Rossana Chu (Managing Partner)
Email: rossana.chu@eylaw.com.hk

Jacky Chan (Associate)
Email: jacky-ch.chan@eylaw.com.hk

Green, social and sustainability-linked bonds listed on the Hong Kong Stock Exchange adopt principles formulated by the International Capital Market Association (ICMA)1. This article introduces the core elements in those principles.

Green and social bonds are commonly known as bonds for funding green and social projects. As a contrast, a sustainability-linked bond provides general-purpose finance (i.e. not for specific projects) to the issuer but the issuers commits to achieve certain environmental, social and/or governance (ESG) targets and its financing cost will increase if such targets cannot be achieved.

Green Bond Principles2

Green bond is defined as any type of bond instrument where the proceeds or an equivalent amount will be exclusively applied to finance or re-finance, in part or in full, new and/or existing eligible green projects and which are aligned with the four core components of the Green Bond Principles which are:

1. Use of proceeds

All designated eligible green projects should provide clear environmental benefits, which will be assessed and, where feasible, quantified by the issuer.

The Green Bond Principles explicitly recognise the following broad categories of eligibility projects which are the most commonly used types of projects supported, or expected to be supported, by the green bond market:

  • Renewable energy
  • Energy efficiency
  • Pollution prevention and control
  • Environmentally sustainable management of living natural resources and land use
  • Terrestrial and aquatic biodiversity conservation
  • Clean transportation
  • Sustainable water and wastewater management
  • Circular economy adapted products, production technologies and processes

2. Process for project evaluation and selection

The issuer should communicate clearly to investors (a) the environmental sustainability objectives of the eligible green projects, (b) its process in determining how the projects fit within eligible categories, and (c) complementary information on processes by which the issuer identifies and manages perceived social and environmental risks associated with the relevant projects.

3. Management of proceeds

The net proceeds of the green bond should be credited to a sub-account, moved to a sub-portfolio or otherwise tracked by the issuer, and attested to in a formal internal process.

The tracked net proceeds should be applied to eligible green projects. The issuer should disclose to investors the intended types of temporary placement for the balance of unallocated net proceeds.

The Principles recommend that the use of an external auditor, or other third party, to verify the internal tracking method and the allocation of funds from the proceeds.

4. Reporting

Issuers should make, and keep, readily available up to date information on the use of proceeds to be renewed annually until full allocation, and on a timely basis in case of material developments. The annual report should include a list of the projects to which proceeds have been allocated, as well as a brief description of the projects, the amounts allocated, and their expected impact.

The Green Bond Principles recommend the use of qualitative performance indicators and, where feasible, quantitative performance measures and disclosure of the key underlying methodology and/or assumptions used in the quantitative determination. Issuers should refer to and adopt, where possible, the guidance and impact reporting templates provided in the “Handbook on Harmonised Framework for Impact Reporting”3 developed by ICMA.

Issuer should explain the alignment of its green bond or green bond programme with the four core components of the Green Bond Principles in a “green bond framework” or in the bond legal documentation that is readily accessible to investors.

Social Bond Principles4

Social Bond is defined as any type of bond instrument where the proceeds, or an equivalent amount, will be exclusively applied to finance or re-finance in part or in full new and/or existing eligible social projects and which are aligned with the four core components of the Social Bond Principles, such components being:

1. Use of proceeds

All designated eligible social projects should provide clear social benefits, which will be assessed and, where feasible, quantified by the issuer. They should directly aim to address or mitigate a specific social issue and/or seek to achieve positive social outcomes especially but not exclusively for a target population. A social issue is an issue that threatens, hinders, or damages the well-being of society or a specific target population.

The Social Bond Principles give the following illustrative examples of social project categories which are the most common projects supported, or expected to be supported, by the social bond market:

  • Affordable basic infrastructure
  • Access to essential services
  • Affordable housing
  • Employment generation, and programs designed to prevent and/or alleviate unemployment stemming from socioeconomic crises, including through the potential effect of Small and medium-sized enterprises financing and microfinance
  • Food security and sustainable food systems
  • Socioeconomic advancement and empowerment

2. Process for project evaluation and selection

3. Management of proceeds

4. Reporting

The guidance and recommendations in the Green Bond Principles apply to these three components of the Social Bond Principles.

Issuer should explain the alignment of its social bond or social bond programme with the four core components of the Social Bond Principles in a “social bond framework” or in the bond legal documentation that is readily accessible to investors.

Sustainability Bond Guidelines5

Sustainability Bonds are any type of bond instrument where the proceeds or an equivalent amount will be exclusively applied to finance or re-finance a combination of both green and social projects. Sustainability bonds are aligned with the four core components of both the Green Bond Principles and the Social Bond Principles.

Certain social projects may also have environmental co-benefits, and certain green projects may have social co-benefits. The classification of a use of proceeds bond as a green bond, social bond, or sustainability bond should be determined by the issuer based on its primary objectives for the underlying projects.

Market development

In structuring sustainability and ESG related bonds, the market practitioners should keep themselves abreast of the development in international guidance and standards, technological advancements, regulatory environment changes and, last but not least, the public expectations.

 

1 https://www.icmagroup.org/About-ICMA/
2 https://www.icmagroup.org/assets/documents/Sustainable-finance/2021-updates/Green-Bond-Principles-June-2021-140621.pdf
3 https://www.icmagroup.org/assets/documents/Sustainable-finance/2021-updates/Handbook-Harmonised-Framework-for-Impact-Reporting-June-2021-100621.pdf
4 https://www.icmagroup.org/assets/documents/Sustainable-finance/2021-updates/Social-Bond-Principles-June-2021-140621.pdf
5 https://www.icmagroup.org/assets/documents/Sustainable-finance/2021-updates/Sustainability-Bond-Guidelines-June-2021-140621.pdf