment

UNFCCC - CDM Reform - Submission 4 May 2009.ppt24 June 2016 Booz & Company 3 Over the last six months we have assisted the Australian Department of Climate Change to apply best practices in the design and establishment of its Regulator  Booz & Company has been engaged by the Australian DCC to design and implement the Regulator for the mandatory reporting system which became Australian law in late 2007 –The National Greenhouse & Energy Reporting System (NGERS) will provide the platform for Australia’s emissions trading scheme  During that process, we have developed a range of insights into how large and complex regulatory environments can be effectively managed and what is best practice –The focus has been on regulatory efficiency given the very large number of regulated entities and the complexity inherent in GHG emissions monitoring and reporting –We have examined regulatory principles, regulatory approaches, compliance frameworks, enforcement processes, Regulator capability requirements, compliance management systems, organizational structure, roles & responsibilities, and implementation planning & support  One of the key findings is that once a regulated environment reaches a certain scale, the traditional approaches to compliance and enforcement no longer allow the required efficiency –We have found that large and complex regulated environments benefit greatly from the use of “intelligence frameworks” to enable risk-based approaches, more efficient use of limited resources, and more appropriate regulatory responses to different participant attitudes  This submission to the EB and Secretariat is intended to share some of those insights…

UNFCCC - CDM Reform - Submission 4 May 2009.ppt Introduction Regulatory Principles Regulatory Architecture Governance & Decision Rights Intelligence Frameworks Further Information & Discussions

UNFCCC - CDM Reform - Submission 4 May 2009.ppt24 June 2016 Booz & Company 5 There are considerable differences between simple and complex regulatory environments which impact on system integrity Legal Complexity Regulatory Knowledge Capacity to Comply Compliance Behaviours Simple Regulatory EnvironmentsComplex Regulatory Environments Relatively well understood regulations with low scope for interpretative errors Complex regulations, increased likelihood of legal contestability over interpretations and application Regulated Community Low number of affected parties with near perfect knowledge and awareness of each other and the Regulator Large number of affected parties with some knowledge of each other and the Regulator Regulatory systems and obligations are well understood by most affected parties. Variable distribution of regulatory knowledge among affected parties. Not all have good understanding of obligations Simple regulatory framework makes the cost to comply relatively low Complexity tends to increase cost to comply which increases the risk of affected parties not being able to fully meet their obligations Cost to Regulate Cost to regulate is low, due to fewer affected parties, even under a maximum enforcement model. Cost to regulate can potentially be higher due to a broader range of possible contraventions Transparency is high; regulator intent and affected party signals are clearly transmitted Market transparency is low; regulator intent and affected party signals are misunderstood or not known Smaller range of compliance attitudes; defiant or negative behaviours are more difficult to hide or justify Greater variability of compliance behaviours; scale and complexity may encourage some to see value in non-compliant behaviour Level of Uncertainty

UNFCCC - CDM Reform - Submission 4 May 2009.ppt24 June 2016 Booz & Company 6 Booz & Company has developed 10 key regulatory principles to help regulatory agencies ensure system integrity and develop appropriate capabilities  Nurture the capacity to comply by ensuring all affected parties understand their obligations and are able to comply with them.  Develop an incentive structure which will increase the willingness of affected parties to comply.  Foster cooperative relationships which help to reduce the "social distance" between the regulator and affected parties; and improve industry insight.  Ensure that the cost to comply is as low as possible by ensuring regulatory work practices are effective, efficient and result in minimal impact on affected parties.  Ensure that the cost to regulate is kept low by encouraging voluntary compliance and using proportionate responses to contraventions.  Ensure that restorative and procedural justice are consistently applied to all contraventions so that the system is seen as equitable and fair.  Publically disseminate regulatory strategy including the range of escalating compliance options to the regulated community to encourage desired behaviours.  Maintain a risk-based and intelligence-led approach to detecting and targeting and remedying risks in a timely manner.  Seek to improve regulations, policy and guidance so that the regulatory system continues to balance community expectations, commercial objectives and Government policy intent.  Continually innovate new compliance approaches and detection methods to reduce the incidence of systematic contraventions learned by "knowing the system".

UNFCCC - CDM Reform - Submission 4 May 2009.ppt Understanding affected party attitudes enables the Regulator to develop appropriate regulatory approaches for each participant 24 June 2016 Booz & Company 7 Engagement & Cooperative EnforcementDetect and RespondActive Deterrence Spectrum of Compliance Attitudes i.e. corporate attitudes towards the Regulator and requirements The Idealist Wants to comply because it sees the value proposition to the firm to do so - i.e. being compliant is a positive signal to its market Light Touch Self reinforcing behaviour requires very little compliance action to address risk The Pragmatist Minimally compliant - will do the bare essentials needed to “pass” as indifferent to the Regulator Occasional Reminder Requires a “firmer” signal from the regulator and may pose opportunistic risks periodically The Gamer Attempts to avoid / minimise compliance where possible. Is compliant under duress and does not believe compliance adds value to the firm Strong Warning Requires strong compliance approaches and some degree of deterrence to respond to any attempt to actively “game” the system or delay its registration The Adversary Sees compliance as an unnecessary burden on its operations. Believes compliance detracts value from firm Maximum Deterrence Requires deterrence based approach. Most likely to be the subject of enforcement actions

UNFCCC - CDM Reform - Submission 4 May 2009.ppt24 June 2016 Booz & Company 8 Attitudes will impact on how long it will take an affected party to adopt sustainable changes in compliance behaviours Level of Compliance Time Compliance Actions The Idealist The Pragmatist The Gamer The Adversary Impact of Regulator Compliance Actions on Levels of Compliance

UNFCCC - CDM Reform - Submission 4 May 2009.ppt Introduction Regulatory Principles Regulatory Architecture Governance & Decision Rights Intelligence Frameworks Further Information & Discussions

UNFCCC - CDM Reform - Submission 4 May 2009.ppt A regulatory architecture helps to illustrate how a combination of capabilities can help to ensure system integrity and maintain confidence 24 June 2016 Booz & Company 10 Regulatory Architecture for Australian National Greenhouse & Energy Reporting System (NGERS)

UNFCCC - CDM Reform - Submission 4 May 2009.ppt Introduction Regulatory Principles Regulatory Architecture Governance & Decision Rights Intelligence Frameworks Further Information & Discussions

UNFCCC - CDM Reform - Submission 4 May 2009.ppt Effective governance arrangements requires a clear structure, decision processes and articulation of decision rights Governance Structure Regulator Governance Arrangements Decision Rights Decision Making Process  Definition of governance structure including key decision bodies  Preliminary terms of reference for governance bodies  Key decisions identified and categorised  Decision rights allocated to decision bodies  Standard process framework for sharing information, proposing, making and tracking decisions  Can be tailored for specific decision types Elements of Regulator Governance Arrangements

UNFCCC - CDM Reform - Submission 4 May 2009.ppt  Appointed Regulator (individual)  Executive Team Committee  Manager - Regulatory Administration  Manager - Outreach, Compliance, & Enabling Capability  Management Team Committee  Other Functional Team Directors as required Key Decision Bodies RACI framework Responsible  Executes the activity Accountable  Makes approval and sign-off decision (1) Consult  Provides input before decision is made Inform  Informed of decision (often after decision is made) We identified and categorised key decisions for the NGERS Regulator and used a RACI framework to determine the most appropriate decision rights Decision rights analysis components Decision Rights Decision categories Source: Booz & Company IC 1) Only one body is “Accountable” NGERS Regulatory Decisions Strategic & Operational Decisions A B Other directors may be required in decision making process  Any requirements for decision turn-around time Decision Timeliness  Regulatory Administration  Communications & Outreach  Intelligence & Compliance  Business Strategy and Management  Capability Development

UNFCCC - CDM Reform - Submission 4 May 2009.ppt We then used a common decision making process for all key decisions across the NGERS Regulator… Frame the Decision Collect Information Create Alternativ es and Tradeoffs Make Decision Implement Decision Monitor Implementati on and Outcomes  Define the problem  Frame the decision and desired impact  Generate inputs required to analyze alternatives  Generate set of alternatives  Analyze expected outcomes  Use logically correct reasoning framework to select an alternative and approve the decision  Revisit analysis  Communicate the decision  Assign implementation responsibilities  Monitor: –Implementation progress –Outcome success  Problem statement  Scope of the decision  Expected impact of the decision  Information required to fully characterize alternatives and tradeoffs: –Complete –Reliable  Clear description of number of options: –Rewards –Costs –Risks –Likelihood of realization  Final decision  Buy-in for the decision  Action upon the decision  Implementation progress  Decision quality: –Was the decision revisited? –Was the decision process respected –Was the outcome as expected  Bottom-up vs. top- down  Level of content expertise  Automated / standardized vs. new research  Iteration between alternatives and information collection  Level and rigor of analyses/ Expert involvement  Level of authority and commitment dependent on: –Risk/impact vs. scope –Value vs., uncertainty –Uniqueness vs. frequency  Final vs. iterative decision  Consensus vs. authority  Collective vs. individual  Qualitative vs. quantitative  Executive vs. management  Implementation through: –Organizational hierarchy –Shared vision –Power and influence –Combination of the above  Performance review  KPI collection  Root cause analysis process to determine causes of performance Activities Deliverables Process Design Options Decision Process Framework

UNFCCC - CDM Reform - Submission 4 May 2009.ppt … noting that proper documentation and secretariat support is necessary to support effective and transparent regulatory decisions Frame the Decision Collect Information Create Alternativ es and Tradeoffs Make Decision Implement Decision Monitor Implementati on and Outcomes  Problem statement  Scope of the decision  Expected impact of the decision  Information required to fully characterize alternatives and tradeoffs: –Complete –Reliable  Clear description of number of options: –Rewards –Costs –Risks –Likelihood of realization  Final decision  Buy-in for the decision  Action upon the decision  Implementation progress  Decision quality: –Was the decision revisited? –Was the decision process respected –Was the outcome as expected  Obtain and track decision support materials from responsible team before approval decision is required  Schedule agenda item for key decision and ensure that decision makers receive decision support materials x days in advance  Takes minutes to capture the decisions made  Tracks any decisions pending  Records decision approval by authority  Inform responsible part of decision  Places monitoring progress as agenda item Secretariat Support Deliverables Decision Process Framework

UNFCCC - CDM Reform - Submission 4 May 2009.ppt Decision Style Design Framework Appropriate Collaboration Styles Finally, the decision making style for decision types was reviewed and agreed to enable further work on detailed design  Decision is taken with full agreement of all group members Description  Decision is taken by an individual with input from the rest of the parties  Stakeholders collaborate in providing the individual the authority to decide Consensus Majority Small Group Authoritative Style  Decision is taken with agreement of the majority of group members (typically >50%)  Decision is taken by a small group within the committee or forum Decision-Making Styles  Compliance Team Meeting  Resource allocation decision  Capability Investment Decision  Invoking statutory power Authoritative Consensus Consultative Majority Information Broad, fragmented and complex Localized, or easily acquired and communicated Partnership-like arrangements Clear authority and accountability assignments Authority Long lead-time situations Timing-critical situations Urgency Scope Enterprise Narrow, local Critical Low Risk Example

UNFCCC - CDM Reform - Submission 4 May 2009.ppt Introduction Regulatory Principles Regulatory Architecture Governance & Decision Rights Intelligence Frameworks Further Information & Discussions

UNFCCC - CDM Reform - Submission 4 May 2009.ppt24 June 2016 Booz & Company 18 Reducing uncertainty in complex regulatory situations requires the use of intelligence to support risk management FeedbackDirection Compliance Action Definition & Management Risk Assessment Collection Production & Distribution Analysis Booz & Company developed an integrated Intelligence and compliance cycle to help provide the Australian Department of Climate Change with an essential decision advantage with respect to the National Greenhouse and Energy Reporting System Based on industry best practice, this intelligence led model helps to reduce uncertainty in complex regulatory environments and maximise the effective use of scarce resources This model links the needs of decision makers with a sophisticated capability which can help detect and remedy contraventions and pre-empt emergent risks. This helps to ensure confidence in the system. Intelligence Support Cycle - repeats in clockwise direction

UNFCCC - CDM Reform - Submission 4 May 2009.ppt Intelligence led compliance allows Regulators to manage far more complex regulatory environments and to link the needs of decision makers to compliance outcomes 24 June 2016 Booz & Company 19 Supporting Compliance Operations Non-Regulatory Compliance Operations Regulatory Compliance Operations Strategic Planning & Administrative Workflow Strategic Partner Consumer Client Intelligence Support Intelligence Support Regulatory Challenges Regulator’s Intent

UNFCCC - CDM Reform - Submission 4 May 2009.ppt Capability Maps can be developed across all capabilities needed to support the regulatory system – including intelligence 24 June 2016 Booz & Company 20 Intelligence Capability Map for the NGERS Regulator

UNFCCC - CDM Reform - Submission 4 May 2009.ppt Introduction Regulatory Principles Regulatory Architecture Governance & Decision Rights Intelligence Frameworks Further Information & Discussions

UNFCCC - CDM Reform - Submission 4 May 2009.ppt24 June 2016 Booz & Company 22 What we have provided here is a small sample of the work we have been doing on best practice in GHG Regulation  We feel that the insights we have gained will be very useful for the CDM EB and the Secretariat –They can assist the EB to enhance the operational efficiency, transparency and consistency of the CDM’s governance structures and administrative processes  We would like to share further information, insights and material with the EB and the Secretariat –We are happy to do this on a pro bono basis –Our team will be in Europe in late May, at the same time as EB47 –Prior to that, we are happy to put together more specific material for you to review  A review of the CDM’s regulatory architecture, governance structures, decision rights and decision making processes in light of Regulatory best practice could be undertaken in a relatively short timeframe - a couple of months from start to finish  Improving and scaling up the CDM is critical for a successful transition to a broader and deeper carbon market, and critical to mobilizing the enormous flows of capital which we need to see  We would be very happy to assist the EB and Secretariat in the important work required to improve the operation of the CDM and to ensure that the CDM’s integrity and efficiency are maintained as it scales up over the coming years