For decades, carbon markets have been considered an integral part of the solution to climate change. However, in lieu of a robust international framework, formal regulatory implementation has stuttered (quite famously here in Australia).
More recently, the voluntary market for carbon credits has grown significantly and is driving noticeable investment and innovation in carbon markets. In 2021 (the last year for which reliable data exists), voluntary carbon markets quadrupled year-on-year, to approximately US$2 billion in market value.
Perhaps driven by the voluntary nature of the existing market, recent value creation has been centred downstream, closer to the enterprises (and consumers) that have opted into the market. Most notably carbon marketplaces (e.g. South Pole), and enterprise carbon accounting solutions (e.g. Persefoni) have emerged as the most successful cleantech startups of the last year or two.
Yet looking forward to the medium term, the direction of travel is clear; with voluntary (and the beginnings of regulatory) markets expected to continue their self-sustaining exponential growth into 2023 and beyond. As such, expect to see an increasing supply crunch in carbon markets as project developers scramble to keep up, exacerbated by speculative demand from those more interested in hoarding credits versus retiring them directly. To give a sense of scale, the Taskforce on Scaling Voluntary Carbon Markets suggests supply will need to increase by more than 15-fold by 2030 in order to support a 1.5c pathway.
We expect the most impactful cleantech businesses in 2023 to focus on solving these structural supply-side issues in the market. These may look like innovation at the operational level (e.g. deeptech carbon removal projects reaching commercial viability, or improvements to increase yields or profitability of existing projects); or through supporting digital technologies to assist project developers to verify or improve the ‘quality’ of the credits they produce at scale. Likewise, the role of marketplace intermediaries will diminish over time as market forces drive further efficiency; notably, some large corporations are already looking to disintermediate carbon marketplaces and acquire projects directly in order to secure future supply.
Investors (VCs and project financiers) and builders alike can look forward to greater confidence in investment, as important supporting infrastructure emerges to provide further stability for the growing market. Of note is Frontier - a consortium of Stripe, Alphabet, Shopify, Meta, McKinsey - who have made an advance market commitment to underwrite demand for US$925M of higher risk, permanent carbon removal credits between 2022 and 2030.
Frontier is an advance market commitment that aims to accelerate the development of carbon removal technologies by guaranteeing future demand for them. The initiative allows investors and founders to underwrite demand for any carbon removal technology they develop and hence increases confidence in the market. The concept takes inspiration from vaccine development, which has historically faced similar uncertainty about long-term demand and unproven technologies.