Introduction – Given the overreliance of the world on finite resources and the consequent urgency to preserve and rehabilitate, setting ‘green’ and ‘blue’ as the convention will take collective global effort. India has committed to achieve net zero emissions by 2070, which is reported to require investment mobilisation of USD 10 trillion. The banking system is presented with an opportunity to bridge this investment gap. The total global sustainable bond issuance (covering green, blue, social and sustainability linked bonds) is reported to have reached a significant size of USD 1.6 trillion in 2021. The growing demand for such deals requires a robust regulatory regime, currently spread across various initiatives. This article seeks to provide a quick overview of the current regulatory regime and available benefits of sustainable loans and bond issuances.
Green finance – Green finance is classified basis its end use to finance green projects such as renewable energy, clean transportation, climate change adaptation etc. It is reported that Indian corporations raised a record USD 19 billion on green capital in 2021. From a regulatory perspective, the International Capital Market Association (ICMA) introduced the Green Bond Principles as a voluntary framework to serve as guidance for financial market participants. In keeping with market practice, APLMA, LMA and LSTA have together issued the ‘Green Loan Principles’ on similar lines. Green loans/bonds principles emphasise four key components i.e. (a) use of proceeds, requiring the financed projects to fall within the non-exhaustive examples of green projects (b) process for project evaluation on sustainable objectives), (c) management of proceeds, and (d) reporting to lenders. At the India level, the Indian capital markets regulator, Securities Exchange Board of India (SEBI) regulates the issuance of listed green debt securities under the SEBI (Issue and Listing of Non-Convertible Securities) Regulations, 2021, and prescribes a separate set of disclosure requirements and responsibilities for green bond issuances in India. The International Financial Services Centres Authority (IFSCA), the regulator of GIFT-IFSC, an offshore jurisdiction within the territory of India, has also released its ‘Report of the Expert Committee on Sustainable Finance’ to provide recommendations on policy, regulation, products, capacity building and outreach on the growth of sustainable financing. India and the world are clearly moving toward green.
Blue finance – An emerging subset of green bonds steadily gaining popularity, are blue bonds. Albeit the absence of separate principles to govern blue bonds specifically, International Finance Corporation has issued guidelines for blue finance. IFC defines blue bonds as bonds which align with the Green Bond Principles and are utilized for ocean protection and/ or improvement in water management. The blue economy constitutes 4.1% of India’s economy. The (Indian) Ministry of Earth Sciences is finalizing its National Policy on Blue Economy and SEBI too issued a consultation paper in August ’22, on both green and blue bonds, aligning SEBI’s framework with ICMA’s Green Bond Principles.
Social and sustainability linked finance – Social loans are utilised to finance ‘social’ projects such as affordable basic infrastructure, access to essential services, socioeconomic advancement and empowerment etc. As opposed to end-use based financing (on which social, green and blue loans are based), sustainability linked loans are behaviour-based loans. These incentivize the borrower (e.g. by way of reducing interest) to achieve pre-determined ESG performance targets. Targets may be unique for each borrower and depending on the industry, may include carbon emission reduction, reducing water losses in distribution, women in management targets etc. In 2021, the global market for sustainability linked bonds was reported close to USD 530 billion. ICMA, APLMA, LMA and LSTA have issued principles applicable to social and sustainability linked bond and loans respectively.
India regime – India reportedly also saw its first and largest sustainability linked loan in April 2021 availed by an agrochemical corporate UPL Limited, through its overseas subsidiary UPL Corporation Limited. To aid the advancement of the social loan framework in India, the RBI has liberalised the usage of External Commercial Borrowing (ECBs) towards affordable housing projects and other ‘social’ causes. Interestingly, in August 2022, HDFC Limited availed the largest social loan globally for its affordable housing projects. Most recently, the Ministry of Finance has updated the Harmonized Master List of Infrastructure sub-sectors to include “energy storage systems”, now permitting ECBs for this end-use as well.
With the ESG financing framework in India gaining pace, SEBI’s business responsibility and sustainability report (BRSR) initiative, requiring mandatory reporting of ESG risks and opportunities by India’s top 1000 listed companies (based on market capitalisation) and encouraging voluntary participation by other listed companies, acts as a catalyst to widen the eligibility pool of Indian companies for green and sustainable financing. The BRSR seeks disclosure against 9 principles including efforts to protect and restore the environment, provision of goods and services in a sustainable manner, promotion of inclusive growth and equitable development etc. SEBI has also introduced the concept of social stock exchange as a separate segment on which social enterprises (displaying ‘social’ intent such as eradicating hunger, promoting education, financial inclusion) may raise qualifying equity and debt funds. The BSE has, as recently as in October 2022, been granted in-principle approval to set up such a social stock exchange.
Comment – As the preferences of consumers (and global economies) move towards an eco-friendlier and emission free / low carbon footprint world, financial institutions and corporates across the world are increasingly incorporating non-financial factors such as ESG to identify strategic risks and growth opportunities. From a borrower’s perspective, the benefit of lower cost financing could outweigh the burden of additional compliances. Sustainable finance must however be supported by regulatory will and collective data-sharing to avoid ‘green washing’ and ‘social washing’ (i.e. tactics involving misrepresentation and/or inflation of claims of the impact of social/ green aspects of a project). As a measure to mitigate the risks of abuse, lenders may need to ensure more robust provisions in financing documentation on ESG disclosures, frequent risk and impact evaluation of social compliances/breaches and incremental interest on decategorizing of loans as ‘social’/’green’.