The Green Loan Principles may help sustainable investment growth
The Loan Market Association and the Asia Pacific Loan Market Association recently announced the “Green Loan Principles” joint project. This two-page document, announced on March 21, 2018, seeks to stimulate the de minimis green loan market by following in the footsteps of the highly influential Green Bond Principles.
There have been green loans for several years, but this market has not experienced anywhere near the outstanding levels of growth of the green bond market. The reasons behind this are not clear, but, undeniably, green loans could be an effective alternative to green bonds in many cases. This could include when the amount to be borrowed would not suffice for a benchmark-sized bond, or if the borrower does not wish to comply with public reporting standards applicable to bond issuers. And although loans are far less public than widely distributed bonds, borrowers could still obtain many of the benefits associated with green bond issuance in terms of demonstrating to their stakeholders their commitment to these issues.
The Green Loan Principles seek to help this market grow by addressing a key challenge around sustainable investing, bond and loan alike — what qualifies as a green investment? To do this, the Green Loan Principles set out the four process-related “core components,” as well as a non-exhaustive list of “eligible Green Projects,” that constitute a green loan. In brief, those core components say that the borrower should:
- Specify what types of eligible Green Projects it will spend the money on
- Explain how it will determine if a project fits that description
- Describe what it will do with the money in the interim
- Keep track of how it spends the money
This approach to determining what qualifies as a green loan can be boiled down to disclosure standards that support a market-regulated regime: if borrowers include sufficient disclosure and lenders consider it green, it is green. The alternative regulatory approach would be centralized standards, such as those that apply to certain issuers in China, and those that the European Union has promised for green bonds. In choosing the market-regulated approach, the Green Loan Principles follow in the footsteps of the highly influential Green Bond Principles.
In fact, the Green Loan Principles follow their bond-focused counterparts nearly verbatim, with one potentially interesting divergence. The Green Loan Principles apply the same four core components and have the same list of eligible Green Projects — even expressly referring to following any future amendments to the eligible projects list provided by the Green Bond Principles. Both documents also recommend (but do not require) use of various degrees of external review of the applicable green framework. However, the Green Loan Principles are more circumspect in their recommendation that green loan borrowers obtain external review. The Green Loan Principles only recommend such a review “[w]hen appropriate,” and state that self-certification may be sufficient given the “traditionally relationship-driven” nature of the loan market.
The divergence in when external review is recommended highlights the tension underlying the decision to follow the market-regulated approach of the Green Bond Principles: bonds, much more than loans, trade in a public market. Bond investors generally benefit from securities law disclosure obligations and stock exchange listing rules and, accordingly, the vast majority of green bonds do not include contract provisions related to their green nature. A bond issuance process often includes a more robust due diligence exercise and can be seen by issuers as a bridge to a public equity issuance. Loans have historically been less public and more subject to the underlying commercial relationship between lender and borrower (the current popularity of syndicated term loans notwithstanding). Given these differences, it will be interesting to see how useful the Green Loan Principles prove to be as a tool to police the boundaries of what should be considered a green loan and to what extent green loans will deliver the reputational benefits that would drive a borrower to go to the trouble of creating a green loan framework.
This post was prepared with the assistance of Olivia Featherstone in the London office of Latham & Watkins.