No farmer needs reminding that their industry is facing one of the most fundamental shifts in decades. As has been widely reported, it is anticipated that the replacement of the BPS with payments delivered via ELMs will leave the majority of farmers with a significant financial shortfall and an expectation that this shortfall will be plugged by private market initiatives. However, as a recent study on natural capital markets commissioned by the Food, Farming and Countryside Commission (FFCC) found, private funding streams, in the form of buying credits or units, raise as many questions for farmers (and indeed investors) as they do answers.
Where are we?
As farmers are the custodians of much of the country’s natural assets they are, by definition, the main providers of investment opportunities for enhancing natural capital. The government is investing via their ELM schemes (currently SFI and CS schemes) to which all farmers in receipt of BPS can sign up if they wish. However, as the government acknowledges, it cannot afford to bank roll all the environmental work that needs to be done to reverse the level of habitat loss to which it is committed and is relying on private investment to plug the financial gap.
It is not only the financial potential that is encouraging a growing private market to invest in natural capital; the demand from organisations needing to reduce – or offset - their carbon emissions, is an equally strong motivator. Some of these schemes have been developed on a statutory footing, such as 10% Biodiversity Net Gain, mandatory for developers from 2024, but most are unregulated. This poses a considerable risk for farmers, but particularly those farming smaller acreages who may have less choice about the type and number of schemes they can sign up to.
What farmers need to know
Benchmark data: in order to gauge improvement levels following investment, you need to know your starting point. Understanding what natural capital already exists on your farm, such as soil and water quality, number of species of animals and plants, and amount of woodland planted is critical. Technology is helpful but, as the FFCC notes, using local volunteer groups to help measure resident species can also be very valuable.
Due diligence: checking the provenance of the investor is important to ensure they are financially sound. If promoted by an adviser, is that advice objective? Is the price offered future-proofed?
Additionality: investors will only pay for enhanced environmental benefits over and above what you are already doing to improve your natural capital. This is where good benchmark data helps to judge what counts as additional benefit.
Insetting: the buyers of your produce may want proof that you are making strides towards net zero in your own business. If you have already sold credits in environmental improvements to a private investor, you may not have sufficient natural capital to satisfy your buyers’ requirements.
Contracts: the basic principles of contract negotiation apply but there are several additional considerations including:
- Ensure you know who you are contracting with – are you contracting with a single investor or a consortium and whose template are you using?
- Consider the length of contract – how long can the business commit to? If you have partners and / or successors to consider, their long term objectives need to be considered.
- If you are a tenant farmer, do you have an agreement with your landlord (the Rock Review noted there may be potential difficulties for tenant farmers to get involved in natural capital markets)?
- Will you have to make long term changes to how you farm in order to fulfil your contractual obligations and, if so, is the family / partnership on board?
- What monitoring and data collection obligations does the investor require?
- What plans do you have in place for the end of the contract? For instance, the government expects BNG agreements to extend beyond their 30 year minimum.
- Include a force majeure clause to hedge against an unanticipated event that prevents you from being able to fulfil your contractual obligations.
Consider the tax implications, particularly if the land involved is not being used for ‘agricultural purposes’ (although the government is currently consulting on this).
- Understand which legal framework the contract sits within – for instance, it is a conservation covenant or part of a S106 agreement (if part of a planning obligation such as 10% BNG)?
Regardless of the circumstances, because this is such a new area, you would be strongly advised to take professional – preferably legal – advice before signing anything and particularly if you are planning to contract with an investor(s) as a single entity. If you are in an area with a Farmer Cluster (such as the Arden Farm Wildlife Network in Warwickshire), you will have the advantage of critical mass, giving you more negotiating power and enabling you to participate in a wider project such as creating wildlife corridors. Alternatively, seek the advice of a trusted adviser such as a land agent who can help you navigate the negotiations.
Immature market has potential but approach with caution
Reservations about how these new markets will work are shared by investors and farmers alike. In an immature market there are questions about reliable revenue streams, changing government policy, the risk of investing in something inherently exposed to threats such as extreme weather, as well as having suitably reliable benchmark data from which to judge the efficacy of the investment. However, the general view is that natural capital markets have considerable potential to address a number of existential issues but, in order to achieve that potential, they need to conform to agreed standards, be effectively regulated, and have a comprehensible financial structure in which both public and private finance is appropriately balanced. Until then, by all means engage but do so with your eyes wide open.