Banks, Borrowers and Climate Change: How Disclosure of GHG Emissions Will Impact the Lending Process for Publicly Traded Corporations

by | Feb 7, 2024 | Banks and Borrowers, SEC, Sustainability

The EI Group, in collaboration with Environmental Risk Innovations (ERI), recently launched a joint blog series which outlines the impact of the SEC’s proposed climate disclosure rule, which will require all public corporations, including banks, to disclose their direct and indirect GHG emissions. For manufacturers, carbon emissions are generally those resulting from the products they produce (direct), from the production of energy used in their production process (indirect) and their supply chain (indirect). For public banks, this concept is slightly more abstract. Direct GHG emissions from bank operations would include those originating from their corporate-owned real estate and indirect emissions would be those generated from public corporations to whom banks provide business loans or “financed emissions.”

Following release of the anticipated SEC Rule, publicly traded banks will begin to preferentially identify corporate borrowers who are more successful in reducing their carbon footprint in an effort to minimize the indirect GHG emissions which they will be required to disclose. Many of these lenders will require outside expertise in authenticating corporate environmental, social and governance (ESG) program performance and verifying corresponding CO2 emission reduction claims from client corporations targeted for business lending. Also, just like public banks, public corporations will also face a tremendous challenge to document their sustainability program initiatives and provide concrete evidence of ongoing success in reducing carbon emissions to comply with SEC disclosure requirements.

In an effort to assist banks to quantify indirect GHG emissions associated with business loans to corporations, the Partnership for Carbon Accounting Financials (PCAF) was established to develop standard methodologies to calculate and report direct and indirect carbon emissions for financial institution reporting. PCAF provides financial institutions guidance on disclosing and assessing GHG emissions related to bank loans and investments. Financial institutions that join PCAF receive introductory technical support from PCAF to build their lending institution framework to solicit, calculate and disclose their “financed emissions.” However, many lenders may find themselves lacking internal expertise to launch this process.

PCAF also provides lenders with standardized greenhouse gas information by business category if the borrower is unable to share their company-specific emission data. Obviously, as public banks seek to reduce their carbon footprint associated with “financed emissions,” standardized carbon emission estimates by business type may prove to be inadequate if banks desire to identify borrowers with a lower carbon footprint than their industry average (although the PCAF estimates could still be used as a benchmark for comparison purposes). Under this scenario, both corporate recipients of business loans and those public banks where these business loans originate, may need third-party consulting engineering expertise to document CO2 emission claims.

Factors Financial Institutions May Use to Evaluate Loan Risk:

A Borrower’s Carbon Footprint
Why? The Partnership of Carbon Accounting Financials (PCAF) is creating the standard of Financed Emissions. With financial institutions needing to disclose their financed emissions, they will need accurate carbon footprint data from their borrowers. 

A Borrower’s ESG and Sustainability Claims 
Why? Governments across the world are cracking down on greenwashing claims. It’s imperative that companies verify their sustainability and ESG claims through 3rd parties, and certifications. This also applies to banks; “green deposits “or “green” financing and investments must be able to be verified. Otherwise, claims of fraud can be brought.

The Climate Risk of a Loan 
Why? Financial institutions are seeing that extreme weather events have a strong ability to impact the solvency of borrowers which could lead to loan defaults. In addition, the increased frequency of extreme weather events is causing insurance premiums to increase and coverage to change. Hazard insurance purchased by the borrower was once a risk-transfer method for banks with collateral. Now, the policies must be more closely scrutinized because of exclusions and limitations to coverage that previously did not exist.

The Social Risk of a Loan
Why? Consumers are driving the push for sustainable business practices. This results in businesses developing sustainability programs that address environmental and social concerns. This means every decision a company makes needs to be in line with its sustainability program — including partnerships — and in a financial institution’s case, the business activities their loan would fund.  There is a reputational risk that could affect a bank’s lending decisions.

To Stay Ahead, Borrowers (and Banks) Might Consider Hiring Experts to Do the Following:

  1. Calculate their organization’s carbon footprint and if they are requesting a loan, provide the carbon impacts of that potential loan.
  2. Assess their organization’s environmental and social impact.
  3. Assess their organization’s green claims and have their data verified by a third-party to prevent greenwashing. 

Stay tuned for our next blog, “Climate Action in Financial Institutions Initiative-Inspiration for the PCAF Global Accounting and Reporting Standard,” releasing on Feb 8th. Banks, Borrowers and Climate Change is brought to you by The EI Group and ERI. Articles in this series will be released weekly over the next 3 months and will provide readers a better understanding of sustainability in regards to finance.

Why Choose The EI Group Inc. and ERI? 

Expert Guidance: Benefit from the combined expertise of ERI and The EI Group Inc., ensuring you receive unparalleled insights into the intricacies of sustainability and loans.

Proactive Adaptation: Stay steps ahead of the regulatory curve with our proactive strategies, designed to not only meet but exceed the expectations set by the changing financial environment.

Ongoing and Client-Specific Support: Our commitment to your success is unwavering. From consultation to implementation, ERI and The EI Group Inc. are your dedicated partners on the path to financial prosperity.

For more information, call us at (800) 717-3472.

Banks, Borrowers and Climate Change Blog Series: 
Blog 1: The SEC Targets Financed Emissions: Banks, Borrowers and Climate Change