In the complex world of “cap and trade” emissions regimes, acquiring credits to offset a company’s pollution portfolio requires decision makers to see the forest for the trees. And sometimes to buy the forest.
That’s what happened in LFF IV Timber Holding LLC v. Heartwood Forestland Fund IV, LLC, 2024 NCBC 58, where the plaintiff bought 182,476 acres of timberland in West Virginia, Kentucky, and Pennsylvania. In accord with a “carbon cap and trade” program run by the state of California’s Air Resources Board, the transaction included more than 4.7 million offset credits that plaintiffs alleged were valued over $50 million.
The ARB operates as a marketplace where “credits” are afforded to timberland owners who agree to restrict “harvesting activity” so that a property’s carbon footprint is reduced. As the Business Court noted, “An emitter can use carbon offset credits to comply with environmental regulatory requirements, or to voluntarily achieve its emission regulation goals.” Property owners keep their credits in an ARB-administered account and subject their property to board oversight for at least 100 years. Id. ¶¶ 12-13.
While the offset credits conveyed to the purchasers through warranty deeds, plaintiffs alleged that the carbon levels associated with the property were “significantly overstated” as reported by the defendants to the credit–issuing body, the ARB. Under the program, any overstatement of the carbon stock on a property can expose the owner to penalties and other sanctions, including those for investigating and re-verifying the carbon stock levels. Id. ¶¶ 19, 23.
Under a defined transition timeline, reporting responsibilities to the ARB were assumed by the buyers. In 2023, a commissioned a study of the properties’ carbon stocks allegedly showed levels “significantly below what the annual inventory had modeled” when reported to the ARB by the defendant-sellers. Id. ¶ 37.
The core of the Court’s 12(b)(6) decision focused on whether the plaintiff-purchasers had a contract-based indemnification claim arising from the alleged overstatement of the carbon stock which they relied on in buying properties purportedly benefited by substantial, ARB-issued credits. Judge Davis examined the purported indemnification provisions to weigh the parties’ competing positions about whether defendants’ indemnity obligation applied to losses arising from events that occurred before the closing date – thus, to encompass the alleged overstatement of carbon stocks.
Plaintiff contended that one of the provisions at issue, read to its plain meaning, supported its indemnity theory. The defendants acknowledged at hearing that “if read in a vacuum,” the language supported plaintiff’s theory, but they argued that a broader, contextualized review commended another result. Id. ¶¶ 74-76. The Court noted that “a contract interpretation issue cannot be resolved at the Rule 12(b)(6) stage where each party has shown that the provision at issue is reasonably susceptible to materially different interpretations.” Id. ¶ 71 (citing Schenkel & Schultz, Inc. v. Hermon F. Fox & Assocs., 362 N.C. 269, 273 (2008). Plaintiff’s “plausible interpretation” of the indemnity provisions to apply to pre-closing activity was enough at the motion to dismiss phase. Id. ¶ 86:
Worth Noting
- Defendants contended that the alleged carbon stock overstatements were “estimates” that, even if later disproved, were not a proper basis for indemnification. Where the statements were made under oath to the ARB, and supported its credit issuance, the Court found defendants’ “attempt to minimize the formality of the carbon data information it provided to the ARB” could not support dismissal. Id. ¶ 62.
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