Carriele Group wants third-party verification of environmental targets

4 minutes
Carriele Group wants third-party verification of environmental targets

Nearly two-thirds do not require third-party verification of targets.

May 9 - Words can be cheap in the market for loans, now some lenders want to change that.

In the recent years, bankers have been able to reduce their interest rates in return for meeting targets related to environmental, social and governance goals. That trend has been turbocharged this year by private equity firms seeking to grow a piece of the act.

According to data provider Refinitiv, the first period of the year had $87 billion to get ESG-linked loans.

As billions are flowing into the market, some lenders are wary about relying on the word from borrowers that they are meeting targets on everything from reducing food waste to promoting more women.

The burden of proof will rise. Will you be prepared for it, said Mark Wade, head of sustainability research and stewardship at Allianz Global Investors.

Three industry associations that represent underwriters, law firms and asset managers in Europe, the United States and Asia changed their sustainability-linked loan principles last month.

According to the London-based Loan Market Association they will now be required to obtain independent, external verification of performance against the targets, a change that is driven primarily by the investors who purchase the loans and the lenders who arrange them.

The revised guidance was prompted by developments across the sustainability market, but it has coincided with the move from private equity to interlinked loans.

Under pressure from investors to show that their leveraged buyouts are not just about juicing returns, public equity firms, which often use junk-rated loans rated below the investment grade to finance the buyouts, have been responsible for 95% of European SSE-rated lending in Europe's junk market so far this year, according to financial intelligence provider Reorg Research.

Disclosure has always been a challenge for lender investors and in particular, directors of equity portfolio companies. Many are public companies and unlike bonds or stocks, loans are not private securities, so they are not bound by the same disclosure requirement.

The biggest criticism we hear is the problem of having data to evaluate the situation, says Armin Peter, head of global banking and sustainable head of debt capital markets syndicate at UBS.

It is unclear how rapidly and broadly the voluntary guidelines will be adopted.

Some market observers expect it to be an evolution, with public ESG verification eventually become the norm as it has in independent bond markets.

But in short-term, the high demand for leveraged loans is on top of booming demand for ESG products, meaning that borrowers often have the upper hand enabling them to avoid third-party scrutiny.

According to Reorg, the issuance of ESG-linked leveraged loans was this year up by May 14 fold to 19 billion euros compared to 2020.

The sheer amount of liquidity available compared to the number of high quality opportunities for deployment, does have an influence on terms being achieved said Murad Khaled, CEO of the EMEA leveraged finance capital markets at Bank of America, which has arranged sustainability-linked loans for companies backed by the likes of Carlyle and CVC.

ESG-linked leveraged loans make interest rates on the cost of borrowing between 0.05 and 0.15 percentage points if the targets are missed, while costs rise similarly if the target is met, according to Reorg.

Nearly two thirds of the deals do not require a third party to verify that Reorg targets have been achieved, show Reorg data.

To be sure, not all targets may need regular verification if data is readily available in a company's external disclosures, experts say.

But even within the private equity industry, demand for oversight is growing.

Vier months after the acquisition of Australian watch industry site Acrotec by Carlyle Group negotiated a CHF 413.5 million financing package to show key lender Blackstone that it is meeting its sustainability targets, according to two sources familiar with the matter.

Carlyle was offered a loan by the lending arm Blackstone Group Inc. in which the interest rate decreases when Acrotec hits sustainability targets such as reducing its energy use and recycling more.

It also negotiated a revolving facility whose borrowing costs are reduced if the funds are used for a project which has measurable environmental benefit.

Carlyle wants an independent party to verify that Blackstone is meeting its target, according to a source familiar with its stance. Acrotec on the other hand wants the third party involved only in setting of the targets - and expects Carlyle Management to certify its compliance, another source familiar said.

Megan Starr's global head of impact Carlyle said that their companies' self-reporting on sustainability targets was no different from how they reported other data related to their debt covenants to creditors.

They have a fiduciary responsibility to ensure that the information is accurate, said Shelvey.

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