CBAM in its definitive phase: documentary burden moves into the letter of credit

For the duration of the transitional period, the carbon border adjustment mechanism was principally an administrative exercise: importers of covered goods reported embedded emissions, and the consequences of imperfect data were regulatory rather than commercial. In the definitive phase the consequences are financial, and financial consequences have a way of propagating into contracts.

The propagation route that matters for our clients runs through the documentary credit. If an importer’s liability depends on verified embedded-emissions figures, the importer has a strong incentive to make the delivery of those figures a condition of payment. That is a reasonable commercial instinct which, executed carelessly, creates a new and avoidable category of discrepancy.

Why emissions clauses generate discrepancies

A letter of credit is a mechanism for paying against documents that conform on their face to stated requirements. It works because the requirements are conventional, the documents are standardised, and examiners have decades of practice in applying the rules. Emissions documentation has none of these properties yet. There is no universally accepted certificate format, no settled convention on who may issue it, and no established practice on what counts as a material inconsistency between an emissions declaration and the commercial invoice.

Insert a loosely drafted requirement for ‘a certificate of embedded emissions’ into a credit and you have created a condition that examiners must interpret without guidance. In our experience the result is predictable: documents that are otherwise clean are refused on the CBAM condition, payment is delayed while the parties negotiate a waiver, and the instrument stops doing the job it was chosen for.

Emissions data is a contractual specification problem that is being solved, badly, inside letters of credit. Specify it in the sale contract and let the credit refer to it.

China Everbright Bank Europe — Trade Finance Desk

Draft the requirement once, in the right place

The workable pattern is to define the emissions data requirement precisely in the underlying sale contract — scope, methodology, verifier, format, timing, and the consequence of non-delivery — and to have the credit call for a document that is defined by reference to that contract, with objectively checkable characteristics. Examiners can check whether a named document issued by a named party is present and consistent. They cannot check whether an emissions calculation is methodologically sound, and should not be asked to.

• State the calculation methodology and the identity or class of acceptable verifier in the sale contract.
• In the credit, call for a specifically described document rather than a generic certificate.
• Avoid requiring the emissions document to be consistent with data that does not appear on the other documents.
• Agree in advance what happens if the data is late: a waiver mechanic in the contract is cheaper than a discrepancy negotiation.

The supply-chain consequence

There is a second-order effect worth naming. Suppliers differ widely in their ability to produce verified emissions data, and that difference will be priced. It will not, initially, be priced through the margin; it will be priced through friction — longer payment cycles, more discrepancies, more requests for amendment, more management time. Buyers will drift towards suppliers whose paperwork is clean, and the drift will look like a commercial preference rather than a carbon policy outcome.

For exporters into the union, the implication is direct: investment in emissions accounting is working-capital investment. A supplier who can hand over verified figures with the shipping documents gets paid on time, and getting paid on time is worth more than most sustainability programmes return.

How we are supporting clients

Our trade finance desk reviews CBAM-related documentary conditions before issuance, and we would rather have that conversation at structuring stage than at examination stage. Where a counterparty insists on a condition we consider unexaminable, we will say so and propose an alternative that achieves the same commercial protection without putting the payment mechanism at risk.