Oslo, 1 September 2010

The upcoming Clean Development Mechanism ( CDM) Executive Board (EB) meeting agenda contains a proposal which, if adopted, could have serious financial implications for designated operational entities (DOEs) and for the supply of Certified Emission Reductions (CERs). The proposal, to place liability for the issuance of excess CERs firmly in the hands of DOEs, could result in constrained supply and increased demand for CERs, providing a strong bullish signal for the market, according to analysis by Point Carbon (a Thomson Reuters company) and the leading provider of market intelligence, news, analysis, forecasting and advisory services for the energy and environmental markets.

It could also mean that the DOE responsible for the validation, verification, or certification report of excess CERs would be liable and could be obliged to replenish these excess CERs with other CERs, or other carbon commodities, at considerable cost.

“This draft procedure, proposing the correction of significant deficiencies and the excess issuance of CERs, would be a very tough provision indeed, if adopted, as it not only targets situations where the DOE has wilfully caused the issuance of excess CERs or has caused it through gross negligence, but also less serious examples of negligence. It also appears that the procedures would be retroactive in the sense that a DOE could be forced to replenish CERs the EB decides it has incorrectly issued in the past”, says Kjetil Røine, Manager at Point Carbon and author of the analysis, who added, however, that the onus would be on the EB to prove that the DOEs’ work has “significant deficiencies” rather than the other way round.

The consequences for DOEs and for supply could be substantial if the procedures are approved. For example, so far, about 218 million CERs have been issued to HFC-23 projects, currently the projects attracting most controversy and subjected to the longest delays as they are scrutinised by the EB. Should 10% (or about 22 million) of already issued HFC-23 CERs be deemed as inappropriately issued, it would cost the DOEs in question up to EUR 150 million to replace these CERs at current sCER prices. In comparison, the operating profit in 2009 for DNV, one of the largest DOEs, was just short of EUR 150 million. DOEs need to have proper insurance in order to be accredited to validate or verify CDM projects.

If the EB agrees the proposals then it would form part of its recommendations to the COP/MOP in Cancun leaving it up to the COP to make a decision. If, then, the investigation of possible “significant deficiencies” is initiated and sanctions are indeed imposed on DOEs, this would likely exacerbate delays in both validation and verification in general because DOEs would become even more careful in their assessments. Some might even withdraw from the business altogether, perceiving the risks as higher than the rewards.

If a quantity of HFC-23 CERs is deemed excess CERs and must be replaced by other CERs, there would be the double effect of increasing supply constraints and increasing demand, at the same time. “In sum, the draft procedures for how to deal with excess CERs signal a strong EB resolve on such problems, which could put several DOEs in very serious financial trouble if implemented and could lead to both increased demand for CERs and constrained supply”, concludes Røine.

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Source: Point Carbon