Compensate is updating its pricing model

Tuesday, May 10, 2022

A lot has happened in the voluntary carbon market during the past year or so. The demand for carbon credits has skyrocketed since the COP26 climate summit in Glasgow in November 2021, and prices have doubled or even tripled since last summer. These recent changes will have implications on Compensate’s pricing model. The voluntary carbon market, where carbon emitters can offset their unavoidable emissions by purchasing carbon credits, for the first time ever, topped one billion USD in late 2021. The market size increased 288% compared to 2020 levels.

What is behind this massive growth?

The demand for credits has exploded. After several years of incremental growth, the number of credits bought and retired started to grow quickly in late 2021. Why such a sudden surge? A few factors can be identified:

  • There is growing pressure from consumers, investors, and other critical stakeholders towards companies to take urgent climate action. This has led many companies to pledge to reach carbon neutrality or net zero in the coming years . These commitments obviously mean making deep emissions cuts, but some emissions still remain unabatable, and compensating for those emissions with carbon credits is necessary.

  • COP26 in Glasgow finally delivered on rules for international carbon trading regulated by the Paris Agreement. Even though the Paris Agreement does not have direct jurisdiction over the voluntary carbon market, this has had a spillover effect on it. As world leaders were able to agree on the rules of the compliance markets, many companies saw this giving legitimacy to voluntary markets too.

  • The amount of speculative trading on the market has increased significantly, as many market participants have been buying credits with the intention to sell them for more in the future. Many highly questionable crypto ventures have also entered the market with purely speculative motives.

The result of the above changes has been a rapid depletion of available credit inventory on the market. Supply and demand are not in balance. While demand has skyrocketed, carbon credits from new projects will take an average of two to five years to be available. It has become increasingly more difficult to source good quality credits from the market. While still less than a year ago, it was fairly simple to find and secure credits whenever the need to buy them arose, now sellers are demanding up-front payments, long-term commitments, and large minimum purchases. It has become a seller's market. To secure future credits, buyers are increasingly starting to invest in projects that are being planned or developed. A futures market for credits is also quickly evolving now. Growth projections for the market estimate even faster growth in the coming years, as many companies approach their carbon neutrality or net zero target years. The market is expected to grow to up to 100 billion USD by 2030. As demand increases and supply cannot keep up, this has obviously led to steep increases in credit prices. The prices of many nature-based carbon credits have gone up two- or even threefold compared to what they were a year ago. Very recently prices have stabilized a bit, but with demand bigger than supply, price increases are more than likely in the near future too.

So what does all of the above mean for Compensate and our customers?

Since the launch of Compensate, we have been committed to challenging existing market standards. Compensate sets the bar for quality very high for the carbon projects that are accepted into our portfolio. Compensate has evaluated over 170 carbon projects with scientific criteria developed together with Compensate’s network of scientific advisors. The result has been that 9 out of 10 projects with top tier international carbon standards such as VCS or Gold Standard fail to pass our evaluation process. The Compensate Foundation remains focused on advocacy work to reform the voluntary carbon market, while Compensate Operations Ltd, which runs the day-to-day business operations of the group, has been forced to reconsider its business model in the quickly changing market circumstances. When Compensate was launched three years ago, we introduced a very unique pricing model, where compensation payments were directed in full to buy carbon credits. A license fee has been charged from companies using Compensate’s services, while services to consumers have been free of charge. Recent changes in the market have made it difficult to continue with this model. In order to ensure that Compensate can continue offering the highest quality carbon projects to its customers going forward, we need to buy them upfront or make significant purchase commitments. Rather than making spot purchases, Compensate now needs to build its own inventory of carbon credits. It is the only way we can navigate the changing market and secure predictable pricing for our customers. We can no longer consider allocating 100% of compensation payments to buy credits. To cover the costs of upfront purchases and commitments, we need to introduce a markup. As market prices for credits are currently extremely volatile, it is impossible to set a fixed markup and at the same time offer predictable pricing, but it will typically be between 10 and 20 percent of compensation payments. With the introduction of this markup, we have also decided to simplify our pricing through the launch of the Compensate Credit. The Compensate Credit is a high-quality carbon credit that builds upon international standards, like Gold Standard and Verra, but goes even beyond them. It is based on a diverse portfolio of carbon projects that meet tight criteria related to climate integrity, biodiversity, social justice, and human rights. The credit provides the best impact-cost ratio and it has an in-built overcompensation mechanism that mitigates risks related to carbon projects and enables a more robust compensation claim compared to standard carbon credits. One Compensate Credit equals at least one less tonne of carbon dioxide in the atmosphere. Compensate Credits cost 35 euros and they can be purchased at no additional cost through the recently launched Carbon Store or through service packages that also include carbon calculations, impact reporting, and communications support.

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