CFO Magazine

Carbon Trading

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In many cases, buyers look for credits under the aegis of the United Nations's Clean Development Mechanism (CDM) — a strict regimen that governs greenhouse-gas reduction projects in developing nations (and produces UN-sanctioned credits, known as CERs). Energy producer AES, for instance, recently announced it will offset 10 million metric tons of its greenhouse-gas emissions by 2010, including purchasing credits that are CDM-approved.

CDM projects tend to be huge, limiting their numbers. They can also take a long time to complete. What's more, delays in starting the projects, along with reporting issues, can lead to disappointing results. CarbonNeutral estimates that, on average, CDM projects generate only 50 to 60 percent of the greenhouse-gas reductions initially predicted. Contracts can be written, however, that place the onus on the developer to deliver the reductions. "They commit to providing the credit no matter what," says Naseem Walker, accounting firm KPMG's UK head of carbon management services. "If need be, they will simply cover the agreement by purchasing a credit in the secondary market."

Still, the scarcity of CDM projects has led some U.S. companies to invest in overseas emission-reduction projects not governed by the Kyoto Protocol. These so-called voluntary projects often follow more-lax reporting protocols, which supporters say allow them to get projects done quicker. It also means they can invest in creative CO₂ plans — plans that would clearly not pass muster under the UN's Clean Development Mechanism (including some types of reforestation).

This demand in cross-border CO₂ projects has led to problems. Stories have already appeared in The Financial Times and elsewhere about manufacturers in India purposely building factories with excessive greenhouse-gas emissions so they can sell the reduction credits. In addition, several reports have documented cases in which sellers of credits have miscalculated carbon baselines, thus bumping up CO₂ reductions. "You've got guys saying, 'Hey, we'll get you an offset if you give us some money,'" says Clean Air Watch's O'Donnell. "It's like the Wild West."

A Derivative as Lovely as a Tree
Given so much uncertainty regarding how carbon markets currently operate and how legislation will ultimately unfold, there is a very real risk that companies will find themselves holding a commodity that's worth substantially less than what it cost.

That's especially true if congressional legislation exclude a specific offsets from being used in a national carbon-trading scheme. But that possibility has not stopped U.S. businesses from investing in more-controversial offset programs. In September, Dell Computer launched a plan called Plant a Forest for Me. ABN AMRO, AMD, Ask.com, Salesforce.com, Staples, Targus, and WellPoint partnered on the project. "We see reforestation as a legitimate solution that addresses overall climate impact," says Mark Newton, environmental policy manager at Dell. "But there is some uncertainty about how to manage it adequately."

Indeed, uncertainty regarding the accounting for and efficacy of reforestation projects can be seen as a microcosm of the carbon-trading dilemma. Dell management reckons each tree will sequester 1.3 tons of CO₂ over a 70-year life span, but that's assuming the tree survives for 70 years. A tree that dies, or catches fire, will release most of the sequestered carbon, thus negating much of the assigned offset. Costly CO₂ credits could literally go up in smoke. As Weston Heide, senior manager for global energy markets at Deloitte & Touche, notes, "Essentially you're buying a time-option on the carbon issue."

Green Mountain Coffee Roasters used to purchase forestation-based credits but has since backed off. "Trees are unpredictable," says Comey. "Will they be there in 20 years? Do you go to Lloyd's of London to insure the credits from 50 acres of trees?"

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