News & Updates

How Green is your Loan? Sustainable Finance is on the Horizon!

Angus MacLeod

Published byAngus MacLeod

15th December 2021

How Green is your Loan? Sustainable Finance is on the Horizon!

With Christmas fast approaching, COP-26 is fast fading from our memories, but it saw commitments from the finance sector to support action on climate change and other sustainable goals.

Sustainability-linked loans (SLLs) will form part of that mix, so here is a primer on what they are, and what to look out for.

What is a sustainability-linked loan?

A loan where the borrower is incentivised through a margin reduction to meet measurable sustainability targets. These targets could relate to climate action, social impact or other ESG (environmental, social and governance) goals.

Isn’t this just green finance by another name?

No – green finance is funding made available to fund a green purpose – a renewable energy development for example. Sustainability-linked loans can be for any purpose, including working capital.

What’s the upside?

There are two kind of “rewards” for borrowers.

- Firstly, the margin reduction means servicing the loan itself is cheaper – but there are other costs to consider (see below), so do your homework on whether it represents good value overall.

- Secondly, reputational benefit from being able to demonstrate to customers, suppliers, employees and other investors that you are serious about improving the environmental and social impact of your business.

What are the risks?

To benefit from the lower margin, the borrower actually has to deliver on the targets. That delivery carries its own costs. You may also need to prove that it’s been done, meaning an independent verification or audit.

The key is to agree up front with the lender relevant targets, ambitious enough to have a meaningful impact, but still achievable at a cost less than the margin saving.

The loan agreement needs to be carefully negotiated to make sure you’re not signing up to something you later find difficult to do, or expensive.

Isn’t this just for big business?

SLLs have been around for a few years and yes, most of the lending to date has been large facilities to bigger companies. But as banks look to bolster their own green credentials, many expect SLLs to become more commonplace throughout. Make sure you’re ready for them!

 

This article first appeared in Executive Magazine 

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