The idea of resource investments as exercises in stewardship of “natural capital” has migrated gradually from the worlds of development and impact investing into mainstream finance.
As private institutions have embraced frameworks like the UN’s Sustainable Development Goals to guide their efforts to allocate capital in support of broad societal and environmental goals, managers of many stripes have entered the fray in pursuit of opportunities to benefit from, or help prevent, ecosystem degradation.
Agricultural specialists have seized on the intrinsic connections between sustainability and profitability in their sector to position existing water management and biodiversity practices within an emerging new framework for assigning value to nature.
Carbon has emerged as an early test case for the markets many expect to result from the strengthening consensus around a new approach where protecting natural capital and meeting environmental challenges can produce monetary value. This potential for new income streams and the prospect of integrating ag into broader climate change mitigation efforts has been enough to capture the attention of boldfaced names throughout the supply chain.
Westchester Group Investment Management chief executive and president Martin Davies says broader social forces are also compelling stakeholders toward a natural capital approach. Davies says increasingly severe and frequent drought, storm and wildfire events have created a heightened generational attention to climate change evident in his own children.
The resulting atmosphere in which the investment community – like every part of society – feels an imperative to act, he adds, has helped create significant interest in agriculture among increasingly climate-conscious LPs.
“We have a moral obligation as a business and organization to try and move these things forward. To me, the good thing about institutional investment in farmland is the accountability and desire to do things better,” he tells Agri Investor.
Davies says Westchester is pursuing pilot projects in remote data gathering, regenerative agriculture validation and related technology development as part of efforts to tap into farmland’s natural capital value.
“If we can use our scale to facilitate natural capital benefits being monetized, that’s a logical thing that we would look to do across our business,” he says.
Davies sat down with Agri Investor at the end of 2020 to discuss the factors sharpening attention on ag’s role in climate change, early steps toward establishing farmland’s role in carbon offset markets and how farmland’s natural capital potential could shape management of the Nuveen-affiliate’s 2.2 million-acre, seven-country portfolio.
“The mindset needed to move a lot of this stuff forward is a mindset of collaboration, which maybe is a bit of an evolution from the traditional landlord/tenant type mindset,” he says.
“The future is looking at the values of things we never really thought about putting a value on before: natural capital value. What is the value of clean water? What is the value of biodiversity? What is the value of potential carbon sequestration between two and five tons of CO2 per hectare, per year?” Davies asks rhetorically.
“It’s an exciting time from an agricultural perspective.”
Credible accounting
Westchester is currently carrying out accounting projects designed to prepare its portfolio for the scrutiny natural capital markets demand, which is likely to be even more stringent than the close asset-level monitoring the firm has always conducted, explains Davies. Westchester’s first step in meeting such demands will be harnessing the vast amounts of information already available about most areas of the US that are relevant to large-scale institutional farmland investment.
The firm is also carrying out projects to create methods of data capturing necessary to supply carbon sequestration, water quality and biodiversity offset markets, says Davies. In addition to helping validate the benefits of regenerative practices, Westchester’s pilot projects include efforts to develop technology to credibly process farm data in a way that can improve the efficiency of a move into regenerative practices, he adds.
“People just talk about growing a cover crop, but the biomass generated by different cover crops has a huge variation in accordance with what you are actually growing. You do have to do some testing in the practical situation. Some of the things we are trying to do are to test that on the ground,” he explains.
Still, given commercial realities dictate not every acre enrolled in a carbon farming program, for example, can be lab-tested individually, Davies says, the key to success will be in creating on-going processes for updating and ensuring the accuracy of modelling used in the creation of offset credits.
“Of course, you can have logarithmic models, you can feed an artificial intelligence model the cropping, the yield, offtake, biomass density and so on, but you are making a lot of assumptions. There is a point where those assumptions have to be ground-truthed,” he says.
“The biggest concern I have today about technology is that we get carried away with what is possible to do with technology and we lose sight of the fact that ultimately you do have to ground-truth this technology.”
Defining roles
Though development of ag-focused data-capturing and modeling technologies is already well under way, the business models underlying the supply of natural capital markets are far less established, says Davies.
Because Westchester’s farmland strategy already focuses more on increasing efficiency rather than yields, he explains, steps to extract natural capital value will require relatively few, low-cost changes to agronomic practices. For its directly operated permanent crop investments, Westchester already has a high degree of control to determine an approach to emerging offset opportunities, he says.
In its tenant-operated row crop portfolio, however, Davies says some degree of development is still required to find business models best-suited to monetizing natural capital.
Only three of the 150 tenants managing Westchester’s 270,000 acres of US row crop farmland are not family-farming business. Although most already have equipment well-suited to no-till and other regenerative farming practices, distinct provisions within individual and regional leases – and indeed dynamics within individual tenant farming family relationships – will no doubt shape how Westchester can approach natural capital opportunities.
As a result, Davies says, that approach will likely vary by property.
“Landlords and tenants both say: ‘We have a moral obligation here to do things in a way that is trying to deal with climate change, trying to improve biodiversity and the environment. Of course, we are trying to produce nutritious food while we are doing that, and we are trying to make some money out of it, but let’s collaborate here to work out how we can [fulfil] a moral obligation,’” Davies says.
“That’s a nice idea, but the reality of the world is: things always come back to the commerciality of things.”
That commercial reality is still very much unclear and stakeholders will have to work together in the years ahead to create incentives for producers to adopt regenerative practices that will not happen otherwise, Davies adds.
He highlights that under European regulatory schemes, the tenant has often been the party to benefit from government support payments that have emphasized regenerative farming over the past decade. Davies stresses that the European model would not necessarily be followed in other markets, and that Westchester is looking to maintain “flexibility in the agreements and how we approach” offset monetization opportunities related to farmland.
“I don’t want to be in a situation where I say: ‘We’re just that landlord, we want natural capital looked after but responsibility and monetization of it sits with the tenant.’ My interest in this is, how we can we collaborate? Can we use our scale? Can we use the fact that we are in different markets? Can we use the fact that we are part of a wider financial business that has investments in lots of different things?”
While those possibilities are being explored, he says, ultimately the mechanics of offset markets are of less importance to Westchester than the fact of their overall development.
“Whoever monetizes the value of natural capital is, in some respects, it doesn’t matter to our business or our investors. I don’t think it matters. You structure a commercial arrangement around it, and you do have to have flexibility around the commercial arrangement,” Davies says. “The most important thing is that you do things collaboratively to be able to extract value from it.”
Scalable impact
Davies says the biggest challenge agriculture faces in developing a position with natural capital markets stems from the current lack of regulations, which inhibits consistency and uniformity across markets.
He adds that although ongoing reform of the EU’s Common Agricultural Policy, the Paris Climate Accord and initiatives such as the International Carbon Action Partnership have helped sustain momentum likely to make Europe a continued leader among regions in developing natural capital markets, political conditions in key countries including the US and Brazil have slowed the pace of overall development.
“We need government support and appropriate policy. We need collaboration to come up with standardized ways of looking at this,” he says. “Politics is relevant, but above all things, if capital markets can function in the way that they work best, that will move things forward and bring frameworks and the necessary environment to make all of this happen.”
Recent statements from capital markets heavyweights about intentions to systematically incorporate natural capital into financial decision-making, he says, has helped present farmland owners with an opportunity to maximize their contribution to reaching long-term climate goals.
“Impact is about scalability,” Davies adds. “Not that I am saying investing in small projects, reforestation, silvopasture agriculture or agroforestry on a relatively small scale is not good, but impact, ultimately, is about making significant changes to the majority of agricultural production.”
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