Mission Report: Carbon Markets
“Unlocking the True Value of Carbon”
– Conner Lachenbruch
Carbon markets bring both apprehension and promise. While they have faced challenges in their evolution, including projected demand and supply shrinking for the first time in seven years this year, they offer a potential solution to incentivize emission reduction and promote sustainable practices on a global scale. The constant ebbs and flows demonstrate the changing tides of carbon markets. One week, we learn of $1B commitments to fund new technologies capturing and permanently storing carbon. The following week, evidence shows that many offset projects (e.g., up to 80% of California’s forest offsets) have completely failed to reduce carbon emissions. Nevertheless, many see meaningful promise, with estimates that demand for carbon credits could increase by a factor of 15 or more by 2030, creating a market worth upward of $50 billion.
Even as we publish this, at COP28, there were discussions to set up a United Nations-run multilateral scheme, which includes adopting standardized methodologies for determining how credits are issued around the globe. In addition, the International Monetary Fund chief underlined the case for carbon pricing, saying it would be impossible to accelerate decarbonization without an established price on carbon.
Conclusions from different studies and organizations vary, but the estimated social cost of carbon (SCC) or “true cost of carbon” ranges between $50 to $200 per ton of CO2 emitted. The live pricing data below shows just how wide the range of prices on the market exists today between [compliance and voluntary markets](https://coremarkets.co/insights/understanding-compliance-and-voluntary-carbon-markets-a-guide-for-sustainability-leaders#:~:text=Compliance carbon markets are created,credits on a voluntary basis.) and different geographies.
To put it into perspective, if carbon prices were around $3 per ton (the average purchase price in 2022), it would cost $50 per person per year to decarbonize the whole U.S. This evident dislocation between trading prices and an actual cost of carbon provides opportunity for finding pathways to close that gap.
At M1C, we believe in the promise of the carbon markets and think that investing in software solutions that strengthen the validity of those markets will be rewarding for the planet and profits. Our primary areas of focus that will help close the delta between current prices and SCC include three elements within the carbon markets:
Measurement: Accurate and affordable techniques and technologies for measuring carbon emissions and, therefore, the ability to generate credits.
Marketplaces: The ability to transact transparent and fair credits to all parties.
Project development: Finance and compliance allowing offset markets to be instruments for investing in carbon removal and reduction, a critical tool for combating climate change.
Measurement
Measuring carbon represents the first stride in effectively governing our emissions.
Yet, it is challenging due to diverse carbon emission sources across sectors like energy, transportation, industry, agriculture, and land use. Each unique source necessitates different measurement approaches. The effort can be worth the reward because carbon accounting often reveals cost savings and operational efficiency opportunities. By identifying areas where emissions can be reduced or eliminated, businesses can optimize energy use, streamline processes, adopt cleaner technologies, and save on energy costs in the long run. Companies like Unilever, Walmart, and Microsoft have published case studies showcasing how their sustainability efforts have led to cost savings of as much as $1.5 billion through emission reduction strategies.
Between net-zero commitments and recognition of potential cost savings, more than 9,600 companies calculated their emissions in 2020. This process is often time-consuming and expensive. To help solve this, we have seen a proliferation of software platforms aimed at simplifying, digitizing, and automating cumbersome accounting procedures.
There are several ways these platforms can add value to their users. Using advanced AI and ML techniques, accounting platforms can create a user-friendly interface, customizable solutions, flexibility, and comprehensive reporting and compliance. Whereas other hard tech solutions in the climate space have more capital-intensive requirements, many carbon accounting businesses are more familiar models for investors as well. A software accounting platform similar to a financial accounting tool provides high margins and the scalability of a traditional SaaS business.
Companies can differentiate themselves in this space by catering to specific industries. The built environment is a particularly challenging industry to reduce emissions, which is why we were excited to partner with and invest in Mortar IO. Mortar can calculate the energy and carbon efficiency of each building across large portfolios of properties (think: hundreds of buildings per portfolio). The platform then makes recommendations for where to start on retrofits and prepares cost models and financial analyses to help financially de-risk the investment in energy efficiency upgrades.
Other examples include Greenly, a France-based company that handles carbon accounting for SMBs; Emitwise, which focuses on supply chain emissions; and Planet FWD, who are experts in the food and beverage industry. Mission One believes that the best accounting solutions also provide an economic benefit. For example, our portfolio company, Trycarbonara, offers an efficient way for companies to measure and subsequently reduce IT emissions. Their API requires just four lines of code and can measure the carbon footprint of any server in just 5 minutes. With this data, they are building an AI copilot for developers to immediately understand the emissions impact of their code and make recommendations on improvements to reduce energy and emissions - saving companies money on energy and compute costs.
Marketplaces
With better institutions and regulations, carbon could be the next great commodity market.
Once stakeholders are able to quantify the carbon emissions, they are ready to transact in the carbon markets. If you operate in one of the 30 jurisdictions with compliance markets, this will often come in the form of a carbon credit. If you operate outside this regulatory dynamic, the next best option is to transact in the voluntary markets, where each offset purchased or sold represents a transaction equivalent to one metric ton of carbon dioxide emissions. Currently, the voluntary markets represent value of about $1-2B, compared to a whopping $850B for compliance markets.
To give a sense of scale, in 2022, projects in 77 countries issued 255 million carbon offsets, which created a market worth more than four times what it was in 2020. This was still just a tiny fraction of the [37.12 billion metric tons (GtCO₂)](https://www.statista.com/statistics/276629/global-co2-emissions/#:~:text=Annual global emissions of carbon dioxide 1940-2022&text=Global carbon dioxide emissions from,tons (GtCO₂) in 2021.) of carbon emitted globally. Fortunately, the compliance markets currently have a much grander scale, and with recent commitments from China, they represent almost one-fifth of global emissions.
Despite this enormous market size, today’s carbon marketplaces lack standardization, transparency, and accessibility that would allow for greater than ~20% coverage. According to a study by the International Emissions Trading Association (IETA), inconsistent methodologies and reporting standards are a primary roadblock to enabling interoperability among different market platforms. The current state of many marketplaces hinders businesses and nations’ ability to accelerate climate action and advance more ambitious commitments. Moreover, the limited accessibility of these markets restricts participation primarily to larger corporations, reducing the inclusivity necessary for a broader impact.
This gap between global emissions and trading credits can only be closed with well-functioning markets. Without trust, access, and ease, the current system results in fragmented markets and complicates the trading of carbon credits.
At Mission One, we have been on the hunt for solutions to these challenges. One of our portfolio companies, Cloverly, enables buyers to take immediate action toward reaching climate goals through a comprehensive technology platform and direct carbon credit purchasing solutions. They also empower sellers by providing distribution and software solutions to help project developers manage operations.
Project Development
At Mission One, we see a lot of promise in companies enabling more carbon credit development to come online. The supply/demand for credits is already vastly skewed, and the IEF anticipates a 15x increase in demand for credits by 2030 and a factor of up to 100 by 2050. This demand is driven by corporate commitments to the Science Based Target initiatives which have shown exponential growth over the last few years.
Due to the increased demand combined with a lack of trust in the marketplace, some corporations have been forced to develop their own internal carbon teams. The market for creating projects from scratch is already five times larger than the market for buying already-issued credits. This has led to a pipeline of an estimated 1,500 projects currently in development, which equals the total number of projects developed in the last 3 years, which was already a 160% increase in the number of projects developed between 2012 and 2020. At Mission One, we continue to look for new mechanisms to facilitate additional ways to get more quality, trusted supply online. We believe this promises to be an enticing market as more demand continues to come online and corporates look to outsource this work.
Generally, these businesses are software-forward solutions to project development, financing, and compliance, i.e. some of the plumbing and wiring that facilitates the carbon markets. This can look like companies such as Abatable, which is a carbon procurement platform for carbon project developers, corporates, and investors. Their platform connects project developers to corporates and capital providers interested in long-term carbon offtake agreements and inventory management. Or Earthshot Labs, who provide tech-enabled carbon development and cutting-edge scientific predictive analytics to support every stage of a carbon project, from site selection to project finance. Or Cultivo, which uses propriety algorithms and imagery technologies to digitally identify high-quality projects and forecast the natural capital returns, allowing investors to make informed decisions on investments in development projects.
Conclusion
Carbon markets were created as a market mechanism allowing for the removal and reduction of GHG emissions. They address the issue that, so far, we have been unable to put a comprehensive monetary value behind carbon emissions. Risks are inherent in any developing market, but we believe that the companies that can align stakeholder incentives will be poised for explosive growth. Advancements in measurements, marketplaces, and project development promise to find better ways to measure the true cost of carbon and capitalize on the economic and environmental benefits that come with it.
If you’re a team building in these areas, please reach out, we’d love to hear from you.
Onward!
