Closer to a Green Financing Tipping Point 

28 June 2021

by Stefan Ionescu, Managing Associate, NNDKP

 

As the European Union intensifies its goal to promote a low-emissions economy in the finance sector, Romania and Poland have certainly been part of the conversation. At the heart of it lies the very honest question: what does “green financing” really mean? 

In simple terms, financing is “green” when it is linked to some form of environmentally sustainable activity. It doesn’t necessarily need to be a renewable energy power plant or a recycling venture - it can also be, for instance, a real estate development or a construction material financing, as long as the business itself is conducted in a manner that is environmentally friendly.

What’s in It for the Banks?

There is certainly an increasing public relations appeal for financial institutions to expand their sustainable lending portfolios, but it also makes economic sense for them to do so. According to a report by the CNSM, a public Romanian prudential supervisory committee, roughly half of the leading Romanian banks’ exposure leans against companies in carbon-intensive sectors, which is likely to affect the returns on such assets in the future.

This means that including environmental and sustainability criteria into lending policies is smart risk management. At a larger scale, greener and more sustainable loans in bank portfolios may contribute to a greater stability of the entire financial system. For this reason, there may even come a time when green elements of bank’s portfolio will come with some capital requirements discounts. 

In any case, it is likely that the “green” component of any project in the CEE market will become a feature that raises the lender’s appetite to finance. Companies may start to notice that having their business pass for “green” could one day lead to more attractive interest rates, or may even be a prerequisite for financing on more competitive markets.

What Does “Green” Mean in Regulatory Terms? 

When it comes to what environmentally sustainable financing means, the devil is in the details. However, the EU regulators tend to love details so there is now a legal answer to that question.

The so called Taxonomy Regulation, which is directly applicable in both Romania and Poland, reflects the EU regulators concerns for developing a common language to identify which economic activities can be considered environmentally sustainable. The regulation also has provisions seeking to prevent financial institutions from labeling financial products as “green” unless certain criteria are met. 

The EU Commission was very busy this year, completing the regulatory package with a Delegated Regulation containing detailed and specific guidance and metrics drawing a line between economic activities that are environmentally sustainable and those that are not. This process was not without controversy as some claimed that its goal of being a science-based and objective document was at times curtailed by lobbying from governments or other interest groups. Romania and Poland were actually in the news due to their push to introduce some form of natural gas activities on the environmentally friendly list. Their argument is that natural gas is key to helping these countries transition away from coal. This was in fact reported to be a reason for the Commissions act being delayed from its original release date. 

In any case, the Commission’s regulation was published in April 2021 and - spoiler alert - it doesn’t feature natural gas. However the regulation does specify that it will be, at least in some form, covered by a future delegated act. 

What Does This Mean for Companies?

The EU taxonomy is hardly literature to take with you to the beach. But if you want to know what to do in order to make your business eligible for green financing in the future, this is what you should ask your consultants to look into. For instance, if you are a cement manufacturer, the EU taxonomy provides you with concrete objectives (no pun intended!) on what your greenhouse gas emissions should be.

Romania’s real estate industry shows that businesses don’t necessarily need to wait for lending policies to integrate green financing. Although green loans are still a small part of the bank’s lending exposure, the majority of financing that can pass for green is generated by the real estate sector. This is largely due to a visible increase in the investor’s desire to develop “green buildings” and advertise real estate projects as being environmentally friendly. Feedback from lenders has been very positive and is likely to encourage the continuation of this trend and contaminate other industries as well. 

 

Lending industry standards are also being developed, as the Loan Market Association (LMA), a leading developer of standards for loan documentation, has published principles and guidance for both green loans and sustainability linked loans. They invite lenders to look at some core components of green financing, like use and management of proceeds, project evaluation and selection and reporting.

This all goes to show that a mix of regulatory and business incentives are changing lending practices and adapting company business along environmental concerns and this is likely to provide an increasing edge in the finance market.

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Stefan Ionescu is a dual qualified Romanian and English lawyer and Managing Associate with Nestor Nestor Diculescu Kingston Petersen Law Firm in Bucharest. 

Stefan regularly advises financial institutions and corporate clients in structuring and negotiating financing transactions and is also intensively involved in regulatory work in the financial sector.

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