By Sam Robinson, Deputy Treasurer at Mitsubishi HC Capital UK PLC
With society becoming more aware of climate change and recognising the need to act quickly, environmentally friendly products are becoming more prevalent in almost all consumer goods. This is also true in capital markets where Green Bonds and Sustainability Bonds have become more significant. These instruments can allow investors to make a more sustainable investment for their stakeholders and issuers to raise cheaper financing for their ‘Green’ projects.
What’s in it for Issuers?
One of the biggest issues with investing in sustainability is that it can be expensive or less profitable, this extra cost or reduction in profitability is what Bill Gates in his book (How to avoid a climate disaster) refers to as the “Green Premium”. This “Green Premium” can be a sizeable issue on some projects (which may require public sector investment or subsidies) and be insignificant on others. Where the “Green Premium” is manageable, one way to reduce it is by offering investors instruments like Green Bonds that provide the issuer with a lower financing cost (the difference between green and normal financing cost is also referred to as the “Greenium”).
The increasing emergence of Green Bonds is forcing many issuers to look at their sustainability strategy or risk being left behind by the bond market. How a company considers sustainability is now a common question on investor calls and Roadshows for non-Green bonds and it’s possible that in the future issuers without a clear strategy may finding raising traditional finance difficult.
Is Greenwashing a problem?
Green Washing is a potential issue but at the same time we shouldn’t let perfect get in the way of good. There will be some businesses models that cannot currently fully decarbonise without making huge losses (e.g., airlines, airports etc.) so instruments like Sustainability Bonds, which are linked to ESG targets can be a way of making a tangible difference.
However, we have seen some examples where Green or Social Bonds are used as a box ticking exercise. The idea is that the investor will say it has bought Green or Social Bonds and be able to market this to its stakeholders and the issuer will do the same. An example of this would be where an issuer raises finance using a Green Bond for an existing activity but offsets the activity by buying carbon credits, which are often far too cheap and poorly regulated.
What can be done?
The issue of ‘Green Washing’ in the Green or Social Bond space is largely due to fairly loose ICMA principles around use of proceeds. Tools like the EU Taxonomy showing project alignment with environmental objectives and establishing whether this project will do any other significant harm can help tackle this. However, currently even having projects evaluated against the EU Taxonomy is seen as a ‘nice to have’. If the classification of instruments as Green Bonds required minimum standards of alignment with the EU or other relevant taxonomies, then this would improve transparency.
When recently issuing our first syndicated public Green Bond, Mitsubishi HC Capital UK PLC was careful to avoid including assets in our framework that could be considered Green but not be as aligned to the EU Taxonomy. We also set clear environmental targets to demonstrate that the assets were part of a clear plan to transition Mitsubishi HC Capital UK PLC to being a more sustainable business rather than just advertising parts of our existing business as being Social or Green.
We recognise that this won’t be possible for all issuers, but Second Party Opinion providers could allow investors to distinguish between different Green or Social Bonds by using taxonomy alignment and the impact of use of proceeds to determine if a bond is “Light Green”, “Green” or “Dark Green”.
The ESG space is coming into focus as we progress towards the targets of decarbonising world economies so I am sure that more scrutiny will be placed on Green and Social Bonds in the future as the finance sector plays a pivotal role in addressing climate change.