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ESG Explainer: Halting Deforestation

The role of forests as carbon sinks and sources of biodiversity is well recognised, but action to clean-up supply chains is slow to reduce deforestation rates.

Between August 2020 and July 2021, deforestation in Brazil’s Amazon rainforest reached its highest level since 2006, with 13,235 square kilometres of rainforest destroyed, according to Brazil’s space research agency INPE. This despite commitments by the Brazilian government that it is curbing illegal logging.

Data recently released by INPE found that the area of Amazon rainforest destroyed in January 2022 was five times larger than the same month last year.  And a new report from NGO Amazon Watch warned of new plans for mining on indigenous land, which would further reduce the rainforest.

Globally from 2001 to 2020, a total of 411Mha of tree cover was lost, equivalent to a 10% decrease in tree cover since 2000 and 165Gt of CO₂ emissions, says Global Forest Watch (GFW), an online forest monitoring platform.

The loss of forest cover has stark implications for climate change and biodiversity. Forests store carbon, which is released back into the atmosphere when trees are cleared. A COP26 declaration on forests and land use emphasised the “critical and interdependent roles of forests of all types, biodiversity and sustainable land use in enabling the world to meet its sustainable development goals; to help achieve a balance between anthropogenic greenhouse gas emissions and removal by sinks; to adapt to climate change; and to maintain other ecosystem services”.

In May 2021, a group of retailers, food suppliers and investment companies wrote to Brazilian legislators, expressing their concern about proposed legislation that could threaten the Amazon rainforest. Flora Gaber, ESG Specialist at Swedish government-owned pension fund AP7 and one of the letter signatories, said at the time that such action was important. “As investors, we are starting to realise the value of crucial ecosystems and the risks linked with their destruction.”

Despite new pledges and raised awareness, the pace of deforestation on the ground does not appear to be slowing. This explainer looks at how investors can encourage companies to remove the products of deforestation from their supply chains

What did world leaders commit to do at COP26 to stop deforestation?

Leaders from more than 140 countries, including Russia, Brazil, Canada, the US and Democratic Republic of the Congo – the top five countries in terms of tree cover, according to GFW – reaffirmed their commitments to “sustainable land use, and to the conservation, protection, sustainable management and restoration of forests, and other terrestrial ecosystems”.

The declaration acknowledged that “transformative further action” was required in sustainable production and consumption, infrastructure development, trade, finance and investment and support for local communities that depend on forests for their livelihoods.

The signatories committed to working collectively to halt and reverse forest loss and land degradation by 2030. Among the details was a commitment to “facilitate the alignment of financial flows with international goals to reverse forest loss and degradation, while ensuring robust policies and systems are in place to accelerate the transition to an economy that is resilient and advances forest, sustainable land use, biodiversity and climate goals”.

Rod Taylor, Forest Program Global Director, World Resources Institute, said of the declaration: “In order to make real progress, the declaration must herald new ways of doing business, including far more accountability. For example, countries need to insert concrete forest protection measures into trade agreements and national development plans.”

What are the challenges to reversing or halting deforestation?

Only days after the COP26 declaration on deforestation, the environment minister of signatory Indonesia, Siti Nurbaya Bakar, said the plans were “inappropriate and unfair”. She objected to the imposition of “European standards” of deforestation onto Indonesia, a developing country. Deforestation in Indonesia is largely driven by palm oil production – the country is the world’s biggest exporter.

The World Resources Institute (WRI) says for 2022 to be the year that “truly breaks the cycle of deforestation” consumer countries must close commodity markets linked to deforestation, while companies must remove deforestation from their supply chains. Additionally, countries must turn their no-deforestation commitments into “actual policy”. Moreover, money must flow into forests through mechanisms such as funding for forest projects and high-quality forest carbon credits.

What are individual governments doing to tackle deforestation?

The EU is currently debating a regulation on deforestation in supply chains. It acknowledges that the main driver of deforestation and forest degradation is the expansion of agricultural land to produce commodities such as cattle, wood, palm oil, soy, cocoa or coffee. “A growing world population and increasing demand for agricultural products especially those of animal origin is expected to increase demand for agricultural land and put additional pressure on forests, while changing climate patterns will affect food production, necessitating a shift to a sustainable production that is not leading to further deforestation and forest degradation,” says the plan, published by the European Commission in November.

As a consumer of commodities associated with deforestation and forest degradation, the EU currently lacks “specific and effective” rules to reduce its contribution to these phenomena. The objective of regulation is to curb deforestation and forest degradation that is provoked by EU consumption and production. The French presidency of the European Council aims to reach a common position in June. EU farming ministers held a policy debate on the Commission’s proposed regulation earlier this week. During the debate, ministers highlighted the need to establish clear, unambiguous definitions, in line with the EU’s forest policy, to avoid disproportionate administrative and financial burdens (in particular for small operators), to ensure that the regulation is implemented consistently across the EU, to verify compliance with WTO rules and to establish good relations with non-EU countries.

While changing its behaviour as an importer, Europe is also looking to take more steps to protect its own forests and other carbon sinks. The EU’s Fit for 55 package envisages a steep increase in annual net carbon removal by 2030 and carbon neutrality for its agriculture, forestry and land use sectors by 2035. Plans for adaptive farming and forestry practices to increase natural carbon removals will be bolstered later this year by proposals for a new certification framework designed to incentivise sustainable practices by land managers. A recent Allianz report on carbon farming suggests an annual investment gap of €8.3bn needs to be filled for the plans to align with 1.5°C goals.

Elsewhere, the UK government is consulting on the implementation of due diligence provisions in the Environment Act to help tackle illegal deforestation in UK supply chains. The provisions will make it illegal for larger businesses operating in the UK to use key forest risk commodities produced on land illegally occupied or used. Businesses in scope will also be required to undertake a due diligence exercise on their supply chains and to report on this exercise annually. To ensure transparency, information about businesses’ due diligence exercises will be published. Businesses in scope that do not comply with these requirements may be subject to fines and other civil sanctions.

In the US, President Biden’s Executive Order on Tackling the Climate Crisis at Home and Abroad, which was signed on 27 January 2021, has called for the development of a plan to “promote the conservation of the Amazon rainforest and other critical ecosystems that serve as global carbon sinks”. The plan, which is the first of its kind for the US government, will deploy a range of diplomatic, policy, and finance mechanisms, and focused on three “critical ecosystems of global importance” – the Amazon, Congo, and Southeast Asian forests.

China has committed to increase forest stock volume by six billion cubic metres from the 2005 level by 2030.

What progress are companies making in removing deforestation from their supply chains?

Analysis of more than 550 companies by sustainability disclosure platform CDP suggests the business world is “too slow” to act on deforestation. Almost all (93%) of the companies examined were taking at least one out of 15 key actions to protect forests, but only four pioneers (1%) were taking nearly all relevant actions: Essity, L’Oréal, Mars and Tetra Pak. The actions include integrating forest issues fully into all parts of long-term strategic business plans, undertaking forest-related risk assessments, and value chain engagement with smallholders, direct suppliers and beyond first-tier suppliers to support forest-related policies.

To end deforestation, CDP says the scale and speed of action by companies must increase. Disclosure on deforestation trails behind that on climate change and water security – only 31% of requested companies disclosed in 2020.

“Companies must be aware of what is happening within their supply chains and use methods such as landscape and jurisdictional approaches and work with on-the-ground partners. At the same time, disclosure enables organisations to understand where they stand on their journey towards sustainability,” says Thomas Maddox, Global Director, Forests and Land, CDP. The resulting data enable investors, buyers, and policy makers to integrate corporate environmental performance into their decision-making processes, he adds.

Challenges lie in the complexity of corporate supply chains. CDP’s data shows that nearly 70% of companies have implemented traceability systems and committed to sourcing certifiable materials, but only a small percentage is able to scale them throughout their entire operations. “We need companies to demystify their supply chains and ensure they are able to trace back,” says Maddox.

CDP advocates collaboration and collective action to create ethical and sustainable value chains. “The past decade of failed pledges has also taught us there is no simple solution to stop deforestation. Instead, the right mix of solutions is needed – with collaboration and transparency at the heart of it,” he says.

Alongside detailed and comprehensive disclosure, CDP believes companies should take further steps to:

  • Understand and adjust their assessments and strategies to approach environmental issues in a more integrated fashion (e.g., not just addressing deforestation because it is a reputational risk but also because it is a material physical risk that amplifies climate change, increases water stress and drives biodiversity loss);
  • Extend sustainable standards and practices outside individual supply chains. By doing this companies can tackle the causes of deforestation, the drivers of which tend to exist outside any one company’s areas of operation. Tackling this requires collaboration among stakeholders – governments, companies, civil society, investors;
  • Engage with their value chains including indirect suppliers and smallholders; and
  • Enhance traceability and engagement within supply chains to be prepared for increased reporting expectations – disclosure of specific locations of operations and sources to accurately account for, mitigate and verify their ethical supply chains.

How can investors apply further pressure to squeeze the outputs of deforestation from supply chains?

Investors are increasingly joining advocacy initiatives to push for meaningful policy change, such as the coalition that confronted the Brazilian government and legislators last year. As well as AP7, other signatories of a letter to the country’s National Congress included EdenTree, LGIM and Skandia.

“National and global banks, investors, markets and commodity traders can also send powerful signals to economic interests in the Amazon that they will only invest if there is no risk of driving further deforestation,” said Edwards Davey, International Engagement Director at the Food and Land Use Coalition, in a recent Twitter thread highlighting the urgent need for collective action.

But much further pressure can also be applied by asset owners through engagement channels with investee companies. According to a new report from Make My Money Matter, Global Canopy and Systemiq, more than £300 billion of UK pension money is invested in companies and financial institutions with high deforestation risk.

CDP’s Maddox says there are five key questions investors should be asking companies in their portfolios with regard to deforestation in supply chains:

  • Does the company include forests-related issues in its risk assessments?
  • Does the company have a no-deforestation policy?
  • What processes are in place to track to the origin of its commodities and monitor supplier compliance with the company policy?
  • Does the company have timebound and quantifiable targets in place to improve its performance and enable tracking of progress on eliminating deforestation?
  • Does the company help suppliers improve their capacity to comply with forests-related policies and transition away from deforestation by providing them with financial, technical, or other support?

“Questions like these are important to ensure companies are implementing restoration or conservation activities to remedy the environmental harms caused by deforestation or conversion,” he says. “Responses to these questions will demonstrate to investors that companies are committed and proactive towards forests stewardship and sustainable practices.”

 

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