At the end of June 2024, the International Capital Market Association (ICMA) and the Loan Market Association (LMA) published new guidelines for Sustainability-Linked Loans financing Bonds (known as "SLLBs") (the Guidelines).

The purpose of this article is to explore SLLBs, the salient parts of the Guidelines and to raise some key points for issuers and market participants.

What is a Sustainability-Linked Loans financing Bond (SLLB)?

A SLLB is a sustainable finance product. It is essentially a bond:

• Where the proceeds used are exclusively applied to finance or refinance a portfolio of sustainability-linked loans; and
• Which aligns with the four core elements outlined in the Guidelines.

What are the Guidelines and what are the key elements under them?

The Guidelines, published in June 2024 by ICMA and LMA, set out guidance for issuers of SLLBs.

The Guidelines are inspired by the Green Bond Principles, the Social Bond Principles and the Sustainability Bond Guidelines. They have four key components which it is suggested that issuers of SLLBs follow:

1. Use of proceeds

First, the allocation of proceeds of an SLLB must be towards financing or refinancing sustainability-linked loans that comply with sustainability-linked loan principles (the Portfolio). This is described in the Guidelines as the "cornerstone" of an SLLB.

To ensure appropriate transparency, issuers should ensure that details of the eligibility criteria used for selecting the sustainability-linked loans in the Portfolio are published. This may include:

• Selection of key performance indicators;

• Calibration of sustainability performance targets;

• Assessment of loan characteristics;

• Reporting obligations; and

• Verification.

Two possible approaches are provided in the Guidelines to demonstrate compliance with this component, including detailed disclosure of the relevant eligibility criteria and external review by an independent third party.

Crucially, SLLB proceeds should be allocated only to the drawn part of each eligible sustainability-linked loan in the Portfolio and there should be no double-counting with other sustainable financing product classifications if there is overlap with other sustainable financing products.

2. Process for evaluation and selection

Second, the issuer should communicate with investors to explain certain features of the process adopted by an issuer in relation to evaluating and selecting sustainability-linked loans that will be funded by the SLLB. This can include detail on:

• Governance structure in place to evaluate and/or monitor the sustainability-linked loan eligibility and overall performance.

• Specific sectorial exclusion criteria applicable to the lending activities. Issuers are specifically encouraged to put in place processes to identify and mitigate ESG risks relating to borrowers under each eligible sustainability-linked loan.

• The process and criteria for disqualifying sustainability-linked loans – and, if this changes from initial issuance, the process of requalifying a loan in the Portfolio. 

3. Management of Proceeds

Third, proceeds from an SLLB should be tracked and separated into a sub-account or sub-portfolio. 

The balance of the proceeds will then need to be adjusted to match allocations to eligible sustainability-linked loans in the Portfolio. 

Where there are any unallocated proceeds, the issuer should make investors aware of the arrangements for holding these proceeds until allocation to a loan. 

But the Guidelines do clarify that an issuer is not expected to have processes to track the proceeds of the underlying sustainability-linked loans in the Portfolio.

4. Reporting 

Fourth, the issuer must monitor the borrower's performance against pre-defined performance indicators. This will involve transparent (and annual) reporting and third-party verification. Where confidentiality restrictions exist, information should be presented in a generic way.

How can an issuer demonstrate compliance with the Guidelines?

Issuers should outline how the SLLB aligns with the Guidelines in a Framework, together with any key legal documentation. The Framework should be available to investors and the main concepts of the Framework should then be included in the issuer's wider sustainability strategy.

Overall, the Guidelines are a welcome addition to the SLLB market and will hopefully further aid the standardisation and development of SLLB products, but, as with other sustainable finance instruments, compliance with KPIs and methodologies will be crucial to maintaining credibility. It is hoped the Guidelines will go some way to supporting that to allow SLLBs to continue to develop and play a key role in financing sustainability objectives.

Please do get in touch if you wish to discuss further.