Act now to secure the future

6 min read

Over recent decades, the number of farmers in Australia has been decreasing and the size of farms has been increasing.1 According to the Federal Department of Agriculture, Water and the Environment, larger farms tend to be more profitable, invest more in innovation, and generate a higher rate of return on capital than smaller farms.2 This means that a handful of large commercial farms now account for the majority of agricultural production output (ie based on 2019–20 data, approximately 10% of Australian farms accounted for 50% of output).3

At the same time, the agricultural sector is seeing an uptake in carbon abatement projects, and other sustainable farming practices that seek to offset carbon emissions and minimise agriculture’s contribution to climate change.

This article explores the relationship between the increase in carbon abatement projects, climate security practices, and the industry trend towards larger and fewer agricultural businesses.

Current lay of the land: an upward trend in agricultural offset projects

Many farming properties provide opportunities for suitable offset initiatives, including using both emissions avoidance and carbon sequestration methodologies.

Emissions avoidance methodologies include: feeding supplements to livestock, applying inhibitors to livestock manure or treating livestock manure to reduce the emission of methane as a by-product of cattle digestive processes.

Carbon sequestration methodologies include: forestry plantings, or human-induced regeneration projects, which allow farming land to be regenerated to permit native vegetation to regrow. Agricultural businesses are also uniquely well placed to sequester carbon in the soil without limiting other productive uses of the land. Eligible activities that improve soil sequestration include applying nutrients, such as lime or gypsum, to the soil or rejuvenating pasture through seed planting – activities that do not prevent or harm existing agricultural grazing (and often improve agricultural activities).

Further, the agricultural sector enjoys a number of co-benefits, which is a factor for many farmers when deciding to sign on to carbon offsetting projects – one study found that 72% of adopters cited co-benefits as an important factor.4 Depending on the methodology, these benefits can include: reducing erosion, improving water quality in catchments, providing protection for stock (through shade and windbreaks) or improving soil quality.5

Despite the obvious suitability and benefits, it is only in recent years that we have started to see an uptick in agricultural carbon projects (as compared with the early adoption of waste methodology offset projects during a similar period).6 In the Figure 1 graph, we can see a steady upward trend in Australian agriculture-specific projects since 2012.7 Of the 970 projects listed on the Emissions Reduction Fund Register, 157 use an agriculture methodology. In addition to the agriculture-specific projects, there are 533 vegetation projects and 78 savanna-burning projects, many of which are carried out on rural farming properties. This trend demonstrates that the agricultural sector is playing an increasingly pivotal role in generating carbon credits.

Figure 1: prepared by Allens, based on Clean Energy Regulator data (data published by the CER on 1 October 2021 and accessed by Allens on 11 October 2021.)

What are some of the factors driving this increase in agricultural offset projects? We have considered the susceptibility of the sector to climate change as a driver, as well as the trends in size and nature of agribusinesses as a factor in overcoming the financial hurdles to carrying out offset projects.

The sector’s high susceptibility to climate change impacts is driving innovation

The agricultural sector is highly exposed to the impacts of climate change, due to its dependence on natural resources, stable weather conditions and a clean airshed. The 2020 Australian bushfires are a devastating example of the risks associated with increased extreme weather events. In addition to the loss of life and property, the 2020 bushfires wiped out over 1500 hectares of vineyards, and caused ‘smoke taint’ for whole vintages, and significant economic losses for the viticulture industry.8

As well as being exposed to the physical impacts of climate change, the agricultural sector is also increasingly susceptible to transition risk from it. The sector is a key producer of greenhouse gas emissions (GHGs). In 2014–15 the agricultural sector contributed 13% of Australia’s total net GHG emissions,9 and direct livestock emissions accounted for around 10% of Australia’s GHGs.10 These figures put the sector at risk from increased public scrutiny and pressure to reduce emissions and implement green solutions. While the spotlight has traditionally been on the energy sector in relation to both mandatory and voluntary emissions targets, we expect that as Australia works towards meeting its Paris Agreement commitments, the spotlight will eventually swing to the agricultural sector.

The pressures discussed above have created a financial incentive for agricultural businesses to future-proof their businesses by embracing new technology. A good example of this is the Sundrop Farms solar powered tomato farm in South Australia. In the face of climate change-associated pressures such as increased food shortages, water shortages and energy shortages,11 the company adapted its business, and constructed a world-leading concentrated solar power tower plant that will supply electricity, heat and desalinated seawater to grow tomatoes in the Australian desert.12 The facility cost $200 million to build, and was financed in part by the Clean Energy Finance Corporation, as well as $100 million from private equity investor Kohlberg Kravis Roberts.13 Sundrop Farms notes that this project has resulted in a ‘meaningful reduction in fossil fuel’ use.14 While such ventures involve significant capital expenditure, the commercialisation of farming operations opens up greater funding and investment options – a factor we expect could drive an increase in carbon abatement and climate adaptation projects.

Sowing seeds of success: the industry’s well placed for carbon abatement projects but there are high barriers to entry

Despite the obvious suitability of farming land for offset projects, policy uncertainty, significant start-up costs and fixed compliance fees (which are payable irrespective of the project’s size) can make developing a business case for carbon farming challenging (see Figure 2). In order to undertake a carbon farming project, farmers need to comply with intensive reporting and accounting requirements. For example, to administer a soil sequestration project, they must be able to collect and store field records, soil samples and other data in a structured format in a database allowing for data exchange with third parties.15

Figure 2: barriers to adopting carbon farming practices as identified by non-adopters, Marit Kragt, Nikki Dumbrell and Louise Blackmore, ‘Motivations and barriers for Western Australian broad-acre farmers to adopt carbon farming’ (2017) Environmental Science & Policy 73:115.

The Department of Agriculture, Water and the Environment noted (in the context of the Permanent Environmental Plantings of Native Species methodology) that ‘there is unlikely to be a business case for any one small landholder to register separately with the [Carbon Farming Initiative], it is probably beneficial to aggregate the interests of many small landholders within a sub-catchment’.16 This hypothesis has been confirmed in a number of studies that found increased farm size and profitability are associated with an increased uptake of carbon offsetting projects.17

Part of the explanation for the correlation between farm size and uptake of carbon projects is that increased access to capital allows larger farms to obtain the necessary specialist assistance to roll out large-scale offset projects effectively. As seen in the Sundrop Farm example above, innovation and fossil fuel reduction projects often involve significant capital investment. We expect that the trend towards larger, more commercialised farming, coupled with increasing demand for carbon offsets, is likely to drive further investment in carbon offsetting in the agricultural sector.

Over the past year, Australia has seen a sharp increase in institutional and private capital investing in the agricultural industry.18 For example, in May 2021, funds manager Capital Airport Group invested in a herd management project being run by Packhorse Pastoral Company. This increased interest from private equity suggests that the business case for agricultural offsets projects exists and the barriers to entry are becoming increasingly manageable.

Ensuring the agricultural sector reaps the benefits

Demand for offsets is principally driven by the need to fulfil offset requirements in individual project approvals, as well as the Federal Government’s Safeguard Mechanism and voluntary corporate commitments. These factors primarily affect the electricity generation, mining, oil and gas extraction, manufacturing, transport and waste sectors. Naturally, offtakers of agricultural offsets are principally found among these sectors.

A risk individual farmers must consider is how they will meet their own offset needs when agricultural emissions ultimately become regulated as Australia moves towards net zero emissions.

This risk is exacerbated by the fact that the general trend is for the price of ACCUs to increase. Currently, the price of Australian carbon credits is relatively low compared with global standards, with the EU carbon price being more than triple the price of Australia’s.19 Nonetheless, the increase in carbon abatement projects is being reflected in the market and this upward trend is expected to continue. Prices for Australian carbon credits have very recently broken through the $20 per tonne mark, and are expected to double by 2030.20

Strategies to mitigate the sector’s price exposure could include negotiating put options with offtakers for a portion of a farming enterprise’s carbon portfolio as a hedge, similar to the ‘optional delivery’ contracts currently accepted by the Clean Energy Regulator under the Carbon Solutions Fund auction scheme.

Looking forward

Carbon abatement projects are becoming increasingly prevalent in the agricultural industry. This change is in part being driven by decreased barriers to entry, as larger farms access additional capital and employ economies of scale to implement offset projects. With the price of carbon credits expected to double over the next decade, agricultural enterprises would be well advised to develop contractual strategies that enable them to respond to a scenario where their own emissions are more heavily scrutinised.