Investment in a growing market

Deforestation accounts for a huge 25% of global CO2 emissions. But this is set to change, as forestry in the developing world is becoming a lucrative investment

Each year 13 million hectares of the world's stock of forests is lost through deforestation according to a 2005 United Nations Forestry and Agriculture Organization (FAO) report. Although some of this area is compensated for by regeneration and replanting, the net loss is still 7.3 million hectares a year - that's the area of a country the size of Sierra Leone.

Most of this forest is lost in Africa and South America while Europe is seeing a net recovery in forest cover. But the great natural forests in Brazil and Congo are disappearing at an alarming rate and are contributing to climate change through the release of carbon dioxide into the atmosphere.

A recent report published in the US journal The Proceedings of the National Academy of Sciences says that the pine forests of Europe, Siberia and Canada may actually contribute to increasing global temperatures because the absorption by trees of sunlight that might otherwise be reflected by snow cover might more than counter any carbon benefits that they provide. Ken Caldeira of the Carnegie Institution said that this report shows that it is "more important to preserve and restore tropical forests than has been previously realised."

Unfortunately, until recently, international forestry companies have operated almost exclusively in North America, Northern Europe and Australasia. Because of the perceived risks of political and economic instability and the long periods that forestry investors have had to wait for returns, few international investors were prepared to invest in forestry projects in the developing world The Kyoto Protocol has provided a stimulus to unlock forestry investment in developing countries. The United Nations Clean Development Mechanism, (CDM) has begun granting Certified Emissions Reductions (CERs) to projects that have a net positive impact on atmospheric greenhouse gas levels. This means that reforestation projects in developing countries can earn additional revenues making them potentially more profitable.

Stuart Clenaghan is a director of Carbon Capital, a company that provides finance for carbon reduction projects in the developing world. He explains: "The Kyoto Protocol helped to establish an international carbon trading system and it is possible to sell CERs generated from carbon sequestration or emissions reducing projects in the developing world.

"Selling CERs can provide revenues early in the life of a forestry project in the developing world and so reduce investment risk."

Forestry projects can generate CERs because trees absorb CO2 as they grow. Each hectare of fast-growing tropical plantation forest can sequester around 30 tonnes of CO2 a year which, at this rate, would earn 30 CERs each year. Under CDM rules forestry projects are granted temporary or long-term CERs, in recognition of the non-permanent effect of carbon sequestration through forestry.

Clenaghan stresses the value of forestry as a tactic for tackling climate change: "The Stern Report shows that deforestation is responsible for 24% of global CO2 emissions. That is more than the entire global transport sector. Stern highlighted the value of reforestation programmes as an essential part of the battle against climate change. Reforestation also combats other environmental problems such as soil erosion and desertification.

"According to the FAO, less than 5% of global forests are managed. Most of that area is in the north. A huge amount of timber is harvested unsustainably from natural forests in the tropics.

"An investment in a forestry business in the tropics has many benefits. Of course, there is the carbon sequestration effect but there are also other important benefits such as the provision of jobs and the transfer of funds and technology to developing countries.

"In addition, the use of wood as a domestic fuel is a significant contributor to deforestation in much of the developing world. Managed forests provide an alternative source of wood fuel and help remove pressures on remaining primary forest. If we can increase the area of sustainably managed forest in the tropics we can sequester carbon as trees grow, harvest them for fuel or for timber and help protect remaining natural forests all across the developing world."

Carbon Capital has recently signed a deal with the government of Honghe State in Yunnan Province, southwest China which has granted a 50 year renewable lease over 266,000 hectares near the Vietnamese border under a profit-sharing arrangement. The plantation will be on a huge scale; 266,000 hectares equate to an area roughly the size of Luxembourg.

In Yunnan, the company is planting millions of Nepalese alder. This is an indigenous species that is used in China both as fuel and as timber. Between these trees will be planted herbs and shrubs used in Chinese medicine. After detailed research programmes other species will be planted in future years.

And there are other benefits from such projects besides carbon reduction. When the CDM was set up, it was designed to encourage projects that reduce atmospheric greenhouse gas concentrations. Because a reduction made anywhere in the world has the effect of reducing atmospheric CO2 levels everywhere, it would be sensible to encourage schemes in the developing world where they would be cheaper. As such schemes would typically be funded by rich countries and hosted by poor ones, the Kyoto Protocol determined that, in order to achieve certification, projects must do more than reduce greenhouse gas levels; they must assist the host countries in achieving their sustainable development goals. These goals include social criteria such as the alleviation of poverty, economic criteria, such as a positive impact on the country's balance of payments and environmental criteria such as fostering biodiversity.

Carbon Capital's projects in Yunnan fulfil these criteria. The jobs created will help alleviate poverty, and the profit share deal with the Honghe government will provide income for them. Further, Yunnan is an area of incredible biodiversity. By providing an alternative source of wood, the project will help protect natural forest and preserve the habitat of rare creatures such as the Asian elephant and the Yunnan golden monkey.

The Yunnan project also assists with the Chinese government's renewable energy policy. The government there has issued a succession of five-year plans since 1952. There has been enormous economic growth and China has become a global international trading power but at great cost to its environment. In recognition of this the two most recent plans, the tenth (2001-2005) and the eleventh (2006-2010) have contained environmental policies in line with the Millennium Development Goals and have shown an awareness that environmental issues are of growing importance. The aim of the eleventh five-year plan is to bring about xiao kang or the harmonisation of society, as a part of which, it has developed a focus on environmental balance.

The latest five-year plan encourages reforestation as a method of countering the desertification that is affecting much of China and offers a commitment to increase biofuels use. The plan contains no hard and fast commitments but on November 2 2006, Wang Zhongying, director of the Chinese Centre for Renewable Energy Development said that the country had established a target of using 6.7M tonnes of bio-ethanol and 11M tonnes of biodiesel by 2010. Carbon Capital has begun to plant jatropha, a shrub with oil-rich seeds that can be crushed for bio-oil.

Critics of biofuel use say that biofuel production competes with agricultural land use and tends to raise the price of agricultural produce. Jatropha, unlike many other biomass crops, will grow on marginal land and so should avoid this problem. There are plans to have planted 45 million jatropha plants in Honghe by the end of this year.

In Yunnan, Carbon Capital is contributing to Chinese reforestation, helping the Chinese government to counter its dependence on fossil fuels and providing jobs for local people. It is also sequestering carbon and helping to combat climate change.

If Kyoto manages to encourage similar schemes of a similar scale around the developing world it might just help to find the answer to the problem of sustainable development.

www.carboncapital.com

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