As intimated in last week’s instalment of Camilleri Preziosi’s ‘Sustainable Finance’ series, sustainability-linked loans (‘SLLs’) are aimed at motivating lenders to attain sustainability-linked objectives through financial incentives pegged to sustainability-linked performance targets, or what are known as ‘SPTs’.
Rooted in the origins of ‘green loans’, SLLs target a wider borrower base by moving beyond the financing of ‘green projects’ to the financing of ‘sustainability’ per se. The defining characteristic of SSLs is, therefore, not the utilisation of proceeds towards financing green projects, but rather the improvement in the borrower’s overall sustainability profile and credentials by aligning the terms and conditions of the loan to the borrower’s performance against SPTs.
In this respect, the Sustainability Linked Loan Principles introduced in March 2019 through a joint collaboration between the Loan Market Association, the Asia Pacific Loan Market Association and the US Loan Syndications and Trading Association (the ‘SLLPs’) define SLLs as “any type of loan instruments or facility agreements which incentivise the achievement of ambitious predetermined sustainability performance objectives” and set out a four-pronged framework within which SLLs may be structured:
Borrower’s overall CSR strategy and relationship with sustainability: The borrower is required to clearly articulate its sustainability objectives and explain how these dovetail with its overall corporate social responsibility (CSR) strategy.
Target setting and measurability: SPTs are targeted towards attaining sustainability and typically feature targets pertaining to energy efficiency, greenhouse gas emissions, reduced water consumption, sustainable supply chain sourcing, contributions towards the circular economy, as well as overall ESG (Environmental, Social and Governance) ratings.
Reporting: Borrowers are expected to provide SLL lenders with reliable, accurate, and up-to-date financial and non-financial information, backed by clear methodologies and assumptions.
Review: Actual performance is evaluated to determine whether the SPTs have been met by the borrower, and if so, the consequential impact on the loan arrangement.
Statistics show that SLL take-up is on exponential rise. Europe leads the pack, with a significant majority of the total global SLL market. This trend is expected to continue its course, with EU institutions rolling out a number of initiatives indicative of a gradual move from voluntary participation in the SLL market, to a more regulated and structured approach, with measures such as the European Commission’s Action Plan on Financing Sustainable Growth, the EU Disclosure Regulation, and the EU Low Carbon Benchmark Regulation at the forefront of this agenda.
The flexibility of the SLL model demonstrates the inherent utility of SLLs as a macro-economic tool to drive and incentivise sustainability in any business and across a spectrum of industry sectors by creating a tangible and measurable point of intersection between finance and sustainability. By focussing on the end objective, SSLs provide an attractive alternative means of promoting and rewarding sustainability across the board.
This piece forms part of Camilleri Preziosi’s ‘Sustainable Finance’ series, in which members of the firm’s Capital Markets and Finance practice groups explore and evaluate the emerging trends and opportunities in the sustainable finance economy.