Incorporating Environmental and Social considerations into Loan Documentation – New Guidance for Equator Principles Financial Institutions

A new guidance document ‘Guidance on incorporating environmental and social considerations into project finance loan documentation” has been released which can be expected to provide Equator Principles Financial Institutions with valuable advice on how to ensure the Equator Principles are applied to the projects they finance.

The loan documentation is a key document for ensuring the project sponsor applies the Equator Principles beyond the signing of the loan agreement, right through the construction and operation, and where appropriate the decommissioning, phases of the project. 

Failure to comply with the loan covenants may prevent or delay the project sponsor being able to drawdown on the loan, or even an event of default whereby, the lenders are entitles to cancel the loan, and all monies lend are immediately payable by the borrower.

China drafts environmental guidelines for firms investing abroad

China is drafting environmental guidelines for companies investing in or providing economic aid to overseas countries.

 The work is being undertaken by the Chinese Academy for Environmental Planning (CAEP), in cooperation with the Global Environmental Institute (GEI) and the University of International Business and Economics. The first draft is now being discussed, the GEI said.

 A report released by the CAEP last week said the country lacked comprehensive environmental protection policies in its overseas projects, although investment had been expanding.

 Statistics show that between 2002 and 2006, China’s overseas non-financial direct investment grew by 60 percent annually. By the end of 2006, 5,000 Chinese companies had set up nearly 10,000 directly invested firms and invested $90.6 billion in 172 countries.

China’s overseas investment and aid mainly focuses on exploring oil and other resources, processing, manufacturing, and construction in African and Southeast Asian countries. Without proper management, such projects are likely to cause environmental problems, the report said.

In April, several companies, including China Mobile, Haier Group, and China International Marine Containers, joined “Caring for Climate”, a voluntary UN initiative to combat global climate change. Liu Meng, director of UN Global Compact China Office, told China Daily earlier that these companies’ participation suggests that China’s business sector is catching up with its international counterparts on climate issues.

China National Petroleum Corporation, the country’s largest oil producer, has pledged to stick to stringent environmental requirements before deciding on overseas projects.

Currently, only four banks in China have either formulated independent environmental standards for financing, or have joined the United Nations Environment Program Finance Initiative to reduce environmental risks.

Equator Principle Financial Institutions Meet to Share Best Practice

• On 3 December representatives from 25 EPFIs met to discuss the ongoing development of the Equator Principles. The meeting was hosted by ING Group. The discussions focussed on Equator Principle governance and the management structure, reporting, and shared good practice.
• On 4 December the EPFIs met with 15 NGOs at ABN Amro’s headquarters. A pre-agreed agenda was followed based on items of mutual interest, which included governance, transparency, and grievance mechanisms at the project level.
• On 5 December EPFIs were pleased to be invited to meet 23 OECD Export Credit Agencies in Hamburg, hosted by Euler Hermes. The meeting provided an opportunity to better understand each others approach on transparency, experience in implementing the IFC Performance Standards, and how to further cooperation between the EPFIs and ECAs. The EPFIs also presented their experience in implementing the Equator Principles. In each instance, the meetings proved useful in furthering a better understanding by all sides and facilitating future discussion.
  

Equator Principles Signatories: Progress with Disclosure

The Equator Principles website now has a “disclosure section” which provides information on how the EP signatories are progressing with their annual disclosure reports.

Disclosure Reports

The progress made by the 56 EP signatories on the 13 December 2007 was as follows:

• 33 – Reported (including some in the 1st year grace period)
• 10 – In the 1st year grace period
• 9 – No information made available
• 4 – Will report soon

It is encouraging to note that EP signatories in their 1st year grace period are producing disclosure reports. A few of the signatories clearly need to get on and prepare their report in order to comply with the requirements of Principle 10 . This section provides a valuable addition to the EP website with useful links to the available disclosure reports.

First bank from the Middle East to adopt the Equator Principles

BankMuscat is the first bank from the Middle East region to take this ‘environment-friendly’ stand and adopt the ‘Equator Principles’, a set of globally recognized, voluntary guidelines established to assess and manage social and environmental risk in project financing, especially in the emerging markets (August 18, 2007).

Speaking on the occasion, AbdulRazak Ali Issa, Chief Executive, BankMuscat said:

I am delighted that BankMuscat is the first bank from the Sultanate to join a select and of environment-conscious financial institutions. Environmentalists from across the world have lauded the pristine beauty of our beloved country. Given these lessings, and the vision of His Majesty Sultan Qaboos bin Said, to manage the growth and development of the nation while preserving the natural beauty of Oman, we believe it our duty to take meaningful steps in the same direction.

Minimum Requirements for Equator Principle Reporting and one year of EPII Implementation and

A template which sets out the minimum reporting requirements for EPII has also been released. This covers:

• An annual report;
• The number of projects screened each year;
• The category and number of projects reviewed;
• A discussion on EP implementation (although the scope of this is completely up to the bank concerned).

• The template also contains suggested formats for providing regional and sectoral information, but this is not obligatory.

The template certainly is minimal and unsurprisingly many organisations and shareholders will be expecting the banks to provide substantially more information than is set out in the requirements. Many EP banks are already providing far more information and are setting an excellent example for those that have signed up to the principles more recently.

On May 14, 26 out of 51 EPFIs met to discuss lessons learned and challenges related to EPII implementation.

6 recent adopters attended the event and made a significant contribution to the success of the meeting. EPFIs have been implementing the new Principles for nearly one year following their revision and launch in London last July. Bank of America hosted the day-long event in Washington, DC. Issues related to EPFI governance, disclosure and transparency related to Principle 10, and other items were discussed. This EPFI meeting was then followed by a 2-day series of meetings at the International Finance Corporation (IFC’s) “Community of Learning” event which focused on lessons learned from application of the IFC Performance Standards. EPFIs interacted with and heard from IFC senior management and staff, and also had the opportunity to interact with a number of environmental representatives of Development Finance Institutions (DFIs) from across the globe.

New IFC Report – Banking on Sustainability (March 2007)

A new IFC report “Banking on Sustainability,” has been released.  It provides practical examples of 14 financial institutions in 12 countries that have taken concrete steps to integrate sustainability into their policies, practices, products, and services.

“While detailing the evidence of potential benefits for banks in integrating sustainability into their business strategy, the report reveals a dramatic shift in banks’ awareness of these benefits,” said Rachel Kyte, IFC Director of Environment and Social Development.

In a 2005 IFC survey, 86 percent of 120 financial institutions interviewed reported positive changes as a result of steps they had taken to integrate social and environmental issues in their business.The report shows evidence of the potential benefits of adopting sustainability as a business strategy. It also shows a dramatic shift in banks’ awareness of these benefits. Banks can tap vast benefits by reassessing their business practices and engaging in sustainability-oriented risk management and product development.

It is notoriously difficult to quantify the financial benefits of adopting sustainable business practices, however this report demonstrates some clear business benefits from adopting and integrating environmental and social considerations into core business strategies.

Banks consider how to include climate change in their investment decisions

London, 11 January: A group of investment banks is to investigate how best to include climate change in investment decisions.

The London Accord will seek to provide investors with more information on how best to make investments that address climate change. Sponsored by the City of London Corporation and BP, the project already has the support of investment banks including Morgan Stanley, Bank Sarasin, HSBC, Société Générale, Credit Suisse and Canaccord Adams.

“If you look at the field of climate change and investment decision-making, lots of people are aware of it and want to integrate it into their decisions. But not many people are sure of how you go about it,” said project director Jan-Peter Onstwedder, who was previously head of risk in BP’s supply and trading business.

Extract from Environmental Finance

Key discussions at the Ethical Finance Summit

There were some excellent discussions on the Equator Principles (EP) at the Ethical Corporation – Sustainable Finance Summit. The main hot topics were:

• The need to manage the success of the principles. The need to prevent their extension to areas other than Project Finance weakening the brand, due to insufficient leverage in such areas.
• The EP’s have lead to an unprecedented level of collaboration by Financial Institutions.
• There is a lack of mechanisms for demonstrating how the adoption of the EP’s have contributed to business performance and financial benefits, but despite this FI’s are see these issues as key to their core branding.
• There is a need for a pragmatic approach to their application, in certain situations when good project sponsors and FI’s have turned down projects with high potential environmental and social risks, the projects have been progressed by weaker parties and consequently developed more severe environmental and social problems.
• There is a need to manage expectations about what the EP’s will achieve – e.g. they have not been established to be a tool for equity.
• There has been a lack of developing market banks and a notable absence of leading French Banks adopting the EP’s.
• The need for sufficient lead in times to review Finance deals to avoid situations where problems are picked up too late on a project to enable compliance.
• Some banks are striving to be leaders in sustainability, while others believe the EP’s have created a level playing field.

The Do’s and Don’ts of Sustainable Banking; a BankTrack manual

BankTrack, the NGO network monitoring the private financial sector, presented their new publication, ‘The Do’s and Don’ts of Sustainable Banking; a BankTrack manual’, at the Ethical Corporations’ ‘Sustainable Finance Summit’ in London.

According to Banktrack:
The manual seeks to answer the straightforward question posed to the panel; ‘what does a really sustainable bank look like?’.

• Banks should, for example, change their bonus schemes to emphasise implementation of environmental and social policy and long-term prudence instead of short-term profits.
• BankTrack advises banks to ensure that sustainability policies are actually implemented, rather than used as a public relations tool.
• International banks are told to engage with emerging banks to improve their standards, rather than just complain that there is an uneven playing field.
• Advising investors to put their money into shares that do not meet the bank’s own minimum standards is also listed as a “don’t” by BankTrack.

It follows the outline of the Collevecchio Declaration, released in 2003, which calls upon financial institutions to embrace six commitments:

1. Sustainability;
2. Do No Harm;
3. Responsibility;
4. Accountability;
5. Transparency; and
6. Sustainable Markets and Governance.

The new manual should be seen as the updated implementation guidelines to the Collevechio Declaration, incorporating the latest thinking and expectations of civil society groups on the subject.

Sustainable Finance Summit 2006

I will be attending this event at the end of November, and I hope to see all those of you who are interested in this topic there. This will be a key event for all practitioners in this area, and will provide an excellent forum to share best practice. I’ll be posting feedback after the event, so if you don’t make it, come back here and catch up on what you missed.

Sustainable Finance Summit 2006

Recognition of the key role of financial institutions in stable and sustainable development has come. This leading-edge conference will show the way forward on these difficult, but essential issues. As banks go truly global, many for the first time, they are entering and whole new world of trust, risk – and opportunity – that must be well managed.

The newly revised Equator Principles now represent some 85% of global project finance , and that percentage is going up almost daily.

How banks can manage both profit and sustainability will be addressed early on by Jon Williams , a leading thinker and practitioner who is also Head of Group Sustainable Development at financial behemoth HSBC Holdings.

Among those speakers will be:

F&C Investments * The Co-operative Bank * Standard Chartered * FTSE * Barclays * ABN AMRO * HSBC Holdings * UBS Investment Bank * Wall Street Journal * Financial Times * KLD Research & Analytics * Henderson Global Investors

 

Financial sector responsibility: The state of the art

The report discusses how greater transparency in implementing the Equator Principles can enable NGO’s to provide a fuller regulatory role, of this voluntary approach to Social and Environmental risk management.

The improved dialogue between NGOs and Financial Institutions that have been brought about through intitatives such as the Equator Principles.

The growing need to recognise that employees awareness of their personal accountability if growing, and employees are increasingly unprepared to compromise their ethics and standards in the workplace.

This special report is designed to offer the reader insights into how major institutions are responding to the sustainable development agenda. Also covered are increased expectations on business transparency and the role of regulators.

An interesting Case study discussed in the Report is the Baku-Tbilisi-Ceyhan (BTC) pipeline – which is now transporting oil from the Caspian Sea to the Mediterranean.

The $4 billion project showed how difficult it can be to address the social impacts of large infrastructure projects, such as the resettlement of local people and their compensation.
In Turkey, 300 villages were cleared during the building of the pipeline. Compensating villagers involved negotiating complex local laws – one piece of land was owned by 800 different people – and the fact that 70% of affected land owners had no legal right to compensation.
BP managed to compensate all land owners, but still there were disputes over what villagers were entitled to – for example, whether corn compensation was to be calculated at cost or market value, and over three years or just one. These disputes show how messy project finance can be on the ground.

The free PDF version of Ethical Corporation’s special 44-page report, Financial sector responsibility: The state of the art, is available to download at: www.ethicalcorp.com/fsr/

The Equator Principles bring shareholder value, but the limits of the approach must also be recognised

With campaign groups putting increasing pressure on Equator Principle (EP) banks to take responsibility for the environmental and social risks of the projects they finance, there is a need to recognise the limitations that financial institutions (FI’s) face when implementing due diligence approaches.

In general it is certainly not a lack of commitment on the part of EP banks to managing these risks that causes the difficulties, and the vast majority have made an impressive effort in this area. A key factor is the limited ability of FI’ to influence project sponsors, and as the project progresses, to influence other parties such as construction contractors and workers. The main ways FI’s can exert their influence is either by refusing to finance the project, or by writing covenants in to the loan agreement that must be met prior to each draw down of the loan.

This is not to say that project sponsors are the weak link in the environmental and social risk management process, but there is a need to recognise that the maturity of sponsors varies considerably, with some demonstrating a far better understanding of the potential risks and recognition of the need for robust management approaches than others.

While FI’s and their advisors can help project sponsors to understand how to manage risks effectively, the onus remains on the sponsor to follow the guidelines and implement the recommended measures at the appropriate time.

Extracts from The Banker

Equator Principles
Oliver Balch reports on how environmental activists and bankers are entering a new era of understanding through the Equator Principles.

Shareholder value
Banks are increasingly conforming to the view that social and environmental risks pose a threat to long-term shareholder value. “Protecting our assets in a traditional sense is risk management and protecting shareholder returns,” explains Andre Abadie, head of sustainable business advisory at ABN AMRO. “So if we are financing potentially socially and environmentally egregious projects in far flung corners of the world, then we also have the commitment to ensure that the social and environmental footprint of those projects is well managed.”

Limits of Environmental and Social Due Diligence

But the scope of non-financial due diligence has its natural limits. The financier needs to know the end purpose of the loan if it is to assess the environmental impact of its lending activities.

“If you’re advancing a corporate loan to a large company that is not being used specifically for a project, it is not going to be reasonable or practical to get that [environmental] information across all the projects that the company might be working on,” says Jon Williams, head of group sustainable development at HSBC in London.

Naturally, for some corporate or government loans, banks will be aware of a loan’s end use. The same is true for certain debt securities placements and underwritings, equity transactions and letters of credit. But one area where banks certainly have prior knowledge is, by definition, project finance. Consequently, this is where the banking industry has channelled the bulk of its efforts to date.

Extraneous limitations on due diligence
External, not internal, reasons limit banks’ environmental due-diligence efforts, many risk specialists argue. Short of calling in its loan, a bank’s influence over a project sponsor depends largely on delicate client management. The revised Equator Principles aim to add an extra safeguard by covenanting certain environmental commitments up front. They also require all high-risk projects to be assessed independently throughout the lifetime of a loan. Experience has shown that a bank’s ability to influence other actors can be even more limited than with their clients.

Chris Bray, head of environmental risk at Barclays, believes the Principles have sent a clear message that social and environmental issues represent mainstream business risks. More than that, the principles have shown banks their main environmental impacts derive from how they use their money. As Mr Bray puts it: “Equator has fairly and squarely put lending centre-stage.

HSBC’s approach
In the past three years, the UK-based bank has adopted a raft of environment-related policies and procedures. The list includes specific guidelines on dangerous chemicals, freshwater infrastructure and forest products. In May 2005, HSBC became the first major private bank to put its name to the World Commission on Dams. Within the next 12 months, it plans to add an extractive industry policy to its growing catalogue of green tape. Underpinning what HSBC terms its “restricted appetite” for environmentally sensitive transactions lies its environmental risk standard. Launched in 2002, the standard is designed to minimise the environmental, credit and reputational risk associated with the bank’s investments. Most of the procedural steps are straightforward. HSBC’s due-diligence register, for example, now features environmental impact assessments and reviews by external auditors.

UNEP FI Sustainability Workshop in Mumbai, India

This promises to be an exciting event in consideration of the significant finance opportunities in India. Robert Tacon is an eloquent speaker on the subject of risk management and I anticipate this will be a highly insightful event.

 

UNEP FI Workshop: Mainstreaming Sustainability in Indian FIs
5 December 2006, Mumbai, India

Organised by the Outreach Group of the Asia Pacific Task Force, in close collaboration with UNEP FI Signatory YES BANK, the workshop is targeted at senior-level executives of Indian financial institutions.

The event will focus on sustainable finance and reporting. A CEO Luncheon ill be held in parallel, aiming to sensitise senior management on India’s sustainability challenge and the risks and opportunities faced by the financial sector. Speakers will include UNEP FI Head Paul Clements-Hunt, Robert Tacon, Head of Risk Reporting at Standard Chartered, Bart Jan Krouwel, Head of Sustainable Developments Department at Rabobank and Toshiro Nishizawa, Deputy Director General at Japan Bank of International Cooperation (JBIC).

This is the first such event to be organised by UNEP FI in the country.

For further information, please visit:
http://www.unepfi.org/events/2006/mumbai/index.html
Contact: ap@unepfi.org

IFC Board Approves new Environmental and Social Standards

 

IFC Board Approves new Environmental and Social Standards on February 21, 2006. The Equator Principles are expected to be revised in light of these new standards

Environment & Social Development Department

Washington D.C., February 21, 2006 – The Board of Directors of the International Finance Corporation (IFC) adopted today new environmental and social standards for the organization. The new standards build upon the environmental and social requirements that IFC currently applies to private sector projects it finances in the developing world. A new policy on disclosure, adopted at the same time, will increase transparency requirements.

The main benfits of the new standards are:

1. New requirements for community health, safety, and security; labor conditions; pollution prevention and abatement; integrated social and environmental assessments; and management systems.

2. Stronger requirements for community engagement and consultation; biodiversity protection; community and worker grievance mechanisms; use of security forces; greenhouse gas monitoring; and greater disclosure of information to the public by IFC and client companies.

3. New outcomes-based approach, which requires client companies to have in place effective management systems that allow them to handle social and environmental risks as an integral part of their basic operations and business model.

Lars Thunell, IFC’s Executive Vice President said:

“The new IFC standards are stronger, better, and more comprehensive than those of any other international finance institution working with the private sector. We aim, with these new policies, to increase the development impact of projects in which we invest. We also seek to give companies operating projects in emerging markets the capacity to manage fully their environmental and social risks and to compete better in a global economy.”

In approving the new set of standards, IFC’s Board requested some refinement of the language. Accordingly, the final version of the Performance Standards and Disclosure Policy will be issued as a complete text in the coming weeks. For more information, visit http://www.ifc.org.

Banks reduce risk by adopting Equator Principles

Financial Institutions are taking stronger measures to reduce their reputational risks. 

36 Banks, Export Credit Agencies and other organisations have now signed up to the “Equator Principles“, an industry approach for financial institutions in determining, assessing and managing environmental & social risk in project financing.

By adopting the principles the banks confirm that “They will not provide loans directly to projects where the borrower will not or is unable to comply with our environmental and social policies and processes.”

The Principles are based on World Bank and IFC Pollution Prevention and Abatement Guidelines.