Up to date with global sustainable debt

A central panel at the KangaNews Sustainable Debt Summit 2021 brought together sustainable-finance leaders from the event’s four headline sponsors to share intelligence on the latest developments across the global market. They discussed the most topical international thinking on market evolution, uptake and impact.

  • Michael Chen Head of Sustainable Finance WESTPAC INSTITUTIONAL BANK
  • David Jenkins Global Head of Sustainable Finance NATIONAL AUSTRALIA BANK
  • Sarah Thompson Head of Sustainable Finance RBC CAPITAL MARKETS
  • Amy West Head of Sustainable Finance TD SECURITIES
  • Laurence Davison Head of Content and Editor KANGANEWS

Davison The COP26 summit is coming up and we have seen a raft of new commitments to net zero at national level, as well as increasing conversation around the need for harmonisation – meaning standards that add comparability and collaboration to achieve goals that are increasingly pressing. What does all this mean for capital markets?

THOMPSON I think we could spend a whole session on this question alone – there is so much to dig into. At a high level, we are seeing these macro trends really coming together to play out in the capital markets. The increase in net-zero commitments being made by governments, financial institutions and corporations is helping drive the push toward improved, more robust and even mandatory climate-related disclosures, like the Task Force on Climate-related Financial Disclosures (TCFD).

I think there is widespread recognition that ESG [environmental, social and governance] outcomes are enabled by data. Improved data and technology for analysis and capture play a crucial role in supporting the transition toward more sustainable operating models.

In addition, to build traction we need standardisation to the greatest extent possible. This means consistency, comparability, and at least some alignment or consensus on the appropriate and best practice ESG disclosure standards, frameworks, and taxonomies. We need alignment around what sustainable activities are.

At the same time, though, there needs to be flexibility and room to recognise regional and sectoral context and differences. I think all these factors together will help support further growth in the sustainable-debt market as well as increased collaboration. Banks, investors, corporates, and governments all must work together if we are going to achieve our net-zero commitments.

Davison How far down the road of standardisation and harmonisation is the sustainable-finance market at present, and how far should it be aiming to go? Presumably it is not going to be able to harmonise fully, for instance across jurisdictions.

WEST This is a really good question, especially as we are seeing sustainability-linked debt offerings come to the fore. This year may be the turning point where sustainability-linked debt, both loans and bonds, outpaces all the other types of sustainable instruments.

Standardisation is an important topic in this context, and I think we need standardisation of corporate-sustainability reporting. This will be key to underpinning all sustainability-linked instruments and ensuring we are speaking with one voice.

There are already some great global standards for materiality, while certain reporting frameworks – such as Global Reporting Initiative (GRI) and TCFD – have come to the fore. As a community, we’re now seeing a big focus, especially from underwriters, on credibly choosing KPIs. The Loan Market Association (LMA) most recently came out with its attempt to standardise expectations of how market participants define what is material and ambitious.

Taking examples like this into account, I think we have come a long way from a corporate-reporting point of view. But I don’t think there will ever be full alignment especially to the EU taxonomy, which some have pushed for. I just don’t think it is possible to achieve in full.

On the other hand, I do think there will be a market movement toward understanding what constitutes materiality, what constitutes ambitious and what a reasonable stretch goal would be within each sector. I am quite encouraged by the direction in which the market is heading right now.

“To build traction we need standardisation to the greatest extent possible. This means consistency, comparability, and at least some alignment or consensus on the appropriate and best practice ESG disclosure standards, frameworks, and taxonomies.”

Davison Australia is, to say the least, taking its time on things such as adopting TCFD reporting – it is clearly down to the market to take the lead as there is little sign of a policy lead on mandatory reporting, for instance. How can Australia fit into the global story of harmonisation and comparability?

CHEN I think Australia will likely look to other countries first, for example New Zealand, when considering mandatory TCFD reporting. I am enthused by the fact that the climate KPIs of sustainability-linked structures are using real rigour in setting targets and addressing how they align to net zero.

I’m encouraged by this development because it means, even as we potentially look to further regulation down the track, that capital markets players and intermediaries are already using best practice in defining exactly what is green and what is aligned with the Paris Agreement.

JENKINS There was previously a lot of debate about how far the Sustainability-Linked Loan Principles (SLLPs) would go – specifically whether they would go as far as the Sustainability-Linked Bond Principles (SLBPs), which have specific mandatory requirements on external verification and also strongly recommend an upfront assurance process to confirm the materiality and credibility of an issuer’s targets.

I was part of the forum that worked on the SLLPs – with APLMA [Asia Pacific Loan Market Association], LMA and LSTA [Loan Syndications and Trading Association]. There was a quite robust debate and a strong push toward lifting the bar to an equally high footing.

I think this has been reflected here in Australia. With all the transactions we have collectively been working on, the debate has moved toward discussing why selected sustainability KPIs and targets are material and how they can be proved to be such.

This is because banks, investors and stakeholders globally expect a lot more than they used to. What may have met lender expectations 6-12 months ago does not meet the standard anymore.

Corporate borrowers are very mindful of this and they are also very cognisant of greenwashing risks. This combination of disclosure, transparency, investor demand and banks pushing the envelope is leading to better long-term sustainability outcomes.

Davison The phrase “what gets measured gets managed” comes up a lot in this context. What is new in this space?

JENKINS Scope-three emissions are very topical at the moment. The challenge is that they are difficult to measure and quantify. With large emitters, the initial step was to measure emissions intensity with an occasional measure addressing absolute emissions reduction – particularly scope-one and scope-two. There is now a global movement to bring the focus to scope-three emissions and address how they can be quantified and brought down. Companies are increasingly mindful of this.

From our perspective as a bank, we can speak about how we estimate scope-three emissions as part of our commitments to climate action. But in the corporate space, it would be remiss to think that every sustainability-linked loan (SLL) or sustainability-linked bond (SLB) that comes to market will be able to put credible scope-three targets in place.

We are seeing issuers putting targets in place to measure scope-three emissions and then addressing reduction targets once a credible measurement regime is in place.

Standardisation in this area is still evolving but I think the work of SASB [Sustainability Accounting Standards Board], the IFRS Foundation and other groups will help provide some rigour. I think it will be a very interesting space in the months leading up to the COP26 summit.

THOMPSON I’m not sure this fits within the category of innovation, but I foresee a shift in focus and an attempt to build capacity in relation to impact measurement. This is something we have talked about in the sustainable-debt market for a long time but has remained a work in progress. It is not an easy thing to do – I think we have done a good job of tracking outputs but we have struggled with measuring actual outcomes and attributing these to financing.

With the increased focus on disclosure, transparency and impact, I think we will begin to see capacity being built in this space. I think we can all improve on our impact-measurement efforts and make better decisions when it comes to allocating capital.

Sustainable finance balancing act

The success of sustainable finance as a concept rests on persuading as many market participants as possible to get involved – but to do so in a way that does not detract from the impact or credibility of the sector.

DAVISON How do intermediaries think about the trade-off between keeping hurdles to involvement low while also maintaining rigour and maximising what the market is achieving?

WEST I am quite encouraged by the development of markets and products. From my perspective, there is more optionality and solutions than ever before for clients that want to access sustainable capital markets. I don’t think the barriers to entry are gigantic. In fact, I think expectations are becoming clearer for issuers.

This can be seen in markets such as the US, where we saw almost a 50-50 split last year between inaugural and repeat borrowers. Clients that have – until now – chosen not to come to market are now doing so because they understand what is required of them.

“With large emitters, the initial move was to measure emission intensity with an occasional measure addressing absolute emissions reduction – particularly scope one and scope two. There is now a global movement to bring the focus to scope-three emissions.”


Davison The global market has seen significant development in the use-of-proceeds (UOP)transition instrument space, for instance the release of the Climate Transition Finance Handbook under the Green Bond Principles and Social Bond Principles. The SLL has effectively become the transition instrument of choice, however, and there have not been many UOP instruments in loan or bond format explicitly with a transition label. Is the sustainability-linked format effectively now the mechanism for transition funding?

WEST I think it is. It is absolutely possible that a client of ours could do something that could be labelled as a transition bond, but I think there is some headline risk around companies trying to do transition bonds.

What I am hearing from my conversations with clients globally is that their CFOs and treasury teams are most comfortable doing sustainability-linked offerings that align with their corporate strategies, without the risk of a debate questioning if it is good enough. I think the quantum of sustainability-linked debt offerings will substantially outpace the quantum of transition-labelled debt.

THOMPSON I still think there is a role for transition-labelled UOP instruments. We have seen a slower uptake of transition UOP bonds, but this can probably be attributed to reasons that can hopefully be addressed over time.

ICMA [International Capital Market Association] published its Climate Transition Finance Handbook about six months after the release of the SLBPs. Based on the release of other principles, it typically takes six months to a year to see new principles incorporated into the market.

There is also still a lack of consensus or consistency around what are eligible transition activities and how to fit these into the context of an entity-level transition strategy. Once there is more guidance, clarity, and comfort around what eligible projects are, I think we will start to see more use of transition-labelled UOP bonds.

The final point is that I hope issuers will not see doing an SLB as an easier route, per se. There should still be rigour about target setting and KPI selection, as well as context on the issuer’s transition strategy. The same disclosure recommendations in the ICMA principles should apply whether it be a UOP or a sustainability-linked instrument.

It has been interesting to see investor response. Overall, investors are very enthusiastic and supportive of sustainability-linked debt. Nonetheless, there is also a heightened level of scrutiny on the credibility of targets as well as concern about the challenges that come with measuring the impact of a sustainability-linked instrument that is used for general corporate purposes.

Nuveen recently published an opinion piece that created a lot of attention around this topic. It said that sustainability-linked debt was not suitable for impact funds because they cannot tie the investment to actual impacts, since the proceeds are for general purposes. Given this, I think some investors will continue to have a preference for UOP debt and that there is therefore a role for transition-labelled UOP bonds to play going forward.

Transition is a theme that can be woven through the sustainable-debt market whether it is in the form of an SLL, an SLB or a UOP instrument.

CHEN I wonder whether the UOP approach, particularly for ‘brown’ issuers, has proved to be challenging not just because of the headline risk but also due to green and impact funds not being able to invest in these structures because of exclusionary screens.

There is also the issue of these entities not being picked up in various green-bond indices. This is easy to overlook but it has led to some reticence from brown borrowers to go down the UOP road.

If I reflect on sustainability-linked evolution, in the early days there were also ‘drive-by’ SLLs that were quickly done without the rigour we see today. This doesn’t necessarily mean sustainability-linked structures are easier to pull off, though. If anything, these days there is a lot of back and forth between the borrower and investors around credible, ambitious and material targets.

At the end of the day I am not too wedded to which label is used. I think investors and banks are increasingly looking beyond the label and ensuring that the entity itself has a credible transition plan.

JENKINS I think there is definitely a place for both sustainability-linked and UOP structures, and I think what will emerge in markets over time will be a barbell approach. The UOP structure really lends itself to large, frequent issuers with substantial green and social project-funding needs that can issue some combination of green, social or sustainability bonds – there is a deep and liquid market for all of these. The other side is the challenge borrowers face if they do not have access to a ready and growing pool of green-, social- or sustainability-themed assets.

The use of the ICMA Climate Transition Finance Handbook has been invaluable to a number of the transactions we have worked on in sustainability-linked format. Not only does it bring rigour and a process to the approach, but it also assists with everything that can be layered over the top of a sustainability-linked offering.

Whether it be the use of materiality maps, ESG risk ratings or a company’s own sustainability reports, it is important to make sure these things are material, credible and meet the rising demands.

The flip side is that we are seeing some longstanding or early movers in the sustainability-linked space coming back to market 2-4 years after their first deals and commenting that the first time round they didn’t need a second-party opinion or external verification. This is not as frequent an issue in Australia but is relevant to offshore markets.

“When we begin discussions with a client, first and foremost we work to understand their sustainability strategy and how it lines up with broader corporate strategy. This means we start at a high level then drill down to the most material issues and how they are being addressed.”

Davison It must be a challenge for sustainable-finance intermediaries simultaneously to be still trying to persuade new entrants to come into the sustainable-finance market while also trying to persuade companies that are already active to continue ratcheting up their commitments. What perspective do international bankers have on the experience of borrowers coming back for second or third sustainability-linked transactions given market evolution in the meantime?

THOMPSON To comment on Canada in particular, we have not seen issues like this yet – largely because the market is still so new. Canada saw its first SLL in December 2019 but then there was a real pause, starting in March 2020, because of the pandemic. We are now seeing significant volume of issuance, but because it’s new we don’t have a history of these kinds of borrowers.

We do have cases where borrowers are looking to apply the structure across other facilities. This will be interesting as we seek to apply the revised SLLPs, but there is always a strong argument to be made about aligning with best practices.

The key benefit of overlaying a sustainability-linked structure in the loan market is the marketing or positioning benefit it can offer, given the pricing adjustments are relatively marginal. Put it this way: if pricing is the only reason an issuer is doing an SLL, I’d say it’s not a great use of time and effort. Keeping this in mind, I think there is a desire among borrowers for SLLs not to backfire as a marketing exercise.


Davison This is a good time to discuss KPIs and the balance between a transaction making sense for the issuer but also stretching its ambition. How do intermediaries go about creating KPIs that work for lenders and borrowers, and that also have materiality and rigour?

CHEN I suspect our process is similar to the other banks. When we begin discussions with a client, first and foremost we work to understand its sustainability strategy and how it lines up with broader corporate strategy. This means we start at a high level then drill down to the most material issues and how they are being addressed. We also sense-check this conversation through our understanding of the client’s materiality by looking at things such as SASB.

After this, the KPI work begins. Once we know the material issues, we select a couple of KPIs and look at a pricing flex around those KPIs. It is interesting because some clients want to do just one KPI and some want to do 20.

This means a lot of our process is around guiding borrowers. Whether it is a syndicated-loan deal or we are going to the capital markets, we tell our clients they need to balance addressing sufficient material issues with relative simplicity to avoid overcomplicating the structure. Typically, this sees us land somewhere between three and five KPIs.

The next step is setting targets. Once we know what a borrower’s target KPIs are, we look at existing and publicly reported targets to see if we can go above and beyond them. Finally, we bring in external verifiers to give an indication of whether the structure is ambitious and material in a credible way.

WEST This matches all our thought processes as we walk through a structure engagement. I also think the idea of adding external review really boosts credibility in the sector. I frequently say jokingly that KPIs are a bit like earnings targets: you want to be perceived as ambitious while also hitting them, which is a delicate balance to strike.

For banks, it is similar to when we were in the early innings of the green-bond market. It is a challenge to give the right advice while also trying to encourage our clients to be ambitious. At the same time, if a client decides to reject what we recommend, there is only so much we can do besides walking away. Our relationship bankers likely have strong feelings on issues like this.

There is a balancing approach we are all trying to take between sustainability credibility and our longstanding client relationships. It is wonderful when we are dealing with clients that want to go above and beyond. But I also think that, as this market evolves, we are going to face more and more clients that just want to be involved but for which sustainability objectives may not be front and centre.

Given this context, I love that rigour and external reviewers are being added to expectations. I think this will be really helpful to the long-term viability and credibility of the market.

THOMPSON I think there are other opportunities for us as lenders to work together – between ourselves and with clients – to raise the bar collectively. If questionable structures are being brought to market, there is an opportunity for the syndicate to ask questions to try to understand better and also to share constructive feedback that helps deliver a message about expectations and best practice.

JENKINS KPIs are subject to the nature of the borrower’s industry even if they are bespoke. All sectors will have different material issues. We have been fortunate to participate in loans from a range of sectors including agriculture, infrastructure, transportation, insurance, private-equity and listed-infrastructure funds, corporate property, and the energy sectors.

Each is slightly different. For instance, infrastructure tends to gravitate toward emissions reduction, minimising impact on the environment and workplace safety. Private-equity funds that are raising subscription-level fund financing will focus on bespoke metrics based on the nature of the fund. For an infrastructure fund, it could be around emissions reduction while a social housing provider could be targeting raising the bar on the number of dwellings provided, the number of people accommodated and energy efficiency.

It is often suggested that sustainability-linked structures are something of a ‘choose your own adventure’. But there are limits. It needs to be credible, though there is certainly room for innovation. As the market evolves, I think there will be guard rails by sector that also allow market participants room in the same way as SASB standards provide a summary of material issues by industry and sector.

CHEN It is also useful to mention a part of the client relationship that the market may not see, as it does not lead to deals. There is a dynamic between getting the deal done versus creating a credible structure. Most of the time, we like to think we can strike this balance, but sometimes it’s not the case. When this happens, we have conversations with clients about the missing pieces and what needs to be done.

Sometimes doing the right thing by the client means working with them and advising that they need to do more before they are ready for the sustainability-linked structure. For example, we might say let’s spend a year exploring better reporting and target setting – for instance to flesh out scope-three emissions – then perhaps next year we can look at refinancing under a sustainability-linked structure.

Advising the client that it is not ready and working with it to get ready is an important part of the relationship that the market doesn’t necessarily see.

“I urge investors to engage: talk to us and to salespeople. We have a lot of clients on the issuer side asking questions and trying to understand what investors want, and we want to give them the right advice. This is how we got the GSS bond market to where it is today – through engagement.”

Davison Would the market benefit from more transparency when it comes to SLL pricing, in particular about the specifics of KPIs and the pricing increments offered? The cost-of-funds impact is only small at present but even so disclosure could – hopefully – lay the groundwork for demonstrating increasing pricing increments in future. Do panellists agree?

JENKINS Transparency is always a bonus, as a general concept. But it is fair to say margin incentives are not the key driver of SLLs and I think the days of pricing being the carrot to bring in borrowers are over. It is part of a holistic package of financing that aligns with companies’ broader ambition and is one of a series of funding options.

The bond market is gravitating toward more material, single step-ups in lieu of symmetrical margins and premia. The margin premium payable by the borrower in an SLB is typically a multiple of what is seen in the loan market. Again, this is to cater for the lack of a symmetrical adjustment, as well as the fact that SLBs typically only have one or two metrics.

This is general commentary, but it is generally understood in the market that the range of pricing incentive on an SLL KPI is circa 2-10 basis points. As more liquidity has come into the space and rates have dropped, I think there has been compression. However, there are still outliers in the high-yield space.

WEST On the bond side, this is where investor engagement is going to play a crucial role in market development. This is a process of exploration. For example, at the moment the focus is on one-way coupons – but there is no reason why there can’t be two-way steps. There are some tax implications, but as a market we can work these out.

There is also no reason why there has to be one test date or one KPI. We can’t talk about norms when the reality is we are talking about a very small sample size of SLBs – perhaps 10 or 20. In other words, these are not market norms but trend lines within a very small subset.

For this reason, I urge investors to engage: talk to us and to salespeople. We have a lot of clients on the issuer side asking questions and trying to understand what investors want, and we want to give them the right advice. This is how we got the green, social and sustainability bond market to where it is today – through engagement.

There need to be questions like: ‘Do you like a 25 basis points one-way structure, or would you prefer two-way? How about multiple test dates?’ If implemented, this type of thinking and dialogue could go a long way to developing the market over the next five years.