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

October 24, 2006

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.

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Barclays, believes that business ethics are key ingredient to their record financial performance

August 4, 2006

John Varley, Group CEO of Barclays, explains why business ethic are so important to branding and maintaining good relationships with stakeholders – customers, employees, regulators and investors. Barclays sets out how these considerations have made an inherent contribution towards to their ongoing strong financial performance.

Imagine that you’re a big organisation, making good returns on capital. You can make choices that are irresponsible … but lucrative. But bit-by-bit, as the values that bind your organisation together are compromised through irresponsible choices, and the trust of your customers is diluted, your brand will suffer. And let’s be sure about this: brands are far more important to stock market value and sustained growth, than short term profits.

Beyond financial results

  • In February of 2005, Barclays reported a record financial performance.
  • A few weeks ago I was able to report another record performance – in the area of corporate responsibility.
  • Many of you will have seen the recent results of the Business in the Community “Companies that count” index in the Sunday Times. This year we’re 3rd – our highest ever ranking.

Our top three ranking reveals something important: a strong performance as a responsible corporate citizen does not conflict with strong financial performance.

Business-wide responsibility

We can’t (and shouldn’t) separate our corporate responsibility activity from our daily business. Nor can we separate corporate responsibility from our brand. That’s because the people we seek to reach with our brand expect us to be responsible.

Our stakeholders – customers, employees, regulators and investors are becoming more sensitive to our changing world. They are intensely interested in ethical, environmental and social issues, and business conduct. For customers making buying decisions, corporate responsibility is a point of difference. For talented people looking to move organisations, corporate responsibility is a point of difference.

Really making a difference

Another example of where we have taken an important lead is our involvement as a founder member of the Equator Principles. The Equator Principles form a framework for a thorough independent environmental – and social – assessment of the impact of project financing, for major infrastructural programmes, such as dams and pipelines and mining.

We’re a leading provider of financing of this sort. So it’s an important area of business for us. But we have made a choice about how we are going to participate in this business. And by doing so, we are influencing other participants. More and more governments and construction companies are making the same kind of choice.

They realise that financing will be easier to obtain if the project complies with the Equator Principles.

Extracts from the text of John Varley’s speech on 31st May at the Fifth Ethical Corporation Summit in London


Rachael Bailey discusses how to manage environmental and social risk in project finance

July 31, 2006

Applying the Equator Principles can dramatically improve the environmental and social risk profile of project financings. But their application can often be improved. Extract from the Article by Rachael Bailey and colleagues:

In the three years since their introduction, the Equator Principles have driven substantial environmental and social performance improvements in project finance. These voluntary guidelines, which essentially involve private sector banks committing to apply World Bank/International Finance Corporation (IFC) social and environmental risk management procedures to projects which they finance, have been adopted by institutions accounting for more than 80% of project finance flows.

There is now widespread awareness of the benefits of using the appropriate expertise at the outset to manage potential environmental and social risks throughout the project cycle, and thereby secure better financial terms at financial close and syndication. Ensuring that environmental and social risks are fully under control now plays a key part in securing confidence in project finance deals.

The full article can be viewed on the Equator Principles Website or the Environmental Finance website.

A copy of this article is available here for downloading. ef7equator_bailey_p28-30-v2.pdf


New IFC Labour Standards for Investments

July 11, 2006

The new IFC performance standards contain new requirements for labour conditions including;

  • non-discrimination,
  • child labour,
  • forced labour,
  • freedom of association and collective bargaining,
  • as well as guidance on the establishment of working relationships, retrenchment, grievance mechanisms and supply chain issues.

Pension funds and insurers now own 70% of the top 1000 U.S. companies, and are having an impact on the market by pushing for higher corporate responsibility standards in global sourcing and investment.

Similarly, companies in emerging markets wanting to export to international buyers who source globally will increasingly have to meet the high labour and environmental standards of these large retailers and branded manufacturers.

The development of Good Practice Notes, like that recently published on non-discrimination and equal opportunity, is part of a general process to support companies understanding and implementation of the standards. The aim is not only to provide guidance on the meaning of the new principles, but also to produce tools and training for moving towards practical compliance in a way that provides positive benefits to business, workers and communities.

Extract from The Global Compact Quarterly.


Equator Principles improve financial performance – the evidence is clearer than ever

July 11, 2006

There are increasing indications that banks are successfully distinguishing themselves by how they handle the environmental and social dimension of their operations. Those banks such as HSBC, ABN AMRO and Barclays, to name a few, but by no means all, have made an impressive effort to establish themselves as leaders in this field.

The real indicators of this are the increased shareholder support for banks they consider to be more sustainable and the rapid growth in Socially Responsible Assets. This is emphasised by shareholders efforts to place pressure on banks involvement in particular deals.

A little while ago, private banks cared about sustainability because it was good for their reputation and brand. Now it is about their bottom line. There is emerging evidence of a correlation between good environmental and social behavior and good financial performance. We find plenty of examples of this in IFC’s own portfolio. Key Results In a recent survey of bankers, IFC found that 65 percent reported tangible benefits from sustainable policies.

The Sustainable Banking Awards co-organized by the Financial Times and IFC have shown that banks are using sustainability as a driver for business growth and asset quality. The Sustainability Yearbook 2006, published jointly by Sustainable Asset Management and PriceWaterHouseCoopers, says that it has been able to a show a conclusive link between performance on sustainability issues and financial performance, and a correlation to creation of shareholder value.

This trend has not gone unnoticed by private investors: In the United States, the Social Investment Forum published a report in January of this year which found that socially responsible assets grew faster than the entire universe of managed assets in the United States during the past 10 years.

By Lars Thunell, Executive Vice President
International Finance Corporation, World Bank Group
July 6, 2006


New Equator Principles Released Today!

July 6, 2006

This shows how far the financial sector has progressed in embedding in the project finance arena a common set of best practices to manage social and environmental issues related to the financing of development projects. However, so far only 33 of the original 40 financial institutions have signed up to the revised EPs and it will be interesting to see if any drop out all together over the comming weeks. The revised EPs have stronger requirements for environmental and social risk managment and also require the banks to have greater transparency in decision making. This may put some of the original banks off signing up to the revisions.

Those that have yet to announce whether they will sign up to the revisions include the following banks, (although many of these will simply have been unable to pass the revisions through their internal approval processes in time for the EPII launch):

  • Banco Bradesco
  • Banco Itau BBA
  • Bank of America
  • Caja Navarra
  • Dresdner Bank
  • JP Morgan Chase
  • Manulife
  • MCC
  • Scotiabank

It will also be interesting to see if any new banks adopt the principles now that the revisions are finallised and they can be certain as to precisely what they are signing up to. The Press Release can be found at: http://www.equator-principles.com/documents/EP_Readoption_Press_Release_FINAL.pdf

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IFC recognises social risk management will be difficult for the EP banks

June 28, 2006

There is clear recognition that the social risk management will be the harder part of the Equator Principles to implement. Scott Wilson are fortunate to have a well established social team, with an international reputation who can provide banks and project sponsors with the advice and guidance they need.

Equator principles: Revisions raise social hurdles – By Demetri Sevastopulo

Published: June 9 2006 12:39 | Last updated: June 9 2006 12:39

…Ms Kyte [IFC] agrees that banks will have more difficulty tackling community issues. She says they will be forced to rely on outside consultants because they have far less experience dealing with social issues than with environmental issues.

She adds that this could be complicated by the fact that there is a scarcity of outside experts with experience in issues such as community relations.

Ms Kyte says that while the IFC advises clients on such issues, it has “stopped at the point of providing consulting services to non-clients”.