Carbonomics 101: ‘Buyer beware’ – key risks associated with voluntary carbon credits and how to avoid them

Published  3 MIN READ

In the sixth article in this series, we take a closer look at key risks that companies should consider when using voluntary carbon credits to offset carbon emissions.

As the market for high-quality voluntary carbon credits continues to grow, companies may find themselves overwhelmed with choices around how to successfully deploy them as part of a wider climate transition plan.

In the last Carbonomics 101 article, we reviewed the three factors companies should consider when buying carbon credits. And earlier in the series, we stressed that understanding a carbon credit’s usage, credibility, and eventual retirement will be paramount to their successful use.

Here, we examine the projects underlying carbon credits. Most of the projects underpinning carbon credits that are certified to a high standard carry a low level of risk. However, some are subject to inherent and emerging risks that should be carefully considered. Companies that either plan to develop their own projects to underpin carbon credits or execute due diligence on credits they plan to buy, should aim to address these risks early on.

To that end, we’ve compiled a list of what we see as the top risks to be avoided.

Be wary of project-level risks

The long-term nature of projects underscores the need to thoroughly understand the risks connected to the projects that underpin credits. Some projects often span three to four years while others can stretch across three to four decades, and each project carries a nature-based risk that should be monitored.

Not all projects will be exposed to the risks below – each one will have its own unique attributes – but these are some of the most important ones to bear in mind:

  • Natural disturbance and physical risks: fire damage; wind or water damage; animal encroachments; pest and disease outbreaks; extreme temperature; seasonal variability of rainfall patterns; geological instability; and robustness of a project’s ‘buffer’ strategy.
  • Political risks: interventions such as wars, riots, civil unrest; corruption; community resistance; irregular resettlement of persons and communities; exploitation of natural resources; and presence of sanctions.
  • Community-company-project owner misalignment risks: project owners, companies buying the carbon credits, and the communities where projects are located all must have their interests aligned – communities must feel they are benefitting from the project.
  • Financial risks: late achievement of projects based on cash flows; lack of consistent secured financial resources; and lack of transparency over capital or cashflow.
  • Market risks: price variations due to availability of commodities, machines, taxed goods, chemicals; and competing infrastructure; timely transportation.
  • Project management risks: dependency on continuous external technical support; lack of technical equipment; insufficient business, legal and administrative functions; fluctuation of seasonal worker availability; and developer track record or reputation.
  • Implementation and assurance risks: monoculture and biodiversity risk; third-party auditor potential violations; conflict of interests; and insufficient review and approval process.
  • Regulatory risk: ineffective and insufficient requirements for reporting and disclosures; variance of regions and geographies’ complex legal and regulatory mandates; improper, infrequent, or corrupt enforcement; and lack of improved legal infrastructure.
  • Sustainable Development Goals (SDG)-washing risk: like greenwashing, the risk of SDG-washing should be a red alert for companies – impact or additionality claims of projects will increasingly become scrutinised.

Long-term risk management considerations and reporting provided by certified providers and auditors should be implemented in accordance and applicability with the relevant risks listed here.

Companies should ensure that project developers and voluntary carbon credit providers have a robust mechanism for assessing and managing risks, as well as measuring and reporting the impact at the project level to ensure credibility and effective SDG mapping towards the 2030 Agenda.

Apart from reducing greenwashing or SDG-washing risk, this can help contextualise companies’ unique climate transition journeys and communicate them to interested stakeholders.

Take the plunge, but with eyes wide open

In conclusion, the risks inherent to carbon credits may seem daunting, but with careful consideration and planning – and the help of a growing network of specialists – they can be navigated with relative ease. The urgency of the climate crisis means now is the time to seriously consider how to offset emissions that can’t be eliminated or reduced through other activities; carbon credits can play a pivotal role in that regard, but buyers should be aware of the risks before taking the plunge.

Follow NatWest’s Carbonomics 101 series to stay informed on the development of the carbon markets and learn about the role they could play in your sustainability strategy. To access the full Carbonomics 101 series you can visit the bank’s Carbon Hub, where they also include essential tools and insights to help you on your climate transition journey.