More high-emitting companies are raising sustainability-linked loans as delays to a planned alignment with tighter bond market standards raise concerns that polluting companies are putting less challenging and ambitious deals in place before the deadline.
A range of companies from hard-to-abate sectors has raised more than US$10bn of SLLs in the past five weeks, as work continues on a global update to the sustainability-linked loan principles by the Loan Market Association in Europe, the Loan Syndications and Trading Association in the US and the Asia Pacific Loan Market Association.
The SLL principles were published in 2019 and were due to be brought in line in March with more detailed and rigorous sustainability-linked bond principles that were published by ICMA in June. The SLLPs and guidance are now expected to be updated in May or June as discussion continues among the associations.
In the meantime, mining company Celtic Resources Holding raised a two-year US$100m SLL in late March, US gold and copper miner Newmont Corp agreed a US$3bn SLL in April and Luxembourg-based steelmaker ArcelorMittal amended a US$5.5bn loan to include ESG metrics. Australia’s Port of Newcastle, which derives most of its revenues from coal, raised an A$666m deal in May, which included a mix of sustainability-linked, green and conventional debt, and oil and gas company Norwegian Energy Co closed a US$1.1bn seven-year reserve-based SLL.
The issue of standardising of the key performance indicator targets that underpin sustainability-linked debt is in the spotlight, along with the ambition of targets and reporting, as more high-emitting companies raise sustainable debt as the transition to a low-carbon economy accelerates.
The lack of consensus is raising the stakes for banks (particularly sustainability coordinators), which are facing unprecedented levels of scrutiny on the business that they are writing in a critical decade for emissions.
“Rapid growth in SLLs is likely to go on until one of these loans blows up and is revealed to be a complete sham. Then you will see push-back,” a senior lawyer said.
The prospect of tighter standards is being welcomed by the loan market, which developed the sustainability-linked model of linking margins to KPI targets, but the lack of disclosure around targets in the private market has led to concerns of greenwashing.
There is currently little standardisation of KPI targets, even on greenhouse gas emissions, which are most commonly used and typically focus on direct Scope 1 and 2 emissions, rather than indirect Scope 3 emissions in companies’ operations and supply chains.
Calls are growing for mandatory Scope 1 and 2 emissions that are independently audited, but sophisticated investors are increasingly focusing on Scope 3 and how it compares with companies’ total emissions to avoid missing the elephant in the room. Some bankers are also calling for independent firms to confirm the ESG labels that companies are putting on their own debt.
"Scope 1 and 2 are less material than Scope 3. The most pressing and relevant consideration is 'what is your Scope 3 and how does it compare to your overall footprint?'" said Navindu Katugampola, head of sustainable investing at Morgan Stanley Investment Management Fixed Income & Liquidity. "It is increasingly our expectation of heavier industries ... that we will start to get more clarity on their Scope 3 emissions,"
The Port of Newcastle’s loan was criticised for only focusing on Scope 1 and 2 emissions, which account for a tiny part of the port’s emissions, although some banks see this as more of a failure to use the SLLPs to raise and tackle the most material ESG issues for borrowers in their deals.
Sources involved in the conversations say discussions among the three loan associations are currently focusing on two issues – around the role of second-party opinion providers and whether or not to create a list of common KPI targets.
Some banks are pushing for second-party opinions and external verification to be mandatory. Those in favour argue that it makes it harder for companies to reward themselves with margin discounts and stops greenwashing, while others argue that the cost may shut out smaller companies.
The associations are also working on a list of common KPIs, which currently includes only environmental targets. Discussion is focusing on whether to include other targets including social and governance KPIs, or whether a common list makes sense at all as KPIs are too varied.