Optimism trumps uncertainty

Channels: Carbon, Investors, Policy

Companies: Ecosystem Marketplace, Verra, IHS Markit, Carbon Trust, Baker and McKenzie, Numerco, First Climate, ClimateCare, South Pole, Natural Capital Partners, Ecoact, SCS Global Services, Biofilica

People: Kathy Benini, Martijn Wilder, Gareth Turner, Jochen Gassner, Edward Hanrahan, Marco Magini, Mark LaCroix, Gerald Maradan, David Antonioli, Christie Pollet-Young, Plinio Ribeiro

The market for carbon offsets remains buoyant, despite regulatory uncertainty. Elena K. Johansson talks to winners of our annual Voluntary Carbon Markets Rankings to find out why.

The voluntary carbon market saw an all-time peak of offset issuances and retirements in 2017, despite continuing uncertainty about its future.

There is a possibility that international negotiators may decide, at the UN's annual climate change meeting in December (COP24), on rules that could exclude the voluntary carbon market from planned compliance schemes. Yet the market in voluntary offset credits reached historically high volumes last year.

The market soared to 62.7 million tonnes of carbon dioxide equivalent (MtCO2e) in issued credits in 2017, compared to 36.7 MtCO2e in 2016, while retired credits rose to 42.8 MtCO2e in 2017 from 32.7 MtCO2e in 2016, said US non-profit Ecosystem Marketplace in its 2018 report.

Regions seeing the highest volume of new issuances of Verified Carbon Units (VCUs), a type of offset credit approved by the Verified Carbon Standard (VCS) last year were Africa with 18.2 million (up from 1.1 million in 2016), followed by Latin America with 8.3 million (up from 5.0 million), according to Verra, which administers the standard. VCS was voted Best Voluntary Standard in Environmental Finance's 2018 Voluntary Carbon Markets Rankings, reclaiming the title from its rival the Gold Standard.

Voluntary Carbon Markets Rankings 2018  
CategoryWinnerRunner-up
Best Trading Company South Pole  CBL Markets
Best Advisory Service/Consultancy Natural Capital Partners EcoAct
Best Law Firm Baker McKenzie Norton Rose Fulbright
Best Verification Company SCS DNV = / EPIC Sustainability =
Best Wholesaler First Climate Numerco
Best Broker Numerco South Pole 
Best Project Developer - renewable energy South Pole  Enking International
Best Project Developer - energy efficiency EcoAct South Pole 
Best Project Developer - forestry and land-use South Pole  = / Biofilica = Wildlife Works
Best Project Developer - public health Climate Care C-Quest Capital
Best Project Developer - overall South Pole  EcoAct = / Wildlife Works =
Best Offset Retailer Natural Capital Partners South Pole 
Best Registry Provider IHS Markit APX
Best Voluntary Standard VCS (Verra) Gold Standard
Best Individual Offsetting Project Vita Green Impact Fund  
Best Corporate Offsetting Programme La Poste  

How the poll was conducted: Companies were emailed and asked to nominate the leading service providers active in the voluntary carbon makets, via an online survey. Voters were asked to make their judgements on the basis of: efficiency and speed of transaction; reliability; innovation; quality of service provided and influence on the market, not just the volume of transactions handled. More than 1000 completed responses were received. 

Kathy Benini, managing director and head of the environmental business at IHS Markit, which was once again voted Best Registry Provider, said many factors drove the strong growth in 2017, including Colombia's carbon tax, the inclusion of the REDD+ methodology (reducing emissions from deforestation and forest degradation) in Article 5 of the Paris Agreement, and companies looking to acquire credits in advance of the pilot phase of the Carbon Offsetting and Reduction Scheme for International Aviation (Corsia), which starts in 2021.

In 2017, Colombia introduced a carbon tax and allowed certain companies to offset up to 100% of their tax obligation with voluntary carbon credits if they have been verified against a suitable standard.

In the first six months of 2017, 2 million tonnes of carbon dioxide were compensated via offsets, representing 5% of the expected tax collection, according to a 2018 study by the Carbon Trust, the Environmental Defense Fund, and the International Emissions Trading Association.

Companies eye pre-compliance

The future of the voluntary carbon market – and how it may converge with the compliance market – could be decided in UN negotiations this month in Bangkok ahead of COP24, Ecosystem Marketplace believes. It sees various possible paths the voluntary market could take:

  • allow voluntary offsets to transition into domestic compliance markets;
  • allow voluntary offsets to transition into an international compliance market; or
  • allow voluntary offsets to transition into the aviation sector's Corsia market.

At present, it remains unclear how governments will deal with voluntary offsets under the Paris Agreement, and Martijn Wilder, partner at Baker McKenzie, which retained the title of Best Law Firm, says this is currently "the greatest point of uncertainty" in the market.

"A lot depends on what is covered in a country's NDC (Nationally Determined Contribution to the Paris Agreement), and whether or not a country will allow these credits to be traded", he says.

Respondents to a survey by Ecosystem Marketplace said there was particular uncertainty about "Article 6.2 decisions around allowing voluntary offsets to transition into an international, decentralised compliance market".

In this section of the Paris Agreement, countries agreed to establish a unit of emission reductions (called Internationally Transferable Mitigation Outcomes, ITMOs) that could be traded between nations. Criteria for ITMOs are still under discussion, and could include emission allowances, offsets and/or a new unit of measurement.

Jochen Gassner, CEO, First ClimateHowever, uncertainty about how the market will be regulated does not seem to have hindered its growth last year.

This may be due to more companies taking a 'pre-compliance' view of the voluntary carbon market, suggests Gareth Turner, co-founder and director at Numerco, which retained the title of Best Broker.

Jochen Gassner, CEO at First Climate, which was voted Best Wholesaler, agrees: "The underlying assumption [of companies] is that supply of the voluntary carbon market will merge into ... or will be eligible for the compliance market. That is why corporates are taking pre-compliance positions in voluntary carbon market assets."

Numerco saw especially strong demand for higher quality credits and those generated in the last three years.

"Customers are looking at possible compliance or pre-compliance for credits in other schemes. While the rules for market-based mechanisms haven't been released, many are thinking that newer credits are more likely to be included in any market-based scheme [post-2020] than older credits," Turner says.

Baker McKenzie's Wilder agrees that some are preparing for possible future regulation: "We are seeing an increasing number of companies being aware that emissions trading is coming in certain jurisdictions and buying offsets to meet that liability."

But almost all the winners of this year's Rankings agreed that the voluntary carbon market will continue to exist.

Turner at Numerco gives as a reason the 'tangibility' voluntary market projects have. Rather than simply buying an allowance for compliance trading, the voluntary market would offer companies concrete financing opportunities, which allow them to understand how their investments achieve impact, and connect to sustainability stories.

"A lot depends on what is covered in a country's NDC and whether or not a country will allow these credits to be traded" – Martijn Wilder, Baker McKenzie

"That marketing side—that tangible side of those projects—is the key to the success of the voluntary space. And this is why there may be changes to the way they [credits] are transferred, but I see the voluntary market as a mainstay in carbon. I don't see it going anywhere," he says.

Gassner from First Climate notes that the price of credits in the voluntary carbon market in 2017 was "relatively stable compared to previous years". Prices vary widely, depending on the project type and location, but most corporate purchases are in the range $1/tCO2e - $5/tCO2e.

At the same time, Gassner says oversupply in the market declined in the last couple of years, partly as a result of the Colombian carbon tax leading to the cancellation of several million voluntary offset credits.

While the investments in offsets were large by the historical standards of the voluntary market, he cautions that they should be viewed against the large size of the companies involved and of the compliance markets.

He says: "This is playing around with some money and investing it in assets that have an opportunity going forward," pointing to potential future profits for buyers resulting from offset prices that he predicts could reach €10-15/tCO2e ($12-$17) or more in future.

Sustainability strategies mature

Edward Hanrahan, CEO of ClimateCare, voted Best Project Developer in public health, says that more large corporates entered the market from the financial and energy sectors, along with a number of airlines.

More companies are integrating sustainability into their business strategies, some winners believe. They say offsetting is increasingly included in companies' overall sustainability programmes, although opinions are divided about how seriously this is being done.

Marco Magini, Director of projects and portfolio management, South PoleWhen it comes to the UN's Sustainable Development Goals (SDGs), Hanrahan said that most companies are embracing them, but are still working out how to implement them and "what level of contribution to achieve the SDGs they need to make".

"It's an evolving strategy for most corporates," he explains. While many companies talk about working on SDGs, he says that it is a "much smaller number who are actually delivering anything at any real scale".

South Pole, which topped the poll in four categories – Best Trading Company, Best Project Developer in renewable energy, Best Project Developer in forestry and land-use, and Best Overall Project Developer – said many of their clients are implementing the SDGs.

Marco Magini, director of projects and portfolio management at the Zurich-based company, says clients are seeking projects with strong 'co-benefits' for host communities, such as cookstoves, household biogas projects and land-use-related projects.

These companies wanted to compensate for their unavoidable emissions while also achieving impact on the SDGs, he says.

"For example, if a fashion brand buys a project, they won't just buy one tonne of CO2 to make sure that they did their homework and they tick some boxes – they want to have a project that inspires women. They see them as their stakeholders, and want to make sure that women in the countries where this project takes place have an opportunity for empowerment," he says.

"That marketing side—the tangible side of those projects—is the key to the success of the voluntary space," – Gareth Turner, Numerco.

In the view of Mark LaCroix, executive vice president, Americas, of Natural Capital Partners, some companies integrate carbon offsetting into their strategies to improve operating results. His firm retained its title of Best Advisory Service/Consultancy, which it first won in 2016, and was also voted Best Offset Retailer.

He says that an increasing number of companies have begun to understand the costs of carbon emissions, and that the topic has moved sustainability into the core operations of the business: "Building carbon reduction and offset-inclusive strategies into the overall business strategy is really helping companies to be more successful in a pure business sense."

Many companies are searching for 'carbon neutral' products to differentiate themselves from competitors. They measure the lifecycle impact of a product and use offsets to reduce that to net zero to enable them to label the product carbon neutral, he says.

Magini has seen a similar development. "Carbon neutrality itself is a brand that is becoming more and more mainstream in the wider public," he says.

He notes that companies in very different sectors are using the brand: consumer goods companies for a range of products, energy companies for carbon neutral gas or heating, IT companies for carbon neutral hosting, and travel companies for carbon neutral holidays.

Strong demand for REDD+

Kathy Benini, Managing director and head of the environmental business, IHS MarkitLast year saw a sharp increase in carbon offsets generated by agriculture, forestry and other land-use projects. Verra registered 28.8 million of VCUs for such projects in 2017, a four-fold increase from 7.0 million in 2016.

Magini at South Pole agrees that REDD+ and reforestation projects saw "significant growth" in 2017, especially those verified against the CCB (Climate, Community & Biodiversity) standard and with social and/or environmental co-benefits. CCB-labelled VCUs made up 21.7 million out of the total 28.8 million in 2017.

The inclusion of REDD+ in the Paris Agreement was a major factor behind the increase, says Benini at IHS Markit.

Gerald Maradan, CEO and co-founder of EcoAct, voted Best Project Developer (energy efficiency), explains that companies are increasingly looking at their Scope 3 emissions – all the indirect emissions that occur in their value chains.

The growth of agriculture and REDD+ projects, he assumes, was due to many companies – typically from the food, cosmetics, and textile sectors – wanting to reduce carbon emissions from their agriculture and land-use reliant supply chains.

He says: "There is a global trend of companies who are willing to act on their value chains [through offsetting]."

Another factor which is said to have driven the growth of REDD+ projects was the planned Corsia initiative.

Several winners, including Maradan, Benini and Gassner, agreed that airlines were acquiring REDD+ credits because they assume that these will be eligible under Corsia.

First Climate's Gassner, however, calls it "a play with risks and opportunities". The International Civil Aviation Organisation (ICAO) may not decide about Corsia's market structure and eligibility standards until after the pilot phase starts in 2021, according to Ecosystem Marketplace.

The company's analysts also cited President Trump's decision to withdraw the US from the Paris Agreement as a likely reason for an uptick of US demand in 2017. This led to more businesses and individuals taking action on climate change, they said.

Winners in the voluntary carbon market poll agreed that US demand had been invigorated by the lack of government leadership, as this had created more awareness about climate change.

"Carbon neutrality itself is a brand that is becoming more and more mainstream," – Marco Magini, South Pole Group

Magini at South Pole explains: "A lot of [US] companies feel the responsibility to take over the job that was left undone by the government, and are now putting in place serious climate change policies. It's due to pressure from NGOs and from stakeholders, which a lot of the time include customers."

On a company's pathway to become carbon neutral, carbon offsetting has assumed a buffer-like role against stakeholder pressure.

Wilder at Baker McKenzie explains: "What you can say is that by purchasing reductions and by responsibly managing your emissions, you have a greater social license to operate and you are less likely to be a target of shareholder action."

Institutional investors are increasing pressure on companies to become more sustainable and transparency about carbon emissions is growing thanks to initiatives such as the Taskforce on Climate-related Financial Disclosures (TCFD).

David Antonioli, CEO of Verra, adds: "The minute you [companies] are disclosing that you are not doing anything, there is pressure to do something to show ... that you are taking positive action on climate change."

Interplay of compliance and voluntary markets

Gareth Turner, Co-founder and director, NumercoColombia's integration of voluntary offset credits into a compliance scheme could work as a poster child for other markets going forward, some believe.

Christie Pollet-Young, director of the greenhouse gas verification programme at SCS Global Services, a first-time winner as Best Verification Company, says that the compliance and voluntary markets used to be viewed separately, but Colombia is a showcase for how they can complement each other.

She believes that "this proof of concept is likely to lead other regions or jurisdictions to develop and expand the compliance market [with voluntary credits]".

Turner at Numerco points to nations like South Korea where a similar penalty system that fines companies already exists. Other countries, such as Chile, Mexico, and Peru, are understood to be looking at replicating the system.

Plinio Ribeiro, co-founder and CEO at Biofílica, voted Best Project Developer in forestry and land-use, also sees further market growth, but envisions a market split between big companies and medium-size/smaller companies. He believes many large companies are too passive and will have to be forced to reduce their emissions by regulators:

"They [large companies] will be [in] the regulatory markets and that will open room for medium and smaller companies which will not be regulated under international agreements. And the only option they will have is voluntary activities. I think we'll see a large increase in the overall market, opening room for both voluntary and regulatory purchases of [carbon offsets]."

Best Individual Offsetting Project – Vita Green Impact Fund

This year's winner of the Best Individual Offsetting Project award – the Vita Green Impact Fund – has big ambitions.

From a €2 million ($2.3 million) 'proof of concept' phase in 2016, the Dublin-based initiative is this year scaling up to €20 million and aims to surpass €50 million in the next three or four years, says Vita CEO John Weakliam.

Its aim is to use blended finance to develop 'community impact' projects in Africa that prevent or save emissions of greenhouse gases and to sell the resulting carbon credits in the voluntary market. It uses the Gold Standard accreditation system to ensure it receives premium prices for its credits.

The pilot scheme used a mix of loans and grants and targets a 2% annual return on investment.

It is currently focussing on small-scale projects in Eritrea and Ethiopia, which are grouped into 'programmes of activity' and provide fuel-efficient cook stoves, clean drinking water, tree planting and solar lighting.

The planned €20 million fund is expected to comprise 75% equity and 25% grants and will allow Vita to expand into five countries and generate up to four million tonnes of annual emission savings.

To date, the fund claims to have given more than 200,000 people access to clean water and more than 25,000 are benefitting from improved cook stoves. Some 300,000 carbon credits are being generated annually and Dutch lighting company Phillips recently agreed to buy 30,000 credits each year for the next seven years, at €3 each.

The Vita fund sells its carbon credits via CO2Balance, which has provided offset credits to several blue-chip companies including Aviva, BBC, Sky and Toshiba, and also works with other intermediaries such as Natural Capital Partners, EcoAct and First Climate.

Best Corporate Offsetting Programme – La Poste

This year's Best Corporate Offsetting Programme, run by the French postal service La Poste, claims to have made almost 9% of all purchases in the voluntary carbon market in 2017.

Several voters hailed it as "the most ambitious carbon neutral programme in Europe" and others praised the company for making all its deliveries carbon neutral at no extra cost to customers.

La Poste ramped up its climate change policy significantly last year when it decided to set its objectives in line with the goals of the Paris Agreement.

It has committed to adopt 'science-based targets' that align with the goal of restricting global warming to less than 2oC above historical levels. This involves ambitious efforts to reduce the group's direct emissions – mostly from its buildings and transport – in addition to its sizeable offset purchasing programme.

In 2017, the group bought offsets equivalent to 1.46Mt of carbon dioxide, all of which qualify for one of the most demanding standards – the Gold Standard, the Verified Carbon Standard or the UN's Joint Implementation mechanism.

It buys its offsets through two channels – a partnership with French project developer EcoAct and contributions to the Livelihoods investment fund. One voter praised its "amazing portfolio of 10 projects with a large range of technologies and co-benefits".

Its projects include water filters, forestry projects, renewable energy, cookstoves, and energy efficiency and are spread across Asia, Latin America, Europe and Africa, says EcoAct, which has worked with La Poste since 2010.