Most company directors in recent years would have been aware of the gradual “greening” of finance — linking it to sustainable and climate-friendly outcomes. In April, green finance made headlines when retail giant Woolworths announced it would issue $400 million of green bonds to fund assets and projects with a positive environmental benefit, such as solar panels on store roofs. It was a landmark raising. Woolies became the first Australian retailer — and the first supermarket globally — to issue green bonds certified by the not-for-profit Climate Bonds Initiative (CBI), the international gold-standard certification. The capital will help fund Woolworths’ 2020 sustainability strategy through the installation of LED lighting, energy-efficient refrigeration, solar panels and the reduction of plastic on fruit and vegetables.
It was a landmark raising for another reason — the sheer scale of the demand for the bond. The raising order book surged to $2.2b, far outstripping the initial raising. This showed the “overwhelming pool of liquidity those [green finance] deals attract”, says Katharine Tapley, head of sustainable finance solutions at ANZ, which helped manage the raising.
Woolworths’ green bonds became a signal that directors thinking about their organisation’s funding needs should elevate green finance — the deployment of capital towards green, sustainable or low-carbon assets — as a priority. The retail-focused bond provided a new asset class for institutional investors seeking opportunities that meet environmental, social and governance (ESG) requirements and demonstrated this avenue of funding can deliver significant brand and financial benefits to companies.
$8.3b Total green bond issuance Australia
NZ$2.1b Total green bond issuance New Zealand
Source: CBI Green Infrastructure Investment Opportunities: Australia & NZ
“This is a big opportunity for companies seeking capital,” says Simon O’Connor, CEO of the Responsible Investment Association Australasia (RIAA). “There is a significant and growing pool of capital in the market looking to get exposure to green or low-carbon assets or investments.”
But directors need to be aware their companies must be credible in their use of green finance or face possible damage to their reputation. “There is a huge risk if you’re not doing this with some integrity,” he says.
A confluence of political, financial, consumer and regulatory factors have driven the global growth of green finance in recent years, says Tapley. The signing of the Paris Agreement and the UN Sustainable Development Goals in 2015 signalled the global economy was moving to a zero carbon and more sustainable footing. Consumers have also begun demanding transparency around companies’ sustainability. “This can’t be underestimated,” says Tapley, adding that consumer pressure will gain momentum as millennials begin to hold the bulk of the world’s wealth in the next five years.
Regulators have also ramped up pressure. In March 2018, the European Commission released an action plan to finance sustainable growth. It includes legislation requiring investors to disclose climate change risk in their portfolio. Investors, both equity and debt, reacted by shifting their portfolios to factor in a transition to a zero carbon, sustainable economy. Australian financial regulators have also pushed to increase the acceptance of climate change as a foundational driver of both risk and opportunity.
At the same time, corporates moved to transition to more sustainable operations and boost ESG reporting. At board level, the transition was given impetus in December 2016 when Noel Hutley SC and junior counsel Sebastian Hartford-Davis opined that directors ignoring climate risk could be liable for breaching their duty of care. A supplementary opinion was released in March this year.
“There is a view that climate change risk is a risk [directors] need to be taking into account and be across, and if they’re not they could be in breach of their directors’ duties,” says Louise McCoach, Special Counsel in Gilbert + Tobin’s Banking and Infrastructure group. “Although this view is yet to be tested by the courts, directors are becoming increasingly mindful of this issue.”
There is no exact definition of green finance, but it encompasses the likes of green bonds, green loans, sustainability-linked loans and project finance. Given its nascence in Australia, there is little aggregate data, but green bonds dominate. According to the RIAA’s 2018 Benchmarking Impact report, green bonds on issue in 2018 totalled $4.9b, which far outstripped other forms of “impact investing” — investments made to deliver measurable social and sustainable outcomes, as well as returns — which totalled $948m. Green bonds have “led the [green finance] charge”.
Tapley says proceeds of bond raisings are used specifically for green assets, including renewable energy, low-carbon buildings and low-carbon transport.
Clean Energy Finance Corporation
The CEFC has invested more than $500m in climate bonds since it began investing in 2012. These include $30m in the Woolworths Group green bond; $20m in the FlexiGroup bond, Australia’s first certified climate bond linked to rooftop solar PV and energy storage; and $90m in the NAB low carbon shared portfolio, to create sustainability-linked investment opportunities for fixed-income investors such as superannuation funds. cefc.com.au
NAB and Stockland were the first Australian companies to issue green bonds in 2014. Since then, all the major banks have issued green bonds. Government bodies, including the Queensland Treasury Corporation and Treasury Corp of Victoria, have also begun issuing green bonds to finance water, building, energy and transport projects.
The Woolworths issuance follows a global trend of corporates, including Apple and Unilever. Banks are also making green loans available to corporates. In January, the Investa Commercial Property Fund closed Australia’s first green loan for $170m from ANZ. Lenders are also making “sustainability linked loans” — the cost of borrowing linked to sustainability performance. Adelaide Airport, for example, signed a $50m seven-year sustainability performance-linked loan with ANZ. If the company hits certain sustainability targets, they may be eligible for a price discount.
They want credibility, not greenwashing. They want to know when they put their dollar into a green bond, it’s going to be used for green purposes.” Louise McCoach, Gilbert + Tobin
Most recently, in a deal led by ANZ and BNP Paribas, Sydney Airport signed a $1.4b syndicated sustainability linked loan in May, the first of its kind in Australia — as well as the largest in the Asia Pacific and the airport sector globally to date.
Other companies, including FlexiGroup, have innovated with asset-backed green bonds. The federal government’s “green bank” — the Clean Energy Finance Corporation — is directing capital through various structures towards energy efficiency, low-carbon plant and equipment, and funding of renewable energy assets.
Why green finance?
McCoach says green finance has the potential to bolster social licence and support a positive brand in the community. “If Woolies issues a green bond, it sends a positive message to their stakeholders that they care about the environment,” she says. “For a company to issue a green bond and successfully navigate the certification process that usually accompanies this, they need to have a genuine commitment that the proceeds of issue have a green impact. A company that fails to demonstrate this commitment will quickly lose the confidence of investors.”
McCoach says green finance is also a way of supporting a company’s ESG framework.
“For example, if a company has an ESG mandate to be environmentally friendly and decrease emissions, then green finance is potentially a way of achieving or implementing those goals.”
RIAA’s O’Connor says perhaps the major benefit of green is it allows companies to “tap a big new pool of capital” domestically and internationally. He says there is a large cohort of responsible investors at an institutional level seeking assets that have a tilt towards lower carbon and greener assets. Some are looking to hedge against the risk of certain “brown” assets being stranded in the future.
Tapley agrees that green finance allows companies to attract new investors. That includes investors with ESG mandates. She says the size of the capital pool looking for green investments means they are making bigger bids for transactions, such as the Woolies raising. Anecdotally, that demand is translating into better pricing.
“Investor demand is moving to this kind of product from buy-side, including fund managers and pension funds, because there is more liquidity and demand for green and sustainable bonds,” says Tapley. “That means with more demand, a company can get better pricing.”
CBI’s Australia and New Zealand manager, Haran Siva, says research by his organisation has found mixed evidence of a pricing benefit to all-green bonds. “Most treasurers say the strong demand for green bonds gives them the opportunity to tighten the pricing a bit.”
He says, however, the research is showing that, because of strong demand, green bonds trade a premium in the secondary market. That should help companies to price new issuance at lower yields and access cheaper finance. The research also shows green bonds have a positive flow-on impact on normal bonds “because investors see the company in a better light”.
The Woolworths green bond continues to trade well. Initially priced at 120 basis points over asset swap, it has outperformed comparable bonds because of strong demand. McCoach argues that, in the future, companies issuing bonds that are not green may be penalised.
Despite the opportunities, there are risks. The major one is reputational damage if companies engage in “greenwashing” — touting bonds as green, but delivering no green benefits. O’Connor says there is real risk of damage to corporate reputations if companies issue “green” debt simply because it’s a great marketing opportunity.
McCoach says integrity is a major issue for investors. “They want credibility, not greenwashing,” she says. “They want to know when they put their dollar into a green bond, it’s going to be used for green purposes. There is also a greater expectation there will be follow-up reporting by the issuer to confirm this.”
Australian Catholic University
In 2017, NAB placed Australia’s first Sustainability Bond for Australian Catholic University (ACU) and received strong investment demand. The $200m bond was raised to finance a combination of green buildings and research and development programs with social impact aligned to the ACU mission, the International Capital Markets Association’s sustainability bond guidelines and UN SDGs. Bond funds are helping to reduce ACU’s environmental footprint through investments in Green Star-rated campus buildings and supporting ACU teaching and research activities.
Fortunately, the market is developing standards for debt raising. In bonds, for example, the CBI has its Climate Bonds Standard and Certification. Siva says certification “is a good way for directors to mitigate their risk of being exposed on the green credentials of their bonds”.
He notes Australia, with 85 per cent of its green bonds certified, has become a “best practice market”. It is also a global leader, with 12 per cent of global-certified volume, making it the third-largest source of certified issuance after China and the US.
O’Connor says in addition to certification, investors want ongoing reporting. “It’s not enough to say, ‘I’m going to fund some wind farms, give me your money.’ Over the period of that particular investment or issuance, you need to be reporting on the impact being generated from that finance.”
Green bonds may not be suitable for every company. Investors don’t just want to assess the bond itself, but the whole company, says O’Connor. “It’s important the issuer has integrity around their broader environmental commitments in addition to the assets that are being financed. It will be hard for certain companies to become active in this area if it isn’t consistent with their wider activities.”
Despite the risks, it’s clear the benefits of green finance are likely to see it continue to grow. CBI forecasts global bond issuance to surge from US$170b in 2018 to US$250b in 2019. “We expect it to be growing strongly,” says Siva, adding growth in Australia will also be strong, driven by investor appetite and banks’ willingness to lend.
”This is a big opportunity for companies seeking capital. There is a significant pool of capital in the market looking to get exposure to green or low-carbon assets or investments.” Simon O’Connor, CEO RIAA
“We expect bank appetite and innovation to continue,” says Tapley. “Banks are under pressure from their own investor base and, increasingly, regulators, around how balance sheets are constructed and how we’re mitigating the risk of climate change impact in our balance sheet.”
In Australia, the finance industry has formed the Australian Sustainable Finance Initiative, co-chaired by O’Connor, to align with greater social and environmental outcomes. Its “sustainable finance roadmap” outlines a plan for finance to help transition to a resilient, sustainable economy. With the strong shift towards green finance, there is the chance of losing access to capital for companies that don’t transition.
“Not engaging in these markets has the potential to put at risk a company’s access to funding in the longer term,” says Tapley.
“Companies need to be in those markets to continue long-term access to funding. Organisations not paying attention to this will increasingly come under pressure to provide transition plans. If there isn’t sufficient action occurring in the medium-term, they will compromise their access to funding.”
McCoach agrees. “There is an increasing stranded asset risk for companies that are not transitioning with the economy towards a sustainable future,” she says. “The survivors in the longer term are more likely to be green than brown. Directors need to be aware of opportunities that come from aligning their finance strategy with a sustainability roadmap, as well as the risks of failing to do so.”
Walking the walk
When it comes to social impact issues, many directors are already on the case, writes Global Compact Network Australia executive director Kylie Porter MAICD.
There is a fundamental shift in boardroom conversations, driven by inquiries such as the banking Royal Commission and an increase in shareholder resolutions.
Since 2015, there have been more than 35 shareholder resolutions against Australian companies solely on human rights due diligence and climate change risk matters. While none of these resolutions ultimately passed, they highlight that compliance with the law is no longer enough; that both institutional and “mum and dad” shareholders expect businesses to demonstrate how they act responsibly and ethically. These resolutions are also putting the spotlight on environmental, social and governance (ESG) issues and changing the perception of corporate Australia. But is this ESG-activism focused on headlines, or where it is most warranted — on those companies with poor ESG performance?
In our experience, the nature of some of these shareholder resolutions is disconnected from what businesses are already doing to align their business strategy to ESG considerations.
For instance, some of the resolutions ignore that many publicly listed companies already disclose their progress against their climate risk strategy. Some resolutions do not consider the positive actions taken by business, such as adopting the recommendations of the Task Force on Climate-related Disclosures (TCFD), or committing to a science-based-target. Indeed, some resolutions did not account for the broader work some companies do to disclose how they respect human rights, or the way they have remedied adverse human rights impacts.
However, these resolutions have provided a voice to concerned shareholders about the strategic and operational decisions of some Australian corporates. The Australian Prudential Regulation Authority (APRA) Prudential Inquiry into the Commonwealth Bank of Australia (CBA), the banking Royal Commission recommendations and statements from regulators and respected business leaders demonstrate the need for stronger alignment and integration of ESG into strategy and boardroom discussions. While most companies that have faced these resolutions have made public commitments to implement the “call to action”, management and directors now need to ensure the culture of the organisation is reflective of a business that acts ethically. To do this, the culture must be driven from the top down.
The elephant in the room is whether these resolutions have prompted more meaningful conversations within boards and senior management about ESG risks. For boards beginning this process, questions for management might include: how has the business implemented its climate risk strategy? How has it overcome allegations of adverse human rights risks?
For those directors inherently focused on financial returns for shareholders, there needs to be a change at the table to enable greater understanding of the positive impact social and environmental considerations have on long-term performance benefits; an understanding of the reinvigoration of fiduciary duties that places purpose before profit.
Power in the positive
There are numerous examples of Australian businesses acting positively by embedding ESG and Sustainable Development Goals (SDGs) across their core operating platforms and strategies.
For example, the Qantas Future Planet Program plans to tackle waste by eliminating single-use plastics across their domestic flights, aiming to remove 100 million single-use plastic products per year by 2020.
ANZ has a public commitment to support 10 of the 17 SDGs. It also works to support a diverse and inclusive workforce by instituting polices that drive gender-balanced recruitment practices that strive to eliminate systemic bias from processes such as performance and remuneration review.
AGL has an innovative plan to transition the Liddell Power Station in NSW by addressing the fundamental energy, social and economic impacts of a shift towards a lower-carbon future.
Directors step up
One solution is for directors to have more conversations about ways to integrate ESG and SDGs into strategy. Directors also need to challenge management to think about how business can effectively disclose their progress on ESG matters.
To affect real transformational change with business, boards must have meaningful conversations with management and stakeholders about relevant ESG issues. Directors need to be accountable for the integration of these views into business strategy and decision-making. They need to set the tone and provide the strategic direction that considers ESG. For instance, directors should not just accept that a company aligns with the Paris Agreement to limit global warming to two degrees, but rather should question management on how the company is meeting its commitment, what disclosures they have put in place to provide a level of transparency and openness on decarbonisation, and how they are managing the transition of their operations and workforce.
We should not whitewash any wrongdoing by those companies that do not act ethically and responsibly. There is still a role for shareholder activism to shed light on companies acting irresponsibly. However, this activism is most effective when coupled with proactive engagement with the company to enact change.