Guide to structuring a PES project

Editor's Notes

• #4: The first step can be broken down into 3 sub-components, all of which require a work and technical skill. Costs span the gamut depending on the level of precision in measurement that a buyer expects (or desires) as well as the amount of research needed to determine value (which is less in a regulated market than in a voluntary market, usually) as well as to identify prospective buyers. Depending on the nature of land ownership and buyer interest, there also may be issues to resolve around whether to sell as individuals or a group.By answering the following key questions, you will spell out what ecosystem service is for sale, who the potential buyers are, and how the ecosystem service can be restored and maintained. A successful sale begins with answering the question, “What are you offering a buyer?” The major types of ecosystem services that have been sold to date include:  Biodiversity protection Wetlands and watershed conservationClimate regulation and carbon sequestrationMarine conservation Any or all of these services could be the focus of PES deals, and bundling several types of ecosystem services together in one project can maximize income and diversify risk.
• #5: BUYERS CAN BE: Government Private buyers in regulated markets Voluntary private buyers Philanthropic buyersBuyers of eco-certified productsIllustrative Potential BuyersOil & GasUtilities -- Energy such as damsUtilities -- Wastewater Treatment/Water FacilitiesMiningFood & Agriculture TransportationForestry/Pulp & PaperRetailersMunicipalities and governmentsExtended notes Determining the most promising type of buyer is a prominent issue. A preliminary assessment should be based on the level of activities and engagement of the various players — including private companies, private intermediaries, government agencies, donor agencies, NGOs, and individuals — in a particular area.  At this point, potential sellers of ecosystem services should begin to ‘brainstorm’ or generate lists of prospective buyers. To begin the process, you can ask questions such as:  Who are the largest employers in the province, country, or even the region? Who relies on ecosystem services from a prospective PES deal site in a significant way through:Using significant resources (e.g., downstream water users)?Owning large landholdings and affecting habitat / biodiversity on these lands?Emitting greenhouse gases and carbon dioxide? Once ecosystem services on site are identified and assessed at least roughly (such as for potential of carbon that can be sequestered through a specific set of resource / land management practices), then – if a buyer has not already been identified – it is ideal to identify prospective buyers. The challenge is that buyers may wish to see a complete technical report on the potential land management practices with justification as to why these practices would lead to specific ecosystem services benefits (such as carbon sequestered or water flow improved). The challenge is that detailed technical reports are, not surprisingly, time and cost intensive and can result in significant financial outlays prior to any assurance that revenue from a sale will be realized. Simply put, preparing for a potential PES sale can be costly without any clarity that it will ‘pay off’. This risk is significant and has been mitigated in the past by NGOs and philanthropists assisting with underwriting these costs, particularly so that the poor can access PES deals related to forest carbon in the climate finance domain. In some cases, the underwriters of costs may be the ultimate buyers which can eliminate these challenges.
• #6: There are various methods of measuring the benefits of ecosystem services that would be the focus of a PES deal, and it may be in the best interest of all parties to engage scientists and other experts, if only on a short-term contractual basis, to undertake measurements. How certain are ecologists or experts that a particular set of natural resource management practices will result in a specific set of ecosystem service-related outcomes, such as planting trees on a certain hillside and avoiding erosion, or improving water quality, etc.?How certain is it that the desired ecosystem service outcomes will be achieved, given the potential for other unanticipated dynamics (natural or otherwise, such as climate change factors – including varying rainfall patterns, wildfires, insect infestations in forests, demographic trends, and land pressures, etc.)?Habitat / BiodiversityCritical breeding areas?Continuous corridors?Adequate territory for species?Water and food for wildlife available year-round?These questions include identification of ecosystem services in a prospective PES transaction ‘site’ / areaWatershedKey sources of pollution controlled?Water flow managed across the watershed?Major tributaries includedKey wetlands included?
• #7: Characterizing agents and drivers is important for: developing projections of location of future deforestation(baseline) identifying leakage risks and mitigation strategiesand effective project design (project measures)
• #8: What is the value?What should the price be? Are there comparable deals?A key part of the ‘ask’ to buyers is of course the price. It is essential to note that value and price are not always equal. Price ultimately depends on what a buyer is willing to pay and/or what is negotiated between buyer and seller.As sellers begins to think about negotiating a price for a PES deal, they must make sure that the following are factored into the offering price: costs for complying with the agreed-upon land management practices over timeimpact on the seller’s earnings, in present value terms, in terms of changing land management practices to comply with agreement termsadministrative costs under the expected PES transaction over time. Extended NotesIn negotiating, sellers must never forget that payment is contingent on delivery – and delivery is contingent on structuring a realistic deal. If the market price offered does not cover the costs of the land management that will be provided, the deal is not realistic. Therefore, it is essential to ensure clarity and agreement on measurable indicators of compliance with the PES deal as well as agreement on how risks of unavoidable non-compliance with the deal —such as through insect infestations, shifts in rainfall patterns, wildfires, etc.—will be shared between buyers and sellers. Be able to answer:What is the ecosystem services objective?How will this objective be achieved? Why do we believe that these practices will lead to specified ecological outcomes? How will measurement be made of the ecosystem services both at a baseline state and over time?
• #9: Once there is clarity that a site has ecosystem services that are valued by beneficiaries who have the means to pay for their maintenance, then the exploration of a potential PES agreement can shift to the next phase of assessing institutional and technical capacity to undertake such an agreement (and implement it, without leading to unintended consequences or risks for sellers). Assess legal, policy, and land ownership contextTake careful stock of the context in which it will take placeMake sure that laws, practices and institutions in a potential PES deal site support, or at least do not obstruct, the development of these payment schemes.If government policies or even agencies are engaged in ecosystem service issues (most likely related to greenhouse gases or water), these may serve as important sources of information and expertise as you develop a PES deal. If people in rural communities do not have legal and practical access to an ecosystem service, a buyer will likely find the risks of forging a PES deal too great. If clarity on tenure or use rights does exist, however, then so does a critical element of the context in which PES can develop.It is also essential to consider who owns the legal rights to ecosystem services and profit derived from their sale. In some cases, it may be the state and not the local landowner who is looking to sell the service. After assessing the legal and policy context at national, regional, and municipal levels of government, it is time to assess local land tenure and use rights.
• #10: In assessing these questions, it is likely that there will be a need for a range of specialists to advise on, or assist with, putting together the nuts and bolts associated with the PES deal. First, scientists are needed to document and measure the ecosystem services in question. Scientists will also need to identify the natural resource management practices that will sequester carbon, enhance water flows, improve water quality – or achieve the ecological objective desired. Second, once the technical details are addressed, then the legal issues associated with coming to agreement will need legal counsel to ensure that the contract is clear and fair. Finally, technical expertise may be needed during implementation as well as verifiers and certifiers.Scientific and technical knowledge for measuring and documenting existence and current status of ecosystem services that sellers wish to provide, and also for comprehensive land management plans Negotiation skills and contractual experience (including financial planning) that ensure that buyer and seller can with full knowledge agree on all terms of the contractImplementation, monitoring and verification expertise which may need to involve third party verifiers, depending on the buyer’s needs Extended Notes These services may add transaction costs, but without them, there may be no deal. At their best, these groups not only provide the validation demanded by many buyers, but also move the process along. Some intermediary groups with expertise in community organization, for example, may be selected to take responsibility for local project management, as well as mediation between investors and local people. Local institutions that have the business skills to negotiate private deals and the capacity to handle complex organizational arrangements can facilitate market development and maximize participation by local groups, including the rural poor and indigenous groups.  Where highly specialized expertise is needed for limited time periods—such as designing ecosystem monitoring methods, or developing service contracts—specialized companies, public agencies or experienced NGOs can provide business and technical support services. When selecting support institutions, it is essential to compare the costs of “hiring in” expertise with the risks of going it alone or without adequate support. It is also wise to check references and the track record of the organization with which a partnership is being explored. Also, keep in mind the variety of arrangements that offer partners a stake in the success of the project. Note, also, that some organizations work on a pro-bono / free basis.  Ultimately, all legal and technical responsibilities will remain with the community or seller of the ecosystem service. Therefore, it is critical that any support institutions which sellers and communities engage also transfer the required expertise to the community members.
• #11: The PIN should be considered as a valuable tool for project proponents and others to review basic assumptions about the project. It should reflect all the elements highlighted above (project objectives, activities, and participants), as well as: (SEE SLIDE) Characterization of the BaselineWhat are the driving forces of land use and land-use change? Is the process degradation, deforestation, or a sequence of degradation leading to deforestation? What would happen without the project? Who are actors? Estimate of Forest Carbon Stocks or Sequestration Potential What are carbon stocks of any existing forest on project lands? What are carbon accumulation rates of planted trees and regenerated forests?Social and Environmental Impacts Impacts on local populations and ecosystem services?How will adverse impacts be managed and mitigated? How will economic benefits be allocated? Additionality Arguments that carbon benefits would not have occurred? Are carbon revenues vital for implementation of activities? Preliminary Estimate of Carbon BenefitsImpact of project activities in reducing emissions? On what time scale? When can activities be launched? EXTENDED NOTES Characterization of the baseline: To the extent possible, describe and substantiate this scenario with data on historical degradation or deforestation trends in the project area or its vicinity. Note any recent changes in land-use trends, e.g., deforestation trends in the last ten versus five years. Be careful to critically re-examine common perceptions of land-use and environmental degradation trends and try to find objective evidence for such developments. Estimate of forest carbon stocks or sequestration potential: This information should ideally be based on available data from the project site or similar forests or plantations. In the absence of local data, use IPCC default values and, for AR projects, potentially consult existing carbon calculators. Social and Environmental Impacts: These questions can be important arguments for convincing certain types of stakeholders and investors to become engaged in the project; be brief and objective in laying out these aspects.Preliminary estimate of carbon benefits: This refers to the differential between baseline (without-project) and project scenario, i.e., net carbon losses or gains. Try to be conservative and realistic in your assumptions – overly optimistic calculations and inflated objectives are unlikely to convince investors or other stakeholders; a cautious and well-documented argument is more likely to impress.Additionality The elaboration of a PIN should not lead project proponents to believe that project feasibility is assured. A critical and rigorous feasibility assessment needs to be carried out (see next step) before significant resources are committed or any firm engagements made with other parties. A PIN should only be shared with potential investors and government authorities once a feasibility assessment has been concluded with a positive outcome, and in many cases a PIN should only be drawn up at this stage. On the other hand, many of the preliminary assessments carried out while developing a PIN can later be used in a more thorough feasibility analysis.
• #15: What are the key elements of PES contracts / agreements?  PES agreements should clearly lay out:  Who is responsible for each action? What ecosystem service results are expected? How results will be demonstrated? Who will be responsible for monitoring, evaluating, verifying, and certifying results?Who will receive what amount of money in what time frame? Which criteria will evaluate the fairness of the PES deal?What costs may be incurred during implementation of the deal? Are these costs built into the agreement and/or the financial benefits that sellers will accrue? What projected revenues for sellers? When and how will these revenues be delivered?What, if any, intangible benefits will sellers realize (such as training, technical assistance, etc.)? Are these benefits sufficiently important to allow for a lower monetary reward? What are potential risks to sellers and pathways for mitigating risks?Terms and type of payment specifying when, how much, how often, to whom, and other details, such as: cash to one person, to a community group, to a vendor of a community service (e.g., builders of a school) as well as whether the payment is in the form of cash, in-kind technical assistance, in-kind materials for building a community building, etc.Timing of payments in terms of when the ecosystem service activities are carried out by the seller, when the buyer ensures that monitoring of the action occurs, or a combination of both.Requirements that need to be met for payment, such as periodic monitoring, reporting and verification needs.Managing risks, particularly those beyond a seller’s control (such as unexpected natural events) through specific clauses in agreements detailing how certain risks are shared between sellers and buyers, or even insurance (provided it is available, cost-effective and feasibleSignatories to the contract should be directly affiliated with the buyer (or group of buyers) and the seller, though it may be useful to have provisions for specific roles of support institutions, as well as details on the exact payment that will be made for services rendered by the intermediary.
• #16: The agreement type can vary, it is only essential that all details be clearly laid out and understood by both partiesIt is possible to enter into both verbal and written contracts, each of which has its advantages and disadvantages. Written contracts can be costly and more time-consuming, but they leave little room for misunderstanding and they create a record which can be referenced at any time. Verbal contracts, however, can be misinterpreted by either party which damages the trust between buyer and seller. A simple contract written in the local language with the help of a local lawyer can be a low cost solution which allows both buyer and seller complete understanding of the transaction. It is critical to keep the agreements realistic; potential limitations must be well-understood. Long-term contracts should specify dates when the contract will be reviewed and potentially amended Contracts can include verification procedures to assess performance. Contracts can include a rating system that is the basis for increasing payments for outstanding performance and decreasing payments for underperformance.
• #17: Once the agreement is complete, then implementation begins with details such as (see list on slide)During this stage, the project must not only be managed effectively, but also consistently monitored and evaluated for service delivery and adequate distribution of benefits in accordance with the parameters laid out in the agreement. Third-party verification (and in some cases certification, depending on the buyers’ preferences) may also be required to ensure that the project is meeting its objectives.  Attention now shifts to implementing the agreement, monitoring progress, reporting results, and making changes if the desired results are not being realized.  Remember, ecological systems are complex, and the best-laid plans of buyers, sellers, scientists and lawyers can go awry in the early stages. This reality is why we have continually stressed the importance of ‘adaptive management’. By planning from the outset to adapt to the results of monitoring and periodic verification, you will help ensure that a successful agreement can continue to be carried out over the duration of the agreement.