--:-- Host: Thanks for joining us. One of you, all carbon is the same. Every ton is created equal, regardless of the underlying metadata. We now know that is fundamentally not true.
--:-- Welcome to part two of our carbon removal series. If you missed part one, we talked to Nan Ransohoff, head of Climate at Stripe, about what it might take to jumpstart the market of carbon removal solutions. But what happens when there is a true, thriving market of buyers and sellers? How will suppliers effectively reach the right buyers? And as more solutions become available, how will buyers effectively vet the options?
--:-- In this segment, we address these questions and more together with Brennan Spellacy, co-founder and CEO of Patch, a growing marketplace for carbon credits. We also cover many evolving market dynamics, like the potential differences between two sets of tons delivered, the opportunity and the challenge of effectively educating buyers on these differences, the integration of software like Patch's API, verification solutions and their current limitations, how even the voluntary market is being held accountable for their carbon claims, and ultimately the role that Patch is playing to help develop this nascent industry.
--:-- By the way, if you like this episode, be sure to look out for part three of our series, where we get into the nitty gritty of some of these emerging carbon removal solutions, ranging from biomass pyrolysis to carbon mineralization. For now, I hope you enjoy this episode with Brennan.
--:-- [Disclaimer] The content here is for informational purposes only, should not be taken as legal, business, tax, or investment advice, or be used to evaluate any investment or security, and is not directed at any investors or potential investors in any a16z fund. For more details, please see a16z.com/disclosures.
--:-- Brennan, thanks for joining us today. Let's start with the basics. In super, super simplified terms, what does Patch do?
--:-- Brennan Spellacy: Thanks for having me, Steph. So in super simplified terms, Patch builds software that makes it easier for corporates to interact with environmental markets. What that actually means is we partner with a wide variety of what are called carbon removal and carbon credit developers. These are organizations that either abate emissions or remove carbon dioxide from the atmosphere through a variety of chemical pathways, from reforestation to direct air capture. There's a huge amount of breadth on the platform.
--:-- We actually call their capacity or ability to sell back carbon sequestration or carbon abatement inside our software platform and then expose it to corporates. So through the lens of a buyer, if you're something like an Afterpay, which is a customer of ours, Patch looks a lot like a B2B marketplace for climate action. But if you're a seller, we look like a platform to help you scale your business. So we almost look like two businesses depending on the type of organization you are.
--:-- Host: Got it. And we're seeing a bunch of attention being drawn to carbon removal. So what I'm curious to know is whether this is new, this idea of a marketplace connecting buyers and sellers. Is this something that already exists? If so, what aspects of Patch are net new or unique?
--:-- Brennan Spellacy: Yeah, that's a great question. So before Patch, really what existed was this idea of a long-standing carbon credit exchange. Very often, what you would see is primarily banks and some oil and gas organizations. They would have a carbon desk where they would buy huge tranches of carbon credits on the scale of hundreds of thousands and millions of tons. In the case of the banks, they'd actually be speculating, buying them and then flipping them for some sort of yield.
--:-- What Patch actually does is take a completely different approach to carbon. We don't actually treat it like almost a security, which has historically been treated as where banks want to view all carbon as the same. Every ton is created equal, regardless of the underlying metadata. We now know that is fundamentally not true.
--:-- Whether you're removing carbon through natural solutions like reforestation or a human-engineered solution like direct air capture or enhanced weathering, there's a huge amount of variability in both the price per ton, as well as the rate at which that carbon can be removed and for how long that carbon can stay removed. Patch's core ethos as a platform is to aggregate and standardize presentation of that information to provide a new level of transparency that historically hasn't been possible.
--:-- This is really with the intent of showing buyers the kind of information they need to actually understand what they are transacting with. Because before, if you looked at some of these exchange platforms, it would simply be a digit, a couple of lines, a thousand times, maybe a unique identifier, and maybe a little bit of metadata on the underlying carbon project. But there's so much information that's been abstracted away that has resulted in people buying things when they thought they were buying something else.
--:-- Host: Yeah, on that note, I've been learning more about this recently. For example, if people pay for a certain amount of forest to not be torn down, well, what if the government regime changes? What if a forest fire happens? There is some time dimension that's important here. So I'm curious to know from you two things. One, how are you validating this information? Are you actually going out and researching these companies and digging into their processes or operations? And then I'm specifically curious about this time dimension, where there are certain types of carbon removal which are extremely permanent, and at the other end of that scale, there's maybe a question mark around the permanence. And of course, within that question mark, you don't know if it might last 100 years or it might last 10. So how are you thinking about that and also representing that to the customer or the buyer?
--:-- Brennan Spellacy: So first and foremost, the goal is to surface all this information you're describing, whether it's the associated risks with a particular project. If it's in a government or in a country that's not stable, that's an associated risk with the underlying derivative. If the actual chemical pathway can only support a certain amount of what's called durability, that's the characteristic you're describing, which is studying how long that environmental benefit lasts.
--:-- There are some durability numbers that are really well understood, and there are some that are more approximations based on distribution. Soil carbon typically falls into this, where you'd have some soil carbon that only can stay sequestered on a scale of five to 10 years, and then some that can stay a little bit longer.
--:-- So first, Patch works with third parties to actually collect all of this data. The risk data, the associated underlying evaluation of the projects themselves, and we put it all in one place to surface this information. So Patch is actually not going into the field ourselves to generate this data. What we do is we give a series of data and reporting requirements to our supply partners that they have to input into the platform and maintain over time.
--:-- The reason it's set up like that really comes back to incentives. It's critical to think about incentives at scale. Historically, voluntary carbon markets are incredibly small. They're on a scale of $2-3 billion a year. But they're poised to grow to the mid-level tens of billions of dollars by 2030 and then hundreds of billions of dollars by 2050. So you have to make sure the incentives are well-balanced.
--:-- If you think about NASDAQ as an exchange, we can kind of make the relation to financial markets. It wouldn't really make sense for us to be a credit rating agency or the auditors. If you had NASDAQ also be the Deloitte and the Moody's, that's a bit of a conflict of interest. So it's really important to us to have very clear boundaries today on who's responsible for what, so that as we scale the market, we can scale it in a healthy and ethical way.
--:-- To give you an idea of why Patch doesn't go on the ground, the key element there is making sure that at scale, suppliers aren't being incentivized to say everything's good because we make money off throughput. So structurally, we will never do that. We have to make sure that line in the sand is very clear and never crossed.
--:-- Host: That makes sense to me. Is there a standard in place that exists in the industry? I know a lot of this is really, really nascent. And I also know that, as we've already discussed, a lot of these chemical pathways are very different. So I'd imagine that it'd be difficult to really compare apples to apples. You're really comparing maybe different kinds of apples, maybe other kinds of fruits. So how are you able to get this information and present it to the customer? Or is there a standard in place that you're able to borrow from other agencies that you can apply to Patch?
--:-- Brennan Spellacy: So there are many carbon credit standards that are emerging right now, both in the historical carbon credit market, so organizations like Verra with Gold Standard, as well as new age organizations that act like credit rating agencies like Sylvera and DZERO. And we actually weave both of these data sets together.
--:-- That being said, the outputs of these organizations are actually all fairly similar. So all the standards and the methods in order to get to a particular output are different, but the actual end result is the same. Typically, when you think about carbon, people care about: what's the underlying chemical pathway? What's the geography? The price? The associated vintage? So vintage is the year that impact takes place. Is it a future vintage? Is it a past vintage? The durability or permanence: how long does that positive environmental benefit last? The idea of additionality: does that incremental dollar spend result in new climate impact that otherwise would not have happened? And finally, leakage: does this positive environmental effect that's taking place here not result in the same emissions or even more emissions somewhere else outside of your boundary condition?
--:-- Those seven core attributes are all the same regardless of standard today. So the standards are actually dynamic and evolving, but what they're attempting to do is quite similar. That's where a platform like Patch is actually incredibly valuable, because we can present those four, five, six, seven data points in a standardized way, but we can react to the highly dynamic market because there are new standards cropping up all the time.
--:-- Host: Yeah. And that's what's actually really interesting and why a marketplace like Patch is so important, because the underlying ecosystem is so turbulent. If you go with one partner that will not change and will react on your behalf, it gives you as a sustainability leader leverage.
--:-- I will say some of these aspects of the standards probably aren't familiar to the average buyer. They don't understand some of the metrics that you just explained. Let's say they go on Airbnb. They're like, okay, I understand what I need. I need internet speed. I need it to be in this locale. I understand the price point. So how are you seeing the buyers on the platform engage with this information? Are they really fixated mostly on price? Or is there some level of education that they need to understand these different metrics and these different standards? And just curious to know anecdotally what you're seeing people latch onto, if there's certain metrics or standards that people really care about and others that they seem to care less about.
--:-- Brennan Spellacy: Really, there's just a huge amount of variance in understanding from buyers today. There are a lot of people coming to Patch thinking every ton is the same, not even understanding that the idea of emissions avoidance is different than emissions removal. So very fundamental concepts. And then you have some that are incredibly sophisticated that dive into all the project documentation, present Patch all the metadata, and actually use something that matches that enables their power user type behavior.
--:-- So what we're seeing is there's always going to be some level of education coming into the platform because of essentially that gap between where most people are. Climate change is obviously a huge problem, but interacting with carbon markets is still kind of a niche behavior. So there's a huge amount of education that actually happens within the platform.
--:-- At the end of the day, a lot of these attributes, most people can actually understand if it's presented in the right way. It's actually more of a UX problem, explaining the concepts in very plain English and the strengths and weaknesses of going with one solution versus another. When you have things actually compared to one another, you can understand, "Oh, if I could pay $100 for a ton and get more durability versus paying $10 a ton for less durability," you not only understand what you're paying for, but you can make a trade-off one way or another. That's why transparency is so critical.
--:-- So what we're seeing is, although a lot of people are coming to Patch with a very limited understanding, the actual education that takes place in the platform by interacting with the Patch team typically gets them to the point where they're educated enough to be dangerous, if you will.
--:-- The other model we've actually seen happen more and more, which is actually what I expect to happen in the majority of cases, is the actual organizations working with consulting firms. I actually believe that the big four, if you will, are going to be doing the carbon accounting for a lot of these firms. The EYs, the KPMGs, the Deloittes of the world. These are the organizations that are actually going to clean up big time when it comes to doing the carbon accounting for Fortune 500 organizations. And they're actually using Patch and curating on top of Patch. They use all the Lego bricks that we give to create a particular bespoke solution for their client. I actually expect that to happen much more often. So the Fortune 500 might be king, but it's actually the Deloittes and the PWCs that are doing curating using the tools we're building.
--:-- Host: I think you're right that each company, especially smaller and medium-sized businesses, they're not going to have an expert to be able to understand these markets to the degree that they might want to. So having specific carbon experts, we're actually doing an episode, which maybe this will be applicable to, of thinking about the jobs of the future. And you can imagine a carbon buyer, a carbon strategist or something like that for these companies might be something that emerges more, or maybe it'll be absorbed by the big four.
--:-- Speaking to that, I've heard you talk about kind of four steps. There's calculation, so calculation of the offsets that a company is producing, reporting, then some sort of reduction or decarbonization, and then finally offsets, which we've been talking about. But can you speak to maybe across that full trajectory? Are there other areas other than being the marketplace at the end that Patch is involved?
--:-- Brennan Spellacy: Yeah, so that's really where Patch starts, is that compensation piece, that last step. The one exception is actually with the reporting elements. We're now just beginning to see organizations like the SEC who want climate disclosures starting to have requirements on what type of renewable energy credits or carbon credits you're purchasing as well. So Patch will be playing a role there because if the transacting takes place in our platform, we'll be responsible for some level of reporting.
--:-- But going back to the other steps, the emission footprinting and reduction strategies, we're actually never going to do. The reason we're not doing that actually goes back to an incentive point we were talking about earlier, which is a different type of incentive problem at scale. You wouldn't want your doctor getting commission on medicine and prescribing, right? Because we again monetize on volume to push through the platform, we have a take rate, it would be highly unethical for us to tell people how much to buy because we then have an incentive to tell them to buy more. So again, having that separation of concerns is really, really important.
--:-- Where we do actually play a lot is more on the supply side. We really see these suppliers, the carbon credit developers, as our core customer at Patch, where we build and invest a huge amount of our R&D dollars on building software and systems to help their business become more transparent and more scalable.
--:-- Host: Can you speak a little bit more to what those tools look like specifically for those suppliers?
--:-- Brennan Spellacy: Yeah, absolutely. A huge focus for Patch is really making it incredibly easy for suppliers to scale their business commercially. When you think about all the things any company needs to do that's not related to the core service they're offering, in this case, it's putting carbon underneath the ground or avoiding emissions in a particular chemical pathway. There are things like collecting payment, managing inventory, managing invoices, localizing content in multiple languages. These are all things that software is really, really good at that these organizations, which are primarily composed of operations, finance, and chemical engineers, tend to not want to spend a lot of their focus time on. So anything that we can do to take work off of their plate, the better.
--:-- Host: Are you seeing a particular facet of that be especially valuable to the suppliers? Is there an area where they're like, "Wow, we really can't find this elsewhere"? I mean, if I think about payments as just an example, it feels like there are other payment solutions out there. So is there a facet of the supplier solutions that you're providing that you're like, "Wow, our suppliers are really in need of this"?
--:-- Brennan Spellacy: I'd actually argue that it's the collection of functionality that makes it really valuable. It's almost like a form of verticalized SaaS where it's software built for their particular workflows that has the context of their domain built into it. There are definitely other payment providers. There's also other localization providers, there's other ways to manage inventory, but there's nothing that really sings or plays in harmony together like Patch does for different forms of carbon removal developers. So it's really the kind of, there's actually not one killer feature, if you will. It's actually them all coming together that creates this ecosystem that makes it a lot easier to run and scale your business. If you just have one or two, it tends to feel incomplete.
--:-- Host: Let's pivot to the buyer side. So you're building technology on both ends. Something that I've heard you talk about before is your API. So can you elaborate a little bit more on what this API does and how a company might use it to either calculate their footprint or use it for some other purpose?
--:-- Brennan Spellacy: Absolutely. So there's what we call feature parity between the dashboard products at Patch and the API. So those are the user interfaces, that's the web application, and the API. Anything you can do in the dashboard, you can do in the API and vice versa. The reason that's so powerful is because in a lot of cases, people want to own their end user experience.
--:-- Whether you're an e-commerce company enabling organizations to take climate action or a corporate accounting platform, those B2B software platforms we were talking about earlier that do the reporting, reduction, and removal, or Patch powers the removal element. This Lego brick of interacting with carbon markets is actually really valuable for a lot of experiences for folks who actually want to control that end-user journey.
--:-- A really concrete example is an organization like Afterpay, where they've made the claim that having some sort of integrated climate action within their product or service will help them drive loyalty, acquire new customers, and result in a better overall buyer experience. So instead of directing people to Patch and then coming back to the Afterpay experience, what they do is they use Patch's APIs to integrate a form of climate action within the Afterpay app. That way you can actually integrate with the broad Patch network without ever having to leave the comfort of the Afterpay app.
--:-- We've seen that happen in logistics, in e-commerce, FinTech, and even some crypto applications. So there's a huge, wide variety of folks who have the programming prowess, if you will, as well as want to take some sort of climate action embedded in their products. And they're right down the fairway for using Patch's API products.
--:-- Host: And just to paint a picture, is this what I'm imagining to be similar to what I see with Stripe? When you're going through a checkout process, it's like you can offset with this amount of trees or X percent can be allocated to this purpose. Is that what it looks like for these other companies? Or can you paint a picture of what that UI might look like for their user?
--:-- Brennan Spellacy: There's a huge amount of variability. In the case of Afterpay, that's a B2B2C application, where we're selling to Afterpay, which is a business, and then they're selling to end consumers. For them, it actually looks like a location within the Afterpay app where they're tracking the associated negative environmental externalities associated with your shopping that took place on Afterpay or through any sort of Afterpay payment experience across the web. Then they give you the ability to select, in this case, six projects that Afterpay has curated that they feel matches their sustainability strategy. They expose that by API, and then the end user can actually decide which of the six they want to select.
--:-- But then you have organizations like EasyPost, for example, which is actually a B2B2B sales motion where they've exposed in their API the ability to launch carbon neutral shipping, but they themselves are an API. So they've actually added a flag within their API per shipping label. Whenever that's turned on as carbon neutral, that calculation is then on their side, and then the compensation happens on Patch. But the end user of that experience is also someone writing code.
--:-- So again, it really depends on the kind of end customer and what you're trying to do, because there's a huge amount of variability. That's the power of APIs. You have these Lego bricks, and you can build really whatever you want, whether it's another business application, consumer one, or even if you're just automating the back office of your own company.
--:-- Host: I really like the analogy of Lego bricks, because it does allow these companies to just integrate it into their platforms or their companies or their processes. And for the end user, they don't necessarily know that this company like Afterpay is using Patch, right? It's kind of opaque in this case to the end user in terms of what that company is utilizing. Is that right?
--:-- Brennan Spellacy: It's really up to the integrator. In the case of Afterpay specifically, they actually broadcast the fact that they're using Patch, viewing it as a little bit more like an Intel inside, if you will, where they're alluding to the fact that this experience is powered by someone else, kind of like what Wealthfront does with Plaid, or even like if you check out with Stripe, sometimes it says there's a little "powered by Stripe" in the corner. Afterpay does something very similar. And most people actually do something like that with Patch. There are a few select instances, though, where people completely white label Patch's tech, and there's no mention of the Patch branding or infrastructure underneath the hood.
--:-- Host: It's nice that they have the option. How many suppliers and how many buyers are you looking at today?
--:-- Brennan Spellacy: Yeah, so on the buy side, we have a little bit over 150 customers now, ranging from small startups that most of these listeners probably haven't heard of, or maybe will hear of eventually, to large corporates and to very large banks in Canada and North America. So a huge amount of variability there in terms of size and scope. And then on the supply side, we have around, I believe, 50 suppliers on the platform representing over 100 climate action projects, spanning 15 different project types.
--:-- Host: That's very cool. I'm curious to know on the buy side, if you've heard from customers, why they're pursuing this. Is it just someone within the company has determined this is important? Is it some sort of corporate action and some sort of legislation that they need to meet? How are these companies making the decision to decide, "Okay, I'm actually going to integrate into these carbon removal solutions"?
--:-- Brennan Spellacy: It's a good question. It really goes back to this broader secular trend we're seeing, where in the last, call it, decade, we've now entered the period where the first two generations who are going to be materially affected by climate change are entering their prime spending years, their prime earning years, as well as beginning to vote. Those are millennials and Gen Z. When you have the masses beginning to care about a problem that two to three decades ago was kind of a niche problem, and now it's becoming a mainstream problem, that changes a lot of different things.
--:-- Typically, the things that are most reactive, organizations that are most reactive, are actually businesses. They see their sales drop, they see competitors winning business over them, they may look into why that is, and they're realizing that sustainability and operating sustainably is one of those key elements. That was actually why in an industry like Buy Now, Pay Later, which is incredibly competitive, they're always looking for ways to differentiate from one another. And one way to do that, to acquire younger spenders, is to operate more sustainably.
--:-- The next group of people that typically moves are investors. Investors, if you're investing on a 5, 10, 15-year time horizon, they see, "Oh, well, these are how individuals are changing their behavior. That's what affects how businesses perform. So now we actually have to change our investment strategy. Are we going to prioritize companies that operate more sustainably because we think they'll actually yield better returns the next 5, 10, 15 years?" So then the investors capitulate.
--:-- That'll actually look like some organizations coming to us because maybe they got bought by a private equity firm and it's been mandated. We actually work with quite a few private equity firms, three of the largest in the world. Or in some cases, it's actually the private equity firm driving or the investor driving the commitment because they made a commitment to their LPs. Another past customer, EQT, they have a net zero commitment by 2025 and they've made a commitment to their broader LP base, which are institutional sovereign wealth funds, et cetera, saying, "Hey, we're going to actually invest in this particular way and help our companies operationalize this investment thesis, which is operating sustainably, because we think in the long run it yields better returns."
--:-- And then finally, the most lagging indicator of public sentiment is policy. And now we're just beginning to see some of that take place with both the CHIPS Act and the IRA. That right now is primarily coming in the form of incentives, primarily tax incentives. If you do this sustainable thing, we are going to either give you a tax credit or actually give you money in order to fund that or enable that. But we're expecting to see more and more. We have a few carrots today. We're expecting to see a couple more sticks come out as well. And we're going to begin to see that in the SEC playing with the idea of evaluating climate disclosures.
--:-- You have these investors with the sustainable thesis saying, "We think sustainable companies are going to perform better." And then corporates make net zero claims and say, "Hey, this is going to be a sustainability strategy and we want to attract all the ESG dollars or sovereign wealth fund money that maybe was only going to sustainable businesses." Now, if there's not meat to that strategy, if there isn't a materiality to that net zero strategy, that's misleading investors. That's why the SEC is beginning to look at this. It's not because the SEC cares about sustainability particularly, but it's because the CEOs and executive team of these organizations are making a claim to attract retail and to attract institutional capital. And if there's no grounds for that claim, that's misleading investors. And that's why the SEC is going to get involved.
--:-- So it's almost three phases. I'll just say, I can really bring it back. It's who are they feeling the heat from most? Is it customers? Is it capital allocators? Or is it regulators?
--:-- Host: And sometimes it's a mix. Sometimes it's one. Sometimes it's all three. That's actually a very clear but also interesting way to frame it, in that a lot of people view these markets as purely voluntary. And in a way they are, right? If a company is saying we're going to hit net zero, they're not forced to do that. There is maybe some pressure from their customers. But once they say that publicly, I like that you brought up this regulatory aspect of it, where if they're signaling that to their investors, they actually do need some proof. They need analytics. They need to show the data behind what they're saying is net zero at some point. And I know we're in the early stages of that, but I like that you brought that up because it isn't purely voluntary. There are repercussions of some of these statements or actions.
--:-- I'm curious to know how you see specifically the marketplace approach that Patch has decided to pursue, how you see that evolving. And one lens on that perhaps is cost, because something that I'm curious about is, I imagine you mentioned you have maybe 100 or so different solutions on the platform that people will naturally migrate to cost. I could be wrong, but within a marketplace, if I use Airbnb as an example, there's many cities that it operates in and there are many facets to homes that someone might look for. I do wonder whether over time, the buyers with carbon removal will naturally gravitate just towards, "Okay, what is the lowest cost solution on this platform? And let's just go with that." But I'm curious to know what you're seeing there and how you think about keeping the marketplace competitive across many solutions, if that makes sense.
--:-- Brennan Spellacy: I actually don't think that's an unreasonable prediction, in that folks will navigate towards the least expensive thing they can buy. But I think the thing that's important to qualify that with is, well, what is the thing they can buy? What I mean by that is there's going to be two competing dynamics. There's going to be availability. So we're beginning to do this now: there's a huge amount of supply compression. What was historically the most affordable form of carbon is now beginning to become more expensive. And we're going to have this kind of simultaneous effect of these human-engineered solutions, as they traverse the cost curve, becoming less expensive. We're actually expecting their meat in the middle at some point in like 2030, effectively, where the thing that's the cheapest today won't exist in five or 10 years and the most expensive thing today will be far more competitive.
--:-- So it's that dynamic of, "Okay, what is the lowest cost thing and where is it going to end up?" There's a huge amount of speculation on where that's going to land. Most numbers are between $50 to $200 per ton. So even today, there's a huge amount of variability. But for context, there's even more variability on Patch today, where the least expensive thing is around $15 per ton, and the most is $1,000. So that's a much wider band, and it's going to be expensive to tighten over time.
--:-- Now, the other piece is price is the only thing that's important if you've commoditized it, which we firmly believe that it is not. If you're thinking about commodities like soybeans, for example, not futures or derivatives based on commodities, but rather the purchasing of the commodity itself, there's not that much variability. Maybe the geography grows from, maybe the specific genus or species of soybean, but there's actually not that much variance. But if you look at tons of carbon, there's a massive amount of variance. That really is what drives the price, whether it's the underlying technology type, the vintage — so the year that the actual credit is delivered — people typically buy both historically sequestered carbon as well as future commitments to kind of buy their way in line, the maturity of the technology, the geography of the technology, the underlying durability, which is how long does that positive environmental effect last for.
--:-- Depending on your climate strategy and how you're going to tell a narrative on how you're achieving your particular climate strategy, that's going to actually dramatically filter down what you can actually buy. So if you have a huge narrative around perhaps farmers or agriculture, you might index towards a set of inventory that's agriculture-focused on the platform. Or if you're really focused on national excellence, maybe you want to make sure all the spending happens in your particular country. Depending on that segmentation, there's only going to be a certain amount of inventory available to you, and that's going to have a huge amount of price variability within it. So it's not going to be just "what's the most affordable option to me," because that's not going to typically fit within your sustainability strategy.
--:-- Host: Right. Now within that kind of tearing down, I think it's fair to say people are going to want to go for the most cost-competitive option, but that won't be the most cost-competitive in many cases globally. Can you just clarify on the spectrum, the lower end where you're speaking to something that's $15 a ton, what does that look like? Is that planting trees or what is that solution? And can we compare that to maybe an example from the $1,000 end, just so we can have concrete examples for the audience to understand what those different solutions might look like?
--:-- Brennan Spellacy: A really great example of something that's going to be in the $15 to $20 per ton range is something like greenhouse gas destruction. So chlorofluorocarbon destruction or methane destruction, which are two other types of greenhouse gases that get talked about less often, but that have — in the case of chlorofluorocarbons, 300 to 350 times the global heating potential, and in the case of methane, 25 times the global heating potential of one molecule of carbon dioxide. Said plainly, one molecule of carbon dioxide versus one molecule of this other type of greenhouse gas, the carbon dioxide is far less potent from a global heating potential, but there's far more of it getting emitted in the atmosphere. In that case, that's a form of emission abatement. You might have an old mine that falls beneath regulations, where the EPA says you can only emit a certain amount of methane. If it falls beneath that, they're allowed to emit it. So how do you actually prevent those emissions from getting emitted in the first place? It's by using some sort of climate finance.
--:-- On the more expensive end of the spectrum, maybe something like direct air capture, which are basically these large fans that suck in ambient air from outside and blow it through some sort of reactant. Typically, it's either some sort of liquid or solid. And the CO2 will stay behind in various forms, depending on the type of direct air capture process it is, depending on the type of chemistry that's happening. And pure — primarily nitrogen and oxygen and a little bit of argon — will come out at the end.
--:-- Host: I wanted to ask specifically on durability. Is there any sort of guarantee or how does Patch position that with the buyers? Are you telling them, "Okay, we are actually guaranteeing that this carbon stays out for one year?" I know some of the technologies say that they can keep the carbon out of the atmosphere for hundreds, if not thousands of years. So of course there's no way that you can sell that with a guarantee. But I'm curious to know how you're representing that to the customer and how they can have certainty to some degree that what they're buying, if they are paying more in some cases for these longer-term solutions. So how are you positioning that and how are you thinking about that?
--:-- Brennan Spellacy: The core element of this is really transparency in the ecosystem and really being very clear about what we do know and what we don't know and what evaluations have been run on the underlying projects and which have not been. In the case of durability, that's typically coming from some sort of third-party standard or evaluator that's actually evaluating the carbon project. Patch actually does not do that. So in order to get onboarded onto the platform, you have to get evaluated by a third party. And then that data — that's both durability data, but also comes with a bunch of other data related to the real and verifiability of the underlying project — gets pulled into Patch and standardized.
--:-- The guarantee, if you will, actually falls in the standard in that case. But if we are given information that is untrue by the supplier, so if the supplier misleads Patch or misleads a buyer intentionally, then Patch will actually get involved. In order to actually list on the platform, we have to go through an onboarding assessment as well as sign up on a series of indemnities, which is basically saying, "If you break this rule, these are the repercussions associated with breaking that particular rule." That's why people like working with Patch. It's because there are more guardrails in place rather than maybe a traditional broker, which is once the transaction is done, the broker washes their hands clean and the buyer is left responsible for the outcome.
--:-- Host: That seems really important because there are so many solutions out there. And I know you're also relying on third parties as we talked about for some of that verification, but it seems really important that if people are investing in these services to remove carbon, that they're actually getting what they're expecting.
--:-- Brennan Spellacy: Absolutely. It's absolutely critical. But I think it's also important to understand that we need to actually attempt thousands of technologies or solutions because only hundreds are going to work and tens are going to truly scale. There are going to be technologies that don't work. Understanding which types of technologies have R&D risk and are contingent versus what types of technologies have matured and have an established operating history is actually really, really important. That's laid out in the platform to help people understand, "Do I want to work with someone that's operated for three decades or do I want to operate with an upstart?" Because there's a huge number of upstarts working on some really novel and exciting technology. But as an upstart ourselves, startups are inherently more risky than a company with 30 years of operating history. So it's really important to understand that nuance.
--:-- I think it's absolutely critical. But when you start dealing in absolutes, especially absolutes when it comes to chemistry and natural systems, which are always operated on distributions of probability, I think that's when you can get into a situation where people are overcommitting themselves. So it's really important to understand that this is chemistry. Chemistry by default falls on a distribution. Even resonance time of carbon dioxide in the atmosphere falls on a distribution. There are some molecules that get emitted into the atmosphere and get taken out immediately by the biosphere, and there are some that linger for 150 years. Understanding the fact that everything is a distribution — sometimes it's normal, sometimes it's reliable, there are many types of distributions — is really important.
--:-- Host: Yeah, I like that. And I think that shows the additional value add that Patch gives as a platform because a lot of this information is not clear to the layman. They wouldn't know what those distributions look like. They wouldn't know what verification services to use with these different suppliers. So I think it's clear that there is a value add there. Now, I want to understand a little bit more about how Patch makes money on the other end of that. So how are you currently making money today? And do you see this evolving in a way as the industry itself evolves over the next few years?
--:-- Brennan Spellacy: It's a great question. We make money in two ways. The first is through a take rate, like most marketplaces. It's a percent of volume on the platform. Something that's a little bit different about Patch is we actually only charge take rates to buyers and not to sellers. So that's piece number one. And the second piece is we use a platform fee which looks like more of a subscription model where you pay a monthly or annual fee. That's going to really depend on what types of features, functionality, and API usage you're actually putting through the platform.
--:-- I don't see the shape of Patch's business model changing materially from those two dimensions. I do see the magnitude of those two numbers changing. For enterprise clients, typically there's take rate compression and platform fee expansion. For smaller companies, it's typically the inverse — you don't want a fixed cost per year, but you're okay stomaching a higher take rate. So I expect that kind of status and variability within those two dimensions. But the overall shape of the business model, I don't expect to change for the foreseeable future.
--:-- Host: Is there any risk that if these technologies do go down the cost curve substantially, as we've seen with many technologies, that Patch having a business model functioning off of take rate actually loses the revenue growth that you might expect? You're kind of battling against that cost curve in a way because I assume — and let me know if I'm wrong — the companies that are on the buy side are deciding how much carbon to buy based on, let's just say, their net zero goals. They're not saying, "We're allocating a million dollars to this." They're saying, "We need to remove X number of tons from the atmosphere based on the carbon that we're contributing." Is that correct in terms of the way to think about how buyers are determining how much to spend? And if so, again returning to this idea of the technologies going down the cost curve, is there a scenario where actually Patch loses its revenue growth potential because of those reductions?
--:-- Brennan Spellacy: The answer actually depends on the type of customer you're referring to. An enterprise, for example, has a little bit more of a rigid budgeting exercise. If they're making some sort of net-zero payment, they actually will probably be allocating a fixed dollar amount that they prepare to spend annually, or maybe even a percent of revenue or profit. That'll basically inform what they can afford per ton, and that'll form what they buy. What we've seen is typically what they could afford per ton is on the scale of — the average price per ton on Patch is about $70 today. The terminal price per ton of all the different technologies is actually within the range we were talking about, that 50 to 200. And maybe it goes up a little bit, maybe it's a little bit lower, but it's kind of in that ballpark.
--:-- What we actually expect and what we've seen is people who have a lower price per ton budget are typically spending on Patch. And then as they decarbonize, keeping their total gross budget fixed and ratcheting up their price per ton budget, they're actually moving up on what they're prepared to pay per ton as they decarbonize. When you think about going down the cost curve, that's actually the most beneficial thing a lot of these technologies can do to drive a larger gross amount of spend. A lot of enterprises are actually very price-inelastic, where they cannot afford to pay more than $60, $70, $80 per ton for one unit of carbon. So as the folks in the $500, $600, $700 range come down to $200, the amount of spend on their particular product is going to go up dramatically. All of that is to say, you're very confident in the Patch business model.
--:-- Host: Let's take a step back and just talk about the industry as a whole. We are seeing many different entities come into the carbon removal ecosystem. As you said, regulation has played a role here. Public sentiment has played a role here. But really, this is a moment for carbon removal, or at least it feels that way. And this ecosystem is evolving every day. So how do you view Patch's role within that wider ecosystem? And how do you see that also evolving with time?
--:-- Brennan Spellacy: It's still very, very early days for the broader ecosystem. We're not even spending the right order of magnitude. Actually, we're off by two orders of magnitude on annual CDR spend to actually get our kind of five to 10 gigaton goal at $100 a ton. So we have a lot of work ahead of us. It does feel like maybe the starting gun has gone off, if you will. But with this 100-meter race, I don't know if we're even out of the blocks yet. People haven't even stood up straight. So we have a lot of work ahead of us.
--:-- As far as the role we think Patch can play: when you have markets that get really, really big very, very quickly, there's a lot of information complexity and a lot of operational complexity associated with that. Software is okay at managing operational complexity, but really, really good at managing information complexity. That's really what we view our role as being. We are not actually going to be setting up the frameworks or the verification standards. We're going to be meeting with the nonprofit, the NGO, and the regulatory communities in order to enable that. But what software and Patch is going to be really good at is, once that framework is put into place, operationalizing that and scaling that with the kind of both buy and supply side reach that we already have and will continue to grow. That's where we really view our role coming in. Making it easier for a buyer to understand what they should be doing, a seller to understand what they should be doing, or making sure a regulator has their rules abided by or respected — that's really what we view Patch's role as. It's really the underlying piping, if you will, of a very fast-growing market.
--:-- Host: And one facet of a fast-growing market or one indicator is that there are just so many problems to be solved. It sounds like Patch is already focused on solving many of those. But as you're deep within this industry, I'm curious to know if there are other areas in the infrastructure required that you're noticing as opportunities and perhaps things that Patch isn't going after. Are there things that you're like, "Wow, this is really missing and this is an opportunity for other builders to get involved"?
--:-- Brennan Spellacy: I think the biggest piece is understanding how to do insurance, actually. That Patch will not do, but I think it's really important. That's going to be what actually enables a lot of folks to take on meaningful R&D risk and traverse the cost curve — through some sort of financial engineering and insurance of the underlying project. Imagine a world where I'm a corporate and I have some sort of net-zero commitments. In 2025 — today is 2022 or 2023 — I'm prepared to make a bet on an upstart or maybe a promising technology folks who just came out of some lab and are building some sort of pilot facility. How do you build an instrument that enables that buyer to take that risk, but not to bear all of the risk on their own?
--:-- I think there's probably an opportunity for insurance or reinsurance to be had here, because expert models are actually pretty good at predicting the outcomes of some of these things. That's certainly not something Patch would do because the economics and structure of the business don't really make sense in that way. But I think that would actually be really, really compelling, because that's something that's prevented a lot of folks from diving in where they've kind of stuck with the technologies they know and love, because they don't want to be the ones that go first. How do you make going first easier? Because at the end of the day, even with the tools in front of us, we're going to make a lot of great progress, but we can make more progress more quickly if we continue to get more shots on goal. How do you make it less scary for folks to take a step up to that soccer ball and swing hard? One of those ways is to have a slightly softer landing with some sort of insurance product. That can come in the form of getting paid out either with straight cash — so what you've actually spent on that different form of carbon removal — or in an in-kind type of payout where you're actually getting carbon credits or tons from a similar shape type of carbon removal developer.
--:-- Host: Do you see other financial instruments? I can almost imagine not an ETF, but more so bundling of technologies. If you were to want to invest in, let's say, direct air capture, and there are many companies doing that, do you foresee some sort of instrument that would allow you to, as you're saying, hedge that bet and say, "Hey, I think this technology is going to work, but I don't know which company is going to succeed within that realm"? Do you see products like that also becoming important or necessary?
--:-- Brennan Spellacy: It depends on what we want the outcome to be. Is it really just spreading your purchase across a bunch of folks? In which case, you can actually do that with Patch, where people can build portfolios and not put all their eggs in one basket. If you're referring to if those other two providers, for example, don't work out or one doesn't work out and the other has to pick up the slack, then that might require a little more financial engineering. If you think back to how a lot of utilities and how wind and solar got off the ground, this actually typically came in the form of having buyers of last resort, as well as taking equity positions in the underlying projects themselves. I could potentially see a world where infrastructure funds lean in here a little bit more and then start saying, "Hey, I'll be left to remedy this problem. But if you end up defaulting, I'm going to own 10 or 20% of you." Either structured equity or a kind of SPV-type model there. I could see that happening as well, because it's precedent for when PVs were far less of a good business model 15 years ago.
--:-- Host: It'll be very interesting to see how some of this evolves because I think there's the obvious solutions that need to be in place. And then there's always the non-obvious companies that arise in, again, one of these really important moments, one of these industries, as you said, at the very starting line, or at least it feels that way. Let's wrap up with a general question just around, as someone who is deeply involved in this field, who's creating within it, what makes you hopeful, given the fact that we are at those initial starting blocks? Are there early signs that make you really hopeful about maybe the next five, 10 years that others can draw from?
--:-- Brennan Spellacy: Honestly, I think the biggest source of hope is actually seeing the kind of initial cohort of 1,000 to 2,000 people working on this particular problem. I think this renewed excitement and inflow of people is really, really exciting. There have been some folks who historically have been highly under-resourced doing a lot of research and work in this ecosystem for the last, in some cases, two decades, but it's been stuck on a bench or stuck in the field and not really productionized and operationalized. Seeing all these really fantastic, talented people come from really incredible companies and say, "Hey, I just want to spend all my time on this particular problem" is actually the greatest source of hope I could have.
--:-- I'm a big advocate of the idea that if you actually just get — in the case of climate change, there might be like 100 million people rowing in the same direction, but however many people you need rowing in the same direction to focus on a particular problem — I can't think of very many problems where everyone was aligned and focusing on something for a decade or two decades and that thing wasn't solved, actually. That's the thing that I'm the most bullish on. Maybe fusion is one that's kind of let people down a little bit, but I think a lot of things have actually turned out to be conquerable by human ingenuity, and I really don't see this being any different. Having that initial strong cohort, founding markets, if you will, is really important because that's going to be all those talented people, and they'll pull more people into the ecosystem. That makes me very optimistic.
--:-- Host: I could not agree more. We did an initial episode with Mark on this topic on why technology still matters. And that was a recurring theme that there really hasn't been very many, if any, examples in history where just a mass of people who are excited about something get together and try to solve it. I think the one example that he could come up with was alchemy — trying to produce gold. But in terms of the present day, there aren't many examples of a ton of smart people coming together to try to solve something and not succeeding. It's typically just a matter of time. So I think that's a good place to end off on. Brennan, thank you so much for walking us through what Patch does and the carbon removal ecosystem at large. I think it's fascinating to see so much being built. And I think one really important aspect of it is what Patch is doing and the infrastructure. A lot of people focus on the solutions, but there is this infrastructure layer that needs to be built. So thanks again for taking the time.
--:-- Brennan Spellacy: Awesome. Thank you so much for having me, Steph. Really appreciate it. Thank you.
