The international carbon market doubled its value last year to around USD$126 billion1 and New Zealand businesses are already participating, even as we await the outcome of political negotiations regarding the final shape of our Emissions Trading Scheme (ETS).
For the finance sector, the ETS and carbon trading will create an opportunity and a new area of potential competitive advantage. This Brief Counsel provides an overview of some of the possibilities and the risks.
Finance sector participation in the carbon market can take a variety of forms, including:
- project finance - financing projects that generate carbon credits (for example, wind farm, landfill gas capture and biofuel projects)
- carbon funds – establishing funds which invest in companies and projects that reduce carbon emissions, and
- trading of credits – acting as intermediaries for the sale and purchase of carbon credits, or even purchasing carbon credits to offset own company emissions.
Less obviously, the carbon market can also come into play in the course of business-as-usual transactions with entities whose values may be affected by carbon assets and liabilities – such as major industrial emitters subject to emissions trading, or forest land owners. It is possible to take security over carbon credits, and emissions trading issues can be directly relevant to mortgagees, for example, when lending to forestry participants in the ETS.
Carbon assets and liabilities are potentially significant. To date, the price of carbon has been highly volatile, and varies depending on the type of carbon credit being sold. The New Zealand government is currently using a price of around $22/tonne of CO2 to value its Kyoto Protocol obligations, but a recent report from NZIER/Infometrics included modelling of a long-run price of $100/tonne of CO2. Various New Zealand entities have already sold carbon credits on the international market at multi-million dollar values, such as Meridian Energy’s sale of wind farm credits to a Swiss organisation for over $9 million.
The carbon market is rich with jargon and acronyms. Types of carbon credits include:
Assigned Amount Units
Emission Reduction Units
Certified Emission Reductions
New Zealand Units
Verified (or Voluntary) Emission Reductions
The New Zealand carbon market
Although the ETS is under legislative review, it remains in force and the forestry sector is already participating in it. The future shape of the ETS is currently the subject of cross-party political negotiations, with the National Government hoping to get amending legislation passed by the end of this year. Key issues under review include the level of assistance to trade exposed industries, dates for other sectors to join the scheme and harmonisation with Australia’s ETS equivalent (the Carbon Pollution Reduction Scheme).
Because ETS carbon credits are a creation of statute, questions arise as to their legal nature. Emission units are defined as investment securities under the Personal Properties Securities Act 1999, as a commodity under the Securities Markets Act 1988 and as chattels under the Securities Act 1978. These definitions are via amendments to these Acts within the 2008 ETS Act (The Climate Change Response (Emissions Trading) Amendment Act) and the Settlement Systems, Futures and Emissions Units Bill now before Parliament.
Lenders and borrowers should be aware that ETS participants can have liabilities (to surrender carbon credits to cover their emissions or, in the forestry context, to surrender credits following deforestation), and will need to consider the implications of such liabilities arising. For example, the Act provides that monies owing under the ETS are treated as unsecured debts to the Crown. Liability where ETS activities are carried out jointly may also be relevant. The Act currently provides that persons carrying out activities jointly (including via unincorporated joint ventures) are jointly and severally liable for ETS obligations, and are also jointly entitled to any benefits – an approach that some JV parties wish to see changed.
The carbon market is a complex and rapidly developing area. Likely significant developments to keep an eye on in 2009 include amendments to the New Zealand ETS, decisions regarding the Australian ETS, and international developments regarding the successor to the Kyoto Protocol.
If you would like any advice, or assistance in monitoring developments in this area, please contact Andy Nicholls, Cathryn Barber, Teresa Weeks or Chris Bougen.