Background

The LMA has now published additional practical guidance regarding the application of the Green Loan Principles in the context of (i) Green buildings (REF investment lending)[1] and (ii) retrofit projects[2] (together the "Guidance").

"Green" measures are principally intended to recognise and encourage the adoption of activities that reduce or mitigate mankind's impact on the environment. Given the continuing advances in building design, construction and operation, it is increasingly recognised that there is a substantial opportunity for new and existing real estate projects to contribute in this respect and that "green" lending can play a significant role in delivering a more sustainable built environment.

The absence of an established market position as to what is "green" in the context of finance arrangements and building activities however remains a challenge. Currently, market participants must each formulate their own internal view as to what may constitute a "sustainable" and "green" activity.  Whilst this approach encourages engagement from institutions seeking to establish their ESG and "green" credentials, a concern remains that confidence in such classifications may be tainted by inconsistency of approach or the "green-washing" of arrangements.

The joint efforts of the LMA, APLMA and LSTA to provide a structured set of principles to help shape the "green" market on a global basis reflect the need and desire of the real estate industry to build further confidence in the integrity of "green" products. Given the ongoing pressure on businesses to operate in a sustainable manner and to contribute to climate change mitigation efforts, the additional guidance will likely be welcomed by sponsors, developers and funders seeking to define and/or refine their ESG strategies.

Green buildings

The Green Loan Principles focussed primarily on four key components (i) use of proceeds (ii) project selection and evaluation (iii) management of proceeds and (iv) reporting, with the use of proceeds remaining the critical determinant. 

In the context of REF investment loans the Guidance sets out the following example projects where green finance may be applicable:

• the acquisition or refinancing of green buildings or portfolios;
• financing capital expenditure on buildings that makes a positive contribution to environmental goals; and
• retrofit projects (see further below).

A key challenge highlighted by the Guidance however is that there is no universal standard for determining what constitutes a "green" building and how any such designation might develop during the life of the building.  The various certifications available in the market (e.g. BREEAM, LEED and WELL) do assist in establishing the credentials of, and making comparisons between, buildings but (to date) adoption of such certifications has not been universal.

The Guidance therefore suggests that Lenders and Borrowers should agree a process for determining eligibility of the relevant asset at relevant points during the life of the loan (e.g. upon utilisation, at reporting intervals). Critically, a "green" loan would not need to be determined as such at the initial closing of the facility provided that a mechanism exists for the loan to be categorised as "green" in the future.

Retrofit projects

The Guidance recognises the key factor and opportunity that arises in the context of retrofits.  In short, buildings have a long life. As a result, the practices that were used to build much of current European building stock are out-dated, inefficient and do not necessarily reflect modern use and working practices.  It will no doubt be possible a few years from now to make the same statement with respect to the building stock currently under development.

Notwithstanding this, the Guidance highlights that the demolition and replacement in full of older buildings (where that approach is even possible) may not be an environmentally sustainable approach due to the carbon footprint associated with a full rebuild. As a result, retrofitting buildings may provide an alternative means to improve a building's green credentials.

Although there are no global eligibility criteria as to which retrofit projects may be classified as "green" the Guidance describes that the guiding expectation must be that "such retrofit project should result in a material improvement in the energy efficiency of, and result in a material reduction in the carbon emissions associated with, the building".

With this goal in mind the Guidance sets out the following categories of green projects that may provide a starting point for market participants in the development of their green criteria:

• Basic efficiency measures (e.g. draught-proofing, envelope insulation)
• Enhanced efficiency measures (e.g. double-glazing, wall insulation, energy efficient doors)
• Heating measures (e.g. air/ground heat source pumps, pump replacement)
• Generation (e.g. solar/wind generation, district heating services)
• Resilience measures (e.g. flood/heat-wave resistance products)

The above list is intended be non-exhaustive but does provide a good indication of the types of projects to which green weighting can be applied.

Recognition of standards

As noted above, a very tangible means of determining whether Green buildings or Retrofit projects are "green" are the various standards / certifications available. The Guidance lists several standards / certifications that are used in the context of such projects. Whilst it is positive that there are independent means available for lenders and borrowers to benchmark certain aspects of any project, increased consistency of industry approach would strengthen the integrity of the "green" market.

What next?

The Guidance together with the Green Loan Principles (and the prior guidance documents issued by the LMA, APLMA and LSTA) establish a solid framework for the principles of green lending. In order to support such framework and ensure a robust "green" marketplace there is a need for (i) transparency as to the criteria that parties utilise to establish that a loan is "green" and (ii) increased alignment across the market as to the application of such criteria to differing types of projects/assets.  Whilst buildings by their nature differ and therefore no "one size fits all" approach is likely to materialise, the more consensus is formed across the industry as to the eligibility of projects for "green" classification the more weight such classification will bear. In the absence of greater alignment and transparency the risk remains that one person's "green" may be another person's "brown".

[1]              "Guidance on the application of the Green Loan Principles in the real estate finance (REF) investment lending context – Green buildings", Loan Market Association – October 2020

[2]              "Guidance on the application of the Green Loan Principles in the real estate finance (REF) lending context – Retrofit projects", Loan Market Association – October 2020