Singapore – Sustainability Linked Loan Principles – Another Step Forward For Green Financing.

A joint working group comprising the Loan Market Association, the Loan Syndications and Trading Association and the Asia Pacific Loan Market Association launched a set of Sustainability Linked Loan Principles (“SLLP”) on 20 March 2019. Sustainability Linked Loans (“SLLs”) are credit facilities that incentivise a borrower to achieve predetermined sustainability performance objectives. Also called ESG-linked loans in certain markets, SLLs are distinct from other green financing products1 like green loans and green bonds, where the proceeds of the loan or bond need to necessarily be utilised towards a green project or green asset. The use of proceeds for SLLs is not a factor in its categorisation, and in many instances, their proceeds may be used for general corporate purposes. Instead, the main characteristic of SLLs is that these loans look to improve the borrower’s sustainability profile, and this is done by way of having such loan terms that encourage and incentivise borrower’s performance on sustainability targets.

 

Prior to the launch of the SLLP, there was no global standard governing SLLs. Thus, the SLLP are a welcome step forward in providing structural unity in this area. There are four core components under the SLLP framework:

 

(a)  The first, is for the borrower to communicate to the lender how the sustainability performance targets (“SPTs”) proposed to the lender, are aligned with its sustainability objectives (as set out in its Corporate Social Responsibility (“CSR”) strategy). The range of possible SPTs span diverse categories such as energy efficiency and conservation of biodiversity, and the proposed SPTs should be in line with the borrower’s sustainability profile.

 

(b)  The second, is that the SPTs negotiated between lender and borrower should be ambitious and meaningful to the borrower’s business. The SPTs should be tied to an improvement (over borrower’s performance in the recent past) in relation to a predetermined sustainability performance target benchmark. The loan terms then incentivise borrower’s performance on this benchmark. For instance, the lenders may agree to reduce the interest rate payable for the loan where the borrower satisfies a predetermined SPT, say a reduction in emissions by a certain threshold, and increase it if the borrower severely underperforms on these criteria.

 

(c)  The third, is for the borrower to report (either publicly or privately) information relating to the SPTs at least annually. The borrower is encouraged to provide information on any underlying methodology or assumptions as well.

 

(d)  Finally, there should be a review mechanism to validate the borrower’s performance against the SPTs. The review may be external (by a qualified external reviewer like an auditor, environmental consultant or independent ratings agency) or internal (if the borrower can demonstrate an internal expertise), and whether or not an external review is required by the lenders is to be negotiated on a case-by-case basis.

 

The biggest plus of the SLLP is that of standardisation. For example, apart from requiring that an SLL’s SPTs should be explicitly aligned with the borrower’s CSR strategy, it is now also clear that SPTs should represent an ambitious and meaningful improvement in the sustainability performance of the borrower. This has not necessarily always been the existing practice, and there have been instances of SLLs adopting sustainability metrics that merely represented the maintenance of existing sustainability performance by the borrower. At the same time, it is also heartening to note that the SLLP continue to retain much of the flexibility to accommodate innovative approaches to SLLs, given that green financing is still in its infancy.

 

Like the Green Loan Principles, the SLLP provide an authoritative reference and guidance on the normative minimum requirements for borrowers, lenders, and their respective advisers, who may be negotiating or structuring SLLs. Beyond these minimum requirements, additional recommended measures can and should be adopted to enhance the reputational quality of these SLLs.