In the second section of 9fin's two-part educational series on carbon offsets, we take a look at why offsets have been so heavily criticised, why offset purchases are now an ESG risk and what the future holds for voluntary carbon markets

Part 1 recap

In part 1, 9fin took a brief look at the difference between mandatory and voluntary markets, before examining the credibility of carbon offsets traded on voluntary markets.

With guidance from industry expert, Lydia Sheldrake, we also provided insights into how to identify best practices for offset purchases, before taking a closer look at LevFin issuers.

Trading

Before offsets are sold, projects are verified by independent third parties who assess a project’s alignment with a credible offset standard.

Once verified, brokers and retail traders buy large amounts of offsets, which they combine to create portfolios. They then sell the portfolios to companies in private transactions. However, online exchanges, such as Xpansiv CBL and AirCarbon Exchange, which are spot exchanges for carbon offsets, are gaining popularity.

Are offset purchases an ESG risk?

Due to the criticism and debate surrounding offsets (more info below), companies face both reputational and legal risks associated with their offset purchases.

Companies like BA and EasyJet have faced significant media backlash for acquiring “flawed” offsets, whilst Delta currently faces a lawsuit stemming from its offset purchases. Meanwhile, in Colombia, the constitutional court accepted a case brought forward by an indigenous group, which alleged that an Amazon-based carbon offset project violated their fundamental rights.

Companies that have purchased offsets certified by Verra (the largest offset verifier) may be particularly vulnerable to these risks. Recently, the CEO of Verra resigned amid concerns that Verra has approved a significant number of offsets that have been described by the Guardian as being "worthless".

Due to this, some firms that have purchased Verra certified offsets are moving away from offsetting-based environmental claims. Gucci, for example, has removed a carbon neutrality claim from its website that was reliant on Verra certified carbon offsets.

9fin used its document search tool to identify LevFin companies that had bought or planned to buy Verra certified offsets. These companies are Harbour Energy, NewDay, Bonanza Creek, Puma Bitumen, Telecom Italia, Netflix, Arcelik, Trafigura, Accor, Eurofins and Hunkemoller. 9fin requested information on each company's stance on offset purchases following the recent concerns and received a response from Arcelik and Accor.

Accor stated that its relationship with Verra was indirect. The company bought offsets from a project called “Pur Project” that had been certified by Verra. However, as of the end 2021, Accor decided to stop purchasing offsets from the project because it was “questionable.”

Arcelik stated that its offsets were not purchased, but generated in-house. The company developed a methodology which Verra then certified. Its methodology relied on scope 3 reductions from the use phase of refrigerators. Arcelik calculated the difference between the average energy efficiency levels of the refrigerators put on the Turkish market versus Arçelik’s refrigerators in the same market. Arcelik used the the difference in efficiency levels to generate offsets that were then used to neutralise scope 1-2 emissions in 2019 and 2020. This is not aligned with good practice, as the offsets it refers to would not be additional (see more info in 9fin’s previous Educational)

Arcelik told 9fin that the credits were highly reliable scope 3 avoidance credits and that it has no intention to take back its its 2019 and 2020 carbon neutrality claims. However, the company has not made any further claims from 2020 onwards. It has since committed to the setting SBTi targets and will take measures to decrease its carbon footprint accordingly. This also involves buying high quality carbon removal credits in the future.

Companies looking to purchase offsets from carbon removal technologies may also be vulnerable. Recently, the UN downplayed the role of carbon dioxide removal in its draft to define a new global carbon market. The draft was met with serious backlash, with over 100 carbon removal industry advocates rejecting the UN’s decision on removals. 9fin was unable to find information on HY companies that had bought offsets derived from removals.

Why have offsets suffered heavy criticism?

• Credibility of counterfactual estimates: Offset standards are designed to ensure additionality, i.e the offset project leads to reductions or removals that would not have occurred in the absence of the project. However, proving the counterfactual (what would have happened if the project had not been implemented) is near impossible. This means that predicting the emissions a project will remove/reduce relies on estimates. In recent years, many of these estimates have been heavily criticised:
  
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• Human rights issues: Offset projects, such as REDD+ and renewable energy projects, have been subject to concerns over their impact on indigenous and local communities. In one case, service guards working for a REDD+ project in Kenya evicted thousands of indigenous people from a forest in the name of protecting and preserving it. The project was supported by the World Bank and the UN. In 2021, a report published by the Rights and Resources initiative showed that many of the forests and other carbon sinks targeted by offset projects are located in areas where indigenous and local rights are not recognised. The report argued that the rising demand for offsets encourages land grabbing so that the land can be used for offset projects
  
• Permanence: All offsets projects could potentially suffer from reversal, the process through which the climate benefits of an offset project are reversed. For projects like renewable energy and clean stove projects, the risk of reversal is low, but for REDD+ projects, the risk is much higher. Carbon removals are generated when trees are planted, but when trees are destroyed, like in a natural disaster, the carbon released eliminates the benefits of the project. Companies often rely on REDD+ projects to sequester carbon for five-to-20 plus years. However, if the trees are destroyed after 10 years, the project will lose its environmental benefits. This means the validity of some climate-related claims relies on the assumption that these trees will not be destroyed in the future. To mitigate this risk, most offset projects contribute roughly 10-20% of the credits they generate to a “buffer pool” to insure against the risk of forest fires. However, the increased occurrence of natural disasters means that it is possible that current “buffer pools” are not large enough. According to non-profit research group CarbonPlan, between 2015 and 2022, wildfires in six REDD+ projects in California led to the release of emissions accounting for 95% of a total “buffer pool” designed to last for over 100 years. Future forest fires may create further carbon releases which exceed the “buffer pool” and eat into offsets used by corporates.
  
• Sustainable farming: As the demand for offsets increase, the land required for reforestation, soil capture and renewable energy projects is also rising. In Wales, offset projects have been the subject of significant debate as a large amount of farming land is being sold to offset project developers that are using the land to plant trees. Although this allows corporations to reduce their carbon footprint and move towards net zero, projects like these could seriously impact food security

Looking forward

Despite the concerns surrounding voluntary offset markets, many experts still believe that voluntary markets are key to the fight against climate change. Lydia Sheldrake, for example, argues that "high-integrity voluntary carbon markets (VCM) are a useful and critical tool for accelerating climate action”, however, “there needs to a transition towards regulation”.

While there are currently no regulations governing VCMs, regulatory changes are expected in the near future:

• Reporting requirements related to offset purchases are likely to be implemented in Europe under the Corporate Sustainability Reporting Directive (CSRD). Based on the latest CSRD drafts, companies will also need to disclose the total amount of carbon credits they have bought and the amount they plan to purchase in the future. Companies will also not be able to use carbon credits to achieve publicly disclosed GHG reduction targets. If a company makes public claims of carbon neutrality, it must explain the credibility and integrity of the carbon credits it uses to sustain that claim. But if a company discloses a net zero target, it must explain how it will neutralise unavoidable GHG emissions to achieve that target.
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• Earlier this year, the UK also announced that it would launch a consultation on how to increase financing of voluntary carbon markets, whilst also preventing greenwashing. Among the key topics set to be discussed in the consultation are the role regulators will play and the integration of carbon markets into the UK’s long-term climate transition strategy.
• In aviation, members states of the International Civil Aviation Organisation (ICAO) made the decision to adopt the Carbon Offsetting and Reduction Scheme for International Aviation (CORSIA). The scheme is currently voluntary, but will become mandatory in 2027.
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It is possible that more sectors will adopt similar schemes in the future, ensuring that the use of offsets is more widely regulated.