SLLs allow issuers, who are looking for a more holistic transition into ESG, to access green financing without the need to pile green assets on to their books. This opens up the market to an array of firms who would otherwise struggle to allocate the full proceeds into green projects.

Private equity sponsors have appeared in a large proportion of deals since the SLL inception. Using an ESG lens allows sponsors to add value to their portfolio companies through a better ESG profile, which should lead to lower costs, higher profitability and growth.

In our recent Healthcare leveraged loans report, Richard Lloyd, a partner in the debt finance group at White & Case told us that, “It’s still quite ad-hoc as to whether ESG provisions are included in leveraged loans and so it is dealt with on a deal-by-deal basis. Some sponsors now include ESG margin ratchets in their initial grids as a matter of course and certain banks, often those with specialist ESG desks, are more comfortable promoting or negotiating these terms, but there is no clear trend as to who is driving the market.”

The area is still evolving and new terms are emerging as Belron proved earlier this month. Their jumbo divi recap deal, which consisted of a $1.62bn TLB and a €840m TLB, also incorporated a new feature that varied the upside and downside margins.

Margins will adjust downwards by 7.5bps for hitting two KPIs related to recyclable glass and greenhouse gas emissions, or adjusted higher by 10bps if the targets are not met. This progressive term incentives Belron to meet their targets or face the penalty.

Our leveraged loans analysis has also uncovered aggressive terms in some ESG-linked deals. Typically, we’ve found that borrowers will not default if they fail to meet the ESG reporting requirements - the only consequence being a step-up in their annual interest rate.

Another loan agreement permits the company to amend its ESG targets for any reason (not just acquisitions/investments), so long as they get an industry specialist or external firm to confirm the amendments 'maintains equivalency’ in regard to the levels set out in the loan agreement.

So what’s the future? It is too early to tell whether the vanilla step-up step-down margin ratchet seen in previous deals will remain the feature in years to come. In fact, there has been a range of different ideas which substitute margin ratchets for more creative concepts.

One idea is to add a Sustainability-linked reinvestment trigger, showing how SLLs could be tweaked in the future. This provision would enforce an Issuer, upon failing to achieve a sustainable performance target (SPT), to invest amounts comparable to a coupon step-up on an annual basis for the purpose of furthering its SPTs.

We have instead seen In some loan documents, the requirement to reinvest a certain percentage of interest savings into ESG investments within a specific time period.

In any case, the main objective of this new debt class should be to help promote ESG principles and not to reduce financing costs. This matter was further discussed in ELFA’s report, Are ESG margin ratchets saving the planet, or saving borrowers money?

April Bond Issuance

ESG-linked bonds continued their rip through the market in April, with over €2.7bn priced for settlement. 9fin’s new ESG filter, accessible on the bond and loan screener now allows you to easily search for these green deals on our database.

Only two green bonds graced the markets this month, as sustainability-linked debt continued to assert its dominance. The first green deal, which had a strong sense of deja vu, was Neinor Homes €300m Senior Secured Notes. The firm became the second Spanish real estate developer (after Via Celere) to debut the HY universe with a Green Bond. Deutsche Bank & J.P. Morgan led both transactions, with Neinor Homes’s 4.5% deal pricing tighter than Via Celere’s 5.25% issuance from the month prior.

The early adoption of ESG-linked debt has been very sector specific. Therefore, it wouldn’t be a surprise if we saw a green label slapped on future issuances in the real estate industry after these two have laid the successful groundwork. Similar trends occurred in the packaging industry when Owen Illinois introduced the Green Bond in June 2020. Since then we’ve seen five further European packaging manufacturers join the sustainable finance family.

Although Mytilineos joined it’s Greek peer, PPC, in the ESG-linked debt category, it opted for a different approach - offering a €500m Green Bond with net proceeds going towards Eligible Projects as defined in their Green Bond Framework. The size and nature of Mytilineos meant it could opt for a green issuance without being constrained to strict KPI targets and strenuous reporting. The deal tightened slightly to 2.25% with reported interest in excess of €1.8bn.

Picard pulled a €1,720m refinancing and dividend recap package, citing ‘unsatisfactory market conditions’. There was discussion surrounding the ratchet, which increased 12.5bps if one KPI was missed, being too low. However, we noted several interesting elements which more likely contributed to the failure here. This shows that whether a deal is ESG-linked or not, the credit risk remains to the business itself.

Rexel’s €300m seven year non-call three SLB has two SPT’s which will be first tested at the end of 2023. SPT 1 refers to a 23% reduction in Scope 3 Greenhouse Gas (GHG) emissions, which is inherently more challenging to measure as it includes all indirect emissions in a company’s value chain. SPT 2 refers to a 23.7% reduction in Scope 1 and 2 GHG’s - both targets using a 2016 baseline.

Their second party opinion claims Rexel’s targets demonstrate an ‘advanced’ level of ambition. However, after further analysis we believe they had already achieved their Scope 1 & 2 target at the end of 2020 (presenting a 25% reduction) and are also well underway in achieving their Scope 3 target - with a 16% reduction posted in 2020. This questions how ambitious these targets really are. In the company’s defence, they blame Covid-19 for curbing the annual emissions trajectory, causing it to spiral upwards as presented in the graph below.

Regardless of these findings, the company is moving in the right direction and is focused on improving their environmental impact.

Rexel historic performance of its Scope 1 and 2 annual GHG emissions

Further issuance this month came from:

Lonza Speciality Ingredients, who became the first sustainability-linked bond LBO issuer. The terms included KPI targets linked to the reduction of GHG emissions and waste. The dual-tranche issue will back the buyout by private equity groups, Bain Capital and Cinven.

ZF, issued a €500m green bond that priced at a record low 2% cost of debt. The order book for the German automotive supplier received €2.5bn in interest, which could be down to their Ba1 rating attracting investors higher up the credit curve or those with green investment motives.

Selected 9fin ESG Highlights

9fin’s ESG filter has brought to light some important social and governance related news from the previous month which are worth highlighting:

• Swiss payment company, Global Blue, has been accused by a rival of anti-competitive conduct
• Barclays put their conscience before profit, by pulling out of a US Municipal Bond financing transaction, with the proceeds intended to go towards the construction of two new correction facilities
• A representative action has been filed against CPA Global after they allegedly were receiving undeclared commissions for referring intellectual property renewals work
• Our recent Infront Sports & Media analysis, uncovered an investigation into the “potentially damaging” activity that had occurred between Infront and the German Football Association employees, including “improper gifts”
• Suez unions file a complaints for “influence-peddling” against Veolia’s senior management, coverage of the ‘Battle for Suez’ can be found here
• Police searched Abengoa’s headquarters in Sevilla over alleged investor fraud and falsification of documents during previous financial troubles
• Our Credit QT of Allied Universal uncovered numerous allegations against the combined group (although mostly at G4S) which include; high prison assault rates, lost and stolen weapons, fraudulent invoices, incomplete background checks, price fixing, serious or systematic human rights abuses, accusations of war crimes, and even litigation regarding providing alleged support to the Taliban

If you would like more information about any of 9fin's content and analytics, please contact team@9fin.com