Sustainable financings are designed and developed in compliance with environmental, social, and governance (“ESG”) standards, provisions, and principles, which globally have increased exponentially in recent years. Colombia is not the exception to that rule.
The commitment to take action to reduce the consequences of climate change and contribute to the care of the environment is related to the financial and operational future of companies in the world and our country.
In this context, it is essential to differentiate between different types of financing and financial tools related to ESG and/or green financing.
There are two types of green, sustainable, or sustainability-related financing:
1. Use-of-proceeds financing:
These financings are characterized because the destination of the invested funds is exclusively for ESG projects and activities, or projects and activities focused on environmental protection, reduction of the impact of climate change, among others. This type of financing includes:
- Carbon Credits:
Financial decontamination mechanisms to reduce polluting emissions into the environment that cause global warming and the greenhouse effect. The use of carbon credits is intended to create incentives for individuals or legal entities to use fewer polluting technologies in their processes and activities or to do so on a smaller scale.
In the market, a subject or person that generates Co2 emissions in the ordinary course of business and has the intention or obligation to reduce such emissions participates by purchasing carbon credits for economic contribution to projects or activities that offset the harmful generation or emission generated by such subject or person.
- Green Bonds:
Green bonds are debt instruments that entail the use of bond funds exclusively to finance or refinance, in whole or in part, eligible green projects.
Green bonds are financial tools used by companies to increase external resources, inviting third parties to grant them a collective loan in which they can count on fixed profitability in principle, and susceptible to improvements 1 , depending on the use of the resources.
- Social Bonds:
Social bonds are, on the other hand, the first sustainable financing instruments used in the Colombian market, for the fulfillment of the Sustainable Development Goals (“SDGs”), specifically of: (i) SDG 5: gender equity; (ii) SDG 8: decent employment and economic development; (iii) SDG 9: industry, innovation, and infrastructure; and (iv) SDG 10: reduction of inequalities.
2. Sustainability-linked Financing:
Unlike the use-of-proceeds financings described in Section 1 above, sustainability-linked financings do not necessarily imply the use of funds for ESG projects or activities (nor any other specific use). Instead, Sustainability-linked Financings are related to the fulfillment of specific key performance indicators (KPIs).
Sustainability-linked Financings are characterized by granting better conditions, rate reductions, or other incentives to beneficiaries of the funds, to the extent that they comply with specific green KPIs or ESG provisions. This type of financing includes:
- Sustainability-linked loans:
This type of loan encourages the beneficiary/debtor/borrower to meet certain sustainability criteria or objectives, which are determined, monitored, quantitatively and materially (i.e., obtaining a favorable evaluation by some impact measurement standard, such as the Impact Reporting and Investments Standards - IRIS).
Although this type of loan is not conditioned to the fulfillment of such sustainability objectives, beneficiaries/debtors/borrowers of the loans are incentivized by granting them better loan conditions, if certain green KPIs are accomplished and/or certain ESG provisions are complied with.
- Sustainability-linked Bonds:
Sustainability-linked Bonds are debt instruments characterized by the fact that their terms and conditions may improve if certain green KPIs are accomplished and/or certain ESG provisions are complied with.
In other words, the use-of-proceed financing differs from sustainability-linked financing to the extent that the former necessarily implies, and only occurs, under the condition that the use or destination of the resources being financed are destined for green and sustainable projects or activities, in compliance with ESG provisions and environmental protection standards. On the other hand, sustainability-linked financing is not characterized by the use of resources, nor does it necessarily imply the development of sustainable or ESG activities or projects, but it does promote to a great extent this type of practice, and the compliance with SDGs and provisions to combat climate change, through the reduction of rates, the increase of terms and, in general, the improvement in the repayment conditions or compliance with the obligations by the debtor or beneficiary of the investment.
