by Dr. B.O. Oramah Senior Director Planning & Development

1. Commoditizing Carbon for Emissions Reduction in Africa’s Oil and Gas Sector – Carbon Credits and Afreximbank Carbon Financing Programme by Dr. B.O. Oramah Senior Director Planning & Development Presented at the 11th Africa Oil and Gas, Trade and Finance Conference during May 23 -25, 2007, in Nairobi, Kenya NOT AN OFFICIAL UNCTAD RECORD

2. Contents • Introduction • The Kyoto Protocol and the Carbon Market • The Clean Development Mechanism (CDM) – Issues and Challenges • CDM in Africa • Why Afreximbank Carbon Financing Programme? • Afreximbank Carbon Financing Programme (CFP) – Product Outline • About Afreximbank (www.afreximbank.com)

3. 1. Introduction • Global concerns about climate change due to unsustainable emissions of Green House Gases (GHGs) (e.g. carbon dioxide )CO2(,chlorofluorocarbons, methane, and nitrogen oxides) have led to concerted efforts to deal with the problem. • On February 16, 2005, the Kyoto Protocol to the UN Framework Convention on Climate Change (UNFCC) came into force involving 165 countries and other governmental entities. • Countries that ratify this protocol commit to reduce their emissions of GHGs or engage in emissions trading if they maintain or increase emissions of these gases.

4. The Protocol is “flexible” allowing so-called Annex I (developed) countries to meet their GHG targets by purchasing GHG emissions reduction from elsewhere, either from financial exchanges (e.g. The EU’s Emission Trading Scheme) or from projects which reduce emissions in non-Annex I (developing) countries under the Clean Development Mechanism (CDM) or in other Annex I countries under the Joint Implementation (JI) arrangement.

5. For Africa which is the lowest emitter of green-house gases, this development creates an immense opportunity to attract finance for implementing important projects in an environmentally-friendly manner. • For banks supporting such projects, there is an added advantage in that such projects can be financed with better security. • It is in view of the above, that Afreximbank has decided to introduce a new product called “Carbon Finance Programme (CFP)”.

6. 2. The Kyoto Protocol and the Carbon Market 2.1 About the Kyoto Protocol The Kyoto Protocol aims to stabilise GHG concentrations in the atmosphere to a level that would prevent dangerous anthropogenic interference with the climate system. The target for the first commitment period (2008-2012) is to reduce global GHG emissions to 5% below 1990 levels. Reduction targets differ between parties to the conference, reflecting their common but differentiated responsibilities, so that Annex I countries will reduce their emissions, while no such commitments exist yet for non-Annex I countries.

7. 2.2 What is the Carbon Market? The carbon market, which was established as part of the Kyoto Protocol, is the business of buying and selling greenhouse gas emissions.The carbon market has essentially created a new globally traded commodity where: • The commodity is the “reduction of Green House Gas (GHG) emissions by the equivalent of one tonne of CO2”. • This commodity has a market value, and similar to wheat or oil can be traded across borders on the market. • This commodity is produced by those with a comparative advantage, and consumed by entities requiring emissions reduction credits to meet their regulatory or treaty obligations.

8. Two commodities are traded in this market: • Emissions allowances: allowances to emit GHG allocated to companies by national governments of Annex I countries. Companies that emit less than their allowances can sell these to companies emitting more than their allocation, or to trading companies. In the European Union Emission Trading Scheme (EU ETS) the allowances are called EU Allowances (EUAs). • Project-based emissions reductions: emission reduction generated by project activities, which are certified by an independent auditor. Certificates are called Certified Emission Reductions (CERs) or Emission Reduction Units (ERUs), depending on the origin. CDM projects generate CERs.

9. The carbon market covers the three Kyoto Mechanisms: a) the CDM, for emission reduction projects in non-Annex I countries; b) Joint Implementation, for emission reduction projects in Annex I countries for which the emission reductions are credited to another country than the host country; and c) International Emission Trading, for direct trading of emission allowances between Annex I countries.

10. 2.3 Size of the Carbon Market The carbon market is growing at an extraordinary pace. In 2005, about 800 Mt CO2 eq. was transacted with a value of €9.4 billion according to Point Carbon. This is an eight-fold increase in volume and 25 times more financial value than the previous year. The CDM represented 400 Mt CO2 eq., with a total value of €1.9 billion.

11. Project-based carbon marketCDM>90% of project-based carbon market According to the World Bank, project-based carbon credits market through 2012 could be worth between US$12.5 billion and US$25 billion. Source: World Bank

12. The Market has been boosted by increased demand from the EU and Japan.

13. Several European financial institutions have set up procurement vehicles designed to purchase CERs/ERUs directly from project developers and sell them to emitters under the EU ETS. Similar vehicles have been set up in Japan. In addition to private sector funds, publicly funded government-led procurement programmes have been set up throughout Europe and in Japan to purchase CERs from project developers in order to support national level compliance efforts under the Kyoto Protocol.

14. 2.4Prices for CERs • The range of CER prices reflects differences in the delivery. CERs that are available for immediate delivery are priced in the range of €12-€15, whereas for future delivery are discounted to about €10-12. There are also price differences between countries. Generally, sellers in China and other countries are willing to accept lower prices than those in India. • Prices are also expected to be impacted by whether the U.S. joins the Protocol as well as compliance pressure as the commitment period comes to an end.

15. 1. Registered project w/a firm delivery guarantee 2. Registered project w/o a firm delivery guarantee 3. Non-registered project with no delivery guarantee Source: Point Carbon, 2006.

16. CER and ERU price categories (March 2007) Lower risk for the seller Higher risk for the seller Source: Point Carbon (2007), “Carbon Market 2007” a paper presented by Gassan-zade, Olga during the Seminar on “Industrial Energy Efficiency Projects in the Clean Development Mechanism and Joint Implementation” organized by UNIDO during 19-20 March 2007.

17. 3. The Clean Development Mechanism (CDM) – Issues and Challenges 3.1 What is CDM? The Clean Development Mechanism (CDM) was decided on at the 7th Conference of Parties (COP) to the UNFCCC in Marrakech in 2001, as outlined in the Marrakech Accords. The CDM procedures were approved and adopted during the 11thCOP in Montreal in 2005.

18. By funding and implementing projects in non-Annex I countries, Annex I countries reduce GHG emissions in the non-Annex I countries. The emissions saving, expressed in the Certified Emission Reduction (CER) credits will be added to the total emission cap of the Annex I country, helping it to meet its target. In effect, this increases the total Annex I emission allowance, because non-Annex I countries do not have emissions reduction targets.

19. More than 300 carbon credit projects have been approved worldwide under the CDM and deals totaled $4 billion in the first half of 2006. African countries account for 2.5% of the projects.

20. Distribution of CDM Projectsas shares of CO2 eq Source: World Bank

21. 3.2 CDM Principles The CDM is based on three global principles: 1. Participation of the project partners is voluntary 2. The project results in real, measurable and long term benefits related to the mitigation of climate change. 3. The reduction of emissions through the CDM project must be additional to reductions that would occur without the CDM project (Additionality principle). The implication of principle 2 is that the emission reductions that can reasonable be attributed to the project activity must be directly quantifiable, and long-term. The Additionality principle implies that the project would not be implemented in absence of CDM revenue, because of economic or other barriers, and contributes to a net reduction in emissions from a concrete baseline scenario, in which the project would not happen.

22. 3.3 CDM’s Organisational Structure 3.3.1 CDM Project Participants Source: Dijkstra, S. (2006), “Clean Development through Cogeneration” (October) a paper presented to the UNIDO/CTI/UK Trade and Investment Seminar on Energy Efficiency in CDM and JI, Vienna, 19-22 March 2007.

23. COP/MOP* CDM Executive Board Methodologies Panel Afforestation & Reforestation Working Group Small Scale Working Group CDM Accreditation Panel Registration Team Accreditation Assessment Team 3.3.2 CDM’s Organizational Structure * The Conference of the Parties serving as the Meeting of the Parties to the Kyoto Protocol Source: Institute for Global Environmental Strategies, CDM in Charts, 2006 as cited in Dijkstra, S. (2006), “Clean Development through Cogeneration” (October).

24. 3.4 Types of CDM Projects Type I. Renewable Energy Projects • Electricity generation by the user • Mechanical energy for the user • Thermal energy for the user • Renewable electricity generation for a grid Type II. Energy Efficiency Improvement Projects • Supply side, Demand side and fuel switching Type III. Other Projects 1. Methane recovery, Transport, Agriculture and Land use, etc…

25. CDM Projects Distribution by Type - Actual 3.4 Types of CDM Projects cont’d Inner circle - # of projects Outer circle - volume * LULUCF is Land-Use, Land-Use Change and Forestry Source: Point Carbon (2007), “Carbon Market 2007” a paper presented by Gassan-zade, Olga during the Seminar on “Industrial Energy Efficiency Projects in the Clean Development Mechanism and Joint Implementation” organised by UNIDO during 19-20 March 2007.

26. Normal Project Costs • Planning costs • Capital costs • Operation costs Normal Project Revenues Eligible CDM Project • CDM Related Costs • Project design costs • CDM Procedural costs • CER transaction costs CERs 3.5 Costs and Outputs of a CDM Project Source: Wade , 2006 as cited in Dijkstra, S. (2006), “Clean Development through Cogeneration” (October) a paper presented to the UNIDO/CTI/UK Trade and Investment Seminar on Energy Efficiency in CDM and JI, Vienna, 19-22 March 2007.

27. 3.6 Challenges facing CDM Projects1. Transaction costs are relatively very high. One reason why small scale projects are at a disadvantage Source: Ecosecurities, 2003: Quoted in UNEP Energy and Environment Group, the CDM-A User’s Guide, 2003.

28. 3.6 Challenges facing CDM Projects (cont’d) 2. Additionality of CDM Projects Difficult to Prove 3. Political Uncertainty: Post-Kyoto Arrangements 4. Financial Uncertainty: Carbon Markets and Carbon Prices

29. 3.7 Financing Risks3.7.1 CDM Project Risks 3.7.1.1 Registration/Regulatory risk 3.7.1.2 Performance/Delivery risk 3.7.1.3 Counter-party risk 3.7.1.4 Market risk 3.7.1.5 Country risk

30. 3.7.1.1 Registration/Regulatory Risk Registration risk refers to the likelihood that the project will not be validated by a Designated Operational Entity (DOE) and registered by the CDM EB (Executive Board). There can be several reasons for this to happen: • Non-approval of a new baseline methodology. • Unsuccessful validation of methodology of calculating emission reduction. • Non-approval by the host country. • Request for review at registration by CDM-EB. • Request for review at CER issuance by CDM-EB.

31. 3.7.1.2 Performance/Delivery Risk This risk is related to delivering uncertainties as to whether the project will produce the volume of emissions reductions that are estimated in the PDD. Typical risks include:  Will the project be completed at all?  Delays in Commissioning: Will the project start as planned?  Unreliability of Fuel Resource Supply: Will sufficient fuel be available at affordable price for the project throughout its lifetime?  Breakdown in Technology: Will the technology remain reliable throughout the project lifetime?  Unreliable Financial Flows: Will the project face problems through unreliable non-CER?

32. 3.7.1.3 Counter-party Risk The CERs from projects are generally transacted through forward contracts in which the Buyer agrees to pay the Seller for delivery of a specific volume of CERs on a specific date at a price negotiated at the time of initial contract. Because contracts are private agreements between two parties there is always a risk that a party may default on its side of the agreement. Some of the issues relating to the likelihood of default are:  Insolvency: Will the CER Buyer remain financially solvent for the duration of the contract?  Fraud/Wilful misconduct: Will the Buyer and the Seller follow through on the contract, especially if prices move adversely from their respective points of view?

33. 3.7.1.4 Market Risk In addition to the uncertainty in financial flows faced by conventional project developers, CDM projects face an additional risk associated with the income they will receive from the sales of CERs, based on carbon market developments. CER prices are determined by the supply and demand in the market for emissions reductions. Since market conditions change, prices fluctuate and as a result project developers are not certain of the additional income they will earn from CER sales. This can endanger the viability of CDM projects, if they rely heavily on the CER revenue and prices are not fixed and firm.

34. 3.7.1.5 Country Risk Will host government of project expropriate the project; place embargoes on imports and exports.

35. In the CDM pipeline: • 17 projects from Middle East and North Africa (MENA) • 19 projects from Sub-Saharan Africa (SSA) • TOTAL 98 million tCO2 up to 2012 CDM Projects in Africa4.1 Geographical distribution • Projects already transacted*: • 28 million tCO2 up to 2012 • Average price US$8.3/CER Source: World Bank * Data includes Israel

36. Fugitive gas emissions reduction have major impact on Nigeria’s CDM projects pipeline following the Executive Board’s decision to permit those projects. They had earlier refused saying that Nigeria’s policy is to stop gas flaring so the projects do not meet the Additionality principle.

37. 4.2 Types of CDM Projects in Africa* = Landfill Gas * Including Israel CDM types in the CDM pipeline in volumes TOTAL = 98 million tCO2 Source: World Bank

38. 4.3 Potential CDM Projects in Africa • In principle the CDM can be applied to any industrial activity and energy consumption process • Biomass-based energy, like biodiesel, power production from biogas or agricultural residue • Hydropower • Off-grid energy access like waste-to-energy • Also: Africa has led the way in afforestation and reforestation: • Green Belt Movement Project in Kenya 1,800 ha, 375,000 tCO2 by 2017 • Acacia plantations in Niger  8,800 ha, CDM process managed by Eco-Carbone •  But avoided deforestation not available through the CDM

39. 5. Why Afreximbank Carbon Financing Programme? • It will help the development of environmentally-friendly projects in Africa. • Access to finance will encourage entrepreneurs to think of using environmentally-friendly technologies that may be more expensive than traditional technologies. • Such a Programme will help attract to Africa the huge funds devoted to buying carbon credits under the CDM. Currently most of these funds go to Asia and Latin America.

40. 5. Why Afreximbank Carbon Finance Programme? (cont’d) • Enhanced cashflow for projects. • To improve the negotiating power of African sellers of Carbon Credit by mitigation of delivery and project completion risks. • Maintaining social responsibility.

41. 5. Why Afreximbank Carbon Finance Programme? (cont’d) • Even though there are risks in carbon finance such as project completion risk, performance/delivery risk, payment risk, regulatory risk, price risk, etc., the potential benefits to Africa and financiers, such as the Bank could be very high. The flow of new and additional resources for environmentally sound projects in African countries can augment Official Development Assistance (ODA) and serve as a conduit for new technologies. This would meet the need of African countries to increase their energy efficiency and mitigate environmental pollution.

42. 5. Why Afreximbank Carbon Finance Programme? (cont’d) • Opportunity for spin-off business - It can complement the Bank’s engagement in energy and infrastructure projects, where carbon finance can improve the viability of these investments and create other revenue opportunities.

43. 5. Why Afreximbank Carbon Finance Programme? (cont’d) • Carbon finance can also play a role in increasing investment in efficient fossil fuel plants, supporting renewable energy (including biofuels), dealing with poorly managed landfills and other waste streams that pose serious public health risks to large populations, building sustainable forest management, improving land use practices in agriculture, and increasing efficiency in transportation – all while setting up a cost-effective mechanism to deal with climate change.

44. 6. Afreximbank Carbon Financing Programme (CFP) –Product Outline • 6.1 Purpose • 6.2 Objectives • 6.3 Beneficiaries • 6.4 Eligible Transactions • 6.5 Implementing Modality • 6.6 Financing Instruments • 6.7 Pricing • 6.8 Tenor • 6.9 Partnerships

45. 6.1 Purpose • To support environmentally-friendly projects in Africa by promoting project-based trading of certified emission reductions (Carbon Credits) under the Kyoto Protocol’s Clean Development Mechanism (CDM) as well as pre-financing receivables from carbon credits earned and traded by African businesses and governments thereby contributing to reductions in carbon emissions and abating consequential climate change.

46. 6.2 Objectives The Bank’s CFP has the general objective of supporting African private and public environmentally-friendly projects, some of which would otherwise not be bankable, by leveraging the credit of off-takers of carbon credits earned by those projects to complement other revenue flows supporting such deals.

47. The specific objectives are: • to stimulate investment in environmentally-friendly projects under the CDM • To leverage additional carbon finance and supporting investments into Africa through partnering with developed country governments and private corporations wanting to buy carbon credits in African markets; • strengthening the capacity of African countries to benefit from the emerging market for carbon credits;

48. to play a major role in building, sustaining, and expanding a market-based approach for carbon emission reductions by piloting the development in Africa, of new techniques for achieving carbon emission reductions while attracting finance for new types of projects (e.g., clean coal, urban infrastructure, sustainable agriculture, aforestation, etc.). 5. to promote awareness about the dangers of GHG emissions and to encourage entrepreneurs to pursue projects that recognize these dangers.

49. 6.3 Beneficiaries 6.3.1 African corporates and governments implementing projects that have earned or are likely to earn carbon credits; 6.3.2 African banks and financial institutions financing trade in carbon credits and/or projects that have earned or can earn carbon credits; and 6.3.3 NGOs and environmental groups seeking finance to promote projects that have earned or can earn carbon credits.

50. 6.4 Eligible Transactions 6.4.1 African Projects under the CDM; and 6.4.2 Carbon traders that have accumulated carbon credits earned by environmentally friendly projects in Africa and who have sold those credits to acceptable parties.