A Sector Transition Acceleration Contract (STAC) is a financial and contractual mechanism designed to accelerate the decarbonization of specific industrial sectors, particularly those that are hard to abate, such as cement, steel, and other high-carbon industries. 

The core idea behind STACs is to create a framework that enables companies to make targeted investments in low-carbon technologies and practices within their supply chains, thereby reducing Scope 3 emissions—indirect emissions that occur in a company’s value chain.

Developed in collaboration by Scope 3 Climate Capital and Linklaters, STACs are specifically tailored to address the challenges associated with reducing Scope 3 emissions, which are indirect emissions occurring in a company’s value chain.

Key Components of a STAC:

1. Contractual Structure:
   • Pre-Funded STAC: This involves a financial commitment from a user (typically a company) who deposits funds into an escrow account. These funds are released to a supplier only when specific decarbonization goals are met. This structure provides upfront capital to suppliers to invest in decarbonization technologies.
   • Purchase Order STAC: In this case, a company commits to purchasing a guaranteed quantity of low-carbon goods or services from a supplier, contingent upon the supplier achieving certain decarbonization milestones. This structure ensures market demand for the decarbonized products.
   • Combined STAC: A combination of both the Pre-Funded STAC and the Purchase Order STAC, providing both upfront capital and guaranteed market demand, thus offering a comprehensive incentive for suppliers to decarbonize.
2. Decarbonization Goals: STACs are centered around specific, quantifiable decarbonization goals that the supplier must achieve. These goals are aligned with sector-specific pathways to reduce carbon intensity, typically in line with global temperature targets (such as the 1.5°C or 2°C pathways).
3. Verification and Compliance: A key feature of STACs is the requirement for independent verification of the decarbonization efforts. This ensures that the claimed reductions in emissions are real, measurable, and verifiable. Once these goals are independently confirmed, the agreed-upon financial or purchase commitments are executed.
4. Blended Finance and Co-Investment: STACs can involve co-investment from governments or multilateral organizations, which might provide matching funds or other forms of financial support. This blended finance model helps to de-risk the investments for the private sector and encourages larger scale decarbonization projects.
5. Alignment with Scope 3 Emissions Reduction: STACs are specifically designed to help companies address Scope 3 emissions, which are the hardest to reduce because they occur outside a company’s direct operations. By linking financial incentives to the decarbonization of upstream or downstream activities, STACs help companies make tangible progress toward their net-zero commitments.

 Advantages of STACs

1. Targeted Decarbonization Efforts:

    Sector Specific Focus: STACs are designed to catalyze decarbonization within specific sectors, such as cement or steel, where emissions are particularly challenging to reduce. By focusing on sector specific needs, STACs ensure that the most impactful technologies and practices are implemented, maximizing the reduction of carbon intensity in critical areas.

    Incentivizing Technological Innovation: STACs provide financial incentives for suppliers to invest in breakthrough low carbon technologies. This approach is critical for sectors where current technologies are insufficient to meet decarbonization targets.

2. Enhanced Investment Mechanism:

    Financeable Direct Investments: STACs convert climate action budgets into financeable direct investments. By securing upfront commitments from companies to purchase decarbonized products or by prefunding decarbonization efforts, STACs reduce the financial risks for suppliers and encourage the adoption of new technologies.

    Blended Finance Options: The framework includes provisions for blended finance, where governmental and multilateral coinventors can match private sector investments. This increases the total capital available for decarbonization projects and enhances the financial viability of these projects, particularly in emerging markets.

3. Verification and Transparency:

    Third-party Oversight: The STAC framework includes third-party verification mechanisms to ensure that decarbonization goals are met and that the corresponding financial commitments are released only upon the achievement of these goals. This builds confidence among investors and participants in the STAC ecosystem.

    Data Driven Approach: The contracts rely on independently verified data to track emissions reductions, ensuring that the impact of investments is both measurable and transparent. This approach mitigates the risk of greenwashing and enhances the credibility of decarbonization claims.

4. Flexibility and Scalability:

    Multiple Contract Structures: STACs offer flexibility through different contract structures, including Prefunded STACs, Purchase Order STACs, and Combined STACs. This flexibility allows companies to choose the most appropriate mechanism for their specific needs and circumstances.

    Scalability Across Sectors and Regions: While initially focused on sectors like cement and steel, the STAC framework is designed to be scalable across different industries and geographic regions. This scalability is crucial for achieving widespread adoption and meaningful global emissions reductions.

5. Alignment with Climate Goals:

    Supporting NetZero Commitments: By enabling companies to make verifiable progress on their Scope 3 emissions, STACs help align corporate activities with global NetZero goals. This alignment is critical as companies face increasing pressure from stakeholders to demonstrate concrete climate action.

    Facilitating Long-term Offtake Agreements: STACs encourage long-term commitments from both buyers and suppliers, which are essential for the sustained adoption of low carbon technologies and practices. These agreements also provide suppliers with the financial security needed to invest in decarbonization.

Disadvantages of STACs

While Sector Transition Acceleration Contracts (STACs) offer significant potential benefits in terms of accelerating industrial decarbonization, there are also several disadvantages and challenges associated with their implementation:

1. Complexity and Implementation Challenges:

• Legal and Contractual Complexity: The design and execution of STACs involve intricate legal and contractual arrangements. Negotiating these agreements can be time-consuming and costly, particularly for sectors that are not accustomed to such structured financial instruments. This complexity may deter smaller companies from participating.
• Operational Complexity: STACs require careful coordination between various stakeholders, including suppliers, buyers, financial institutions, and third-party verifiers. Managing these relationships and ensuring alignment of goals and timelines can be challenging.

2. High Initial Costs and Financial Risks:

• Upfront Capital Requirements: STACs often require significant upfront investment, either from the buyers (in the form of pre-funded capital) or from suppliers investing in new technologies. This can pose a financial burden, particularly for smaller firms or those operating in regions with less developed financial markets.
• Risk of Non-Performance: There is a risk that suppliers may fail to achieve the required decarbonization goals within the agreed timeframe, leading to financial losses for the investing parties. While milestone payments can mitigate this risk, the overall financial exposure remains a concern.

 Implementation Plan for STACs

1. Policy and Regulatory Framework:

    Government and Multilateral Support: Engage with governments and multilateral organizations to establish a supportive regulatory environment for STACs. This could include recognizing STACs within national climate policies and providing matched funding for decarbonization projects.

    Legal Standardization: Develop standardized legal frameworks and contract templates that can be adopted across different sectors and regions. This will reduce transaction costs and facilitate the broader adoption of STACs.

2. Development of Verification Protocols:

    Independent Verification: Establish protocols for the independent verification of emissions reductions achieved through STACs. This could involve collaboration with academic institutions and industry experts to develop robust methodologies.

    Blockchain for Transparency: Utilize blockchain technology to create a transparent and immutable record of STAC transactions. This will enhance trust among participants and ensure the integrity of the claims made under STACs.

3. Stakeholder Engagement and Capacity Building:

    Education and Awareness Campaigns: Conduct educational campaigns to raise awareness about the benefits of STACs among potential participants, including companies in hard to abate sectors, financial institutions, and government agencies.

    Training for Implementation: Provide training programs for companies and financial institutions on how to implement and manage STACs effectively. This could include workshops, webinars, and detailed guides.

4. Market Development:

    Creating a Secondary Market for STACs: Explore the development of a secondary market where STAC certificates can be traded. This would provide liquidity to participants and encourage broader participation in the STAC ecosystem.

    Partnerships with Financial Institutions: Collaborate with banks and investment firms to integrate STACs into sustainability linked loans and bonds. This will increase the financial attractiveness of STACs and drive greater investment.

5. Monitoring and Reporting:

    Regular Reporting Requirements: Implement regular reporting requirements for STAC participants to ensure ongoing compliance with decarbonization goals. This could include annual reports on emissions reductions achieved and the financial performance of STACs.

    Adjusting for Performance: Develop mechanisms to adjust STAC terms based on the actual performance of the decarbonization projects. This could involve milestone-based payments or penalties for underperformance.

 Conclusion

STACs represent a significant innovation in the effort to decarbonize hard to abate sectors. By aligning financial incentives with decarbonization goals, STACs provide a powerful tool for companies looking to reduce their Scope 3 emissions and contribute to global climate goals. The successful implementation of STACs will require coordinated efforts across governments, financial institutions, and industry participants, as well as the development of robust verification and reporting mechanisms. If properly executed, STACs have the potential to drive meaningful progress towards a low carbon economy.

Comparing Sector Transition Acceleration Contracts (STACs) and Contracts for Difference (CfDs) 

Both are innovative financial instruments designed to support decarbonization efforts, but they operate in different contexts and with distinct mechanisms. Below is a detailed comparison of the two, highlighting their similarities, differences, and the specific contexts in which each is most effectively applied.

1. Purpose and Context

• STACs:
  • Purpose: STACs are primarily designed to accelerate the decarbonization of hard-to-abate sectors by directly incentivizing companies to invest in low-carbon technologies. They aim to reduce Scope 3 emissions, which are indirect emissions occurring in a company’s value chain​.
  • Context: STACs are particularly useful in sectors where technological advancements are needed to achieve significant emissions reductions, such as in the cement or steel industries. They are structured to provide both financial and market incentives for companies to adopt greener technologies.
• CfDs:
  • Purpose: CfDs are used primarily as a risk management tool to stabilize revenues for renewable energy projects. They provide a guaranteed price for electricity generated from renewable sources, thereby reducing the financial risks associated with price volatility in the energy market.
  • Context: CfDs are widely used in the renewable energy sector, particularly for projects like offshore wind farms, where large upfront investments are required, and revenue stability is crucial for securing financing.

2. Financial Mechanism

• STACs:
  • Mechanism: STACs involve a combination of pre-funded investments and purchase commitments tied to achieving specific decarbonization goals. These contracts may involve escrow accounts where funds are held until the supplier meets the agreed-upon decarbonization targets.
  • Payment Structure: Payments under STACs are contingent upon the achievement of decarbonization milestones. This structure is designed to ensure that funds are only released when measurable progress toward emission reductions is made​.
• CfDs:
  • Mechanism: CfDs operate as a financial hedge where the difference between the market price of electricity and a pre-agreed strike price is exchanged between the generator and the counterparty. This ensures that the generator receives a stable revenue stream regardless of market fluctuations.
  • Payment Structure: In a typical two-sided CfD, the generator pays the difference to the counterparty if market prices exceed the strike price, and receives payments when market prices fall below the strike price. This mechanism ensures price stability for the generator.

3. Risk Management

• STACs:
  • Risk Mitigation: STACs manage risk by linking financial rewards to actual decarbonization achievements. The risks are primarily operational, relating to whether the supplier can meet the decarbonization targets within the agreed timeframe​.
  • Investment Risk: The financial risk is borne by both the investor (who provides the upfront capital) and the supplier (who must achieve the decarbonization goals to unlock payments). This shared risk incentivizes both parties to ensure successful implementation of the green technologies​.
• CfDs:
  • Risk Mitigation: CfDs mitigate financial risk by providing a stable revenue stream to renewable energy projects, which is crucial for securing financing. This stability is particularly important in volatile energy markets where prices can fluctuate significantly​.
  • Market Risk: CfDs transfer market risk from the renewable energy generator to the counterparty (often a government or utility), ensuring that the generator is insulated from low market prices that could otherwise threaten the financial viability of the project​.

4. Market Impact and Scalability

• STACs:
  • Market Impact: STACs are designed to create a direct impact within specific sectors by driving the adoption of low-carbon technologies. Their impact is highly focused on the decarbonization of specific industrial processes, which can lead to significant emissions reductions within targeted sectors​
  • Scalability: The scalability of STACs depends on the ability to standardize the contracts across different sectors and regions. While they are highly effective in targeted applications, scaling up may require significant customization to address the unique challenges of different industries.
• CfDs:
  • Market Impact: CfDs have a broad impact on the renewable energy market by providing a stable investment environment, which encourages the development of large-scale renewable projects. They are a key tool for achieving national and international renewable energy targets.
  • Scalability: CfDs are highly scalable and have been successfully implemented in various jurisdictions worldwide. Their standardized nature makes them adaptable to different types of renewable energy projects and markets, making them a cornerstone of renewable energy finance.

5. Challenges and Disadvantages

• STACs:
  • Complexity: The bespoke nature of STACs makes them complex to design and implement. Each contract must be tailored to the specific decarbonization goals of the sector, which can increase transaction costs and implementation time​.
  • Market Adoption: The novelty and complexity of STACs may hinder widespread adoption, particularly among smaller companies that may lack the resources or expertise to engage in such contracts​.
• CfDs:
  • Market Distortions: While CfDs provide revenue stability, they can also distort market signals by disconnecting generators from real-time market prices. This can lead to inefficiencies in electricity markets and potentially over- or underinvestment in capacity​.
  • Regulatory Challenges: The implementation of CfDs often involves significant regulatory oversight and can be subject to changes in government policy, which may introduce uncertainty for investors​.

Conclusion

STACs and CfDs are both powerful tools for driving decarbonization, but they serve different purposes and operate in different contexts. STACs are more targeted, focusing on sector-specific decarbonization through direct investments and operational changes, while CfDs provide broad market stability for renewable energy.