Recent headlines about the voluntary carbon market paint a picture of a market in decline, with volumes and prices both falling significantly between 2012 and 2013. Closer analysis of the data, however, reveals a more nuanced and, some would say, positive picture.
We see a strong increase in activity on the final buyer side," says Christophe Grobbel, CFO of South Pole Carbon, once again a multiple award winner in this year's Environmental Finance survey of the voluntary market. The Zurich-based company was named Best Project Developer (overall) for the fourth time in succession, as well as Best Project Developer (Renewable Energy); Best Trading Company; and Best Wholesaler. It also took two runner-up slots (see full table of winners EF 30 June).
TIST – Best Offsetting Project
A clear message from this year's market survey is that there is growing demand for carbon offsets from projects that prevent deforestation.
It has long been recognised that forestry-related emissions represent around 17% of total greenhouse gas emissions – more than from the global transport sector. But concerns over moral hazard and uncertainty about the permanence of emission reductions from forestry projects have prevented them attracting much carbon finance until recently.
The winner of the Best Offsetting Project award in this year's market rankings, shows the potential of well-structured forestry projects and the important role carbon finance can play in funding them.
TIST – The International Small Group and Tree Planting initiative – is a well-established project that began in Tanzania in 1999 and has since been replicated in Kenya, Uganda and India. It now includes more than 11 million trees and involves more than 70,000 people, says Ben Henneke, president of Clean Air Action Corporation (CAAC), which helped create the initiative.
Its goal is to curb greenhouse gas emissions and alleviate poverty by giving subsistence farmers the opportunity to earn an income by planting and preserving trees, and selling the carbon credits awarded for these activities.
The project's origins lie in the work of US missionaries but much of its development has been steered by CAAC, a US not-for-profit. It is now a joint effort of CAAC and the Institute for Environmental Innovation. Along the way, it has also had assistance from the World Bank, the US Agency for International Development, and carbon finance companies Climate Change Capital and C-Quest Capital.
CAAC has sole responsibility for funding the carbon side of the business, Henneke notes, adding that "carbon income now covers all project costs". And, although the price of offset credits has fallen in recent years, he says "we have survived because of the high quality monitoring of our projects".
In May 2011, TIST became the first project to have its credits verified under both the Verified Carbon Standard and the Climate, Community and Biodiversity standard. It has since become a flagship project for several major corporate buyers of voluntary credits, says Zubair Zakir, at the CarbonNeutral Company. It was selected to represent Africa in the London Olympics in 2012 and has been adopted by leading corporates such as Microsoft and UK retailer Marks & Spencer, he says.
The volume of credits traded in the voluntary market – defined as the creation, trading and retirement of carbon offsets outside any mandatory emissions trading programme – slumped to around 76Mt of carbon dioxide (CO2) in 2013 from almost 103Mt in 2012, according to the State of the Voluntary Carbon Markets report.
This publication, produced by US non-profit Ecosystem Marketplace in late May, also showed the volume-weighted average price paid for these offsets fell to $4.9/t in 2013 from $5.9/t. The overall value of the market therefore slumped 28% to $379 million from $523 million in 2012, on these figures.
Exceptional factors
But, as the authors acknowledge, the decline was exaggerated by several one-off factors. Notable among them was the launch of the mandatory Californian carbon market in January 2013. This meant that many offset trades that would have been counted as voluntary transactions in 2012 became compliance trades last year. This depressed the 2013 voluntary market total by around 10Mt, Ecosystem Marketplace estimates.
Other exceptional factors included legacy trades on the now-closed Chicago Climate Exchange, which added more than 8Mt to the 2012 total but virtually nothing in 2013, and the "disintegration" of Australia's pre-compliance market as Tony Abbott's government prepared to repeal the country's Carbon Pricing Mechanism which allows for the use of offsets.
Without these one-off factors, the decline in volume from 2012 to 2013 would have been around 5%, rather than the headline figure of 26%, Ecosystem Marketplace said.
However, it could also be argued that an additional 8Mt should be included in the 2013 figures from a large forestry transaction between the German development bank KfW and the Brazilian state of Acre, says Grobbel of South Pole. If this had been included, the 2013 volume would have shown a slight increase on 2012.
And, he stresses, if the survey had counted the credits actually delivered during the year rather than just contracted, the picture would have been far more positive.
Short-term deals
In previous years, when it was more of a sellers' market, buyers frequently entered into 3-5 year contracts, Grobbel said. Last year, however, as falling prices created a buyers' market, most deals were short-term or even for spot delivery.
Of the 76 million Verified Emission Reductions (VERs) contracted in 2013, almost all were for delivery in 2013, he says, whereas, of the 65 million contracted in 2008, perhaps just 20 million were for delivery in that year.
And the outlook for this year is even better, he says. South Pole has had a much better first quarter this year than last year, is hiring more staff and "We're seeing increasingly big deals", he says.
"We're making a healthy profit," he adds, while conceding that some of his rivals could be having a harder time. One reason for the company's success, he believes, is its global reach which has been extended by acquisitions and joint ventures in recent years. The company now operates in 25 countries.
More credits being retired
Another positive feature of the market in 2013, according to Grobbel, is that more offsets are being retired, so "final buyer action is increasing". Once credits have been retired, they cannot be re-sold into the market.
David Antonioli, CEO of the Verified Carbon Standard, once again voted Best Voluntary Standard, agrees that this is a positive sign for the market, as it shows the offsets are being used, not just being bought for pre-compliance by companies that expect to be subject to a mandatory emissions cap in coming years.
He, too, is more optimistic about the market than the headline figures from Ecosystem Marketplace suggest. More Verified Carbon Units (VCUs) – carbon offsets that meet the quality criteria of the VCS – were issued in 2013 (28.7 million) than in all previous years except 2012 (36.2 million), he notes.
"2012 was an outlier" for reasons that are not entirely clear, he says. "Perhaps some people felt the bottom was falling out of the Clean Development Mechanism (CDM) market and therefore moved some projects to the voluntary market," he suggests. CDM credits can be used by European emitters to meet their targets set by the EU Emissions Trading System (ETS), but they have plunged in price since the economic crisis of 2008 slashed energy consumption and emissions across the continent.
In the first few months of this year, more VCS projects were registered than in the same period last year, but the number of VCUs issued fell. "It's a very mixed bag," he concludes.
Several winners in this year's poll believe the American market is a source of optimism for the next few years.
Zubair Zakir, director of carbon sourcing at the CarbonNeutral Company, which held on to the title of Best Offset Retailer for the fourth straight year, says there is a growing perception in the US that climate regulations are not going away. The success of the Californian carbon market and recently announced national proposals for tighter curbs on power plant emissions are contributory factors, he adds.
Microsoft – Best Corporate Offsetting
ProgrammeMicrosoft was a convincing winner of the Best Corporate Offsetting Programme award in Environmental Finance's latest survey of the voluntary carbon market.
"Fantastic", "innovative", "one of the most impactful programmes" were among the accolades it received from voters.
But the company's offsetting efforts are just a part of its overall goal of making its operations 'carbon neutral'. The cornerstone of its emission reduction efforts is an internal carbon fee that it introduced in 2012. This puts a price on all greenhouse gas emissions resulting from the company's operations worldwide.
The fee – the precise level of which has not been disclosed – is intended to drive a cultural change throughout the organisation and make each business unit responsible for its own emissions.
A major focus of the initiative is on improving the energy efficiency of the company's offices and, particularly, its energy hungry data centres. Substantial progress has been made, with some of the firm's data centres now using just half the energy and between 1% and 3% of the water required to cool traditional data centres.
To compensate for the remaining emissions, which it would be too expensive to eliminate completely, the company purchases renewable energy. In its 2013 financial year, Microsoft bought 2.3 billion kWh of green power – 70% more than in the previous year – making it the second largest buyer of renewable energy in the US.
Carbon credits are currently used only to offset the emissions associated with the company's air travel, explains Rob Bernard, chief environmental strategist. A campaign to boost the use of teleconferencing has seen annual emissions from air travel decline by around 20,000 tonnes of carbon dioxide (CO2) since 2007. But this still left 300,000 tonnes to be offset in 2013, he says. And the $7.5 billion purchase of Nokia's mobile phone business in April is likely to see this rise further in 2014, he notes. Finance for these credits comes from an internal investment fund built up from the carbon fee payments.
Credits were bought from more than 20 projects in 2013, spread across 16 different countries, with wind energy, methane capture and foresty projects accounting for two-thirds of them. Standards bodies that assess the quality of offset projects, and environmental NGOs, were consulted before investments were made.
Microsoft insists that each project selected must deliver multiple social or community benefits, such as health improvements, poverty alleviation, biodiversity preservation or clean water, in addition to the emission reductions. Some 3 million people have already felt the benefit from these projects, the company claims.
A key decision now, says Bernard, is whether to expand the existing projects or to add new projects to the portfolio. "We're looking at the pros and cons," he says. The cost of the credits, which ranges between $4 -$5/tonne to more than $10/tonne, is not the main consideration, he stresses."
Optimism for US demand
Microsoft's well-publicised aim of making its business 'carbon-neutral' is another driver encouraging more US companies to offset their emissions, he says. (see Box, left).
Craig Ebert, senior vice president at consultancy ICF International, agrees that the California market is having an influence far beyond the state borders. "It's another harbinger of things to come, as other states and countries figure out their strategies" he says. ICF held onto its title of Best Advisory Service, for the fourth consecutive year.
Ebert detects "a growing sense of urgency among clients that they need to figure out their strategy". And this is true in other countries, amid mounting pressure for a new international agreement on climate change at UN talks in Paris in 2015, he says.
Companies are not necessarily expecting a comprehensive deal in Paris but are keenly aware that more governments are pushing the issue. And, as business federations are providing input to the debate, so corporate interest is increasing.
Mike Korchinsky, CEO of Wildlife Works, which was again voted Best Developer of forestry projects, agrees about growing interest from US clients.
Forestry credits more popular
European companies still dominate but demand from the US is growing faster, thanks to rising public awareness of climate change, he says. Recent public commitments by the US government to projects aimed at combatting deforestation, have been helpful, he believes. Credits from forestry and other land-use projects are becoming increasingly popular. They accounted for more than 35% of all VCS credits issued in 2013, up from just 9% in 2012.
Like South Pole, California-based Wildlife Works is growing by acquisition, having bought out its joint venture partner – Offsetters Climate Solutions of Canada – from the Mai Ndombe forestry project in the Congo Basin in October. This project is expected to prevent more than 175Mt of CO2 emissions over 30 years.
The company remains bullish on the market outlook, having already sold more credits in the first half of this year than in all of 2013, Korchinsky says.
It received a major boost in February, when the Althelia Climate Fund announced a $10 million investment which will help it protect some 200,000 hectares of natural forest in Kenya adjacent to its renowned Kasigau Corridor project, which is expected to save 1Mt of CO2 emissions each year for 30 years.
Renewables credits still dominate
Although forestry credits are increasingly popular, many companies prefer to offset their emissions using credits from clean energy or energy efficiency projects.
"Renewables are the most popular projects, as there is a broad spectrum of issued credits across a range [of countries] and it is relatively easy to communicate the benefits of such projects", says Gareth Turner, co-founder and director of Numerco, which took the title of Best Broker in this year's poll.
But "charismatic methodologies from under-represented regions are increasing and command higher pricing due to their complexity, lower issued volumes and wider social advantages", he says. Examples include clean cookstoves, low-energy lighting and water purification projects.
There is "far more to voluntary carbon transactions than price and volume", he notes. "It's an extremely specialised, niche market with many variables, and very different from the normal business of most brokers and trading houses," he says.
London-based Numerco is a first time winner, although it was created last year by the team that were runners-up in 2012 when they were with Armajaro.
Charismatic carbon
These so-called 'charismatic' carbon projects generate health, economic or other social benefits to the local community in addition to reductions in greenhouse gas emissions. Such co-benefits are increasingly in demand by corporate sustainability officers when they buy carbon offsets, says Kathy Benini, global head of environmental products at Markit, which took the title of Best Registry Provider for the fifth year in a row.
Credits from projects offering co-benefits can often command higher prices than those from projects that are marketed solely on their emission reduction benefits, notes Lars Kvale, head of environmental markets at APX, the runner-up among registries.
Benini says she now perceives a growing desire to look beyond qualitative assessments of these co-benefits to verify and measure them. The eventual aim is to quantify the non-carbon benefits – in terms of biodiversity, water quality etc – and trade credits based upon these benefits separately.
Markit expanded its range of carbon contracts significantly last year. It started hosting the registry of Gold Standard – the runner-up in the voluntary standards category – in March and four months later it began providing registry services for the UK's new Woodland Carbon Code.
Both these organisations are taking steps to facilitate early finance of forestry projects, she notes, which should give a further boost to this growing section of the market.
"Our volumes were up pretty dramatically in 2013," Benini says, both in terms of issued and retired credits.
Like Grobbel and Zakir, she says the increase in the number of credits being retired is "positive news" as it shows the market is maturing. More companies understand the robustness of the standards and registry systems and, as the economy improves, more companies are responding by buying credits for retirement, she notes.
More offsetters wanted
But there are still not as many corporate offsetters as many would like to see. Edward Hanrahan, CEO of ClimateCare, which retained the title of Best Developer of health projects, in this year's poll, is vocal in his concerns.
Why offset?
Since the launch of the EU Emissions Trading System in 2005, several other regional or national programmes have been introduced which impose an absolute emissions cap on selected industries. Electricity generators are normally first in the firing line, followed by energy intensive sectors such as cement, iron and steel, pulp and paper, and bulk chemicals.
The cap imposed on these emitters reduces over time and, in most cases, companies that cannot keep their emissions within the cap have two options to achieve compliance. They can buy emission allowances from other companies in the same trading programme and/or purchase offset credits from projects elsewhere that reduce or prevent greenhouse gas emissions.
Until the economic crisis of 2008 that left most emitters comfortably within their emissions cap, most of these compliance offsets came from projects in developing countries that had been approved under the UN's Clean Development Mechanism (CDM). The offset credits issued to such projects are known as Certified Emission Reductions (CERs) and their price has plummeted to below €0.2 ($0.3) from above €23 in 2008 as demand has dried up.
However, it is not only companies facing mandatory limits on their emissions that use offset credits. Many other companies see benefits in reducing their net emissions, or even striving to make their operations 'carbon-neutral', as part of their Corporate Social Responsibility (CSR) initiatives.
Such efforts can enhance a company's reputation and help it attract and retain high quality staff, advocates say. Offering 'carbon friendly' or 'carbon neutral' products and services can also boost sales and differentiate a company from its competitors, they add.
Furthermore, the experience gained in sourcing offsets can give a company a valuable advantage if it subsequently falls within the scope of a mandatory cap-and-trade programme. Preparing for offsetting also forces a company to examine its emissions closely and is likely to lead to efficiencies, in terms of energy consumption.
Offset credits bought from projects that are not certified under the CDM are generally known as Verified Emission Reductions (VERs). Assurances that they relate to genuine, permanent, emission reductions are provided by companies such as DNV GL – which retained the title of Best Verification Company in this year's poll. The company remains active in the voluntary market and the Californian market, despite announcing in February that it is withdrawing from the CDM market.
The major theme is there is a lack of demand," he told delegates at the Carbon Expo conference in Cologne in late May.
"We do not have enough large corporate buyers" because governments have not put in place adequate incentives and project developers and offset retailers have not done enough to explain the benefits of including offsets in corporate social responsibility (CSR) strategies.
"We have failed to excite the imagination of the wider world," he said. "This year, we need to see the rubber hit the road, or the voluntary market could go the way of the compliance market." (see Box, right).
The potential is enormous, he says, noting that efficient cookstoves – an increasingly popular type of project – have only reached around 2% of their possible market.
Climate Care's focus, since its creation in 1997, is on the use of carbon finance to deliver sustainable development projects, primarily in sub-Saharan Africa and least developed countries. It sells carbon credits to blue-chip companies, sovereigns, development institutions, SMEs and individuals.
Call for coordinated action
A good way to stimulate more demand, Hanrahan suggests, would be much more coordination between various industry voices – such as the International Carbon Reduction and Offset Alliance (ICROA), the Global Alliance for Clean Cookstoves and standards bodies such as VCS and the Gold Standard.
Such efforts have already begun, says Gerald Maradan, CEO of French company EcoAct which took the title of Best Developer of energy efficiency projects for the first time in this year's poll.
ICROA, which Maradan chairs, aims to promote best practice in carbon management and offsetting and is working to demonstrate that there is a return on investment from offsetting, he said at Carbon Expo.
Last year was an "incredibly difficult market for offset retailers", he said. Many companies had insufficient budgets to proceed with their carbon neutrality goals and some even stopped offsetting altogether.
However, he is optimistic "that we will see growing demand from California" and other countries where emissions trading programmes are being developed.
Offsetting really took off in Europe when the EU ETS started, and "the same is likely to happen in the US," agrees Zakir.
But the influence of the compliance markets on the voluntary markets is two-sided, says Martijn Wilder, head of the global environmental markets practice at Baker & McKenzie, which has held the title of Best Law Firm each year since Environmental Finance launched its survey of the voluntary carbon market in 2009.
Some say more compliance schemes will remove demand from the voluntary market, while others say they will stimulate more demand from companies not subject to mandatory targets, by raising awareness of climate change issues, he notes.
There is "still a very strong core voluntary market – but much uncertainty," he concludes.
