ESG Metrics in Credit Agreements

16 March 2022 Manufacturing Industry Advisor Blog
Author(s): Sarah N. Null

The genesis of the term ESG, which combines environmental, social, and governance metrics into a popular acronym, is frequently linked to a report published in 2004 titled “Who Cares Wins."1 The report, endorsed by a group of 20 financial institutions and commissioned in part by the United Nations, included proposals for financial institutions, investors, and companies to better implement and measure ESG metrics.

Almost 20 years later, a study by Sia Partners of 70 participants from the financial industry in the U.S. and abroad found that 92% of the participants, and 100% of G-SIB and U.S. regional banks, would like regulators to adopt more “standardized or detailed disclosure rules” related to ESG concepts.2

The U.S. market may soon receive guidance related to the environmental component of ESG that many participants have been seeking: the Biden administration has signaled a “whole-of-government effort to tackle the climate crisis,"3 and all eyes are on the SEC for anticipated rulemaking relating to climate-related disclosures4.

Until that time, one key motivator for companies to adopt, enhance, and document their ESG policies ahead of governmental regulation requiring it is the demand from their lenders, which is increasingly becoming the rule rather than the exception.  Bloomberg reported in May 2021 that sustainability-linked loans, which are usually revolving loans for which pricing decreases in line with meeting certain sustainability targets (or increases if the targets are missed), were up 292% compared to 2020.5  These loans often include a separate pricing grid that kicks in upon notice from the borrower to the agent that a metric has been met (or missed), triggering a change in interest rates and fees. 

Lenders are also setting the stage for measuring their borrowers’ ESG key performance indicators (KPIs) in the future by including in credit agreements the ability to amend the agreement to adjust interest rates and fees based on to-be-agreed-upon KPIs.  In such agreements, the agent typically acts as a sustainability coordinator and works with the borrower to determine the KPIs and the adjustments to pricing and fees.

Even for loans that are not specifically labeled as “sustainability linked”, a corporate borrower often can still expect to receive a questionnaire from its lender or lenders asking for detailed information about its ESG metrics, including questions that will be familiar to corporate borrowers completing know-your-customer (or KYC) requests but with the addition of ESG-specific requests such as:

  • Existence of ESG policies, audited or unaudited
  • Adherence with certain ESG frameworks (most of which are international)
  • Energy footprint (including waste, water, fuel)
  • Carbon footprint
  • HR policies
  • Board composition
  • Employee health & wellness programs
  • Questions related to procurement and supply chain
  • Community engagement
  • Percentage of revenue attributable to specified industries
  • Regular review and updates of programs, including employee education

There has been an uptick in fund lenders providing sustainability policies or targets to their borrowers as well.

While some companies may already voluntarily comply with certain sustainability metrics through Sustainability Accounting Standards Board (SASB) standards6, corporate social responsibility (CSR) reports, internal policies, and external promotion of those policies, investors’ appetite for ESG metrics, and commercial lenders’ desire to satisfy that appetite, is leading to a more formalized framework for measuring and reporting ESG metrics.

 


2 The LSTA recently hosted a seminar to review the results of a climate change study conducted by Sia Partners that can be accessed by LSTA members here

This blog is made available by Foley & Lardner LLP (“Foley” or “the Firm”) for informational purposes only. It is not meant to convey the Firm’s legal position on behalf of any client, nor is it intended to convey specific legal advice. Any opinions expressed in this article do not necessarily reflect the views of Foley & Lardner LLP, its partners, or its clients. Accordingly, do not act upon this information without seeking counsel from a licensed attorney. This blog is not intended to create, and receipt of it does not constitute, an attorney-client relationship. Communicating with Foley through this website by email, blog post, or otherwise, does not create an attorney-client relationship for any legal matter. Therefore, any communication or material you transmit to Foley through this blog, whether by email, blog post or any other manner, will not be treated as confidential or proprietary. The information on this blog is published “AS IS” and is not guaranteed to be complete, accurate, and or up-to-date. Foley makes no representations or warranties of any kind, express or implied, as to the operation or content of the site. Foley expressly disclaims all other guarantees, warranties, conditions and representations of any kind, either express or implied, whether arising under any statute, law, commercial use or otherwise, including implied warranties of merchantability, fitness for a particular purpose, title and non-infringement. In no event shall Foley or any of its partners, officers, employees, agents or affiliates be liable, directly or indirectly, under any theory of law (contract, tort, negligence or otherwise), to you or anyone else, for any claims, losses or damages, direct, indirect special, incidental, punitive or consequential, resulting from or occasioned by the creation, use of or reliance on this site (including information and other content) or any third party websites or the information, resources or material accessed through any such websites. In some jurisdictions, the contents of this blog may be considered Attorney Advertising. If applicable, please note that prior results do not guarantee a similar outcome. Photographs are for dramatization purposes only and may include models. Likenesses do not necessarily imply current client, partnership or employee status.

Author(s)

Related Services