Last month, representatives of the European Parliament, Commission, and Council, published the agreement on the EU Green Bonds Standard (EU-GBS). There were several articles covering the issue of impact and asset allocation reporting for issuers and companies willing to align to the EU-GBS. The key features of those provisions include:
1) Allocation reports become mandatory, a key evolution from the voluntary framework proposed by the International Capital Markets Association – Green Bonds Principles (ICMA GBP). Under EU-GBS, issuers must produce an allocation report annually and until the full allocation of the ‘use of proceeds’ (UOP). Additionally, reports will require external review, whereas under ICMA-GBP’s framework external verification is simply encouraged.
2) Impact reports must be published at least once during the life of the bond and finally when all funds are allocated. Compared to the ICMA-GBP framework, the EU-GBS seems more flexible because ICMA-GBPs recommends GBs issuers to publish an annual impact report, starting the year following the transaction in the primary market. In addition, external verification for impact reports is not mandatory, contrary to the EU-GBS proposal regarding allocation reports.
3) The impact report should clearly specify the measures, methodologies and assumptions applied in the environmental impact assessment, which is what ICMA-GBPs also recommends to ‘green bonds’ (GBs) issuers. The EU does not offer indications on the rules to measure the impact or sectoral recommendations for its implementation. However, ICMA – GBP recommends the implementation of specific impact reporting rules known as ICMA – GBP – Harmonised Framework for Impact Reporting.
Implications for investors
Although tackling greenwashing is the main objective of the EU’s sustainable finance regulatory framework, the EU has missed a key opportunity to ensure higher standards and better integrity for GB’s impact reporting.
GB’s reports’ lack of consistency, comparability and quality remain a challenge for the asset class, hindering credibility and preventing higher levels of issuance. The main implications for sustainable investors can be summarised as follows.
Sustainable investors are required to analyse, monitor and aggregate individual GBs’ and portfolios’ impact and publish their findings at least annually. This is a common client requirement in the asset management industry.
However, it is not optimal to analyse and monitor the impact only once during the lifetime of the GB as proposed under EU-GBs. That creates a challenge for the availability of data, as EU-GBS issuers won’t publish their impact data homogenously every year. Clearly, there is a mismatch between the needs of asset management institutions and the reporting cycle proposed by the EU.
There is a wide disparity between the quality of data and methodologies used by GB’s issuers. And yet, the EU has not provided answers to this challenge. For example, concrete indications on the type of information to be provided, or benchmarks to ensure homogenisation of the impact data.
The quality of impact methodologies is essential to fight greenwashing, as they make it possible to provide factual, scientific, and recognised evidence about companies’ and GB issuers’ ‘environmental claims. The recent EU proposals on the fight against greenwashing have not been included in the EU-GBs framework.
Finally, it is unfortunate that the external verification of impact reports is only encouraged and not mandatory. Third-party assessments can ensure the quality and credibility of GB’s ‘environmental claims’.
Data and engagement
A report published in 2021 by the Climate Bonds Initiative, highlights that the quality of data and consistency in impact reports remains a challenge for the GBs market. According to the study only 59% of issuers publish and impact report.
It also notes the lack of uniformity of impact data, which makes it nearly impossible to compare and aggregate this information. As a result, Mirova is implementing a “post issuance” engagement strategy focusing on analysis of the impact reports of GB’s issuers in the portfolios.
In 2022, we contacted 40 issuers, out of which 27 agreed to participate in the engagement exercise. The ESG analysts carried out three rating downgrades leading to non-eligibility of securities in the portfolio, while five issuers were placed on the watchlist and 19 had their sustainability opinion confirmed.
Engagement is crucial to ensure the integrity of GB’s transactions. However, engagements alone cannot guarantee the integrity and credibility of impact reports or fight against greenwashing. For this, it is essential to create a common reporting framework, so that all issuers follow the same methodology, and allow consistency and comparability between GB and sectors.
The market and various stakeholders could learn from the process that led to the application of a vehicle certification testing standard (WLTP) in 2018. This framework enables easy comparisons of a car’s different levels of fuel consumption and CO2 emissions across a variety of brands and models. It is essential to replicate this process in the green bond market, and thus integrate a scientific and recognised protocol into impact reporting methodologies, with all market participants implementing it and disclosing comparable data. This will address the risks of greenwashing in the GB market, a necessary condition in the fight against global warming and other environmental challenges.