Green finance is financing whose proceeds are used by a borrower to finance projects that contribute to an environmental objective. This is an important way in which financial markets contribute to the goals of the 2015 Paris Climate Agreement, seeking to align finance with low greenhouse gas emissions and climate-resilient development. climate change.
Green finance also offers borrowers, lenders and investors the opportunity to promote the green credentials of their operations and demonstrate a contribution to achieving their environmental, social and governance objectives (ESG) Goals.
Green finance has existed in bond markets for some time, and green bonds are generally required to comply with the Green Bond Principles published by the International Capital Market Association. The existence and use of the Green Bond Principles is intended to create transparency in the tracking of funds for environmental projects and to provide insight into their estimated impact.
Principles of Green Loans
In the loan market sector, the Loan Markets Association (AML), Asia-Pacific Lending Markets Association (APLMA) and Loan Syndications and Trading Association (LSTA) jointly published the Principles of Green Loans.
The purpose of the Green Loan Principles is to provide a consistent framework for what can be termed a “green loan”.
According to the Green Lending Principles, Green Loans are loans made to finance (or refinance) new or existing green projects that align with the four core components of the Green Lending Principles.
These four main components are:
- Product use – the proceeds of the green loan must be used for a green project.
- Project evaluation and selection process – it is the communication by the borrower of his:
- environmental sustainability goals;
- process for determining project eligibility; and
- the eligibility criteria and any exclusion criteria.
- Revenue management – the borrower must monitor the use of the product of the green project concerned, which is generally done via a dedicated account or register.
- Reports – the borrower will report on green projects and their impact, and the application of green loan proceeds.
The Green Lending Principles establish a list of indicative categories of green projects that can be financed by a green loan. These indicative categories are based on the Green Bond Principles categories and include:
- renewable energy
- energetic efficiency
- pollution prevention and control
- environmentally sustainable management of living natural resources and land use
- conservation of terrestrial and aquatic biodiversity
- clean transport
- sustainable water and wastewater management
- adaptation to climate change
- products, technologies and production processes that are eco-efficient and/or adapted to the circular economy
- green buildings
Review and reports
In green financing, the borrower will need to organize a review of its green lending framework and its continued compliance with its sustainability objectives. In most cases, this review will be carried out by an external expert.
The Green Loan Principles contemplate different types of increasingly rigorous expert reviews, which are described as follows:
- Consultant opinion – examination and advice from a consultant, for example a “second party opinion” on the framework of the borrower’s green loan.
- Verification – verification of the green loan, of the framework for the green loan and/or of the green projects by an auditor or a rating body.
- Certificate – certification of a green loan and/or a green loan framework against an external green rating standard, for example the Climate Bonds Standard published by the Climate Bonds Initiative.
- Evaluation – rating of a green loan and/or a green loan framework.
The type of examination and the identity of the examiner in a green loan are subject to an agreement between the lender and the borrower. For example, this may involve a second party opinion or certification of the alignment of the borrower’s green lending framework with the green lending principles, followed by periodic reporting and audits during the green lending.
The Green Lending Principles also contemplate the possibility for some borrowers with in-house expertise to do the reporting or certification in-house. This is something that might be acceptable for a lender where the borrower has the in-house expertise to do so. In these circumstances, the Green Loan Principles recommend documenting internal expertise and making it available to lenders.
Documenting Green Loans
Changes to a facility agreement to make it a green loan facility agreement are not extensive and generally affect product application, project selection process and reporting.
To facilitate the documentation process, some drafting suggestions for use in LMA-type facility agreements have been published by The Chancery Lane Project. These suggested provisions work with the four fundamental components of the Green Lending Principles and are useful in providing a framework around which lenders and borrowers can negotiate the requirements for their loans to be classified as “green loans”.
Green finance seeks to align financial markets with achieving a greener world. It encourages market players to focus on green projects and move away from other types of projects.