By: Rebecca Percossi, Senior Managing Director, APAC
The emergence of a “sustainable finance” market has seen rapid growth globally. It is finding considerable traction in Australia and New Zealand as businesses increasingly recognize their role in supporting climate change initiatives and the promotion of positive actions in the area of Environmental, Social and Corporate Governance (ESG).
The first category of sustainable financing centres around green financing instruments, typical in the form of bonds issuance here in Australia. These are used to finance specifically environmental projects, assets and activities. Within the real estate industry there have been some notable transactions, including Investa, which has closed almost $500 million in green loans (as at Feb 2020) within their Investa Commercial Property Fund. Investa used the proceeds of these loans to assist in the funding of low carbon building projects. In March 2021, Lendlease successfully closed its second green bond in five months, raising $800 million in totality, to support the development of green buildings and other eligible projects such as Sydney’s Barangaroo within Australia. These lending structures provide borrowers with bonafide ESG credentials that help to attract green investors.
Another instrument more in a nascent stage in the Australian market - but with the potential for growth and perhaps more relevant to the real estate industry due to its broader use - is the sustainability-linked loan (SLL). In contrast to green financing, SLL’s focus is not on the proceeds of the loan but rather incentivising the borrower to achieve and maintain ESG performance-based targets that are agreed with the lender at financial close. As an example, in March 2020, Wesfarmers secured a $400 million SLL, linking the interest charged to a commitment to increase the proportion of Indigenous employment and reduction in carbon emissions. More recently, Frasers Property Group secured a $300 million SLL linking loan pricing to maintaining 4 stars or above in each of their Global Real Estate Sustainability Benchmark report and Standing Investment report.
The “Sustainability Linked Loan Principles” (SLLP) issued by the APLMA, in conjunction with LMA and LSTA, sets out a framework of market standards / guidance that lenders can adopt when offering SLLs. A fundamental aspect of the framework centres around seeking sustainability performance targets (SPTs) that are ambitious, with the incentive of achieving these targets driven through the alignment of SPTs to key loan terms. The most common method of alignment is through margin re-determination where the margin adjusts upwards and downwards, depending on how successful the borrower is achieving their targets.
These ambitious targets must be rigorous and measurable in order to reduce the risk of “green washing”, which occurs when nominal results are portrayed as being significant environmental and sustainability outcomes. The central danger in greenwashing is that it can mislead investors into thinking that a product meets their internal ESG policies when, in fact, it does not.
The need for transparency through both the borrower’s reporting and external review / auditing to determine and verify that the SPTs have been met is a key aspect of the structure.
Targets that could be considered in a real estate context include energy efficiency ratings, water consumption, affordable housing ratios in developments, improvement in ESG ratings and the increased use of sustainable raw materials and supplies.
SLLPs have provided guidance on the four main components that each loan should contain in order to be classified as an SLL, which are:
- Relationship to the Borrower’s Overall Sustainability Strategy: The loan must demonstrate a clear link between the SPTs outlined in the loan and the borrowers wider corporate sustainability objectives.
- Target Setting: Determination and communication of SPTs that are measurable and ambitious. The engagement of a “Sustainability Coordinator” or “Sustainability Structuring Agent” aid the borrower in the determination of the SPTs.
- Reporting: Regular and accurate reporting on the borrower’s performance compared to the SPTs needs to be readily available and provided to the lender at least annually.
- Review: When results provided to the lender are not publicly available or otherwise accompanied by an audit statement, performance should be reviewed by a qualified, external party to ensure transparency. For publicly listed companies, public disclosures may be sufficient for the lender.
Trimont Real Estate Advisors sees significant potential growth of green and sustainability-linked financing and supports the underlying initiatives that products such as these seek to achieve. Through our facility agency and security trustee business we seek to reward borrowers for their successes in meeting the SPTs through agreeing a variable fee structure that adjusts as they achieve the targets outlined within the transaction.
Trimont Real Estate Advisors (trimontrea.com) specializes in the asset management of complex performing and non-performing credit on behalf of commercial real estate lenders and investors around the world. Trimont also provides loan servicing, facility and security agency, cash management, fund and asset level accounting, underwriting, due diligence and leading technologies such as TriviewSM, that empower clients to better evaluate and manage risk and return.
Over its 30-year history Trimont has managed more than $645 Billion of debt and equity investments into commercial real estate, comprising more than 26,400 assets managed in 66 countries. Trimont is highly rated by Standard & Poor's, Fitch and Kroll and serves clients around the world from major offices in Atlanta, Dallas, Kansas City, London, and Sydney.