Moving on from forestry development

I stopped working on Evergrow about a month ago. Here’s why, along with some notes:

  1. Native tree species in North America generally grow slowly. For example, while a Douglas Fir tree sequesters lots of carbon over its lifetime, it grows very slowly for its first 20 years of life. The CA compliance market awards offsets *after* carbon has been sequestered by a tree. As a result, the growth rate of the trees determines the rate of investment return on a CA compliance offset project. I had hoped that we could financially engineer our way around this problem by securitizing the cash flows and recycling capital, but having reviewed soil data and tree growth rate projections for some available and “average” land, I no longer think this is possible.
  2. The land on which this *does* work is taken, or if available, very limited. It’s no secret that Northern California, the Pacific Northwest, and the Southeastern United States are incredible places to grow trees. That’s why timber companies have been there for over a century. To the extent any plots are available there, they are either (a) already planted with trees, (b) too small to be financially viable, or (c) distressed or a special situation. In the case of (c), I’ve heard anecdotes of timber companies or private individuals selling high-quality plots that were affected by forest fires or seeking to partner with carbon developers to use offset revenue to finance reforestation. I think these sound like great opportunities but are few and far between and done on a relationship basis, a bit like seed investing (no pun intended). I don’t fancy my chances at consistently finding and winning these deals, and even if I could, I don’t think there are enough of them to make Evergrow work at scale.
  3. “Stacking benefits” is good, but only helps on the margin. There are efforts to value all of the benefits that forestry projects bring to their ecosystems – e.g., a municipal water authority may pay a forestry owner for the improvements in water quality that come from having trees planted upstream. Where available, these schemes can help improve the returns of already-viable projects, but my sense is that their impact is largely at the margin. Per above, the main challenge here is that viable land is taken, and average land just doesn’t work – even when you stack all available benefits.
  4. The 2030 cliff on cap-and-trade makes financing difficult. The current version of CA’s cap-and-trade legislation expires in 2030. While I think it’s highly likely that cap-and-trade gets extended, there’s still a chance that it doesn’t, or is extended in some form but materially changed from what it is today. This makes it hard to get project financing for forestry projects on a 20- or 30-year timeline because the investors would need to underwrite legislative risk. Having a creditworthy offtaker would help, but I’m not sure if those exist yet, and it would be better if we didn’t need one. Creating a synthetic offtaker (as I proposed on my Devco/Offco/Holdco post) is clever, but just moves the legislative risk from one set of investors to another.
  5. Trees in the tropics grow faster, but the voluntary markets are unpredictable. I’ve had a few conversations with people trying to do some version of Evergrow in emerging markets, usually in tropical climates where trees grow faster. For instance, I’m told that tropical teak can reach maturity in around a decade. Some models are financed purely through carbon offset revenue, and others use offset revenue as a way to finance planting a sustainable timber plantation. In either case, these projects propose to generate voluntary offsets. From my research, the voluntary markets remain something of a Wild West, where prices vary greatly and buyers come and go without warning. So while moving Evergrow to tropical climates solves the tree growth problem, I think the voluntary markets as they operate today limit the overall opportunity.

I still think the idea of financing mass reforestation with carbon offset revenue is a good idea in theory. As compliance markets evolve, carbon prices rise, and voluntary markets mature, this idea may become more viable or scalable in the future than it is today. In California, I’d be looking and advocating for (a) an extension to cap-and-trade through at least 2060 (i.e., 40 years of runway) to provide investor and market certainty, and (b) forward crediting, i.e., the practice of awarding CCOs in advance of actual sequestration, subject to clawbacks in the event that projections fall short of performance. In the meantime, I think small funds that develop either (x) the “special situations” described above and/or (y) the quick turnaround projects in tropical climates that have high-quality offtakers might generate attractive returns, but institutional capital might find them too small to participate in.