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MUMBAI: Amid fears that a global recession may impact the carbon credit market, consultants are advising Indian companies sale and buyback of certified emission reductions (CERs) through forward transactions.
Indian companies are sitting on large unsold CERs/carbon credits in the hope that prices will appreciate in the future. As a result, carbon credits are ending up as dormant assets on companies’ balance sheets, resulting in a wasted opportunity.
Sale and buyback of CERs is undertaken in two back-to-back transactions. First, a seller enters into a spot deal with a buyer to sell today and receive an immediate payment. The seller then enters into a forward transaction to buy back the same quantum of CERs at a pre-determined date in the future at a price that is fixed today. This way, the seller has not only unlocked the value of his carbon credits, but also factored in a buyback arrangement so that he may exercise another sale arrangement in the future, probably, when prices have appreciated.
This is a common transaction in all financial markets, but is practically absent in the carbon market in India.
Said James Emanuel, commercial director, CantorCO2e, “If a company wants the value of its issued CERs without exposure to future price risk, then it should simply sell today. If, however, it is taking a speculative view that prices will go higher in future and so choose not to sell today, then rather than allowing the CERs to sit on their balance sheet, they can utilise the same CERs to raise finance at a low rate.”
Hypothetically speaking, this amounts to a lower “interest” outgo for a company wanting to raise funds through this route, as against a loan taken from a bank for a year at a higher interest rate.
For example, a company sells a certain quantum of CERs at euro 20 in the spot market and agrees to buy back the same quantum one year from now at euro 20.50. The cost to the company is the difference in price between sale and buyback, ie euro 0.50. If this is expressed as a percentage of the amount of funds raised (at euro 20) on an annualised basis, then it comes to 0.50/20×100 = 2.5%.
The actual rate will depend on the gradient of the forward price curve that changes as market prices change. Sale and buyback is a common practice in commodity markets, equity markets and fixed income markets globally. Financial engineering in this manner is a useful tool for businesses. However, Indian companies do not seem too confident about entering into such forward transactions in a relatively new and unexplored market like carbon credits.
A company official says a sale and buyback arrangement can be useful if the seller has the right and not an obligation to buy back at a fixed date.
By Namrata Singh, TNN
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