On 23 February 2023, the LMA, the APLMA and the LSTA published revised versions of each of the Green Loan Principles (GLP) and Guidance to the GLP (GLP Guidance), the Social Loan Principles (SLP) and Guidance to the SLP (SLP Guidance) and the Sustainability-Linked Loan Principles (SLLP) and Guidance to the SLLP (SLLP Guidance).
Each has been revised to varying degrees since their inception. However, the February 2023 revisions make significant strides in improving transparency and the robustness of the SLLP, GLP and SLP.
In this article we look at the key changes.
A) Changes applying to SLLP, GLP and SLP
Cut-off Date for application of 'old version' of the Principles and risk of misrepresenting
The revised SLLP, GLP and SLP each make it clear that they are not retrospective – the previous version should apply to deals completed prior to 9 March 2023. However, all loans "originated, extended or refinanced" after 9 March 2023 should fully align with the revised version, if they are to be classified as a Sustainability-Linked Loans (SLL), Green Loan or Social Loan.
Similarly, some existing loans may contain covenants to comply with the LMA principles as they may be updated from time to time, in effect grandfathering the new provisions . This may require the borrower to update and amend its internal procedures, the information provided to lenders, and even the terms of the loan documentation, to ensure the loan can comply with (and be labelled as compliant with) the new version of the relevant Principles.
B) Key changes to the SLLP
Addition of requirement for Sustainability Performance Targets (SPTs) to be beyond "regulatory required targets"
The previous iteration of the SLLP provides that SPTs should be ambitious, represent a material improvement in the respective key performance indicators (KPIs) and be beyond a 'business as usual' trajectory. These requirements have been expanded such that the SPTs must also be beyond "regulatory required targets". The SLLP Guidance goes on to clarify that SPTs should not be set lower than "what is required (or will be during the term of the loan) by law, i.e. SPTs should go beyond regulatory requirements applicable from time to time". Previously there was no mention of additionality to regulatory requirements, but again this fits with ensuring the SPTs are robust, and is designed to counter accusations of greenwashing.
Involvement of Lender Group
The SLLP have clarified that the appointment of a sustainability coordinator should not be considered to exculpate the other lenders from responsibility for satisfying themselves as to whether the chosen metrics and SPTs are truly meaningful and ambitious for the particular borrower. It is described as "critical" that all lenders determine this for themselves and request the information necessary to make such determination. The SLLP Guidance describes the Sustainability Coordinator role as "providing market colour" regarding the KPIs and SPTs and to facilitate dialogue between the lenders and borrower. The Sustainability Coordinator does not assume fiduciary "or any other" duties to the rest of the syndicate or confirm that the documentation meets the SLLP on behalf of other lenders.
Neutral and Two-way Margin Ratchet
The SLLP now recognise that the interest margin is likely to go down if targets are met, and up if they are not. This reflects market practice. There is also reference to a neutral bracket "in some cases, where a strong rationale is provided", meaning that the initial margin will not change. No clarification is given as to what would constitute a strong rationale.
"Sleeping SLLs"
The SLLP Guidance for the first time looks at the practice of labelling a loan as an SLL even though, usually due to timing constraints, the KPIs and SPTs have not yet been finalised. The SLLP Guidance now makes it clear that parties cannot label a loan as an SLL until the KPIs and SPTs are agreed, and all principles of the SLLP are reflected in the documentation. There can be a later "switching on" of the SLL mechanisms in the documentation, but this is exceptional and should be fully justified (with switching on taking place within 12 months of origination). All lender consent should be obtained to set the SPTs at this later point, although the Guidance allows a lower threshold for consent, such as a concept of 'Required Lender consent', where All Lender consent would not be practicable due to the size of the syndicate.
The SLLP Guidance also clarifies that a loan can still be labelled as an SLL where the SPTs for later years cannot be set, for example, because they surpass the borrower's strategic planning. Provided the SPTs for the first years of the loan have been set, SPTs for later years can be set (in a timely manner) at a later date via an amendment process and, in the event that for any reason they were not set, the loan should be declassified and no longer marketed as a SLL.
More robust Reporting and Verification requirements
The annual reporting requirement has been expanded to include a "sustainability confirmation statement with verification report attached", setting out performance against SPTs and impact on the margin. The SLLP also clarify that the independent external verification of performance should continue for the duration of the term of the loan and that this verification must be conducted by a qualified external reviewer.
Deletion of guidance re what constitutes Breach
Details of a section considering what might constitute a breach of an SLL have been deleted from the SLL Guidance. There is no commentary on why this has been deleted, but it could be:
- because no consistent market practice on this topic has emerged; and/or
- in recognition of the fact that practice regarding breaches is likely to change as bank assessments of the sustainable impact of their financings becomes increasingly core to credit approval processes in response to developing regulatory and reporting requirements.
C) Key changes to the GLP and SLP
Eligible Finance Products for the GLP and SLP and categorisation
The GLP and SLP now clearly apply to contingent loan
instruments, with bonding lines, guarantee lines and letters of
credit specifically referenced. This follows on from developments
in the market, where major banks have been looking to structure and
label trade finance products as green and/or social.
The possibility of hybrid facilities is also now included, with the
GLP and SLP each noting that if a loan is aligned with the core
components of both the SLP and the GLP, the borrower can select the
label with the closest nexus to the primary objective of the
underlying project. Alternatively, the borrower can choose to label
it as a "sustainability loan", which connotes alignments
with the core components of both the SLP and the GLP. This follows
the practice in the bond market.
Clarification that Use of Proceeds includes assets and related expenditures
The general principle regarding use of proceeds is unchanged. Additional categories of eligible Green Projects are included, though the GLP note that these are "indicative only and high level". A useful clarification is that Green Projects include "assets, investment and other related and supporting expenditures such as R&D that may relate to more than one category and/or environmental objective". In the SLP, the categories of eligible Social Projects have also been expanded and the same clarification regarding supporting expenditures applies. The clarification that supporting expenditures may be included is especially timely and something which parties have had concerns about for some time.
Process for Project Evaluation and Selection improved to help financial institutions meet their regulatory requirements
The updates to this principle focus on encouraging the borrower to provide full information on its processes to identify and manage perceived, actual or potential environmental and social risks associated with the identified projects. This includes demonstrating procedures in place to identify mitigants to such risks and also to provide information on how its selected projects align with relevant taxonomies and any external standards referenced in project selection.
This update reflects the direction of travel for green taxonomies currently being developed by regulators. For example, the EU Taxonomy includes a "do no significant harm" principle – for an activity pursuing one or more of the six "green" objectives under the Taxonomy to qualify as sustainable, it cannot cause significant harm to any other of the six objectives. Also, the EU's Non-Financial Reporting Directive (NFRD) is being amended to require entities to disclose the proportion of their turnover derived from the Taxonomy's activities. It is going to become increasingly important for regulated business to disclose compliance with these types of taxonomies and disclosure obligations, hence ensuring borrower provide the necessary information to lenders.
In the SLP, borrowers should now communicate both the social objective and the target population of the Social Projects.
Management of Proceeds, including unallocated proceeds
This principle has been extended to require the borrower to have a formal internal process linked to its lending and investment operations for Green Projects. Even temporary allocation of proceeds from a Green Loan need to be disclosed to lenders and tracked. The GLP Guidance states that any temporary allocation should preferably involve thematically relevant/ESG placements, and the placement must not damage the integrity of the green loan market.
There is added clarity on mixed purpose facilities. Where a facility has both green and brown purposes, it cannot be labelled as green - only a ring-fenced green tranche can be labelled as green and not the facility as a whole. The same rule applies to Social Loans. Proceeds can be managed per-loan or on an aggregated portfolio approach.
Revolving credit facilities can be labelled as Green or Social Loans
The GLP Guidance clarifies that RCFs can be labelled as green or social pre-drawdown, if the eligible categories of Green/Social Projects have been sufficiently identified. A green/social framework can help. Ultimately, this is a judgment for the parties. If an RCF is available for general corporate purposes but also for Green/Social Projects, then only the tranche used for Green/Social Projects can be labelled green, or social, if applicable.
Additional Documentary Considerations
The GLP Guidance has added the following as important considerations for drafting green loans (in addition to purpose, information undertakings and representations):
- Disclosure – consent from the borrower for lenders to disclose relevant information for internal reporting and external disclosure requirements
- Conditions precedent – CPs to be satisfied to confirm loan is compliant with the GLP
- No communication – only publicise loan as green once parties have agreed; no longer publicise as green if declassification has occurred
- Green Loan Coordinator – an increasingly common role for a lender to take on a green loan
- Declassification – mechanism to remove green label, if green loan conditions/GLP are no longer satisfied
Conclusion
This set of amendments reflect more than cosmetic changes and clarifications and must be examined by borrowers and financial institutions alike for their impact on both new loans, extensions and refinancings. Market participants should also check their existing loans to see if the drafting required compliance with any updated versions of the relevant Principles.
While these are just a snapshot of the key points to note, it is clear that the LMA, APLMA and LSTA are responding to demand in the market for a robust product which can stand up to scrutiny in view of increasing regulatory changes and to reflect evolving market practices as they have arisen.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.