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by
Alexander Olding
- November 3, 2023
This October 24th, the European Parliament and its lawmakers approved new standards for companies issuing green bonds to help investors pick sustainable companies and avoid greenwashing or misleading climate-friendly claims. The new green bonds will be aligned to the EUs taxonomy and will be made available to investors globally. [1]
Typically, sustainable bonds are one of the main drivers for financing investments related to green technologies, infrastructure projects and energy efficiency. This new regulation by the EU is expected to have far-reaching impacts on the EU’s strategy on financing sustainable growth and its transition to a carbon net-zero economy by 2050. [2] Moreover, the overarching goal of these new Green Bond Standards (GBS) is to add more certainty for investors seeking to add green bonds to their portfolio. Adding this standard now provides a greater incentive for a financial product of this kind and helps foster greater consistency and comparability in the green bond market.
Regarding its applicability, the GBS will initially be introduced as a voluntary framework for issuers who wish to designate their green bond offerings. After an initial five-year period, the European Commission will conduct an evaluation to assess the standard’s effectiveness and feasibility, potentially leading to its mandatory enforcement. Given its recent release, it currently appears highly likely that the standard will remain voluntary for an extended period. These gradual transition periods, a common practice when introducing reporting standards in various jurisdictions, are designed to accommodate smaller investors with limited resources, allowing them time to adapt and prepare for the eventual mandatory enforcement of the Green Bond Standard. [3]
Outline of the Features of GBS
As the EU aspires to be the pinnacle of eco-friendly financial instruments, signifying the EU’s commitment to sustainable finance leadership. In essence, the EU GBS mandates that all proceeds from issued bonds align with the EU Taxonomy, subject to supervision by competent authorities as per the EU Prospectus Regulation. Furthermore, it establishes a registration and oversight framework for external reviewers supervised by the European Securities Markets Authority (ESMA). Notably, issuers from both within and outside the EU can issue and market their bonds as EU Green Bonds, provided they adhere to EU GBS requirements.
Issuers intending to issue EU Green Bonds, must publish a prospectus in compliance with the EU Prospectus Regulation. This prospectus must explicitly state that the bonds are designated as “European Green bonds” or “EU Green Bonds” and issued in accordance with the EU GBS. If a Capital Expenditure (Capex) Plan is required, a summary of it should also be included in the prospectus. Generally, a prospectus is necessary for securities offered to the public or when seeking a listing on a regulated market. [4]
With regard to the use of proceeds, the net proceeds from EU Green Bonds are expected to align with the EU Taxonomy which is the framework facilitating sustainable investments. The Taxonomy defines economically sustainable activity as one that significantly contributes to specific environmental objectives, avoids harm to other objectives, complies with social safeguards, and adheres to technical screening criteria. Any proceeds can then be allocated to fixed assets, capital expenditures (Capex), financial assets created within five years, or assets and expenditures meeting Taxonomy requirements. [5]
The EU GBS permits allocating up to 15% of EU Green Bond proceeds to activities meeting all Taxonomy requirements. This permit has been titled the flexibility pocket and the conditions associated with it include instances where no relevant technical screening criteria exists or when proceeds support activities following internationally agreed guidelines, with issuers making a best effort toward compliance. [5] [6]
Under the EU GBS, issuers will be expected to publish annual allocation reports until full allocation and obtain a post-issuance review after full allocation. Additionally, they must release impact reports at least once during the bond’s lifetime.
If Capex and Opex meet Taxonomy requirements, issuers will be required to publish a plan in accordance with EU Regulations. Within the plan, the EU expects a timeline that clearly defines Capex and Opex alignment with the EU Taxonomy before the bond maturity, undergoing external verification, and including a summary in the issuer’s prospectus. [6]
Additionally, the EU GBS will offer voluntary templates for pre and post issuance disclosure for environmentally sustainable bonds and sustainability-linked bonds. While the use of these templates will be voluntary, it may become an expected practice among investors. This is also closely connected with the EU GBS becoming mandated in the near future, as in its current phase the standards will too be voluntary. Thus, the expectation is the EU Commission will provide guidelines for disclosure within a year of the EU GBS’s entry into force and consider further regulations in subsequent years. [7]
Finally, on an external auditing front by third parties to verify the validity of the issuance of EU Green Bonds, issuers will be expected to release a European Green Bond factsheet for external review. The purpose of producing this factsheet will be to provide insights into how the bond contributes to the issuer’s environmental strategy, Taxonomy-aligned assets, and transition plans, if applicable. [7] External reviewers will play a significant role in the integrity of the EU GBS when it comes to areas such as compliance of factsheets, whether the proceeds are in line with the requirements of the EU GBS, and the taxonomy-alignment of Capex and Opex as set out in the EU GBS’s Capex plan.
Overall, the EU’s introduction of the Green Bond Standard is a world’s first for such a momentous cause. It is another representation of the significant work the bloc is doing to advance its green agenda and bring together all parties to achieve carbon net-zero by 2050. Moreover, the GBS highlights the importance of promoting greater transparency, integrity, and credibility for investors to make better informed decision making.
Currently, the EU GBS aligns its requirements with other Sustainable Finance-related European regulations and directives, such as the European Taxonomy regulation (EU Taxonomy), the Sustainable Finance Disclosure Regulation (SFDR), and the Corporate Sustainability Reporting Directive (CSRD). By doing so, it creates a comprehensive and harmonized framework that promotes green investment and ensures that green bonds genuinely contribute to environmental sustainability and investors seeking to diversify portfolios.
In essence, the EU’s mission to strengthen but also lead in the green bond market through the EU GBS reflects a crucial move towards a more sustainable and environmentally conscious financial future. Moreso, the EU GBS will help foster both investor confidence and the acceleration of green initiatives across the European Union.
Sources
[1] https://www.reuters.com/sustainability/eu-gives-nod-worlds-first-green-bond-standards-2023-10-05/
[3] https://www.nordea.com/en/news/eu-green-bond-standard-slowly-getting-there
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