On March 15th, we hosted a fireside chat discussing the current state of the carbon market, its price volatility and scarcity in supply and how long-term offtake agreements can help market participants navigate this dynamic environment.
The event was hosted in conversation with leaders across the carbon industry. The Abatable Co-Founders Maria Eugenia Filmanovic and Valerio Magliulo were joined by Elizabeth Aldrich, Vice President of Business Development at Bluesource, Casey Leist, Senior Director, Carbon Finance at CarbonCure, and Lisa DeMarco, Senior Partner and CEO of Resilient LLP.
The last 6 months have been incredibly eventful for the voluntary carbon markets. We’ve seen a boom in the market, predominantly driven by expectations that carbon offsetting demand from corporate buyers is set to increase substantially. We’ve seen a massive surge in net zero commitments across industries and various initiatives to establish frameworks and guidelines have accelerated dramatically. Experts are estimating that demand will far outstrip supply over the next couple of years as companies begin executing on their net zero commitments. Prices for carbon offsets reached new heights off the back of COP26 in November, but also dropped significantly as a result of the current energy crisis and war in Ukraine.
Watch the full recording of the event
Key takeaways for carbon offtake agreements
- The increased market volatility and reduced supply, especially of high quality carbon credits, means that corporate buyers of carbon credits will need to become more sophisticated in their carbon procurement efforts if they want to meet their net zero commitments. Some of that increased complexity will mean that they will have to engage developers a bit earlier in the carbon project development curve and consider the use of forward purchase agreements.
- We don’t have a purely voluntary market any more. With the introduction of Article 6 of the Paris Agreement the host government of a country where a project is based have greater power to essentially nationalise or expropriate the carbon credits.
- Corporate buyers need to be mindful of the two main types of agreements - primary and secondary. With the primary market agreements the companies buy directly from the project developer. It can take the form of a long forward offtake agreement or a spot agreement. The secondary agreements are the subsequent sales of either the units themselves or some derivative or interest in the units. Both have benefits and differences based on the risk allocation. Much of the primary market has been gradually moving to a steady stream of forward type contracts. Project developers have become less likely to work on a spot basis.
- Price volatility hasn’t been distributed evenly and in some markets certain types of credits have kept their value. Project developers remain bullish about the future prices of carbon offsets and are looking to hedge some of the regulatory and natural risks by engaging in long term contracts on unit contingent basis, with priority on volume guarantees given to the first priority buyer, and second order priority given to buyers coming next, except not giving any guarantee on volumes able to deliver until the verified units are issued and the overall volume is assessed. At the same time, the buyer is not on the hook to pay for anything in advance for something that hasn’t been delivered. In addition the project developer wouldn’t lock in the price of a forward contract, but instead use a price escalator to hedge against the expected future increase of the market price of the offset. Options to secure guaranteed volumes are more expensive from a pricing standpoint.
- Analogies were drawn on how the carbon markets may see the developments of corporate syndicates which come together to develop supply of carbon projects from which they can be offtakers over the longer-term. This allows corporates to access supply at scale and with greater additionality claims. The same trend was observed in the development of the Renewable Energy Certificates (RECs) or renewable energy power purchase agreements (PPA) market too.
- Rising prices are in general welcomed by the market as they stimulate more project development which means more mitigation and more action to stabilise the climate. In the case of carbon credits tied to the development of carbon removal technologies, pricing is instead expected to decrease over time as the carbon removal technology company achieves greater economies of scale and R&D improvements, reducing development costs which are passed on to the carbon credit buyers. Technology companies which have a slightly longer term track record, can better predict development cost reductions, as in the case of CarbonCure Technologies.
Carbon Offtake Agreements Q&A
Despite our best efforts we didn’t manage to answer all the questions from the carbon offftake agreements webinar Q&A session, however we followed up with our panellists and they were gracious enough to sent us the responses via email. You can read them below:
- Who gets to sell the carbon credit, CarbonCure or the concrete company?
- Casey Leist: CarbonCure and its concrete producer partners share proceeds from carbon credit sales, which incentivizes adoption of our technologies by producers. For CarbonCure, these proceeds catalyse the advanced development of our newer technologies and global deployment of our proven tech. This helps create a circular economy that maximises our impact in decarbonizing our built environment.
- Now that GS, VCS have stopped accepting projects from middle-income developing countries, how do you think it's going to affect the prices for carbon credits and I-RECs?
- Elizabeth Aldrich: Verra only restricted certain project types, mostly related to energy. If you want the full list of what's excluded from non-LDC countries, see the VCS Standard document here: https://verra.org/wp-content/uploads/2022/02/VCS-Standard_v4.2.pdf (pages 2-3). This exclusion of projects was primarily due to the fact that renewable energy and energy efficiency has fallen in cost and in some cases is no longer financially additional. Because financial additionality is not required for I-REC eligibility, these projects that previously received offset credit may look to generate I-RECs. I can’t speak to how this will affect prices as I have not done an analysis to see how many projects this includes.
- How many years forward are corporates buying credits forward from NBS projects?
- Elizabeth Aldrich: We are aware of 10-year deals, and many customers are hoping to do much longer terms.
- Have you considered hemp for carbon credits?
- Elizabeth Aldrich: We have looked at a hemp project from a biomass to energy perspective. The project involved maximising the use of plant mass to avoid biomass combustion and/or landfilling. This project did not lead to the creation of an offset protocol for this activity. As offset prices increase, creative opportunities like this one in hemp will likely become more financially viable.
- Is there a way to assess the risk of government policy change on this as mentioned by Lisa?
- Lisa DeMarco: There are a number of groups and businesses, like Eurasia Group, that assist companies in assessing political risk on specific issues and there are also local government relations firms that may be of assistance.
- Under article 6, are all projects being developed under a jurisdiction now automatically have to receive authorization? If no authorization is given does that mean project developers can only sell these credits domestically?
- Lisa DeMarco: In order to avoid “stroke of the pen” risk, you may want assurance of the status of the credits and whether they are “authorised for use” by the host country (towards an NDC or for “Other international mitigation purposes”), prohibited for use internationally (such as certain credits in domestic trading systems) or exempt from authorization.
- Do you think the indexes available are sufficiently disaggregated for the development of forward contracts on specific types of offsets?
- Maria Eugenia Filmanovic: Our view is that the indexes available do not recognize diversity in the project types and related pricing considerations, particularly around development costs per project type, for it to be effective in pricing future contracts. Future developments may see the emergence of more appropriate, project-type indexes.
- Is anyone incorporating blockchain to quantify carbon credits?
- Maria Eugenia Filmanovic: There are few players who are looking at blockchain and Web3 applications in the carbon offsetting space. None of the organisations participating on the panel have been actively looking at blockchain in detail.
- What is standing between us and a robust, liquid market where corporates can trade their equity stakes?
- Maria Eugenia Filmanovic: Assuming “equity stakes” here relates to “equity stakes” in carbon projects, a broader comment is that liquidity in the carbon market is improving as more supply is brought on exchange platforms and intermediaries play a greater role in this market.
- As a developer, what is the cost range of designing a carbon offset. Is it possible to provide an indication per carbon credit for a forest based project. Or is it a black box as Elizabeth alluded to?
- Maria Eugenia Filmanovic: Abatable has collected data on development costs across some nature-based projects. Development costs depend in that case on a few factors: 1) land arrangement and prices (ownership of land vs land concession), 2) ongoing operations and labour costs, as well as the 3) volume / scale of the project. For large scale REDD+ projects developed on concession land, development costs can be less than $2-3/tCO2e over the project lifetime; for commercial forest projects, development costs can be $15-50+/tCO2e depending on land prices.
Abatable is a carbon procurement and market intelligence platform that supports carbon underwriting and procurement for corporates and investors.
If you want to stay up-to-date on developments in the carbon market and the changing nature of the carbon developer ecosystem, sign up to receive carbon market insights updates from the Abatable team.