European Carbon Allowances Eyed as Finance Tools Amid Rising Prices

European industrial operators have used free carbon allowances for financing purposes such as repurchasing agreements and as collateral for loans, and experts familiar with the deals say that rising carbon prices could encourage such practices.

Free carbon allowances are handed to big emitters in several industrial sectors subject to the EU and UK emissions trading systems (ETSs) to stop operators from being at a competitive disadvantage to imports from countries without carbon prices. But an investigation by OPIS shows that such allowances are being used for wider financing purposes.

The Stanlow refinery in northwest England and the Lindsey oil refinery on the east English coast provide two examples of installations whose operators received free carbon allowances worth hundreds of millions of dollars before transferring the allowances to third parties that later returned them to the operators.

In 2021 and 2022, the British government handed free United Kingdom carbon allowances (UKAs) to Essar Oil UK, a British subsidiary of the Indian company Essar Energy Transition and the owner of the 205,000-barrel-per-day Stanlow refinery.

In both years Essar then transferred all of its free allowance allocations to Litasco SA, the international trading arm of Russian company Lukoil, which later sent the allowances back to Essar. At the time, Essar had a $500 million extended payment facility with Litasco, which allowed Essar to buy crude oil from the trader and pay for it at a later date. Essar declined to confirm if the carbon allowances were used as collateral for that deal.

In the case of the 113,000-b/d Lindsey oil refinery – owned by Prax until its bankruptcy in June last year – the operator transferred the bulk of its allowances to carbon and energy trader CFP Energy before repurchasing them.

OPIS uncovered the practices by reviewing records of allowance transfers in the UK ETS Registry transaction list.

“People will tend to get more interested in these asset classes as the price goes up,” Steven Burrows, derivatives and financial regulatory lawyer at London-based law firm Fieldfisher, said to OPIS with respect to European Union and United Kingdom carbon allowances. “And more banks will get interested in their ability to provide financing off the back of them, ” he added.

The value of benchmark European Unions emissions allowances (EUAs) has soared from an average of €4.45 in 2013 to an OPIS-assessed high of €100.34 ($116.77) on Feb. 21, 2023. OPIS assessed the benchmark December 2026 EUA at €88.875 on Jan. 19, and the December 2026 UKA at £68.865.

EUAs and UKAs are classified as financial instruments and consequently regulated by the relevant authorities in each jurisdiction. In the EU, that is the Markets in Financial Instruments Directive 2014 (MiFID II), and allowances are treated as ‘specified investments’ in the U.K. under the Financial Services and Markets Act 2000 (Regulated Activities) Order 2001.

Their primary purpose, however, is to put a price tag on emitting carbon dioxide and incentivize industrial players to make their production less carbon intensive. Every year, operators of large installations subject to the EU and UK ETSs must surrender one EUA or UKA for every metric ton of carbon dioxide equivalent (CO2e) they emit. This obligation can cost the biggest emitters hundreds of millions of euros and pounds each year.

To ensure that European industry is not at a financial disadvantage because of European environmental law, each year European countries hand out a large number of free allowances for hard-to-abate industries, like steel manufacturing and oil refining.

Free allowances represent just under 40% of all allowances, and free allocation is set to be fully phased out across several sectors by 2034. The European Union carbon border adjustment mechanism (EU CBAM), which came into effect on Jan. 1 this year, will eventually replace free allocation by putting a levy on carbon-intensive imports of raw materials in several sectors.

Most companies keep free carbon allowances in their accounts and surrender them before the annual compliance deadline. But the time lag between operators subject to the EU ETS being handed those free carbon allowances at the start of the calendar year and having to surrender them to domestic authorities to cover emissions has widened – increasing the temptation to use the free allowances for financing purposes. The compliance deadline for EU operators receiving free EUAs was April 30 in the following calendar year, but is now Sept. 30.

Moreover, the creation of the UK ETS meant that operators in the U.K. received free allowances twice within nine months – in May 2021 and February 2022 – while the first surrender deadline was April 30, 2022. This left a window in which British operators were in possession of two rounds of free allowance allocations before needing to surrender allowances to cover any emissions.

Essar Oil UK, Stanlow Refinery

Essar Oil UK, now known as EET Fuels (Essar Energy Transition), is owned by the Indian conglomerate Essar Group.

The financial relationship between Essar Oil UK and Litasco, the Geneva-based European trading arm of Russia’s Lukoil, began in 2021, when Essar negotiated a credit facility enabling it to buy crude oil from Litasco worth up to $500 million and pay for the supply at a later date.

Essar Oil UK received 1,225,085 free allowances at the beginning of 2021 and transferred the full amount, minus one allowance, to Litasco SA on Oct. 5, 2021.

In February 2022, the refinery operator then received another 1,209,351 free allowances from the UK ETS authority and transferred the full amount minus one allowance to Litasco within a week. Litasco returned the same number of allowances to Essar three weeks later – and a month after Russia’s full-scale invasion of Ukraine.

A spokesperson for Essar declined to say whether the free UKAs were used as collateral to secure the credit facility and crude supply from Litasco.

Stanlow Terminals, another Essar-owned asset, was used as collateral for the deal, according to a charge agreement between Essar and Litasco filed at the U.K.’s company registry Companies House and dated July 26. 2021. The charge gave Litasco first-priority security over Essar’s shares in Stanlow Terminals to back payments owed under “a trade contract…for sale and purchase of oil,” according to Essar Oil UK’s accounts for 2022.

The spokesperson for Essar said: “Our trading with Litasco SA ended four years ago, in 2022, with all related trade debt fully settled in 2024. The terms of transfer of the ETS allowances were part of these historic trading arrangements.”

The founder and key shareholder of Lukoil, the parent company of Litasco, Vagit Alekperov, is under sanctions by the UK, Canada, Ukraine, New Zealand and Australia. After it was cut off from the global financial system in November 2025, Litasco laid off most of its employees globally.

Prax Lindsey Oil Refinery

The 113,000-b/d Prax refinery, located in north Lincolnshire, was responsible for producing approximately 5.4 million tonnes of oil annually, or 10% of the U.K.’s total oil production.

The company went bankrupt in June last year and was placed under the control of the country’s Insolvency Service. In September, one of the owners of Prax Group, Winston Soosaipillai, told Teneo, the administrator, that he did not know the outstanding balances owed to creditors, and The Times newspaper reported that the highly-indebted refinery had only £203 in its account when it collapsed.

After the U.K. brought its new ETS online at the start of 2021, the refinery received its first free allocation of 904,135 UKAs in May 2021 and then a second allocation of the same quantity in February 2022.

The inflow of free UKAs allowed Prax to transfer 1,200,000 to CFP Energy, a London-based energy and carbon services company, in the first months of 2022. When the deadline approached for surrendering allowances to cover emissions, Prax re-purchased 854,000 UKAs from CFP Energy.

Emissions allowances can be used in repo-style financing, where a borrower sells allowances to a lender at a discount for cash and agrees to buy back equivalent allowances later at a higher price, temporarily transferring ownership while effectively paying interest.

The OPIS-assessed UKA market prices at the time ranged between £81.92 on Feb. 24, 2022 and £72.05 on Mar. 3, 2022. If done at market prices, the transfer to CFP would have provided Prax with approximately £92.38 million. But repo-style financing usually occurs at a discount.

It is unclear if Prax repurchased the rest of its transferred allowances from CFP later, as historic transactions data post-April, 2022 are not yet available.

The U.K.’s Department for Energy Security and Net Zero did not provide an official comment.

According to Burrows, banks may start to prefer carbon allowances to other security asset types due to the liquidity of the carbon market: “These types of arrangements allow the banks as lenders to swap out the credit risk for the borrower for the market price of the emissions allowances.”

A spokesperson for the Financial Conduct Authority (FCA), the UK’s financial regulator, told OPIS that there is “no explicit prohibition on prices being above or below prevailing market rates” for UKAs traded over the counter (OTC), but since “UKAs are financial instruments, OTC trading in them must comply with the U.K.’s market abuse rules.”

Operators are also not specifically prohibited from transferring UKAs to third parties for free, according to the FCA official. “However, such transfers must be recorded in the UK ETS Registry and comply with anti-money laundering and market conduct rules,” they added.

-Reporting by Nia Simeonova, nsimeonova@opisnet.com; Editing by Anthony Lane,
alane@opisnet.com.

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