Sustainability-Linked Bonds (SLB) and carbon transition bonds have often felt like the same concept. Currently, around 83%* of outstanding SLBs have a greenhouse gas emission reduction target – targets that tend to be most comparable and scientifically verified.
But, to paraphrase Bob Dylan, the times they may be a-changin’. Last month, Philip Morris International announced a Business Transformation-Linked Financing Framework, effectively focused on a “social transition”: moving existing customers into less harmful smoke-free products.
While this is quite a distinct proposition for the market, there are reasons to believe the SLB market will start to see more socially aligned metrics:
- This has been the direction of travel for the sustainability-linked loan market. Here, around 56%* of issuance from 2020-2021 has at least one social Key Performance Indicator (KPI)
- It also has been the evolution of the use of proceeds debt market. Sustainability use of proceeds bonds are now 1.1%** of the corporate bond market (2021ytd), rising from 0.4%** in 2019
- Greater flexibility in types of metrics will likely help companies set out a broader range of target years and hence be able to issue SLBs across the tenor spectrum
- It will also assist firms that have already made significant progress in carbon targets and want to still be seen to set themselves challenging targets (see Green leaders – how to stay ahead of the pack for more on why this is so important)
Social SLBs do have distinct challenges:
- It will take time to convince investors that social targets take similar consistent business effort to achieve (more than just “changing HR practices” for instances)
- Equally, while the climate change emergency is a major risk for all companies, it is not clear whether every social issue has meaningful credit risk implications (tobacco sector is an outlier here). Marrying the social SLB and the credit story may therefore be less straightforward, potentially impacting the “greenium” one is able to achieve
- In the Euro-denominated market, European Central Bank (ECB) eligibility is restricted to those with purely environmental KPIs and targets (see https://www.ecb.europa.eu/paym/coll/standards/marketable/html/ecb.slb-qa.en.html). This will likely negatively impact the execution conditions of social or social-environmental combined SLBs
The market won’t change overnight. But forward-thinking corporates should be comfortable socialising their SLB framework.