The International Finance Corporation, part of the Word Bank Group, has issued the first ever ‘forest bond’ – allowing buyers of the $152 million five-year bond to receive their coupons in cash, carbon credits or a combination of the two.
The IFC will purchase the carbon credits from a Reducing Emissions from Deforestation and Forest Degradation (REDD+) project – a forest nestled between two national parks in Eastern Kenya, which is expected to offset 1.4 million tonnes of carbon dioxide emissions each year for the next 30 years.
Mining and petroleum company BHP Billiton is providing pricing support for the carbon credits.
If investors elect the cash coupon instead of the carbon coupon, BHP Billiton off takes the carbon credits generated by the project.
It’s an initial step towards what conservationists hope will be increasing interest from investors and corporations in the development of a carbon credit market that will allow for similar conservation bonds.
The IFC, BHP Billiton, NGO Conservation International and law firm Baker & McKenzie spent 18 months working on the structure and speaking with investors. If all the investors in the bond choose carbon credits over cash, the Kenyan project could receive up to $24 million in financial support.
Agustin Silvani, vice-president of conservation finance for Conservation International, says: “The goal is to push investment toward the United Nations’ REDD+ programme, a policy mechanism meant to offer financial incentives to developing countries to keep their forests standing.”
Initially the bond was set to include several REDD+ projects but finding suitable ones was a challenge, says Silvani, because of differences in local and regional laws and international regulations. Countries such as Brazil, Indonesia and Peru, in addition to parts of Africa, are being considered for REDD+ projects and are working to harmonize regulation to drive investment. The group that put the deal together also realized that price support would be essential, which made BHP Billiton’s role “critical”, he says.
Large institutional investors such as CalSTRS and TIAA were the predominant buyers of the bond, and syndicate officials say the deal was increased in size, even though the investor base was small.
Marilyn Ceci, head of green bonds at JPMorgan says the bond offers further encouragement to the finance industry to address environmental issues like conservation. The bank is a founding sponsor of NatureVest, which developed innovative debt financing for climate adaptation and marine conservation in the Seychelles last year.
According to NatureVest research from 2014, private conservation finance doubled between 2009 and 2013, compared with 2004 to 2008. “The green bond market is currently outpacing the conservation bond market. The idea of a carbon credit as a coupon is unique, though it can be challenging since it’s not a standard coupon, but every time we take a step to bring capital markets, investors and conservation together, we encourage more solutions,” says Ceci.
Indeed, while the deal was challenging to put together, the outreach that took place over its formation exposed many new investors to conservation finance. While the structure may not be replicated any time soon, it has brought much-needed attention to the issue of deforestation, say participants. Each year, 5.5 million hectares of tropical forest – an area roughly the size of Costa Rica – are deforested, contributing to climate change.
Martijn Wilder, a partner at Baker & McKenzie who worked on the deal, says: “It is difficult to convince countries or companies to save their forests where the economic drivers favour, for example, palm oil companies to do the opposite. Deals like this show that there can be an economic value created by leaving forests standing.”
Price on carbon
Many billions of dollars will be needed over the next decade to stop deforestation, he says. “International public donor finance alone is not going to suffice. If we want to meet climate objectives, we’re going to need to develop a price on carbon or some form of payments system for conservation outcomes because carbon makes forest conservation quantifiable and therefore investable.”
As part of the deal, Baker & McKenzie, Conservation International and BHP Billiton have established a knowledge-sharing platform.
“There’s a lot that needs to be done,” says Wilder. “We need scale, we need to develop legal frameworks for rights to carbon, and ideally we need the creation of an asset class. Having a place to share information on all private finance conservation efforts will hopefully speed up that process.”
The IFC’s Alexandra Klopfer Hernandez says the hope is that a carbon credit market will become deep enough so that price support would eventually be superfluous. The price support offered by BHP Billiton is essentially providing $12 million.
The firm is one of few in its sector that has made strides to support climate change initiatives. Melinda Macleod, principal of sustainability at BHP Billiton, says it has a broad strategy on climate change that includes mitigation, adaptation, technology, portfolio evaluation and stakeholder engagement.
The forest bond and knowledge-sharing platform are a way for BHP Billiton to help promote and develop the positive work of REDD+ projects, she says. “Our support for the bond is part of our commitment to scale up private sector investment in REDD+, stimulate demand for REDD+ credits, and demonstrate the value of reducing deforestation as one of the most cost-effective climate change solutions.” The firm has been involved in other REDD+ projects, such as Alto Mayo in Peru.
For resource companies like BHP Billiton, such engagement is also a means of gaining investor confidence.
Earlier this year, a group of investors including four of the world’s 10 largest pension funds called on mining companies Anglo American, Glencore and Rio Tinto to be more transparent over climate change risks and opportunities to their businesses.
BHP Billiton was missing from that list because of its proactive stakeholder engagement and climate change initiatives. The forest bond therefore may encourage other companies to consider conservation finance opportunities.