Sustainable finance – helpful evolution of the Green Bond Principles and Social Bond Principles in response to market feedback

The market for green, social and sustainable finance has rapidly evolved into a mainstream source of finance for corporates. The Green Bond Principles (GBP), Social Bond Principles (SBP), Sustainability Bond Guidelines (SBG) and Sustainability-Linked Bond Principles together constitute a collection of voluntary frameworks designed to attract capital towards investments that provide environmental and social benefits.

An update to the GBP was published on 10 June 2021, intended to reflect the evolution of this market, in response to market feedback.

What has changed in the GBP?

The 2021 edition of the GBP includes two new recommendations designed to increase transparency, that operate alongside the pre-existing four core components relating to use of proceeds, process for project evaluation and selection, management of proceeds and reporting:

• Firstly, a new recommendation that issuers have a bond framework, accessible to investors, that explains the alignment of their green bond or green bond programme with the four core components of the GBP.
• Secondly, a new recommendation that issuers appoint an external review provider to assess through a pre-issuance external review the alignment of their green bond or green bond programme and/or framework with the four core components of the GBP. Post-issuance, it is recommended that an issuer’s management of proceeds be supplemented by the use of an external auditor (or other third party) to verify the internal tracking and the allocation of funds.

These new recommendations are deliberately crafted as recommendations, rather than mandatory core components, to acknowledge that there may be some circumstances where these recommendations do not apply.

Other changes to the GBP include:

• A recommendation of heightened transparency for issuer-level sustainability strategies and commitments, including guidance on issuer processes to identify mitigants to known material risks of negative social and/or environmental impacts from the relevant project(s).
• Encouragement for issuers to supply information, if relevant, on the degree of alignment of projects with official or market-based taxonomies (recognising that the GBP do not define what is “green”).
• An increased focus on impact reporting.

What about the SBP and SBG?

The SBP has been revised so that it is consistent with the revised GBP, as has the SBG. A pre-issuance checklist for social bonds has also been published, which should be a helpful tool for social bond issuers.

Sustainability-Linked Bonds

Illustrative examples for the selection of key performance indicators for use with Sustainability-Linked Bonds (SLBs) have also been published. These illustrative examples may help issuers understand what investors expect in terms of level of challenge and specificity required for SLB KPIs.

What does this mean in practice?

These changes reflect existing best market practice, so should not result in huge step changes for most issuers. Issuers should also take comfort that, if their frameworks and outstanding bonds were aligned with the GBPs and SBPs prior to the launch of these new editions, then these will continue to remain compliant. Issuers should not need to update their frameworks immediately to account for the updated GBPs/SBPs. However, if new green or social bond issuances are planned, then issuers should consider whether any changes are needed to their underlying framework(s) well in advance of issuance, in order to avoid delays in transaction execution.

What’s next for this market?

There has been huge growth in the market for environmental, social and governance (ESG) financing products over the last few years. We expect demand for these to continue to surge, as corporates seek to demonstrate their commitment to, and ambition for, a more sustainable future by utilising an existing financing/refinancing need to support and complement their wider ESG strategies.

The 26th UN Climate Change Conference of the Parties (COP26), which is taking place in Glasgow later this year, will be a further driver for ESG financing products in 2021, as public attention turns towards Paris Agreement goals, including the mobilisation of climate finance in order to secure global net zero carbon emissions by 2050.

We also predict a new surge in issuance in the ESG bond market once the voluntary EU Green Bond Standard comes into force, as well as increased interest from issuers in relation to conversion of outstanding bonds into ESG bonds. The existing issuance formats of ESG bonds will continue to evolve, as issuers seek maximum impact coupled with flexibility around use of proceeds, for example through the issuance of hybrid green / social tranches and sustainability-linked tranches.

While the market for green, social and sustainable bonds, green and social loans, sustainability-linked bonds and sustainability-linked loans is now relatively established, the market for other asset classes (including ESG commercial paper, ESG securitisation, ESG asset backed financing and ESG derivatives) are still developing. We expect rapid evolution of the full spectrum of ESG finance products, as market participants respond to increasing political, regulatory and stakeholder pressure to contribute towards a more sustainable future, in particular as we drive forward towards achieving the Paris Agreement goal of net zero carbon emissions by 2050.

Please reach out to your usual Freshfields contact if you would like to discuss these developments in more detail.