Early Stage Finance Bottleneck in the VCM Explained

May 20, 2022
Early Stage Finance Bottleneck in the VCM Explained

Even in a booming carbon market, early stage finance for the carbon project developers in the Global South to get their nature based projects off the ground is hard. A quote by a project developer (PD) at the recent Forestry & Agriculture Investment Summit in London explains this well: “For us the first $100,000 is much harder to raise than the next $10 million.” 

PDs usually face a funding deficit as the income from carbon credits is typically received only upon delivery (sale) of carbon credits. This can be 2 to 10 years after the project start date, and in the interim, the PD has had to bootstrap or try and secure whatever limited financing is available for projects that can often be capital intensive. Closing this financing gap is about more than just solving a market inefficiency: It is crucial to scaling the voluntary carbon market.  

Although the private sector has been engaging with funding nature based solutions, the risks and factors necessary to create an enabling environment for private sector investments has meant that PDs’ access to  private finance is severely constrained, especially in the early stages. 

Creating quality carbon credits is a serious endeavor. Broadly speaking, this encompasses project design and registration, validation, monitoring, and verification under a carbon crediting program or standard like Verra, Gold Standard, American Carbon Registry, etc. The last step is the issuance of the carbon credits. The costs of implementation for the PDs are high and significant. 

As one project developer explained, frontloading finance (i.e. paying upfront for project development costs or securing upfront payments through a forward purchase of carbon credits) is often avoided by PDs because financing partners or forward offtakers expect significant discounts on the carbon. However, for PDs, this capital is often necessary because it de-risks the project,helping the PD address political and regulatory risks and take the project from origin to issuance of carbon credits with more ease. 

Visual 1: Private Sector Participation Models (Source: Bain Analysis)

Of course, from a private investor’s perspective - investing in the project directly is risky as well - as shown in Visual 1. Moreover, short term returns for the investor are limited, as project implementation can take time. 

Overall, there is tremendous room for innovation in the financing made available to project developers, who are doing essential projects that generate an output for which there is surging demand. Many projects, Flowcarbon included, are thinking critically about how to facilitate efficient and earlier capital sources for PDs.