Discounting and carbon credits: accounting for imperfection
More than ever, buyers are aware of the risk that one carbon credit might not be equivalent to one tonne of carbon, either avoided or removed.
There have been accelerated efforts to secure high-quality credits but a limited supply is available for purchase at a price that fits within most buyers’ budgets. Given the state of today’s market, buyers are rightly looking to make good and defensible decisions when purchasing carbon credits and making credible climate claims.
Discounting has emerged as one risk management tool in a corporate buyer’s toolbox as a way to account for the range of carbon credit quality. A discounting approach means buyers use more than one credit to compensate for one tonne of CO2e.
There are carbon credits available today that sit in the middle of the quality spectrum. These projects do achieve a positive impact, but less than 1 tonne of CO2e. Sylvera’s carbon credit rating data provides buyers with the necessary information to quantify an appropriate risk adjustment to account for project-specific differences.
Buyers have a lower willingness to pay for credits that are least likely to represent one tonne of carbon. Strengthening the relationship between quality and price sends a signal to project developers and investors that there is a price premium for quality. Discounting builds a bridge to a market with higher environmental integrity by enabling the usage of imperfect credits today and provides a demand signal that allows the market to scale and quality to increase.
When is discounting appropriate and not appropriate?
Before moving into examples of how buyers can build a discounting approach based on different Sylvera subscores and risk features, it is important to define when discounting is and is not appropriate.
⛔️When the project is unlikely to be additional in its activities, discounting is not an option. No amount of compensation will make up for the absence of additionality.
If revenues from carbon credits did not bridge the viability gap (i.e. a project’s activities would have taken place even without carbon revenues), then discounting is not appropriate. Even if there is strong permanence and accurate reporting of emissions, there is no risk adjustment factor that would true up carbon equivalence. Lack of additionality is a non-starter.
The examples below are just a few of the many data points a company can consult, combine and apply as inputs to determine appropriate discounts.
✅When the project has some over-crediting risk, discounting can be an option.
Take the case of a REDD+ project where it is clear mitigation of deforestation would not have occurred without carbon revenues (i.e. it is additional), but the project has modeled a baseline emissions scenario that overstates the rate deforestation might have occurred if the project did not exist (i.e. over-crediting risk). To determine the discount rate, buyers should start by reviewing Sylvera's strength of baseline assessment.
✅When the project has a carbon score of less than 100% because of discrepancies in emissions accounting, discounting can be an option.
Take for example an IFM project in which Sylvera's Machine Learning (ML) analysis has detected that the project slightly overstated in its reporting the carbon stock increase in the standing wood pool. The discount rate used can be informed by the extent of discrepancies between the amount of carbon benefit reported by the project compared to what can be verified with independent data.
✅When there is uncertainty in the carbon accounting score because there is no independent data to compare the emissions reduction or removal claimed by the project, discounting can be an option.
There are inherent/unavoidable challenges in measuring the efficacy of cookstove projects. Actual emission reductions for clean cookstoves projects without stove-use monitors cannot be accurately quantified. Further, the crediting basis of these projects draws a connection between forest degradation and cookstove usage that cannot be observed and measured on a project level. In Sylvera’s assessment of a cookstove project, the level of confidence in the reasonableness of the issued credits is included in the pillar of additionality. Buyers can determine their discount rate utilizing the additionality score, which assesses the additionality of activities and over-crediting risk, and based on their own risk appetite for the immeasurability of cookstove usage and carbon efficacy.
✅Because there is an inherent risk of reversal in nature-based projects, discounting can be an option.
The VCMs have generally used 100 years as the default permanence requirement for nature-based projects. Some projects will fall short of that time requirement and reversal risk mitigation mechanisms, such as buffer pools, can be insufficient. Discounting based on a project’s risk profile and registry buffer pools are distinct risk mitigation tools that can be used to increase credit integrity. The Sylvera permanence score quantifies the risk of physical carbon stock loss so buyers can define their risk adjustment approach.
The pursuit of perfection cannot detract from immediate climate action and imperfect projects can still have positive climate benefits. Discounting is one tool for buyers who want to contribute to meaningful climate action and reinforce their commitment to high integrity action by ensuring sustained financing to carbon projects. Defining an appropriate discounting approach requires granular, high-quality data. Sylvera provides the data that helps buyers form diverse purchasing strategies that both optimize for climate impact and mitigate risk.
To gain visibility into credits available today and where they fall on the quality spectrum, schedule a demo to learn about Sylvera’s carbon credit ratings.
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