Results-Based Finance: Breakthrough Or Backslide?

Kelley Hamrick

Everyone loves “results-based finance” – at least in the abstract – because everyone likes to get what they paid for. Quantifying those results and packaging them for buyers, however, has proven elusive once you get beyond payments for ecosystem services. Here’s a look back on the evolution of results-based finance.

4 August 2014 | The United States, the United Kingdom and Norway made headlines in December when they put $280 million on the table to save endangered rainforests. The real news, however, wasn’t the dollar amount, but the distribution mechanism.

Dubbed the “Initiative for Sustainable Forest Landscapes (ISFL), the mechanism funnels the $280 million into sustainable agriculture practices, but it ties the exact dollars to the tons of carbon dioxide stored in forests saved by the shift to sustainable agriculture.

Technically, since the payments are denominated in tons of carbon dioxide emissions from reduced deforestation and forest degradation, they are REDD payment. But they aren’t offsets, which means donor countries can’t write the reductions off against their own greenhouse gas emissions. Instead, they’re an example of a new breed of “results-based finance (RBF) that aims to tie development aid to measurable outcomes using methodologies that are less rigorous than methodologies developed for offsetting but more rigorous than old-fashioned aid payments — at least in theory. For now, RBF seems to resonate with the traditional environmental community in ways that offsets haven’t, in part because RBF neutralizes the anti-market contingent and eliminates accusations that donors are “buying their way out of their obligations to reduce emissions.

The advantages of this streamlined approach are clear, but so is the downside: namely, that RBF doesn’t incorporate anywhere near the kind of carbon-accounting rigor that voluntary carbon programs do. Proponents argue that such rigor is only necessary if you’re offsetting emission-reductions against industrial emissions, and they point out that many emerging RBF programs are designed to build capacity for offsetting down the road.

Because it’s easier to implement RBF than it is to develop market-based REDD, RBF provides more predictable (but perhaps less lucrative) long-term financing than offsetting does. In so doing, it offers an income stream that receiving countries can borrow against today, says Rupert Edwards, Senior Finance and Carbon Advisor for the Forest Trends Public Private Co-Finance Initiative.

“Financing instruments like Jurisdictional REDD+ Bonds, with an ambition to operate at scale, can harness international climate finance to support developing countries¢ own efforts, then in turn link to global demand for sustainable commodities and therefore support a truly integrated landscape approach that could be transformational in overcoming costs or barriers that stand in the way of reduced deforestation, resilient ecosystems, improved livelihoods, and sustainable agriculture production, he wrote in March.

But there are plenty of downsides as well. In addition to the lack of rigor compared to offsets, RBF lacks the framing aspect that REDD provides. Specifically, while RBF provides a way to measure the good that funding provides, REDD explicitly drew attention to the fact that indigenous and traditional communities provide an ecosystem service. They are not just receiving developed-world largesse; they’re earning developed-world income by delivering a more stable climate. That’s a powerful message and it’s one that could be lost if RBF becomes ascendant.

How We Got Here

Carbon offsets changed the game of environmental finance two-fold: first, they shifted the frame of reference from philanthropy to payments for ecosystem services, and second, they narrowed the focus from nebulous payments for doing good to concrete investments based on the measurable success of projects. In that sense, carbon offsetting is not an alternative to results-based finance, but a subset.

Offset-like mechanisms have been around for decades and some would argue for centuries. The US Clean Air Act of 1990 provided the immediate precursor to carbon offsetting. That law put a cap on the amount of sulfur and nitrogen oxides (SOx and NOx) that industry can pump into the air, but it let the private sector identify the most efficient way of meeting that cap. Long before that, however, the United States allowed the use of mitigation banks to deal with biodiversity and water issues.

Unlike these precursors, the Kyoto Protocol attracted the interest of global private companies, both as sellers and buyers of carbon offsets. It did so by having global scope, and by standardizing the measurements, reporting and verification (MRV) of credits through the first global environmental credit program: the Clean Development Mechanism (CDM). The CDM opened the doors to private carbon emissions offsetting projects at a global-scale instead of remaining concentrated with the limited efforts of NGOs and donor agencies.

By 2008, the mechanism seemed to be succeeding, at least on the carbon front. Certified Emission Reductions (CERs) were trading at $20 per tonne of carbon dioxide equivalent; investment was pouring into greenhouse gas projects; and people were looking to expand the mechanism beyond carbon.

Comparing Apples to Oranges?

Soon, the race was on to create a global mechanism for conserving biodiversity and promoting good stewardship of water resources, but anyone looking to expand this model past carbon ran into an immediate problem.

“Water isn’t carbon, explained Sascha Lafeld, CEOof carbon project developer First Climate, at the Gold Standard Foundation’s 2014 conference in March a sentiment repeated throughout the day by other water experts.

Carbon is unique in that it’s an easily-measured unit that transcends boundaries. A project that removes 200 tonnes of carbon from the atmosphere in China benefits the atmosphere everywhere in the world by 200 tonnes.

Water doesn’t work that way. For one, water is limited by its geographical area and the size of the catchment. Second, water is fluid (in more ways than one): it’s not a discrete, measurable unit like carbon. Biodiversity, community participation and other development goals are even harder to quantify much less measure results.

The Rise of Co-Benefits

With these and other challenges, the idea of financing non-carbon services through results-based finance largely fell out of favor. Instead, proponents sought to piggyback on voluntary carbon standards. By tacking on best-practices for water management, conservation and community involvement within existing carbon projects, projects could be rewarded for having these extensive “co-benefits while still using carbon as a baseline.

Voluntary standards like SOCIALCARBON, the Climate, Community and Biodiversity (CCB) Standards, Plan Vivo, the REDD+ Social and Environmental Standards and W+ Standard have risen in popularity among buyers looking to impact more than just carbon in these past few years. Suppliers have consistently added these standards, and some buyers have shown support by paying above-average prices.

Although that willingness has been inconsistent, according to the State of Voluntary Carbon Markets report, co-benefits seemed to offer a viable if imperfect compromise.

Many Eggs, One Basket

That compromise, however, left the price of water and biodiversity dependent on the price of carbon offsets. When that price began to slide from post-2008 highs, it left biodiversity and water proponents in the lurch. They started looking for alternatives.

“You know I used to think that carbon was the way that you could save rainforests, where biodiversity got a free ride on a carbon story, says New Zealand carbon developer Sean Weaver, of Carbon Partnership. “But I’m starting to think that the reverse now: that carbon might have to get a free ride on the back of looking after biodiversity and rainforests because carbon has become so unpopular.

Market participants have started to revisit the past debates, but the question remains: how can results-based finance be applied to nebulous benefits that don’t lend themselves to quantification?

The possible solutions follow along a spectrum, best exemplified by the approaches enshrined in two conferences in the last half-year: the Center for International Forestry Research’s (CIFOR) Global Landscapes Forum and the Gold Standard Foundation’s conference “The Future of Results Based Finance Measuring Environment and Social Impacts Beyond Carbon.

A Landscapes Approach

The term “landscapes may have as many definitions as there are trees in the world, but the big takeaway from last year’s meeting is twofold: that carbon should be viewed as only a facet within a more holistic, systems-based approach, and that high-level institutions like the United Nations Framework Convention on Climate Change (UNFCCC), the World Bank, and other institutions are willing to pay for innovative financing using this approach.

The $280-million ISFL was unveiled during those talks, offering aid agencies a way to adopt the concept of carbon-based payments without the offsetting element a tweak that frees them from the rigorous and costly verification and validation process. In this way, the ISFL initiative is a hybrid of old-school carbon monitoring and baselines mixed with a decidedly non-carbon focus.

RBF for Big and Small Players

It’s not just the large donors who have started exploring these options. As Josh Kempinski at Flora and Fauna International (FFI) noted, FFI is first and foremost a biodiversity organization. They have worked to develop REDD+ projects because the projects support biodiversity and have more available funding than traditional conservation. However, given a buyer who simply “wants to do good, they don’t necessarily need to sell carbon offsets. As long as their projects use monitoring, benefits-sharing and “all the elements that make a REDD project a REDD project it still has the same structure, just not necessarily transacting a carbon credit.

Moving completely away from carbon is the VCA Platform, which has developed Verified Conservation Areas. Instead of a commodities approach, which trades tangible offsets like carbon, VCAs resemble real estate markets: the areas are all about location, location, location. Carbon comes second or not at all. However, without a carbon accounting framework the question of methodologies rises back up.

Frank Vorhies, manager of VCA, agrees that it’s a problem that isn’t easily solved.

“Nobody’s ever done a baseline assessment, he says.“Conservation International’s never done it, UNEP’s never done it, or the IUCN. The conservation community has never even provided the tools to do proper area-based management. When it comes to actually measuring performance, we don’t have any agreed metrics to do a baseline assessment, let alone performance measurements.

Recognizing this challenge, the VCA standard instead relies on the making innovation as it goes by only requiring those involved with project on the ground to have quantifiable metrics and that they be public and transparent. In this way, the standard hopes to develop best practice guidelines.

Imitation is the Best Form of Flattery

On one end of the spectrum are professionals seeking to replicate the voluntary carbon market. Where past efforts failed, these professionals are looking to succeed through sharing knowledge and partnerships.

One such case is the Water Benefit Partners (WBP), a public-private partnership between carbon offset developer First Climate, the Swiss Development Cooperation and the Gold Standard. In this initiative, water experts are trying to mimic the transparency, credibility and accessibility of carbon offset projects through the creation of units of water.

Despite the technical difficulties associated with quantifying water, this partnership currently pilots a certification process mimicking that of carbon markets. Projects following this standard would be able to issue Water Benefit Certificates (WBC) independent units representing specific water benefits to private companies in order to finance the work. The Gold Standard’s Water Programme Manager Brendan Smith described how companies have interest in water, but,“we are not Coca Cola. A lot of companies want to get engaged in the water space but don’t have the means. [With WBCs] they don’t have to produce their own project now. It aims to launch at World Water Week in Stockholm, which runs from August 31 to September 5.

The Gold Standard has also worked to develop its own landscapes approach but unlike the holistic approaches described previously, this version would certify water, biodiversity and carbon as separate forests assets. So far, the standard has consulted over one hundred stakeholders and recently announced that they’ve become a member of the Forest Stewardship Council, a move designed to strengthen ties following a 2012 Memorandum of Understanding with FSC. They’ve also developed an agreement with the Fair Trade Associate, also in 2012. The three organizations plan to work together to harmonize common definitions (like “smallholders and “pesticides) in order to simplify certification under multiple standards.

While the Land Use and Forestry (LUF) team at the Gold Standard is still working on creating all of the certified assets, eventually, “There could be a carbon area [of a forest] for carbon credits, and then in another area, you get a biodiversity area. That’s how we envision the future, that you have a landscape with different activities but also with different ecosystem values explains Moritz Vohrer, Technical Director of the Gold Standard Foundation. The LUF teams has already created a carbon standard for land use and forestry last year; water is expected to follow later this year and biodiversity in 2015.

With all these potential methodologies in the works, financing remains an important incentive to translate ideas into real results. The $280 million opened doors for financing landscapes at last year’s COP. Perhaps it will inspire additional governments to finance similar schemes this year.