Via June and July 2022, the Mortgage Market Affiliation (LMA) revealed a sequence of articles to bolster the integrity of the sustainability-linked mortgage product (SLLs) addressing points concerning the setting of key efficiency indicators (KPIs) and sustainability efficiency targets (SPTs) in addition to specializing in the problem of timing in negotiating SLLs. Then, on 12 July 2022, the LMA revealed an introductory information to the sustainability coordinator position to extend market understanding of this position and the way it matches inside the broader sustainable lending context.
What’s the LMA addressing?
The recognition of SLLs continues to rise. In accordance with AFME knowledge, sustainability-linked and green-linked mortgage issuance within the European market elevated 106% yr on yr to €284bn in 2021 from €138bn in 2020. Sustainability-linked and green-linked mortgage issuance represented 25.4% of complete European mortgage issuance throughout 2021, up from 13.9% in 2020.
This reputation and the benefit of incorporating ESG components in SLLs have given rise to considerations about “greenwashing”. The LMA’s specific function in publishing the articles is to supply steerage on drafting SLLs to help the credibility and integrity of the product.
Components to contemplate when negotiating SLLs
Deciding on KPIs
- The Sustainability-Linked Mortgage Rules revealed by the LMA state that the KPIs chosen have to be “related, core and materials” to the enterprise of the borrower. Whereas KPIs stay bespoke to every borrower, there would should be a powerful justification if totally different KPIs are chosen from these utilized by different debtors in the identical business sector.
- A borrower ought to think about exterior help when selecting their KPIs, by appointing a sustainability coordinator to help negotiation, hiring an ESG advisor to help with total technique or approaching second celebration opinion suppliers, which we now have usually seen within the bond market. The lenders themselves have a accountability to problem the materiality of the KPIs.
- Debtors ought to think about all materials KPIs, not simply these generally used resulting from availability of knowledge. Environmental elements are nonetheless extra usually chosen over different components of ESG, though we now have more and more discovered that debtors are contemplating social and governance elements when deciding on KPIs.
- The SPTs set for every KPI must be a “true attain” and impressive. They need to transcend any regulatory necessities to indicate that the borrower is extending itself quite than working in its typical course.
- The events might think about requiring that the SPTs are by no means lower than the borrower’s publicly introduced targets, in order that they’ll tighten if the borrower publicizes a extra formidable goal. Different recalibration mechanics may be thought of to make sure that the SPTs stay related and difficult all through the lifetime of the SLL.
- Some SPTs might not be linear. If a variation in targets would preserve a real demand on the borrower, this must be recognised.
- Debtors shouldn’t worry failure to fulfill the SPTs. This could mirror that the SPT was appropriately formidable, not set incorrectly. Debtors shouldn’t declassify then reclassify loans as SLLs to keep away from missed SPTs.
- The events shouldn’t underestimate the time wanted for a borrower initially of its ESG journey to barter its KPIs and associated SPTs. The rigour of difficult and testing proposals shouldn’t be compromised simply to realize the standing of an SLL.
As referred to above, we now have discovered that each debtors with current sustainable finance merchandise and people new to those merchandise are appointing a sustainability coordinator (usually) from the lender group to help the borrower and lenders in agreeing a syndicated SLL and align to market observe. Given the inconsistencies in terminology and approaches, the LMA revealed steerage to make clear the position.
A sustainability coordinator will present help to fulfill the necessities of an SLL and negotiate the KPIs and SPTs. As they’re appointed on a non-reliance foundation, the events will nonetheless have to make their very own particular person evaluation. We’ve got seen that debtors can discover them a helpful middleman with the total lender group on the sustainability features of an SLL, however the events nonetheless want to know the necessities of the product themselves.
Given the assorted regulatory, market and different elements encouraging sustainable financing, the recognition of SLLs is unlikely to abate. The extra steerage and data for debtors getting into this market or creating their current sustainable merchandise will help them obtain credible SLLs and preserve the integrity of the product regardless of new market members.
As most debtors search to align their KPIs throughout their merchandise, developments in ESG-related bonds must also be tracked. For instance, there was current steerage from the Worldwide Capital Markets Affiliation (ICMA) (please see ESG bonds – recent ICMA and FCA publications, Reena Parmar, Peter Allen, Duncan Kellaway (freshfields.com)) and the ICMA has revealed an up to date registry of roughly 300 KPIs for sustainability-linked bonds, which could even be of curiosity to SLL debtors.
We’re engaged on various SLLs and different sustainable finance merchandise for purchasers throughout the debt spectrum and could be completely happy to advise on the newest developments.