The Turmoil of the 2023 VCM with 5 Steps to a Cohesive Carbon Credit Strategy

by Antonio Mires Valdez , Ingita Priyadarshini , Fran?ois Depierreux , & Joseph Sarvary

The global commitment to ambitious climate targets continues to rise – evident in the widespread adoption of Net Zero pledges by countries and companies alike, which cover up to 83% of global emissions. Reaching these targets requires significant and rapid decarbonization, leading to a 90-95% reduction in corporate emissions. Accompanying this decarbonization is the requirement to use carbon credits to offset the remaining 5-10% of residual emissions which could not be reduced by other methods. This will require a significant and rapid scaling of the carbon credit market.??

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Carbon credits, however, are a polarizing, frequently misunderstood decarbonization lever. While there is widespread skepticism about the efficacy and legitimacy of carbon offsetting, when deployed correctly it is an impactful and necessary strategic tool for companies committed to achieving climate neutrality or net-zero targets and should be part of every company’s arsenal to combat climate change.?

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Understood correctly, purchasing carbon credits should not be considered as the core of an organization’s emission reduction strategy, leaving them free to continue their polluting ways. Carbon credits are intended to complement rather than replace direct emission reduction efforts and play a vital role in compensating for residual emissions. The effectiveness of carbon credits, therefore, is judged by how well they are integrated into a broader decarbonization strategy.?

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As we rapidly approach the first major tranche of net-zero targets (in 2025), the evolution and expansion of the voluntary carbon markets (VCM) is of critical importance. In 2023, however, the VCM faced significant headwinds, contracting despite expectations of explosive demand for carbon credits. Understanding the turbulence that disrupted the VCM in 2023 and the emerging VCM trends should inform how companies engage with the market and navigate this important climate lever in 2024.??

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What happened in 2023??

After several years of exponential growth, 2023 saw the VCM falter amid several high-profile scandals. Its overall value declined, driven by public criticism and concerns about the quality and credibility of carbon credits and the projects that generate them. Corporate interest in low-quality, high-volume carbon projects waned significantly, as many actors lost confidence in the market. Some major companies walked away from carbon offsetting practices altogether.?

Other companies, however, have taken the opposite perspective, leaning into the maturing market to support its growth and improve its processes. And in fact, while the overall VCM market softened, the demand and price points for demonstrably high-quality credits grew.??

We recommend the engagement approach, believing it is better to face the uncertainty in the market head-on and leverage early opportunities to hedge risks, provide learnings, and benefit from cost savings versus spot market prices. Corporate roadmaps need to be dynamic and responsive to the evolving market.??

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Taking a wait-and-see approach to carbon credits could leave companies exposed to financial risks should the price of high-quality offsets surge as expected when guidelines kick in. Delaying action also carries reputational risk for failing to make progress on net-zero targets, potentially leading to a gap in sustainability reporting and negative perceptions among stakeholders.??

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So, while 2023 was a noisy year, significant progress was also made on strengthening the VCM’s integrity and standardizing what had been a speculative market. In 2023, we observed the following three patterns:?

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1. Demand and price for various credit methodologies parted ways in a rapidly bifurcating market:??

The VCMs underwent a crucial shift in demand and pricing. The decline in demand impacted the value of REDD+ credits [incentivizing the reduction of emissions from deforestation and forest degradation, and other forest-related climate initiatives] and renewable energy credits, leading to historic lows in carbon credit prices since their 2021 peak, largely attributed to media criticism and integrity concerns.??

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Amid these challenges, demand for high-quality removal credits increased significantly. This was signaled by a price premium for projects receiving high ratings from independent agencies like BeZero Carbon and Sylvera . 2023 also saw a fivefold surge in purchased carbon credits from carbon removal projects across 2021 to 2023. These trends indicate strong resilience in carbon offsetting demand from leading corporates and emphasize the market's continued interest in the long-term value of high-quality carbon credits.??

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2. Litigation threats and media scrutiny impact corporate behavior (and integrity initiatives respond):?

The shift in demand for quality carbon projects was partly driven by defensive behaviors of companies looking to avoid the increased scrutiny to which carbon credits were being subjected. The Guardian newspaper has published a campaign of investigative journalism focused on the carbon market, scrutinizing projects, methodologies, and individual project developers. Major corporations like Shell, Nestlé, EasyJet, and Fortescue Metals Group responded by stepping back from their carbon credit schemes due to growing doubts about project effectiveness and growing concerns about greenwashing.??

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Some corporations, however, continue to engage with the market in a way that enhances their climate leadership reputation. The list of companies financing high-additionality projects at an early stage continues to grow and the volume of nature-based and engineered removal credits coming to the market is accelerating.??

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Supporting these shifting market dynamics and changing perceptions, carbon frameworks and standards were developed across 2023, including Science Based Targets Network (SBTN) 's Beyond Value Chain Mitigation guidance and ICROA 's Accreditation Program. In November of 2023, the EU parliament voted to establish a Carbon Removal Certification System to define, monitor and verify high-quality carbon removals and fight greenwashing.??

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The more guidance that is published, the easier it will be for companies to gain confidence that their efforts will be perceived more appropriately by media outlets.??

3. Negotiations at COP28 are important, but the world needs voluntary corporate action to drive the carbon markets:?

During COP28, negotiators aimed to reach an accord on guidelines for Article 6 of the Paris Agreement. The Article allows countries to voluntarily cooperate to reach their climate targets through the global trade of GHG emission reductions credits. The proposed regulations seek to streamline international emissions trading, providing a pathway for nations and businesses to accelerate climate goals and boost global climate finance through increased credit demand.??

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While the outlook for Article 6 negotiations fell short of expectations, there was a clarion call from businesses and associations engaged at COP to support carbon markets and facilitate a just and rapid transformation.??

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Take Decisive Steps in 2024?

Despite facing turbulence caused by market immaturity, flawed methodologies and media scrutiny, 2023 should be considered as a dynamic chapter in the developing VCM story, revealing both hurdles and resilient strategies that set the stage for a transformative year ahead. While the contracted volume and prices of low-quality credits faltered, the surge in demand for high-quality credits underscores a resilience in the core drivers of carbon offsetting demand, fostering optimism for the VCM's acceleration in 2024.?

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We encourage companies that aspire to contribute to a global Net Zero economy, yet still lack the offset piece of their decarbonization puzzle, to follow these five steps for creating a cohesive and integrated carbon credit strategy:?

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1. Insightful emission assessment: Examine your carbon emissions (Scope 1, Scope 2, and Scope 3) to identify challenges in reduction, measure residual emissions and plot offset needs?

2. Integrity-aligned credit guidelines: Use reputable verification standards, follow guidance on corporate climate claims, and ensure credit types align with the business’ stakeholder priorities?

3. Intelligent carbon credit procurement: Leverage a mix of contracting structures and market channels to hedge price risk and secure discounts on longer-term offtakes?

4. In-depth due diligence process: Conduct thorough due diligence on carbon projects and their developers, ensuring independent evaluation by accredited bodies?

5. Integrated corporate climate communications: Promote offsetting activities (both the carbon and community impacts) alongside progress made on internal decarbonization objectives. Contracting strong carbon credit projects will not make up for a lack of ambition for internal decarbonization.?

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There is no denying that carbon credits will form an integral part of decarbonization solutions going forward, but offsetting is only credible as a complementary strategy to direct emissions abatement. Organizations that purchase carbon credits today are having an immediate climate impact and, when doing it right, enhancing their reputation. But a long-term timeline of integrating quality credits into a well-structured net-zero strategy is where the real value is found.??

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Creating a portfolio of high-quality, high-impact carbon credits that deliver short-term advantages as well as progressive carbon removal outcomes over time can mitigate price, supply and quality risks. As new guidance for carbon credit use grows more embedded in the VCM, companies will have to compete for opportunities to secure contracts with high-quality carbon projects, and the price per credit will inevitably rise. The best way to ensure more credits are available is to engage with the market that fuels the development of carbon projects.??

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Financing early-stage projects is one way to do it. Another is simply to commit to purchase credits from transparent, verifiable, and certified projects and perform due diligence to maximize the economic, social, and environmental value of your carbon credits in the long term. Whichever approach you take, we believe it is in your best interest to get started as soon as possible. The market needs more participants and more capital to develop the robust solutions needed to hedge against future uncertainties of our collective decarbonization transformation.???

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