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Cost to produce Carbon credits by reducing the harvest level in British Columbia, Canada Man, Cosmin D.; Lyons, Kevin C.; Nelson, John D.; Bull, Gary Mar 31, 2015

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Page 1 of 28  Cost to produce Carbon credits by reducing the harvest level in British Columbia, Canada.  Word Count (not including Abstract, References, list of symbols and acronyms, and table/figure locations): 5929  Keywords: Carbon price, Carbon offsets, forest management, discount rate, verification period, Harvest level.                         Page 2 of 28  Abstract This paper uses the inventory of three actively managed forest estates located in the Coastal, Central Interior, and Northern Interior forest regions in British Columbia to estimate the cost to produce Carbon credits ($ per Carbon credit) when the harvest is reduced below the baseline level. The financial analysis was conducted over a range of discount rates (0-16%) and the total cost included the opportunity cost due to harvest reduction and the Carbon project cost (the Carbon project initial establishment and validation cost and the ongoing verification cost for two frequencies (1-year and 5-year)). When the opportunity cost was not included, the cost per Carbon credit was similar to previous findings (lower cost per Carbon credit for higher site index (i.e. top height in meters at age 50)). However, when the opportunity cost was included the cost per Carbon credit was higher for higher site indices. The reversal of trends is the result of the average timber net revenue being higher for higher site indices which resulted in a higher opportunity cost. The opportunity cost represented 58% to 97% of the cost per Carbon credit. Compared to the 5-year verification, the 1-year verification frequency increased the total cost per Carbon credit by 1% to 22%, with the smallest increase being when the Carbon project cost represented a small percent of the total cost. The estimates for the three forest estates analyzed here represent three points from a larger spectrum, and they identify the cost per Carbon credit over a range of site indices (14.7 to 25.6 meters top height at age 50) and timber net revenues ($4 to $35 m-3). Further research is required to determine if the trends found in this study hold over a more densely populated spectrum.    Page 3 of 28  1. Introduction 1  2 The IPCC (2007) suggests forests can be used to store additional Carbon producing 3 Carbon credits (where a Carbon credit equals one Mg of CO2e) to help offset recent human 4 induced global warming. Management strategies used to enhance the amount of Carbon stored in 5 existing forests can be organized into two major categories; (1) harvest reduction and (2) 6 increased forest growth strategies. Harvest reduction strategies have a higher potential for 7 producing Carbon credits in the short term (25 to 50 years). Man et al. (2013) found little 8 difference in the number of Carbon credits produced between different harvest reduction 9 strategies, and suggested that reducing the harvest level to a fixed target below the baseline 10 provides the forest manager with more flexibility. Strategies to increase forest growth rates 11 above the baseline levels include fertilization and planting genetically improved stock; however, 12 these strategies store significantly less Carbon than the harvest reduction strategies (Man et al., 13 2013) and pose the risk of not being able to deliver the projected growth increase. The past 14 financial analyses conducted on theoretical forests developed indicators to determine the 15 financial viability of forest based Carbon projects (Richards and Stokes, 2004; van Kooten, 16 2009). Given the large number of factors involved in developing such indicators (Golden et al., 17 2011; Greig and Bull, 2011; Galik and Cooley, 2012) there is still a debate on which financial 18 indicators are best suited for forest based Carbon projects.  19 A useful indicator to determine the financial viability of forest based Carbon projects is 20 the Carbon supply curve (i.e. plotting the Carbon credits produced against the marginal cost to 21 produce them) (Boyland, 2006). Marginal cost to produce Carbon credits at a landscape level has 22 been estimated between $0 to over $200 depending on the location and the forest management 23 strategy used (van Kooten et al., 2009). Usually, only the average costs and revenues are 24 available in a financial analysis of a forest estate (e.g. timber price, harvesting cost, Carbon 25 project costs, and Carbon credit price). The marginal costs derived from the average costs and 26 revenues can be misleading because they can overestimate the number of Carbon credits that can 27 be produced at a given Carbon credit price (Boyland, 2006). An alternate strategy to determine 28 the financial viability of forest based Carbon projects where the average costs and revenues are 29 known is to compare the market price of a Carbon credit to the break-even Carbon credit price 30 (i.e. the total cost of the project divided by the number of Carbon credits produced). The average 31 Page 4 of 28  Carbon credit market price for improved forest management projects (i.e. IFM) in 2012 varied 32 between $5 and $16 depending on the contract type and project stage (Peters-Stanley et al., 33 2013). Richards and Stokes (2004) and Boyland (2006) discussed in detail the equations used to 34 determine the break-even Carbon credit price. Typically, the total cost of the project includes 35 harvesting, silviculture, opportunity, Carbon project initial establishment and validation, and 36 Carbon project verification costs. In the case of the harvest reduction strategies, the opportunity 37 cost of the timber left standing, as opposed to generating revenue from harvesting, is not always 38 included in the financial analysis. For example, Huang and Kronrad (2001) did not include the 39 opportunity cost and this resulted in lower average costs to store one additional Mg of Carbon for 40 stands with higher site index (i.e. top height in meters at age 50).  In a different study that 41 analyzed the increased forest growth strategies, which do not have opportunity costs due to 42 harvest reduction, Bull (2010) also found lower break-even Carbon credit prices for higher site 43 indices. 44 Financial analyses of forest based Carbon projects that include the opportunity cost due 45 to harvest reduction are needed in order to provide better estimates for the break-even Carbon 46 credit price when considering actual forest estates. However, using site index as the universal 47 measure of site productivity can be problematic when comparing different forest estates 48 composed of different species and site conditions. Thus, it is necessary to develop a metric that 49 represents the opportunity cost of reducing harvests in favor of storing Carbon. This new metric 50 will have to be sensitive to site productivity, tree species, and log quality.   51 In this study, three small-scale actively managed forest estates located in the Coastal, 52 Central Interior, and Northern Interior forest regions in British Columbia that cover a wide range 53 of species, forest types, and timber net revenues are considered. The objectives of this study are; 54 (1) to propose a new metric that represents the opportunity cost of reducing harvests in favour of 55 storing Carbon, (2) to determine the break-even Carbon credit price for three small-scale actively 56 managed forest estates when reducing the harvest below the baseline level, and (3) to examine 57 how the break-even Carbon credit price varies with the new metric developed in (1) for the three 58 forest estates. These are important questions for jurisdictions such as British Columbia where 59 there are large tracts of publicly owned forests that might be considered for Carbon projects. 60  61 2. Methods 62 Page 5 of 28  2.1. Forest estates 63  64 Three actively managed forest estates were used to conduct the analysis in this paper. The 65 Alex Fraser Research Forest (AFRF) (average site index of 22.1 (range 15-26)) located in the 66 Central Interior forest region of British Columbia and the Malcolm Knapp Research Forest 67 (MKRF) (average site index of 25.6 (range 20-40)) located in the Coastal forest region of British 68 Columbia are described in detail in Man et al. (2013). The third forest estate (FE3) is 14920 ha in 69 size and is located in the boreal plains, approximately 40 km South East of Dawson Creek, 70 British Columbia. It falls entirely into the Boreal White and Black Spruce Biogeoclimatic 71 Ecosystem Classification (BEC) zone, with the Western third in the dry cool subzone and the rest 72 in the moist warm subzone. Lodgepole pine (Pinus contorta) covers approximately half of the 73 landbase while the other half is covered by mixed stands of white spruce (Picea glauca), black 74 spruce (Picea mariana), and trembling aspen (Populus tremuloides). Mountain pine beetle 75 (Dendroctonus ponderosae) disturbed most of the lodgepole pine stands since 2003 at an average 76 attack rate of 30%. Wildfires and forest harvesting since 1978 have created a mosaic of even 77 aged stands, 76% of the landbase being covered by 80 to 160 years old stands. The average site 78 index at FE3 estimated from the existing inventory excluding all non-forested areas is 14.7 79 (range 6-22). 80  81 2.2. Simulation models 82 Two forest-level models (the Forest Planning Studio (FPS-ATLAS) (Nelson, 2003) and 83 the Carbon Budget Model for Canadian Forest Sector (CBM-CFS3) (Kurz et al., 2009)) were 84 used to forecast the timber supply, standing volume, and Carbon stocks. The growth and yield 85 curves were either extracted from the Timber Supply Area Analysis Reports where the forest 86 estate resides (British Columbia Ministry of Forests, 2001; British Columbia Ministry of Forests, 87 2002; British Columbia Ministry of Forests, 2003) or developed from the existing inventory 88 using stand level yield prediction systems. The Variable Density Yield Prediction (VDYP) was 89 used to generate the growth and yield curves for the stands regenerated naturally following a 90 stand replacing disturbance (e.g. wildfire) and the Table Interpolation Program for Stand Yields 91 (TIPSY) was used to generate the growth and yield curves for the stands regenerated artificially 92 following harvesting-planting events (British Columbia Ministry of Forests, Lands and Natural 93 Page 6 of 28  Resource Operations, 2012). The methodology used to build the timber supply model in FPS-94 ATLAS and transferring the disturbance schedule into CBM-CFS3 to estimate Carbon stocks 95 were documented in Man et al. (2013) for AFRF and MKRF. A similar methodology was used in 96 the case of the FE3 where 2737 spatially explicit polygons were grouped into 32 stand types 97 based on species composition, regeneration type (natural or artificial through planting), BEC, 98 and site index. In order to increase forest response flexibility to predicted climate changes 99 (Burton and Cumming, 1995; Hamann and Wang 2006; Swift and Ran, 2012), lodgepole pine 100 dominated stands with small pockets of trembling aspen and white spruce were promoted at 101 FE3.These factors combined with the management objective of timber production determined the 102 implementation of the clearcut system (one cut at age 60-170 depending on site productivity and 103 quality of harvested products) on the entire timber harvest land base. 104  105 2.3. Forest Management Strategies to generate Carbon credits 106 2.3.1. Baseline determination 107 Using the approach detailed by Man et al. (2013), the baseline long term sustainable 108 yields for 100 years were determined to be 14800 m3 year-1 at AFRF, 27000 m3 year-1 at FE3, 109 and 33000 m3 year-1 at MKRF, while satisfying a series of constraints imposed by the forest 110 management objectives of the forest estates (e.g. minimum harvest ages, protected areas, 111 retention levels, and harvesting priorities).The simulations were run for 100 years with the 112 harvesting algorithm being programmed to treat oldest stands (and infested mountain pine beetle 113 stands at FE3) first and the commercial thinning before final cuts (e.g. clearcuts, shelterwood, 114 uneven aged management system). 115  116 2.3.2. Reduced Harvest to a Fixed Target Level 117 The various strategies to reduce the harvest below the baseline level have been 118 investigated in the past (Harmon and Marks, 2002; Seely et al., 2002; Peng et al., 2002; Harmon 119 et al., 2009; Nunery and Keeton, 2010) and little difference in Carbon stocks has been found 120 between these strategies (Man e al., 2013). Man et al. (2013) suggested that reducing the harvest 121 to a fixed target level offers more flexibility to the forest manager since it poses fewer constraints 122 than increasing rotation ages or increasing area is reserves. Thus, this study uses harvest 123 reduction to a fixed target level for analysis. In order to continue to meet the objectives of the 124 Page 7 of 28  actively managed forest estates considered in this paper, a minimum accepted harvest level had 125 to be determined. For the three forest estates analyzed in this paper, the minimum accepted 126 harvest level varied between 50% and 30% of the baseline harvest level. To permit comparison 127 between the forest estates considered in this study the minimum accepted harvest level was set to 128 30% of the baseline harvest level for all the estates. Seven scenarios were simulated by gradually 129 reducing the target harvest level in steps of 10% down to 30% of the baseline level. The 130 management constraints (e.g. minimum harvest ages) were kept identical to the baseline scenario 131 and the target harvest level was constant throughout the 100-year planning horizon. 132  133 2.4. Calculation of Carbon credits 134 Estimating the number of Carbon credits that can be claimed by a project proponent in 135 British Columbia is complicated by the numerous factors involved (e.g. duration of the project, 136 baseline determination and proof of additionality, estimates of the Carbon pools and related 137 emissions, leakage, risk assessment, buffer pool release schedule, and verification frequency) 138 (Grieg and Bull, 2011; British Columbia Ministry of Environment, 2011). Guidance to account 139 for these factors is usually found in a protocol document (e.g. Verified Carbon Standard, 2012a; 140 British Columbia Ministry of Environment, 2011), yet each protocol has different accounting 141 rules resulting in significant differences for the claimable Carbon credits (Newell and Stavins, 142 2000; Pearson et al., 2008; Galik and Cooley, 2012). Given the location of the three forest estates 143 analyzed here, the Protocol for the Creation of Forest Carbon Offsets in British Columbia 144 (FCOP) (British Columbia Ministry of Environment, 2011) was selected to estimate the 145 claimable Carbon credits. It should be noted the FCOP is seeking formal recognition under the 146 international Verified Carbon Standard (VCS) (Pacific Carbon Trust, 2012). 147 The controlled and affected Carbon pools and related Carbon sources considered by 148 FCOP include; (1) live and dead forest Carbon pools, (2) Carbon stored in harvested wood 149 products in use and in landfill, (3) emissions due to fossil fuel production and combustion for 150 vehicles, equipment, transport of material, equipment, inputs, and personnel to site, (4) emissions 151 due to processing the harvested wood products, (5) emissions due to the anaerobic decay of the 152 harvested wood products in landfill, and (6) external harvest shifting leakage due to harvest 153 reduction. In addition to the controlled and affected Carbon pools and related Carbon sources, 154 every forest Carbon project carries a risk of reversal as forests are subject to natural disturbances 155 Page 8 of 28  that reduce forest growth and Carbon storage. In order to mitigate the risk of reversal, the offset 156 programs (i.e. regulatory bodies that have registration and enforcement systems and rules for 157 Carbon accounting, monitoring, reporting, verification, and certification) create a buffer pool of 158 Carbon credits corresponding to the risk of reversal. The Carbon credits in the buffer pool cannot 159 be sold immediately by the project proponent; instead the project proponent must follow a 160 release schedule. This study uses the VCS (Verified Carbon Standard, 2012a) buffer pool release 161 schedule, which releases 15% of the buffer pool every 5 years. The number of Carbon credits 162 held back due to the risk of reversal has been assessed at 10% of the credits produced for all 163 three forest estates analyzed in this study, using the VCS tool for AFOLU Non-Permanence Risk 164 Analysis and Buffer Determination (Verified Carbon Standard, 2012b). 165 Ongoing verification events need to be conducted periodically in order to allow the 166 project proponent to sell the Carbon credits. Most of the offset programs require that at least one 167 verification event should occur every 5 years for the improved forest management strategies (e.g. 168 Verified Carbon Standard, 2012c). The verification frequency, payment strategy (ex-ante or ex-169 post) and payment schedule are established through negotiations between buyers and producers 170 and are specific to each project. Since the verification frequency has a significant effect on the 171 number of Carbon credits that can be claimed and thus on the break-even Carbon credit price, the 172 financial analysis was conducted for two levels of verification, 1-year and 5-year. The two levels 173 permit the Carbon credits to be sold as soon as they are generated (1-year verification) or the 174 cumulated Carbon credits at 5 years intervals (5-year verification). 175  176 2.5. Calculation of the break-even Carbon credit price 177 The total present net revenue for the baseline scenario (TPNRB) and the total net present 178 revenue for the Carbon project (TPNRC) for an entire planning horizon of n years are 179   nttBtBrTNRHTPNR0 1 (1)   ntttttCtCrCCCPTNRHTPNR0 1 (2) Here, H is the harvested volume (B - baseline, C-Carbon project), TNR is the average timber net 180 revenue per cubic meter (i.e. the difference between the average timber revenue (i.e. average 181 Page 9 of 28  market timber selling price) and the harvesting cost), P is the price per Carbon credit, C is the 182 number of Carbon credits, CC is the Carbon project cost which includes the initial establishment 183 and validation cost and ongoing verification cost, r is the discount rate, and t is the year. Set 184 TPNRB equal to TPNRC and isolate the sum containing P 185       ntttCtBtnttttrCCTNRHHrCP00 11 (3) The right hand side of Eq. (3) represents the total cost needed to generate Ct in year zero 186 dollars for a given r. In order to determine the break-even Carbon credit price, solve for P in Eq. 187 (3) assuming that P is a constant over the planning horizon of n years 188    ntttntttCtBtrCrCCTNRHHP0011 (4) In the following analysis P is calculated using Eq. (4). P is defined as the total break-even 189 Carbon credit price (year zero $ per Carbon credit), and it is assumed to be a constant value for 190 the entire planning horizon of n years. Eq. (4) is identical to the levelization equation from 191 Richards and Stokes (2004) when using the same discount rate for the cash flows (numerator) 192 and Carbon credits (denominator) and to the discounted Carbon equation from Boyland (2006).  193 The right hand side of Eq. (4) can be expanded in order to calculate two components of 194 the total break-even Carbon credit price.  195    ntttnttCtBtHrCrTNRHHP0011 (5)   ntttntttCCrCrCCP0011 (6)  196 Page 10 of 28  Here PH is the component of the total break-even Carbon credit price due to the opportunity cost 197 of the reduced harvest, and PCC is the component of the total break-even Carbon credit price due 198 to the Carbon project cost. Note the total break-even Carbon credit price (P) calculated in Eq. (4) 199 is the sum of PH and PCC. 200 In previous financial analyses on Carbon cost (e.g. van Kooten et al., 2009), n was 201 assumed to be the entire life of the project. In the case of British Columbia, the contract term for 202 forest Carbon projects is 25 years with the option of renewal, yet permanence of the emissions 203 offsets should be ensured for 100 years after the end of each contract period (British Columbia 204 Ministry of Environment, 2013). This is expected to be achieved by not harvesting more than the 205 baseline harvest level set prior to the forest Carbon project. In this study, n is defined as the 206 break-even period and is set to 25 years. It is assumed that all costs are expenses at the time of 207 occurrence. 208 The present day costs and revenues used in the financial analysis are detailed in Table 1; 209 these were considered to increase with inflation rate over the 25-year life of the Carbon project. 210 In the case of the AFRF and MKRF, the average timber revenue (i.e. average market timber 211 selling price) and harvesting cost are averaged from the last 10 years of financial data, while in 212 the case of the FE3 these were averaged from 8 cutting permits from last 5 years typical for the 213 area where FE3 resides. Table 1 also shows the site index (i.e. top height in meters at age 50) of 214 the three forest estates and the metric representing the opportunity cost of reducing harvest 215 expressed as the average value per hectare harvested (AVHH) and as the net value per hectare 216 harvested (NVHH). The AVHH is calculated for each forest estate as the average timber revenue 217 multiplied by the 25-year average harvested volume per hectare per year determined for the 218 baseline scenario. Recall, the baseline scenario uses the LTSY approach to determine the harvest 219 level which represents the potential of the forest to produce a non-declining yield. The average 220 harvested volume per hectare per year is the average over the 25-year Carbon project life of the 221 annual harvested volume divided by the annual effective treated area. The effective treated area 222 excludes the in-block retentions (10-20%) in the case of the clearcuts, includes only 30% of the 223 area of each polygon treated in the case of the partial cuts, and includes only 40% of the area of 224 each polygon treated in the case of commercial thinnings. The NVHH is calculated as the TNR 225 multiplied by the 25-year average harvested volume per hectare per year. Given the variety of 226 species, forest types, and timber qualities of the three forest estates, the use of the AVHH to 227 Page 11 of 28  represent the opportunity cost of reducing harvests is more appropriate for the purpose of this 228 study because it takes into account the timber value which is a function of species, forest type, 229 and wood quality. Site index does not take into account the timber value and wood quality, while 230 the NVHH requires information about harvesting cost which is not always available. 231  232 Location Table 1 233  234 For many years it has been debated what discount rate (r) should be used in the financial 235 analysis of forestry projects, for example Row et al. (1981). More recent financial analyses on 236 forest based Carbon projects have used discount rates (i.e. real rates once inflation rate has been 237 removed) of 2.5% to 15% (Richards et al., 1993; Newell and Stavins, 2000; Huang and Kronrad, 238 2001; Galik and Cooley, 2012). However, the discount rate used in the financial analysis can be 239 lower than 2% (Stern, 2007) or much higher than 15% (Covell, 2011). This study considered 240 discount rates between 0% and 16% to evaluate the effect on the total break-even Carbon credit 241 price. 242  243 3. Results 244 The number of Carbon credits produced and the total break-even Carbon credit price (P) 245 with its two components (PH and PCC) are presented in Table 2, at 0% and 16% discount rates. It 246 can be seen that PH is relatively independent of the target harvest level (i.e. percent reduction of 247 the baseline harvest level) because in Eq. (5) both the opportunity cost, and the number of 248 Carbon credits produced, increase at similar rates as the target harvest reduces from 90% to 30% 249 of the baseline harvest level. The implication of this result is PH is a function of TNR; a higher 250 TNR (e.g. MKRF) results in a higher PH. It can be seen that PCC drops slightly as the target 251 harvest level reduces; this is because in Eq. (6) the Carbon project cost (i.e. initial establishment 252 and validation cost and verification cost) is constant while the number of Carbon credits 253 produced increases. The overall effect is that P is relatively independent of the target harvest 254 level because PH is much larger than PCC and so it dominates this relationship. When setting the 255 discount rate to 0% it can be seen that PH represents more than 58% of P at FE3, more than 79% 256 of P at AFRF, and more than 97% of P at MKRF. The exception observed at AFRF, where P is 257 not independent of the target harvest level for target harvest levels that are 60%-90% of the 258 Page 12 of 28  baseline level, is explained by the reduced number of Carbon credits produced. As the target 259 harvest reduces from 90% to 60% of the baseline harvest level, Carbon credit production at 260 AFRF increases at a slower rate than the opportunity cost and thus, PH and ultimately P, decrease 261 instead of being relatively constant. 262  263 Location Table 2 264  265 Figure 1 presents the total number of Carbon credits produced over the life of the project 266 divided by the forest area for each of the forests considered in this study. It can be seen that 267 AFRF produces fewer Carbon credits per hectare over the life of the project than FE3 or MKRF 268 for all target harvest levels. The numbers presented in Figure 1 for the MKRF align with the 269 estimates found by Harmon and Marks (2002) for a similar forest type in the Pacific Northwest. 270 This difference can in part be explained by the productivity of the forest estates. The current 271 average standing volume per hectare is 497 m3 ha-1 for MKRF, 194 m3 ha-1 for AFRF, and 172 272 m3 ha-1 for FE3 (at MKRF the current average standing volume per hectare is 2.9 times larger as 273 compared to FE3 and 2.6 times larger as compared to AFRF). When the target harvest is reduced 274 to 30% of the baseline level, the Carbon credits produced per standing volume is 0.18 Mg CO2e 275 m-3 for FE3, 0.16 Mg CO2e m-3 for MKRF, and 0.05 Mg CO2e m-3 for AFRF (at FE3 the Carbon 276 credits produced per standing volume is 1.1 times larger as compared to MKRF and 3.4 times 277 larger as compared to AFRF). The reason for the much lower performance of AFRF is that 83% 278 of the timber harvesting land base is managed under uneven aged systems, which has been 279 showed to result in higher Carbon stocks for the baseline (Taylor et al., 2008; Harmon et al., 280 2009; Man et al. 2013). Thus, the target harvest has to be at a lower level in order for AFRF to 281 produce a large number of Carbon credits. 282  283  Location Figure 1 284  285 An unexpected result in Table 2 is that PH and PCC increase with increasing discount rate, 286 except at AFRF for the 70-90% target harvest levels. On viewing Figure 2 it can be seen that the 287 annual production of Carbon credits at MKRF is greater in the later years of the contract, while 288 the annual total cost (i.e. opportunity cost of timber revenue and the Carbon project cost) is 289 Page 13 of 28  constant over the life of the project. Note on the left hand side of Eq. (3) that a larger number of 290 Carbon credits are produced later in the project, while on the right hand side the costs are 291 uniformly distributed over the life of the project, this makes the left hand side more sensitive to 292 an increase in the discount rate. In order to preserve the equality in Eq. (3) as the discount rate is 293 increased, it is necessary to increase P when P is considered a constant value. The exception 294 observed at AFRF for 60-90% target harvest levels is explained by the higher percentage of 295 Carbon credits being produced in the earlier years of the project. Recall that AFRF uses uneven 296 aged systems on 83% of the timber harvest land base, and a lower target harvest level is needed 297 in order to produce an increasing number of Carbon credits throughout the project life. 298  299 Location Figure 2 300  301 The average site index of the MKRF, AFRF, and FE3 is respectively 25.6, 22.1, and 14.7 302 while the AVHH of the MKRF, AFRF, and FE3 is respectively 63.7, 22.9, and 12.2 thousands $ 303 ha-1 year-1 (Table 1). For the three forest estates considered in this study, a higher site index 304 corresponds to a higher AVHH. However, this is not always the case. For example, high timber 305 value species (e.g. yellow cedar (Chamaecyparis nootkatensis)) growing on low site indices can 306 have a high AVHH. The average value per cubic meter harvested follows a similar trend as the 307 site index and AVHH, and for the MKRF, AFRF, and FE3 it is respectively $35 m-3, $16 m-3, 308 and $4 m-3. Figure 3 presents the total break-even Carbon credit price as a function of AVHH 309 and site index, and compares the trends when the opportunity cost of a reduced harvest is  not 310 included in the calculation of the total break-even Carbon credit price (Panel A), and when it is 311 included (Panel B). Recall that a significant portion of the AFRF uses uneven aged systems 312 which results in low Carbon credit production and high total break-even Carbon credit prices 313 when the target harvest is 60-90% of the baseline harvest level. The effect of the uneven aged 314 system becomes less when the target harvest is reduced to 50% of the baseline harvest level. 315 Thus, to use the MKRF, AFRF, and FE3 in an analysis of the sensitivity of the total break-even 316 Carbon credit price to AVHH and site index, the target harvests were set to 30% of the baseline 317 level. When the opportunity cost is not included the trend shown in Figure 3 (Panel A), where 318 the total break-even Carbon credit price is lower for the forest estates with higher site index and 319 higher AVHH, is similar to that found by Huang and Kronrad (2001). In contrast, when the 320 Page 14 of 28  opportunity cost is included in the analysis (Figure 3, Panel B), the trend is reversed and the total 321 break-even Carbon credit price increases as the AVHH and site index of the forest estate 322 increases. This is explained by the higher average timber net revenue for higher site index forest 323 estates (Table 1), which results in a higher opportunity cost and higher AVHH. In addition, even 324 a 90% reduction of the TNR (Figure 4) which drives the opportunity cost, does not show the 325 trends found by Huang and Kronrad (2001). It should be noted in the case of the AFRF, the total 326 break-even Carbon credit price has the potential to be lower if an even aged system is used 327 instead of the uneven aged system. In a separate analysis conducted at AFRF, the uneven aged 328 system was changed to an even aged system and the target harvest was set at 30% of the baseline 329 level. This resulted in a total break even Carbon credit price at 0% discount rate of $14.1 per 330 Carbon credit (PH = $13.9 and PCC = $0.2). The trends in Figure 3 become clearer when these 331 values are used for AFRF (shown in gray color in Figure 3). The opportunity cost is not always 332 important in the financial analysis of a forest based Carbon project. For example, the 333 TimberWest Strathcona Ecosystem Conservation Project (Pacific Carbon Trust, 2011) and the 334 Darkwoods Forest Carbon Project (The Nature Conservancy of Canada, 2011) have been 335 established on the premises that preservation of the current forest structure is more important 336 than the financial return. Where the financial return is the main objective, the opportunity cost of 337 a reduced harvest has to be taken into account when conducting a financial analysis; in such 338 cases, the opportunity cost has a dramatic effect on the total break-even Carbon credit price 339 which increases for forest estates with higher AVHH. 340  341 Location Figure 3 342 Location Figure 4 343  344 The current market prices for improved forest management (IFM) projects are between 345 $5 and $16 per Carbon credit, with a slight increase since 2006 (Peters-Stanley et al., 2013). 346 Compared to the P values in Table 2, only FE3 could profitably undertake a Carbon project. The 347 AFRF and MKRF would have to wait for the Carbon credit market prices to increase or for the 348 log prices to decrease. Forecasting Carbon credit market prices into the future is a difficult task 349 and contradictory arguments are found in the literature. While Sohngen and Mendelsohn (2003) 350 argue towards an increase of the Carbon credit market prices towards the end of the century due 351 Page 15 of 28  to higher accumulated Carbon concentrations in the atmosphere, most arguments are towards a 352 decrease of Carbon credit market prices because the Carbon sequestration is viewed as a short 353 time strategy to allow for new technologies to emerge (Feng et al., 2002) or because of the 354 decreased attractiveness of Carbon sequestration (Stavins, 1999). Despite the uncertainty, forest 355 based Carbon projects can still be profitably undertaken (Haim et al., 2014), an optimal time path 356 being the immediate implementation of the projects and maintained until the atmospheric Carbon 357 concentration is stabilized (Feng et al., 2002). In order to implement immediately financially 358 feasible IFM projects at AFRF and MKRF at the current Carbon credit market prices, the TNR 359 should be 60%-80% less (at 0% discount rate) (Figure 4) than the values shown in Table 1. The 360 lowest value for the TNR in the last 10 years of financial data from AFRF and MKRF was 18% 361 less than the values shown in Table 1. The British Columbia timber market reports for the last 10 362 years (British Columbia Ministry of Forests, Lands and Natural Resource Operations, 2014) 363 indicate the lowest timber prices were 32%-34% less than the average timber prices for the same 364 period. Thus, a balance between timber and Carbon credit market prices that would permit the 365 implementation of financially feasible IFM projects at AFRF and MKRF seems difficult to reach 366 in the near future. In the case of the forest estates with low productivity and relatively low TNR 367 (similar to FE3), the forest managers should consider immediate implementation of IFM projects 368 in order to be as close as possible to the optimal time path suggested by Feng et al. (2002). 369 The 1-year verification frequency might be preferred in order to sell Carbon credits 370 annually to offset the opportunity cost of a reduced harvest. Using the verification cost from 371 Table 1, it was determined that compared to a 5-year verification frequency, the 1-year 372 verification frequency increases the Carbon project cost (initial establishment and ongoing 373 verification) by 3.30 times at 0% discount rate and by 2.14 times at 16% discount rate. Using the 374 increased Carbon project cost due to the 1-year verification frequency in Eq. (4), the total break-375 even Carbon credit price in Table 2 increased by 22% ($0.8 per Carbon credit) at FE3, by 7% at 376 AFRF ($2.3 per Carbon credit), and by 1% at MKRF ($0.1 per Carbon credit) when the target 377 harvest is set to 30% of the baseline level and discount rate at 0% (Table 3). The highest percent 378 increase for the total break-even Carbon credit price was observed in the case of the FE3 because 379 the Carbon project cost represents a large percent of the total cost (recall at FE3, PH represents 380 more than 58% of P while PCC represents up to 42% of P). At the other extreme is MKRF where 381 the Carbon project cost is less than 3% of the total cost, and the added cost by adopting the 1-382 Page 16 of 28  year verification frequency increases the total break-even Carbon credit price by the lowest 383 percent. When the discount rate is set at 16%, the percent increase for the total break-even 384 Carbon credit price is similar to 0% discount rate for the AFRF and MKRF and lower at FE3 385 because PCC represents a higher proportion of P and it is discounted more. Thus, the 1-year 386 verification frequency can be more advantageous where the Carbon project cost represents a 387 relatively small percent of the total cost so the added verification cost has little effect on the total 388 break-even Carbon credit price. 389  390 Location Table 3 391  392 4. Conclusions 393 Three actively managed forest estates were analyzed in this study, each representing one 394 of the main forest regions in British Columbia; the Coast (MKRF), Southern Interior (AFRF), 395 and Northern Interior (FE3). For each of these forest estates the total break-even Carbon credit 396 price was estimated. When the opportunity cost due to harvest reduction was included in the 397 analysis, it represented 58% to 97% (at 0% discount rate) of the total break-even Carbon credit 398 price. The total break-even Carbon credit price ($ per Carbon credit) was $3.9 at FE3, $32.1 at 399 AFRF, and $40.8 at MKRF when the target harvest was reduced to 30% of the baseline level and 400 for 0% discount rate. Under the current Carbon market prices, only FE3 could profitably 401 undertake a forest Carbon project that reduces the harvest below the baseline level. The total 402 break-even Carbon credit price was relatively independent of the target harvest level (i.e. percent 403 reduction of the baseline harvest level) because when the target harvest decreased from 90% to 404 30% of the baseline harvest level, the portion of the opportunity cost which represents the largest 405 portion of the total cost, increased at a similar rate to the number of Carbon credits produced. In 406 addition, a higher discount rate increased the total break-even Carbon credit price because the 407 number of Carbon credits produced was larger in the later years of the 25-year project life, while 408 the annual total cost was constant over the project life. However, when the number of Carbon 409 credits produced was larger in the beginning of the project (e.g. AFRF, harvest target at 60-90% 410 of the baseline level), a higher discount rate decreased the total break-even Carbon credit price. 411 The forests considered in this study provide 3 points from a larger spectrum; the range in 412 site index (i.e. top height in meters at age 50) was 14.7 to 25.6, range in average value per 413 Page 17 of 28  hectare harvested (i.e. the metric representing the opportunity cost of reducing harvests) was 12.2 414 to 63.7 thousand $ ha-1 year-1, and the range in average timber net revenue was $4 to $35 m-3. 415 The results of this study indicate that inclusion of the opportunity cost due to harvest reduction 416 results in higher total break-even Carbon credit prices for forests with higher average value per 417 hectare harvested (which corresponded to higher site indices for the three forest estates analyzed 418 here). However, when the opportunity cost was not included in the analysis, the total break-even 419 Carbon credit price drops as the site index increases, and this is similar to previous findings. 420 Further research is required to populate this spectrum with more points from various forest 421 regions in order to be able to generalize about the potential to manage for both timber products 422 and Carbon credits. 423 The 1-year verification frequency could be considered where the verification cost 424 represents a low percent of the total cost. For projects following an ex-post payment schedule it 425 is necessary to validate and verify periodically the Carbon credits produced before payment is 426 made. Thus, moving to a 1-year verification frequency can supply a more uniform revenue 427 stream. However, care must be taken to ensure the benefits of a more uniform revenue stream 428 outweigh the increased cost incurred due to the more frequent verification events. This is another 429 area that requires more research as the result is likely to be strongly dependent on the financial 430 model of the forest. 431 Page 18 of 28  References  Boyland, M., 2006. The economics of using forests to increase carbon storage. Can. J. For. Res. -Rev. Can. Rech. For.36, 2223-2234.  British Columbia Ministry of Environment, 2011. The Protocol for the Creation of Forest Carbon Offsets in British Columbia. www.env.gov.bc.ca/cas/mitigation/fcop.html (accessed 07 February 2013). British Columbia Ministry of Environment, 2013. Information on Offsets Regulation. www.env.gov.bc.ca/cas/mitigation/ggrta/offsets_reg.html (accessed 07 February 2013) British Columbia Ministry of Forests, 2001. Williams Lake timber supply area analysis report. Victoria, Canada. British Columbia Ministry of Forests, 2002.  Fort St. John timber supply area analysis report. Victoria, Canada. British Columbia Ministry of Forests, 2003.  Fraser timber supply area analysis report. 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Page 19 of 28  Feng, H., Zhao, J., Kling, C., 2002. The time path and implementation of carbon sequestration. American Journal of Agricultural Economics 84 (1), 134–149. Galik, C.S., Cooley, D.M., 2012. What Makes Carbon Work? A Sensitivity Analysis of Factors Affecting Forest Offset Viability. For. Sci.58, 540-548.  Galik, C.S., Cooley, D.M., Baker, J.S., 2012. Analysis of the production and transaction costs of forest carbon offset projects in the USA. J. Environ. Manage.112, 128-136. Golden, D.M., Smith, M.A., Colombo, S.J., 2011. Forest carbon management and carbon trading: A review of Canadian forest options for climate change mitigation. For. Chron.87, 625-635. Greig, M., G., Bull., 2011. Carbon management in British Columbia’s forests: An update on opportunities and challenges. BC Journal of Ecosystems and Management 12(3), 35-53, http://jem.forrex.org/index.php/jem/article/view/157/xx. Haim, D., Plantinga, A.J., Thomann, E., 2014. 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Faculty of Forestry, University of British Columbia, Vancouver, BC, 104 pp. www.forestry.ubc.ca/atlassimfor/ (accessed 07 February 2013). Newell, R., Stavins, R., 2000. Climate change and forest sinks: Factors affecting the costs of carbon sequestration. J. Environ. Econ. Manage.40, 211-235. Nunery, J.S., Keeton, W.S., 2010. Forest Carbon storage in the northeastern United States: Net effects of harvesting frequency, post-harvest retention, and wood products. For. Ecol. Manage. 259, 1363-1375.  Pacific Carbon Trust, 2011. TimberWest Strathcona Ecosystem Conservation Project, Project Plan Summary Document v. 1.0. www.pacificcarbontrust.com (accessed 10 May 2013). Pacific Carbon Trust, 2012. B.C.Offset Protocol Undergoes International Validation. Information Bulletin PCT-B 12-001. At: http://pacificcarbontrust.com/assets/Uploads/News-Releases/Offset-Protocol-Validation.pdf. Pearson, T.R.H., Brown, S., Andrasko, K., 2008. 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Seely, B., Welham, C., Kimmins, H., 2002. Carbon sequestration in a boreal forest ecosystem: results from the ecosystem simulation model, FORECAST. For. Ecol. Manage. 169, 123-135. Sohngen, B., Mendelsohn, R., 2003. An optimal control model of forest carbon sequestration. American Journal of Agricultural Economics 85 (2), 448–457. Stavins, R.N., 1999. The costs of carbon sequestration: a revealed preference approach. American Economic Review 89 (4),994–1009. Stern, N., 2007. The economics of climate change: the Stern review. Cambridge and New York: Cambridge University Press. Swift, K., Ran, S., 2012. Successional responses to natural disturbance, forest management and climate change in British Columbia Forests. BC Journal of Ecosystems and Management 13(1):40-62. http://jem.forrex.org/index.php/jem/article/viewFile/171/113 Taylor, A.R., Wang, J.R., Kurz, W.A., 2008. 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Page 22 of 28  List of symbols and acronyms AFRF Alex Fraser Research Forest AVHH Average Value per Hectare Harvested, the average timber revenue (i.e. the timber selling price averaged from the last 5-10 years of financial records) multiplied by the 25-year average harvested volume per hectare per year (thousand $ ha-1 year-1) BEC Biogeoclimatic Ecosystem Classification in British Columbia C The number of Carbon credits produced (Mg CO2e) CBM-CFS3 Carbon Budget Model for Canadian Forest Sector CC Total Carbon project cost, includes initial establishment and validation and ongoing verification cost ($) CO2e Carbon dioxide equivalent, one Mg of CO2e indicates the global warming potential of one Mg of Carbon Dioxide for various greenhouse gases as defined in ISO 14064-1(2006). In a forest ecosystem, the Carbon storage is estimated in Mg of Carbon and then converted to Mg of CO2e (1 Mg of Carbon is 3.667 Mg of CO2e). FCOP The Protocol for the Creation of Forest Carbon Offsets in British Columbia FE3 Third Forest Estate FPS-ATLAS Forest Planning Studio, a spatially explicit forest-level planning model H Harvested volume (B - baseline, C-Carbon project) (m3 year-1) NVHH Net Value per Hectare Harvested, TNR multiplied by the 25-year average harvested volume per hectare per year (thousand $ ha-1 year-1) MKRF Malcolm Knapp Research Forest n Duration of the planning horizon and the break-even period for which a break-even Carbon credit price can be calculated (years) P Total break-even Carbon credit price (P= PH + PCC) ($ Mg CO2e-1) PCC The component of P due to the total Carbon project cost (initial project establishment and validation and ongoing verification) ($ Mg CO2e-1) PH The component of P due to the opportunity cost of the reduced harvest ($ Mg CO2e-1) r Discount rate t Simulation year TIPSY Table Interpolation Program for Stand Yields of managed stands TNR Average Timber Net Revenue, calculated as the difference between the average timber revenue (i.e. the timber selling price averaged from the last 5-10 years of financial records) and the average harvesting cost rom the last 5-10 years of financial records ($ m-3) TPNR Total Present Net Revenue (B - baseline, C-Carbon project) VCS Verified Carbon Standard VDYP Variable Density Yield Prediction for unmanaged stands     Page 23 of 28  Table 1. Site index, revenues, and costs. Site index, revenues, or costs Forest Estates AFRF FE3 MKRF  Average Site Index (top height in meters at age 50)  22.1  14.7  25.6 Average Timber Revenue ($ m-3) 67 48 85 Harvesting Cost ($ m-3)a 51 44 50 TNR (Average Timber Revenue less Harvesting Cost) ($ m-3) 16 4 35 Carbon Project Establishment and Validation ($ ha-1)b 5.61 (all forest estates) Verification ($ ha-1 event-1)b 1.52 (all forest estates) a includes tree to truck, hauling, road construction, road deactivation, road maintenance, silviculture, scaling, administrative overhead, stumpage (at FE3 and AFRF), and fire protection (at AFRF and MKRF). b costs estimated from Galik et al. (2012).                  Page 24 of 28  Table 2. The total break-even Carbon credit price and its two components for a 25-year project life with all costs assumed to be expenses for a 5-year verification frequency. THL* Carbon Credits (Mg CO2e 103) 0% Discount Rate  16% Discount Rate PH ($ MgCO2e-1) PCC ($ MgCO2e-1) P=PH + PCC ($ MgCO2e-1)  PH ($ MgCO2e-1) PCC ($ MgCO2e-1) P=PH + PCC ($ MgCO2e-1)  AFRF          90% 1 326.5 87.9 414.4  132.6 95.5 228.1 80% 9 125.0 14.1 139.1  69.8 17.4 87.2 70% 30 59.8 4.4 64.1  48.4 8.1 56.5 60% 46 48.8 2.8 51.6  47.9 6.8 54.7 50% 89 32.7 1.5 34.2  38.4 3.9 42.3 40% 114 31.0 1.1 32.1  39.2 3.1 42.3 30% 129 31.1 1.0 32.1  38.4 2.7 41.2  FE3          90% 79 3.5 2.5 6.0  4.7 7.4 12.2 80% 177 3.2 1.1 4.3  4.6 3.5 8.1 70% 257 3.2 0.8 4.0  4.6 2.4 7.0 60% 333 3.2 0.6 3.8  4.7 1.9 6.6 50% 407 3.3 0.5 3.8  4.8 1.5 6.3 40% 477 3.4 0.4 3.8  4.9 1.3 6.2 30% 538 3.5 0.4 3.9  5.0 1.1 6.1  MKRF          90% 67 40.6 1.0 41.6  56.4 2.9 59.3 80% 128 40.7 0.5 41.3  58.9 1.6 60.4 70% 175 42.1 0.4 42.4  59.7 1.1 60.8 60% 255 45.1 0.3 45.4  61.4 0.8 62.2 50% 321 44.4 0.2 44.6  60.9 0.6 61.5 40% 393 44.2 0.2 44.4  60.7 0.5 61.2 30% 501 40.7 0.1 40.8  59.5 0.4 60.0 *THL, target harvest level shown as % of the baseline harvest level    Page 25 of 28  Table 3. The total break-even Carbon credit price increase at 0% discount rate from a 5-year to a 1-year verification frequency.   THL* AFRF  FE3  MKRF +$ +%  +$ +%  +$ +%  90% 202.2 49%  5.7 96%  2.3 6% 80% 32.3 23%  2.6 60%  1.2 3% 70% 10.0 16%  1.8 45%  0.9 2% 60% 6.4 12%  1.4 36%  0.6 1% 50% 3.4 10%  1.1 29%  0.5 1% 40% 2.6 8%  1.0 25%  0.4 1% 30% 2.3 7%  0.8 22%  0.3 1% *THL, target harvest level shown as % of the baseline harvest level                              Page 26 of 28   Figure 1. Carbon credits produced per hectare over the life of the project.   Figure 2. Annual total cost (i.e. sum of opportunity and Carbon project costs) and Carbon credits produced over the life of the project at MKRF for 30% target harvest level (i.e. minimum accepted level). Costs are shown at 0% discount rate.   Page 27 of 28   Figure 3. Comparing the total break-even Carbon credit price at 0% real discount rate over a range of average values per hectare harvested per year (12.2 at FE3, 22.9 at AFRF, and 63.7 thousand $ ha-1 year-1 at MKRF) at 30% target harvest of the baseline level when the opportunity cost due to harvest reduction is not included (Panel A) and included (Panel B) in the financial analysis. The values in the brackets represent the average site index for each forest estate.   Page 28 of 28   Figure 4. Comparing the total break-even Carbon credit price at 0% real discount rate over a range of site indices (corresponding to three forest estates) at 30% target harvest of the baseline level when percent reductions are applied to the Timber Net Revenues (TNR).  

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