Environmental, Social and Governance (ESG) Primer
By Kirk White, Bespoke CIO and General Counsel
Over the past few years, environmental, social and governance (ESG) considerations have had major sway in CRE decision-making. Take Laurence Fink, CEO of BlackRock, who stated in 2020 that climate change is a defining factor in companies’ long-term prospects and that it will affect “a fundamental reshaping of finance.” Or, consider Chuck Leitner, CEO of CBRE, who in recent months has publicly emphasized quantifying ESG goals and the necessity of meeting them. It’s clear that the major players in CRE and capital markets view ESG as “table steaks.” The following is a short primer on the state of ESG in the industry.
ESG standards have been a focus for European and Asian CRE and capital markets organizations for years (See the “Sustainable Finance Disclosure Regulation” or “SFDR.”). Now North American CEOs understand that they need to catch up. In the U.S., the Sustainability Accounting Standards Board (SASB) has established a set of ESG accounting standards and relevant ESG factors, which are designed for U.S. SEC filings. Additionally, SASB has established an “SASB Materiality Map” that identifies specific ESG issues that will likely impact the financial and operating performance of organizations by industry. This can conceptually be viewed as approaching “Generally Accepted Accounting Principles” (“GAAP”) for ESG. Currently CRE and capital markets organizations are widely adopting the SASB guidelines as foundational to their ESG initiatives.
Also adding to the ESG fabric, the G20 based Task Force on Climate-Related Financial Disclosures’ TCFD Recommendations Report and the U.N.’s Sustainable Development Goals (SDGs) are two major framework and standard sets that have been adopted by many-forward thinking and influential organizations. These frameworks, along with SASB, have become the de facto toolset for creating ESG policies and procedures in CRE and capital markets.
In an ongoing effort to promote a verifiable approach to ESG in capital markets, the Loan Syndications and Trading Association (LSTA) established the ESG Committee working group. One of this group’s initial guidance documents is the “Sustainably Linked Loan Principals (SLLP),” initially published in 2019 and updated in May of this year, which describes a borrower-focused ESG framework enumerating sustainability performance targets (SPTs), sustainability performance indicators (KPIs), and sustainable loan characteristics, along with applicable verification and reporting standards.
In concert with the SLLP, the ESG Committee promulgated the ESG Diligence Questionnaire for Borrowers in February 2020. The questionnaire is designed to be completed by a borrower during the loan origination process and addresses a borrower’s ESG platform and practices, as well as company revenues as they relate to ESG. A parallel companion questionnaire, the ESG Diligence Questionnaire for Managers, has been establish for asset managers and addresses the similar ESG platform, practices and revenue points. Adoption of these questionnaires are currently on the rise, and it is clear that commercial borrowers and asset managers will have to increasingly clear ESG hurdles in order to access capital.
While still evolving, ESG is here to stay, and CRE and capital markets industry leaders are well on the way to establishing ESG-focused standards and frameworks that incorporate current and broadly used frameworks (LEED, ASHRAE 90.1, CSR, etc.). While the process is by no means complete, it is important for all in the industry to be aware of the developments to date and to establish a working awareness of ESG’s evolution. Just as U.S. organizations are in the process of catching up globally, domestic organizations that are not following ESG development and are not currently considering their own ESG initiatives will be left catching up to the rest of the industry.