The International Capital Markets Association has completed two important pieces of work that aim to give impetus to the fledgling sustainability-linked bond market and maintain standards in the social bond market, which has seen rapid growth during the coronavirus crisis.
ICMA’s publication of principles for sustainability-linked bonds is expected to encourage more issuers to link bond pricing to their ability to hit general ESG targets, rather than take the traditional green bond route of earmarking money - via a "use of proceeds" structure - for specific projects.
As a result, more companies could follow Italian utility Enel’s lead into the market for SLBs. Enel is the only issuer so far to use the structure, having sold two deals last year with coupon step-ups linked to its carbon emissions and its transition to renewables.
Lars Eiberholm, head of treasury and sustainability at Nordic Investment Bank and chair of ICMA’s green and social bond executive committees, said the principles are key to developing SLBs and to ensure market integrity and transparency.
Issuance of SLBs, which tie pricing to companies’ ESG strategies and the UN’s Sustainable Development Goals by monitoring performance against targets - or key performance indicators - is expected to grow and could match or exceed the success of the product in the private loan market.
More than US$38bn of sustainability-linked loans have been issued this year, according to Refinitiv LPC data, by companies including Danish container shipping firm AP Moller-Maersk. Work continues on refining KPI targets, although the fact that such deals see companies set (and monitor) their own targets remains controversial.
SLBs are designed to complement rather than compete with use of proceeds deals such as green or social bonds, and are expected to be used by companies finding it difficult to identify specific projects or capital expenditure.
“We don’t see this as an alternative to green bonds or use-of-proceeds bonds, but more as complement,” said Orith Azoulay, global head of green and sustainable lending at Natixis.
“It's opening the door to a number of issuers that were not finding it easy to structure use-of-proceeds bonds and still believed that they had some role in environmental and social transactions, but it's not an alternative."
TRANSITION
The instrument could also be suitable for helping "brown" companies transition to be cleaner. Another ICMA working group on climate transition finance has yet to present its final report, but is expected to offer definitions after consulting with the market.
“Can this instrument be used for issuers in transition? I believe so. It might even be a very good instrument for that, but needs to be followed by a thorough strategy explanation and documented KPI targets,” Eiberholm said.
The principles are voluntary guidelines for SLBs that commit borrowers to improving sustainability within set timeframes and to specific KPIs.
Investor surveys by ICMA’s green and social bond principles executive committee confirmed the need for bonds linked to an issuer’s sustainability strategy and ambitious targets, including those connected to climate transition.
Some technical issues remain to be resolved, chiefly around the coupon step-up mechanism that activates if borrowers fail to hit their targets, which could be difficult for investors to include in conventional portfolios and also make bonds ineligible for the ECB’s Corporate Sector Purchase Programme.
Hopes are high, however, that the instrument will deliver after a slow start, and the principles are expected to give comfort and confidence to issuers.
ICMA chief executive Martin Scheck said that the "highly innovative and versatile debt instrument ... can really expand the sustainable finance market while preserving its integrity.”
EVERYONE IN
ICMA also released a 2020 update of the social bond principles that expands eligible social bond categories and the definition of target populations to a global population, in line with recent guidance for social bonds addressing the coronavirus crisis. ICMA also published a collection of case studies.
The trade association updated its framework for impact reporting to include guidance for biodiversity and a framework for impact reporting for social bonds, as well as guidance on mapping green, social and sustainability bonds to the UN’s SDGs.
“The update of the social bond principles accompanies a pivotal moment for social bonds that have shown their relevance with a surge of issuance addressing the consequences of Covid-19," Scheck said.