An increasing number of lenders are making green loans and sustainability-linked loans available to borrowers. Chris Lewis & India Link-Jones from our Banking & Finance team look at the differences between them.
The UK is a world leader in green finance. At COP26, the UK made green finance one of the central themes. The UK also became the first G20 country to require the biggest companies and financial firms to provide public information about how they respond to the financial risks associated with climate change.
In 2021, the UK Infrastructure Bank was set up with £22billion of capital to decarbonize the economy and the UK Government has raised £26billion trading green gilts. These statistics are essential to meet the UK 2050 net-zero goal, with lenders being encouraged to make green and sustainable finance available to existing and potential borrowers.
Green loans are a form of lending which requires a borrower to use the borrowed funds to finance projects that contribute to a substantial environmental objective for their business. Their purpose is to help companies prepare for reduced-carbon goals being set by governments, including by reducing energy consumption and costs, and the creation of greener technologies.
The Loan Market Association (LMA) defines them as “any type of loan instrument made available exclusively to finance or refinance, in whole or in part, new and/or existing eligible ‘green projects’”.
Green projects include renewable energy, energy efficiency, climate change adaptation, and green buildings that meet regional, national, or internationally recognised standards or certifications. The LMA launched its Green Loan Principles in 2018, which provide a framework to articulate the important characteristics of a green loan.
A sustainability-linked loan (SLL) is defined as a loan or a contingent facility that encourages the borrower to achieve a set of predetermined goals linked to sustainability performance. Their purpose is to support and sustain economic growth and activity in a sustainable way.
The lender will measure this performance by way of sustainability performance targets (SPTs) which will include a set of key performance indicators (KPIs) and improvement metrics. These may often be linked to the LMA Sustainability Linked Loan Principles (SLLPs).
These are made up of the following core components:
The LMA had not previously provided any draft clauses surrounding SLLs for insertion into loan facilities. However, the LMA recently released their model clauses for borrowing and lending in relation to SLLs to include in loan facility documents.
The drafting notes and model provisions notes reflect the SLLPs and have developed from market practice. Notably, the LMA’s model clauses in relation to SLLs:
The key difference really comes down to the use of proceeds. SLLs can be used for general corporate purposes, whilst the proceeds of a green loan must be used for a specific “green project”.