Bankers see green

Ten leading banks have agreed to adopt a common set of guidelines for managing social and environmental issues arising from their project finance activities. Few disagree that this is a step forward for the sector – but what impact will it have on the most controversial projects? Alex Mathias reports

In recent years, pressure groups have been relentless in publicising banks’ financial support for projects they consider to be socially and environmentally damaging. Projects such as China’s Three Gorges Dam and the 1,050km Chad–Cameroon pipeline have often given rise to negative press coverage of the institutions connected with them.

Now, however, 10 of the world’s leading banks have taken the bull by the horns and made a collective response to such criticisms by drafting the ‘Equator Principles’ which they intend to apply to large projects that they finance.

 

China's Three Gorges Dam – the controversial project has led to some hostile press coverage of its financial backers

The Principles are a set of voluntary guidelines for managing social and environmental issues surrounding project finance – a funding technique in which the repayment of loans depends on the revenues that a project is expected to generate when it begins operating. They are based on World Bank and International Finance Corporation (IFC) policies and will be applied globally across all industry sectors to projects with a capital cost of $50 million or more.

They require signatory banks to categorise projects according to their social and environmental risk as A (high), B (medium) or C (low). Borrowers for category A and B projects will then be required to conduct an ‘environmental assessment’, which will address issues such as: pollution prevention; involuntary resettlement; and the efficient production, delivery and use of energy. Borrowers for category A projects will also have to develop an ‘environmental management plan’ based on that assessment.

The Principles will be incorporated into loan covenants that will help to give them teeth. Ultimately, if the borrowers do not meet the Principles’ requirements they will be deemed to have brought the loan into default. However, this threat will initially be used “as a means of getting banks around the table again,” says Christopher Bray, London-based head of environmental risk management at Barclays, one of the banks that pioneered the initiative.

ABN Amro, Citigroup and WestLB also helped create the Principles, along with the IFC. The other six signatories are Credit Lyonnais, Credit Suisse First Boston, HypoVereinsbank, Rabobank, Royal Bank of Scotland and Westpac.Together, these 10 banks underwrote around $14.5 billion of project loans last year, representing approximately 30% of the project loan syndication market worldwide, according to Dealogic, a London-based financial data provider. But, because these banks usually operate in syndicates, close to 50% of the project finance market will be affected by the Principles, says Peter Woicke, executive director of the IFC and managing director of the World Bank. He estimates that, over the next 10 years, the principles will affect more than $100 billion of investments.

“This is a huge step forward for the private sector,” says Christopher Beale, the New York-based global head of finance at Citigroup.“This is a global framework, with common language about how we identify these [social and environmental] risks as best practice standards.”

While the signatories already have their own systems for managing social and environmental issues arising from their project finance activities, the Principles bring an industry standard to social and environmental risk management, and establish a level playing field, they say. And, while some of the banks have had sophisticated management systems in place for years, others have had them for only the past 12 months, says one banker. “For some, it’s a great departure,” he says.

French bank Credit Lyonnais’ social and environmental management systems are not as developed as those of some other banks, admits Peter Goodall, its Paris-based head of project finance for Europe, the Middle East and Africa. For example, there is no dedicated social and environmental officer for the department, he notes.The Principles will serve to “take us further down a road that we are already on,” he says.

Banks are also keen to show that they are being increasingly transparent about how they manage these issues, something for which they have been criticised in the past.“Making explicit what our guiding principles will be is a big step,” says Paul Mudde, senior vice president of reputation management and sustainable development at ABN Amro.

Adoption of the Principles is also undeniably about preserving or, in some cases, repairing reputations, as Mudde’s job title suggests. “Each bank felt pressure from NGOs on individual projects. Each one had had their own personal wake-up call,” says Suellen Lazarus, head of the syndication department at the IFC. WestLB and Citigroup came under fire last year for their involvement with the OCP oil pipeline in Ecuador, which pressure groups allege will threaten plant and bird species in the Mindo Nambillo forest reserve.

The NGO community has mostly welcomed the initiative, but says the guidelines do not go far enough. “They have finally admitted that they cannot ignore [these issues].That obviously can’t be underplayed,” says Simon McRae, UK-based corporate and investment programme manager at Friends of the Earth (FoE).

“The Principles are consistent with, but fall far short of, the vision elaborated in the Collevecchio Declaration [on Financial Institutions and Sustainability],” says a collective statement from a group of eight NGOs, including FoE.The declaration was released in January at the World Economic Forum in Davos, with the endorsement of more than 100 civil society groups (see box).

One of the NGOs’ main criticisms of the Principles is that they do not impose no-go zones for project financing, as called for in the Collevecchio Declaration.The “first litmus test of the Principles” will be how they impact the Camisea natural gas project in Peru, says Ilyse Hogue, global finance campaigner for San Francisco-based Rainforest Action Network. This project, in southeast Peru, is being criticised by NGOs for its potential negative impact on the rainforest, a nearby marine reserve and the area’s indigenous communities.

But establishing no-go zones is an unreasonable request – it is a “public sector task” and not up to individual banks, says ABN Amro’s Mudde. However, he says that if a project is in an environmentally or socially sensitive area, “we will take a very careful look at it”.

“The objective of the Principles is not to stop projects from going ahead but to make sure that they are being done in the right way,” says the IFC’s Lazarus. Banks are meant to use the Principles to improve upon or standardise their social and environmental risk mitigation policies with industry best practice.

Another concern of the NGO community is how transparent banks will be on how the guidelines are implemented.“It is not clear how much they will share their experiences,” says Frances Seymour, director of the institutions and governance programme at the World Resources Institute, a Washington-based environmental think tank.

At the launch of the Principles on 4 June, Beale pledged that Citibank would disclose how it categorises projects in its annual sustainability report. It is not clear, however, whether others will follow Citibank’s lead.

“A fatal flaw” of the Principles is “that there is no mechanism for ensuring that endorsing banks actually implement them,” says the collective NGO statement.Without such a mechanism, the NGO community will have no idea whether the banks are putting the Principles in place or adhering to them, says McRae at FoE.

The IFC will not act as “a watchdog agency” for the Principles but it will provide training for how projects are categorised and implemented, says Lazarus. Since the banks operate within syndicates for most project finance deals, they effectively “operate in a fishbowl” which will ensure compliance, she thinks.

The threat of a backlash against signatories found to be not meeting the guidelines will be another driver, bankers say. “If bad publicity comes up from non-compliance, the damage would be twice or three times as bad as not signing up at all,” says Kai Henkel, Munich-based head of global project finance at HypoVereinsbank (HVB).

Seymour at the WRI says the fact that the heads of project finance in several leading banks are behind the initiative is a “signal that they are taking it seriously.” Some requirements of the proposed environmental assessment could make a significant impact if fully implemented, she says. Examples include: an examination of the cumulative impacts of past, present and future projects on an area; how affected parties can participate at all stages of a project, and a consideration of feasible environmentally and socially preferable alternatives.

But she cautions that multilateral development banks have been struggling with these issues for years and “the devil is in the detail”. She refers to the January review of the IFC’s safeguard policies by an IFC-appointed compliance adviser, who acts as a voice for local communities affected by IFC-supported projects. This concluded that the implementation of policies largely depends on the will and capacity of the client. The banks “need to be screening clients as well as projects,” suggests Seymour.

The banks themselves admit that there is still work to be done in implementing the Principles, and issues are likely to arise in how they are interpreted. HVB’s Henkel predicts that how banks choose to classify projects could be a contentious issue. “Obviously there will be some grey areas,” he says.

Not all the leading banks in project finance have adopted the Principles, but “no bank has raised fundamental objections to the concept,” says Beale at Citibank. Some said they were not ready to commit, because they were dealing with other issues, says Lazarus at the IFC.“We were quite close on a few [other] banks signing up but [they] couldn’t make the deadline,” she says. She hopes to have another 10 banks committing to the Principles by the annual World Bank/International Monetary Fund meeting in September.

It is still unclear just how banks will implement the principles and what impact they will have on managing social and environmental issues. But Seymour at WRI says they could also provide a valuable insight into how social and environmental risk management impacts a bank’s bottom line. “This could be a fantastic learning opportunity for everybody,” she says.

Collevecchio Declaration vs Equator Principles The Collevecchio Declaration on Financial Institutions and Sustainability was released at the World Economic Forum in January with the support of more than 100 advocacy and pressure groups worldwide. It calls on banks and investors to take responsibility for the social and environmental impacts of their activities and outlines six broad commitments for banks to adopt. The Equator Principles, unveiled in June, had been in development by leading project finance banks since last October. They are consistent with the Collevecchio Declaration, but “fall far short” of it, according to many environmental pressure groups. However, the declaration is an “aspirational statement” and the financial community is not expected to follow it to the letter, says Simon McRae, London-based corporate and investment programme manager at Friends of the Earth. The table highlights key points from each set of guidelines, to show how they compare.

Equator Principles Projects with a total capital cost of $50 million or more will be screened for their social and environmental risk and ranked as A (high), B (medium) or C (low), in accordance with IFC guidelines. Borrowers for category A and B projects must complete an environmental assessment (EA). Borrowers for category A projects must also prepare an environmental management plan (EMP). The EA report must address 17 different issues, including: land acquisition and land use; involuntary resettlement; and consideration of feasible environmentally and socially preferable alternatives. Borrowers for A and B projects must consult groups affected by the project, including indigenous peoples and local NGOs. The EA must be made available to the public. The borrower is covenanted to: comply with its EMP; provide regular compliance reports and, if necessary, decommission facilities in accordance with an agreed decommissioning plan. If the borrower does not comply, it could be deemed to have defaulted on the loan. “As necessary”, lenders will appoint an independent environmental expert to provide additional monitoring and reporting services.

Collevecchio Declaration Commitment to sustainability Banks should measure the social and environmentalimpacts of their portfolios in all core business areas and actively seek to shift their businesses to sustainable practices. Commitment to ‘do no harm’ Banks should screen and categorise potential deals on the basis of social and environmental sustainability and, as a minimum, establish no-go zones, among other things. Commitment to responsibility Banks must pay fully for the risks that they accept and create; and should support calls for significant debt relief or cancellation. Commitment to accountability Banks should consult civil society groups when creating sustainability policies and should support regulatory efforts that increase the rights of stakeholders Commitment to transparency Banks should publish annual sustainability reports and disclose the sustainability profiles of their portfolios. Commitment to sustainable markets and governance Banks should support initiatives to internalise social and environmental costs and strive to make financial decisions based on longer time horizons.