The Concept of a Risk Passport1 as a Hybrid ERSM Metric

A Discussion paper by

Ivor Butcher

The work undertaken which forms the basis of the comments in this paper was funded by Aviva Investors. In particular, I would like to thank Dr. Steve Way ood ! "hief Sustainable Investment #fficer, for his support. The opinions and comments e$pressed herein are, however, solely those of the author. Abstracts from this article may be reproduced sub%ect to acknowled ement of their source.

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1

The term Risk Passport was coined by the author to represent a form of globally recognised certificate of identity and origin

A proposal for a hybrid ESRM Metric #ur analysis is rounded in the observation that environmental and social issues within the broad financial sector are viewed differently dependin upon the nature of the investment. At one end of the spectrum, where providers of finance are pro$imate to the asset, e. . development and pro%ect finance, we see providers utilisin a ran e of environmental and social risk mana ement &'S()* tools, amon them the '+uator ,rinciples. These 'S() tools are used to identify, +uantify, allocate, price, mana e and miti ate &where possible* the '-S risks to which the underlyin asset.pro%ect and they as financial supporters could be e$posed throu hout its lifetime. At the other end of the spectrum, listed funds are remote from the asset and typically invest in corporate entities whose businesses may comprise many individual assets, some on balance sheet but many rin / fenced off/balance sheet in special purpose vehicles &S,0s*. 1und mana ers adopt a very different approach to investment compared with, for e$ample, pro%ect finance lenders. Their focus is on the risk/ return offered by the corporate and whilst reco nisin that constituent businesses can impact overall performance, they are not in a position to 2micro/analyse3 the individual parts. As passive or minority investors, they typically lack the ability to influence their investee companies, althou h recent initiatives such as the 45/,(I "learin 6ouse have been effective in mobilisin roups of investors whose collective shareholdin can produce a meanin ful en a ement with investees. 7iven the lack of ranular or pro%ect.asset level information available and hence analysis undertaken by listed fund mana ers, it could be ar ued that they lack the tools to mana e '-S risks effectively. The rowth in the number of si natories to 45/,(I, 45/7" and 7(I illustrates that a rapidly increasin number of asset owners and mana ers re ard 'S7 issues as important. When we e$amine these codes of practice, however, we can see that they focus primarily on what systems companies and their investors put in place to promote awareness of 'S7 issues rather than providin a set of practical tools for asset selection and mana ement. There are some recent initiatives which are attemptin to brid e this 'S() ap between the world of pro%ect.infrastructure finance and fund mana ement. 1or e$ample, the I1"3s Toolkit for ,rivate '+uity, based on the I1" ,erformance Standards, has been triallin for 8 months. Similarly, "D" &"ommonwealth Development "orporation* has its own toolkit which, as a fund of funds, it re+uires investee fund eneral partners to employ in order to confirm that "D"3s funds are ultimately invested in accordance with its '-S uidelines. Appendix 1 illustrates the current 'S7 &investment* and 'S() &lendin * codes of practice employed within the financial sector and hi hli hts some of the toolkits introduced by 'B(D, I1", "D" and 'I(IS desi ned to introduce more robust risk mana ement techni+ues to asset owners.mana ers. The drivers for these initiatives relate to the concept of Transactional Interfaces &see Notes to Appendix 4*, i.e. the reco nition that financial parties are more efficient at transactin risk if they employ similar methodolo ies for risk assessment. As discussed below, traditional providers of pro%ect finance i.e. asset/pro$imate limited.non/recourse fundin are comin under increasin pressure to reduce their e$posure as a result of bank re ulatory chan es to be implemented in 9:;<.

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Re !latory chan es affectin Pro"ect #inance Basle III9 which is to be phased in from =anuary ; 9:;< with full implementation by ; =anuary 9:;>, proposes a ran e of measures which could si nificantly affect the bankin sector3s provision of pro%ect finance. These include? ;. 'nhanced capital re+uirements@ A more ri orous definition of capital

It has been estimated< that Basle III could add A:/;;: basis points to a bank3s fundin costs compared with the current re ime, which they will look to pass on throu h their loan facilities. It is likely that those types of loan most susceptible to mar in increases will be those for which there is least competition, includin pro%ect finance and we mi ht therefore e$pect to see mar ins increase by between ;:: ! 9::bps. As a conse+uence, pro%ect sponsors will look to attract fundin from alternative sources. 9. Introduction of lobal standards for fundin li+uidity? 5et Stable 1undin (atio

4nder Basle III, assets with a maturity of reater than ; year &pro%ect finance typically falls in the ran e B/ ;: years* will need to be matched with liabilities with maturities of reater than ; year. 1or e$ample, a C;::m ;: year pro%ect loan could be matched by a C;::m ;: year liability or, a C;::m liability with a shorter &say < year* maturity which would need to be rolled over after a number of years &9*. The uncertainty and costs in refinancin a shorter maturity liability may discoura e banks from maturity mismatchin . <. Di+uidity "overa e (atio re+uirements.

Detters of "redit &D"s* and (evolvin "redit 1acilities &("1s* also come under Basle III scrutiny. Whilst ("1s do not play a si nificant role in pro%ect finance, bank D" facilities will need to be matched by a E &tbd* of hi hly li+uid &i.e. realisable within <: days*, unencumbered assets &held in the same currency*. The combined impact of these three measures is anticipated to include o o o o an increase in the cost of pro%ect finance loans a reduction in the number of banks en a in in pro%ect finance a narrowin of individual bank3s focus on particular sectors to those where they have core e$pertise and in support for key corporate accounts shorter pro%ect finance tenors in eneral &possibly only sufficient to cover the construction phase* with balloon final repayments

1aced with this contraction of supply and increased costs from traditional sources of pro%ect finance, sponsors will be faced with either? o o financin more pro%ects 2on/balance sheet3 diversifyin their sources of limited and non/recourse pro%ect finance

The former has ma%or implications for corporate balance sheets, corporate overnance and disclosure and is unlikely to be attractive. This leaves the challen e of attractin new institutions to pro%ect finance, not all of whom have the necessary e$pertise to evaluate and monitor the risks associated with this asset class. We can distin uish between those institutions which may facilitate this process by de/riskin and those who are a ood fit in terms of asset . liability matchin but may currently lack the confidence to participate. 'ach may participate directly in pro%ect finance or, as seems more likely in the case of pension funds, throu h a conduit &fund* structure.

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"asel ### is a comprehensi$e set of reform measures de$eloped by the "asel %ommittee on "anking Super$ision of the "ank of #nternational Settlements to strengthen the regulation& super$ision and risk management of the banking sector "asel ### builds on the #nternational %on$ergence of %apital 'easurement and %apital Standards document known as "asel ## and its subse(uent amendments )often called "asel ! *+ "asel ### is to be implemented in the European ,nion by way of the E, %R- #. -irecti$e and E, %R- #. Regulation / Pro0ect Finance "riefing February !11! 2 3atson& Farley 4 3illiams

#i !re 1 $

The role of Ratin s A encies and Credit Enhance%ent in pro%otin &nfrastr!ct!re ' Pro"ect &n(est%ent

Pension Funds
Good match of liabilities with PF assets 5ttracted by increased margins on PF 6ow le$els of PF e7pertise offset by in$estment through #nfrastructure Funds Target pro0ects with inde7-linked returns

Insurers / Reinsurers
Similar fit of liabilities as Pension Funds

%onduit %onduit

Pro!ect Bonds
Support from E#" )under the Europe !1!1 Pro0ect "ond #nitiati$e+& and other similar multilateral )555 rated+ institutions& e g credit support during the )highest risk+ construction phase subordinated lending )1st loss+ relati$e to bond holders

Infrastructure Debt Funds

,seful means by which Pension Funds& #nsurers etc can achie$e asset di$ersification without the need to hire their own e7pert teams

"redit Ratin# $#encies

e g Fitch& S4P& 'oodys will look at8 Stronger reco$ery rates of Pro0ect Finance debt $s similarly rated corporate debt %redit support from E#" et al

Rating

%redit Enhancement

Banks
e g EPF#s

European Investment Bank (EIB) / Kreditanstalt fr iederaufbau (Kf )

Pro$ision of Guarantees for senior and subordinated debt reduces the risk weighting of the asset and hence capital charges on the balance sheet

9ey8 6imited -irect #n$estment Facilitation Significant -irect #n$estment 'a0or -irect #n$estment

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The "oncept of a 2(isk ,assport3

,ro%ect finance documentation &See Appendix )* can be e$tremely comple$ &some would say unnecessarily so* and interdependent and e$plains, to some e$tent, why pro%ect finance takes a lon time to assemble. Where I1"/,S &See Appendix ** or similar principles &as employed by ',1Is, '"As, )DAs etc* are brou ht to bear, the environmental and social ramifications of pro%ects will increasin ly be identified and internaliFed into the underlyin a reements between stakeholders. We observe, that 2late sta e3 &e. . fund investors*, financial participants draw si nificant comfort, across the entire risk spectrum &i.e. commercial and political* from reco nised e$pert involvement. De facto, there is a dele ation of responsibility to these 2e$perts3 for upholdin 'S7 standards as they pertain to the underlyin asset. Date sta e participants will tend, therefore, to concentrate on ensurin that their investment selection criteria are %ud ed to be environmentally and socially sustainable and the manner of their disclosure to stakeholders in accordance with appropriate standards of overnance. &e. . 45/,(I, 7", 7(I*. (eferrin to our dia ram of an Asset or ,ro%ect "entric view of 'S() &Appendix 4* it would be impractical for subse+uent financial participants in the pro%ect, whether direct &e. . via a senior debt refinancin or securitiFation* or indirect &as an investor in either one of the sponsors and.or a private e+uity fund investin in the pro%ect company* to familiariFe themselves with the e$istin documents &includin covenanted performance and financial updates* in totality. The use of a summary document e. . a prospectus, may satisfy potential investors.lenders, but it is necessarily a snapshot of the asset. Dependin on the tar et audience, the level of detail will need to be balanced a ainst the de ree of technical and financial sophistication &to ether referred to as 2transactional skills3* available to them. In recent times, a rowin awareness of "S( issues have influenced the level of disclosure on 'S7 matters, but there is necessarily a dilution of the I1" !,S . ', level of information within such summary documents. &See #i !re ) below* #i !re ) $ Pro"ect &nfor%ation #lo+s, Transactional Skills, Stakeholders and -i.!idity

TI)'
-etail :;uan tity of #nfor matio n4 Trans action al Skills 2 -E%6 #<E o$er time

Pro0ect

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In attemptin to establish a common environmental and social risk mana ement &'S()* framework across the financial spectrum, a key challen e is to overcome the loss of accountability that comes with the necessary dilution of information. 1urther, whatever information is passed on needs to remain dynamic &i.e. benefit from re ular updates* rather than static i.e. investors want to firstly know that best 'S() practices are current and secondly have some mechanism &in addition to the invaluable 2watchdo 3

Si=e of Stake holder Group :5udi ence 4 6i(uid ity 2 #<%R E5SE o$er time

role of various 57#s* whereby they are alerted to any si nificant environmental and social issues as they arise. NOTE: The extent to which investors can influence outcomes in this regard is a separate consideration. The UN-PR ! "learing #ouse approach for concerted action is an example. One has to consider how investors can exert maximum leverage e.g. engagement vs divestment. Thus, an infrastructure fund mana er, for e$ample, will want some verification that the information packa e he is assessin is based upon current detailed asset/level reportin which is sub%ect to ri orous, on oin <rd party analysis and monitorin . We can think of this packa e as a kind of Risk Passport. The underlyin information is already reported and collated for 'S() at the asset level &e. . provided to senior pro%ect lenders*. What is needed, however, is a framework specifyin how that information can be formatted for use all the way alon the investment chain. G5#T'@ It is important that those with the appropriate toolkit for detailed 'S() do the formattin since they understand which elements are most critical to an understandin of the overall 'S risk profile of the asset.H /hat +o!ld a Risk Passport look like0 ;. The Dabel Approach ! StandardiFation

Advanta es Definin an IS# type of standard would provide an efficient 2binary3 identification of +ualifyin vs non/ +ualifyin assets. This would be attractive to fund mana ers in terms of asset selection and provide a strai htforward metric for analysts. We have discussed the widespread adoption of the I1" ,erformance Standards &I1"/,S* and the World Bank 'nvironmental, 6ealth and Safety 7uidelines &'6S* as lobal benchmarks of best practice in 'S(). Whilst these were ori inally employed as tools in the development of infrastructure pro%ects in developin countries, the I1" in particular has recently en a ed in an outreach pro ramme aimed at e$tendin their relevance to other asset classes. 'mbeddin the core of the I1"/,S and, where identified, other e$amples of best 'S() practice, into a 2standard3 could, therefore, compliment current outreach initiatives in buildin on a rowin familiarisation with ranular 'S() techni+ues. #bstacles to implementation A lobal standard has relevance only to the e$tent that it is reco nised lobally. We have seen that some of the most important rowth markets, notably India and "hina, have been reluctant to adopt ',. There are no uarantees that a si nificant number of institutions in these markets will review their position once ',III is firmed up &e$pected I< 9:;9*. At present, ', compliance, whilst facilitatin the assembly of an initial debt financin packa e &includin '"A and )DA support* does not convey any lon /term li+uidity benefits. 6ence, where, for e$ample, sufficient local financin &as is currently the case in India*on less onerous '-S terms is available, borrowers.sponsors lack any incentive to implement the hi hest standards of 'S() practice, particularly where doin so would involve near term increases in costs. If, however, there were some form of internationally reco nised accreditation that mi ht provide access to a broader ran e of investors in the medium to lon term, we mi ht see reater take/up than has been the case with ',. The role of "redit (atin s

#ne of the factors influencin li+uidity of both fi$ed income debt instruments and debt facilities &both senior and subordinated* is the credit ratin . Before considerin whether or not this form of accreditation could provide a model for the (isk ,assport concept, we e$amine the e$tent to which credit ratin s could already address the 'S() re+uirements of investors. "redit (atin s A encies

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=ames 7ifford +uoted in 'nvironmental 1inance &9<rd 1eb 9:;9*@ 2The Principles for Responsi$le investment %PR & secretariat has no role in policing how its signatories address environmental' social and governance %E()& issues*

The most e$tensive roup of ratin s a encies comprise those which assi n a 2credit risk3 metric to particular asset classes &issues* and the ori inators &issuers* of those assets. Standard - ,oors &S-,*, )oodys and 1itch are probably the best known, and each provides credit ratin s for pro%ect debt. Before considerin the e$tent to which they already play a role in identifyin '-S risks, let us briefly summariFe what these ratin s a encies do and, with specific reference to pro%ect finance, how they do it. +hen ratings meet investors, needs for relia$le ris- assessments' their value also extends to $orrowers see-ing flexi$le' economical funding in the capital mar-ets' and to intermediaries' regulators' savers' governments' economists' the financial media' and a host of other mar-et participants and o$servers. ./0 %credit& rating provides a.1passport1 to the glo$al capital mar-ets/*2 This +uote from )oodys hi hli hts the key elements of all credit ratin s and benefits that they can provide to a ran e of market participants. We then need to consider what is bein rated. /the a$ilit3 and willingness of an issuer' such as a corporation or state or cit3 government' to meet its financial o$ligations in full and on time. "redit ratings can also spea- to the credit 4ualit3 of an individual de$t issue' such as a corporate or municipal $ond' and the relative li-elihood that the issue ma3 default. A It is important to note that? 2J ratings express relative opinions a$out the creditworthiness of an issuer or credit 4ualit3 of an individual de$t issue' from strongest to wea-est' within a universe of credit ris-* %(5P&. With specific reference to pro%ect finance, S-, states? ...Our approach $egins with the view that a pro6ect is a collection of contracts and agreements among various parties' including lenders' which collectivel3 serves two primar3 functions. The first is to create an entit3 that will act on $ehalf of its sponsors to $ring together several uni4ue factors of production or activit3 to generate cash flow from the sale7provision of a product or service. The second is to provide lenders with the securit3 of pa3ment of interest and principal from the operating entit3. (tandard 5 Poor,s anal3tic framewor- focuses on the ris-s of construction and operation of the pro6ect' the pro6ect,s longterm competitive position' its legal characteri8ation' and its financial performance--in short' all the factors that can affect the pro6ect,s a$ilit3 to earn cash and repa3 lenders*.9 #i !re ) illustrates the five principle factors which S-, analyses in assessin pro%ect cashflow. A review of )oody3s and 1itch3s literature confirms that their approach is similar.

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*

,nderstanding Risk 2 The Truth about %redit Ratings http8::www moodys com:ratings-process:The-Truth-5bout-%reditRatings:11!11>111 .iewed !?:>:!11! @ Guide to %redit Ratings Essentials .1 > !111 http8::img en!* com:3eb:StandardandPoors:SPA%reditRatingsGuide pdf - .iewed !?:>:!11! ? ,pdated Pro0ect Finance Summary -ebt Rating %riteria Sept !11? http8::www standardandpoors com:prot:ratings:articles:en:eu:B articleTypeCDT'64asset#-C1!>*/!@@?E1!F .iewed !:*:!11!

#i !re ) 1 #actors considered +hen ratin Pro"ect Cashflo+ Risk

Pro!ect Desi#n
Contractual Composition Technology Construction and Operation Resource Availability Competitive Market Exposure Counterparty Financial Per ormance !Forecast" including the capital structure# coverage ratios and li$uidity

%ransactional structure
%s it an &P'( )o* is it permitted to operate %s it ring+ enced rom de ault o one or more sponsors(

Pro!ect Risk

&overei#n risk
including, Currency Restrictions -ationalisation

Business and le#al institutional development risk

Applies to developing markets *here institutional and legal rame*orks are immature and untested"

"redit en'ancements
Credit &trength o provider!s" Extent o enhancement"

1itch notes@ ...credit ratings do not directl3 address an3 ris- other than credit ris-. "redit ratings do not comment on the ade4uac3 of mar-et price or mar-et li4uidit3 for rated instruments' although such considerations ma3 affect %the agenc3*s& view on credit ris-' such as access to capital or li-elihood of refinancing.* and with respect to ,ro%ect and Infrastructure Debt (atin s ...the ratings do not /opine on an3 4ualit3 related to an issuer*s $usiness' operational or financial profile other than the agenc3*s opinion on its relative vulnera$ilit3 to default. %we& must $e confident that ade4uate ongoing data will $e availa$le to monitor and maintain a rating once assigned. In its 7eneral ,ro%ect 1inance (atin s )ethodolo y &7,1)* &Dec9:;:*8, )oodys says@

...there is a continuum $etween pro6ects and corporate issuers and' sometimes' classif3ing an issuer as a pro6ect or a corporate is not entirel3 straightforward' especiall3 when an issuer transitions from pro6ect finance to a more corporate form. t is worth noting that the anal3tical approach shifts as one moves along the continuum from a pro6ect finance issuer to a corporate issuer. (o for instance' for a true pro6ect finance issuer' the effective delineation and containment of the $usiness $eing the o$6ect of the pro6ect financing is ver3 important: conversel3' for a corporate issuer' diversification of $usinesses is in general a positive feature %su$6ect to
F

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Generic Pro0ect Finance 'ethodology -ec !111 http8::www moodys com:researchdocumentcontentpage asp7B docidCP"%A1!?>>@ .iewed 1:*:!11!

financing strategies&. (imilarl3' for a true pro6ect finance issuer' the de$t to capitali8ation ratio is not ver3 meaningful per se and it is expected that' over time' e4uit3 ma3 even $ecome negative as dividends are distri$uted to the sponsors in excess of net income. "onversel3' in a corporate issuer' a sta$le capital structure is expected and at least a material portion of the cash flows must $e retained to expand and renew the entit3. Pro6ect financings are $ased on the notion that ris-s in the transaction are identified upfront' allocated to transaction parties and mitigated where economical. The upfront ris- allocation' high leverage' and use of special purpose limited recourse financing vehicles sometimes invite comparisons to structured finance transactions. 0 -e3 distinction $etween the two areas of the capital mar-ets is the operational ris- of pro6ect financings' which re4uires an assessment of technical ris-s especiall3 around new construction wor-s' and the fact that pro6ect cash flows are dependent on operating performance -which ma3 var3 mar-edl3.*

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'B(D ! e tools for 1inancial Intermediaries The 'B(D provides its financial intermediaries with a ran e of tools contained in an e/manual> available online to assist them in environmental and social risk mana ement &'S()*. The aim is .to assist financial institutions to reduce financial' legal and reputational ris-s which ma3 arise in relation to environmental and social pro$lems experienced $3 customers' investees or other parties' and provide demonstra$le assurance /..that this aspect of ris- is $eing ade4uatel3 managed*;: Importantly, the procedures outlined are desi ned to be easily inte rated within the e$istin transaction appraisal.risk mana ement processes. This, in theory, enables institutions to assess the value added by these procedures without havin to abandon their in house methods. When discussin pro%ect &debt* finance, particularly that which supports e$traction of mineral resources, the environmental and social risks are immediately apparent and e$plain why somethin like the I1"/,S and '+uator ,rinciples came into e$istence as tools for 'S(). '+uity investment in a company can be more complicated and may re+uire, ar uably, 'S() tools at least as ri orous as those employed by lenders. '$actly what form those tools should take will depend on a number of factors includin ? o o o o the level of control and influence e$ercised by the investor &i.e. passive &small minority* or active &si nificant or even ma%ority* investment* the specific industry &ies* in which the investee company is involved the siFe of the investment whether the investment is listed or private

,assive vs Active If we consider a pro%ect finance loan, it may account for anythin up to K:E of the total construction cost of a pro%ect. Denders +uite ri htly, therefore, enshrine within the loan documentation a wide ran e of mechanisms whereby if necessary, they can increasin ly influence the activities of the borrower. Individual syndicate banks, however, may hold less than KE of the total debt and are heavily reliant on the a ent or arran in banks to represent their views and ne otiate on their behalf with the borrower. '+uity investors tend not to operate in the same manner. Investments are most often bi/lateral and typically, with the e$ception of private e+uity, constitute a small minority position or passive investment. We know that environmental and social issues can present risks to a company3s financial performance and are therefore important to all investors, active or passive. The difference between the two lies in the e$tent to which they are able to en a e with and influence the behaviour of the investee, an important part of risk mana ement. The 45/,(I "learin 6ouse is an e$ample of current activities desi ned to enhance the ability of passive investors to behave like active ones and is analo ous to the role of an a ent bank discussed above. 6owever, as 'B(D points out,

.the environmental and social due diligence and monitoring of passive investments is su$6ect to significant constraints.*;; Before we e$amine what these are, it is worth statin that the value of passive, lar ely listed, investments lobally far outwei hs the combined value of active investment &includin private e+uity* and pro%ect
E

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http8::www ebrd com:pages:about:principles:sustainability:intermediaries:implementationAtools shtml G$er$iew of e-manual E"R- e-manual for ESR' 2 Passi$e #n$estments

11 11

finance. What we currently have, therefore, is a situation where the best 'S() tools are available to and used by only a minority of those institutions providin corporate and pro%ect fundin . This is the key challen e +hich this paper seeks to address2 Table 1 below e$amines the constraints facin passive investors Table 1 $ #eat!res of Passi(e &n(est%ent and the associated i%pact on ESRM

#eat!res of Passi(e &n(est%ent SiFe of investment &amount* or E of total e+uity share of investee company The lack of a direct dialo ue with the investee company &less so with unlisted investment* )any &particularly listed* e+uity investments are short term Investment decisions are often confidential Dar e investee companies may have activities spannin several industries, each incorporatin holdin s &fre+uently via 2off/balance sheet S,0s* in a number of pro%ects worldwide o

&%pact on ESRM 'conomically, it may be impossible to %ustify the e$pense of conductin e$tensive due dili ence &includin the recruitment of analysts* (eliance on publicly available sources of information which may be out of date and.or difficult to verify Dack of sufficient time within the investment.divestment cycle to conduct e$tensive due dili ence Dimited scope for due dili ence on tar et company Impossible to conduct 'S() due dili ence on all holdin s

o o o o

4nless the local le islation includes specific disclosure re+uirements &cf. above*, it may be difficult to obtain environmental and social information on companies as an ordinary shareholder who may have to rely on publicly accessible sources such as media or internet. It is unlikely that the individual investor has any levera e on such matters. 5evertheless, the Investor can impress upon the investee company its environmental and social concerns and divest should the situation warrant this.

1or passive investments it is impractical to actively monitor environmental and social risk associated with individual investments. The Investor should monitor the press and publicly available information for indications that investee companies are e$periencin environmental or social problems. The Investor will need to consider its options in such cases which may include divestment. As mentioned in the previous section, it may be possible in the case of more active or direct investments to place the onus upon the investee company to notify the Investor of material environmental, health and safety, labour or community issues which may affect the financial or reputational status of the company or the Investor. The Investor should re+uire that the investee company takes measures to address these issues. The Investor should be prepared to divest its e+uity position where the 'uropean Bank3s 'nvironmental and Social ,olicy continues to be compromised beyond the time construed as reasonably acceptable for the investee to redress such issues.

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Appendix 1 $ ES3 Standards and ESRM Tools in the #inancial Markets )41)
9EH8 9EH8
EE SS GGPP r irn ci le oo dd es in cp ip ls e s: :%% es %% re i ti&t &EE SS GGo o r rEE SS RR ' ooo l sl s rd ed 'TT FF in an ci ro dd uu ct in an ca il a lP P ro cst s "" an kk s &s &55 sse ww nn er sse an ag er 66 55 s &s &-FF #s an st e tGG es r &s &55 st e t' ' an ag es r &s &' ' #s TT ar et $$ es ag rg e t# n #n e tse te s es EE SS GGRR at gg s &s &%% re i ti tRR at gg s s55 gg en ci GG GG ss aitn in rd ed aitn in en ce is e &s &<<

(atin s A (atin enciess A encies

Banks &',1I s* '+uator ,rinciples

45 7lobal "ompact &45/7"*

57#s 57#s

"redit (atin

"orporate Dendin &Lnown 4ses*

Bond

Senior Debt

Subordinated Debt

,(I Toolkit

'I(IS 'I(IS "orporate &Disted* 'S7 (atin "ompany . "ountry Asset #n/B.S

Investment &#ff/B.S* SP. #n$estment

45/,(I

5ew (eportin 1ramework

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Asset #wners. )ana ers "orporate &4nlisted* #n$estment 'S() e/manual #n$estment 'B(D 'B(D/,( I1" I1"/,S 'S() Toolkit ,rivate '+uity 1und 'S() Toolkit "D"

Appendix ) $ Asse%blin a Pro"ect #inancin

Shareholders A ree%ent 516 Sets out details of share capital, votin , resolution of disputes, mana ement of S,0 and disposal and pre/emption ri hts

Pro"ect Co%pany 5SP;6 5)6

5e otiates key a reements with other parties Tripartite 57irect6 A ree%ent 51*6 'stablishes a direct relationship between the lenders and the counterparties to the pro%ect a reements &the "ontractors*. Sets out the circumstances in which the lenders may step in under the contracts to remedy any default. 'nables lenders to miti ate losses where an S,0 is failin .

Concession 7eed 5*6 A reement between S,0 and the contractin authority &often 7ov3t* settin out the obli ations of each party.

Sec!rity 7oc!%ents 51)6 Denders re+uire a security packa e comprisin fi$ed and floatin char es over the assets of the S,0, assi nments of revenues, pled in of accounts, assi nment of all a reements under which the S,0 is the beneficiary, assi nment of all ,ro%ect A reements, assi nment of all intellectual property owned by the S,0 and a pled e of S,0 stocks and shares.

Constr!ction Contract 546 A reement between S,0 and construction company . e+uipment supply companies. )ost common form is 2en ineerin , procurement and construction turnkey contract3 &'," "ontract*, which provides for the contractor to build and deliver the specified pro%ect at a certain pre/ determined price, by a certain date and with certain warranties re ardin its performance.

8perations and Maintenance Contract 589M6 5:6 Where the S,0 lacks the e$pertise to run the pro%ect, it dele ates the operation to an e$perienced operator &often one of the sponsors*.

&ntercreditor A ree%ent 5116 Between the main creditors &providers of fundin * of the S,0. This sets out the common terms applicable to all creditors and the varyin ri hts of different creditors with respect to timin . order of drawdown, timin . order of repayment &includin cash capture throu h a 2"ashflow Waterfall3*, votin ri hts &if any*, cross/defaults and notification obli ations, etc.

-oan A ree%ent 5146 7overns the relationship between the Borrower and the Denders. It sets out the basis on which the loan can be drawn and repaid. In addition to clauses found in traditional corporate loan a reements, it will contain specific re+uirements related to the pro%ect includin "onditions ,recedent &",s*, Availability ,eriod, Drawdown and (epayment Schedule, Interest (ates and 1ees, 1inancial "ovenants, (epresentations and Warranties and Dividend (estrictions.

ESG - Focus

8ff1Take A ree%ent 5<6 An a reement between the S,0 and the party&ies* who is buyin the product&s* or service&s*. This can take a variety of forms dependin upon the product and the level of risk sharin which the S,0 wishes to undertake. G5#T'@ ,ro%ects may also be financed on a 2)erchant Basis3 where parties take market risk on the price and demand for the product or serviceH

S!pply A ree%ent 5=6 An a reement between the S,0 and the suppliers of the re+uired raw materials . feedstock . fuel. G5#T'@ It is important that the terms of this contract match those of the #ff/take A reement in order that the S,0 is not e$posed to pay for inputs it cannot use.

Ter% Sheet 5?6 Sets out the a reement between the Borrower &S,0* and the lender&s* with respect to the amount, cost and availability of the financin . The Term Sheet forms the basis for credit approval within banks and, to ether with the )andate Detter, is used by the arran ers when syndicatin the debt.

Mandate -etter 5>6 Between the S,0 and the Dead Arran ers of the ,1. "overs the appointment of the arran ers, their commitment to underwrite the debt and the associated fees . mar ins &as contained in the Term Sheet*, and certain conditions &e. . market fle$, material adverse chan e, clear markets, due dili ence etc.*

Appendix 1 $ Notes Appendi$ ;illustrates a eneric pro%ect structurin cycle from the initial establishment of the pro%ect company &S,0* to financial close &which is achieved once all the 1inance and ,ro%ect Documents are si ned*. The duration of this cycle is usually measured in years and it is durin this period, prior to the in%ection of capital, that a detailed consideration of the environmental and social impacts of the planned pro%ect can influence the content of both the pro%ect documents and the finance documents. ,ro%ect Documentation &<, M, K, A and B* ! 'nvironmental and Social Issues / Implementation 1orei n direct investors have a si nificant role to play here in ensurin that 2best practice3 is followed, particularly in locations where national laws and.or systems of re ulation are lackin . "ompetition between forei n investors, however, particularly when they are also involved in ether the supply of e+uipment and materials and.or the operation of the pro%ect, can result in commercial pressure to dilute some of the re+uirements relatin to environmental and social impacts. This hi hli hts the need for CSR considerations o be e%bedded thro! ho!t an or anisation rather than offerin a co%petin (ie+ of the +orld to a sales ' re(en!e dri(en c!lt!re2 1inance Documentation &8, >,;:,;;,;9 and ;<* ! 'nvironmental and Social Issues ! Accountability and Transparency Throu h carefully crafted documentation, lenders can ensure that both the borrower &S,0* and the contractin parties are obli ed to follow reco niFed uidelines in implementin the pro%ect. Inevitably, establishin and effectively maintainin systems to meet, for e$ample, the I1"3s ,erformance Standards, imposes si nificant short/term costs on the pro%ect and can re+uire several months, even years, to complete. Sponsors may, therefore, be tempted to seek less onerous terms and conditions where, for e$ample, the supply of local lendin is sufficient to fully finance the pro%ect2 These sa%e press!res can be felt by banks co%petin for arran in %andates and %ay, to so%e extent, explain +hy fe+ if any banks in co!ntries like &ndia ha(e si ned !p to the E.!ator Principles2

ESG - Focus

Appendix * 1 &#C S!stainability #ra%e+ork 5&#C1S#6 and &#C Perfor%ance Standards 5&#C $ PS6 $ Scope and Reach

S!stainability #ra%e+ork )41) $ 7efinition o o o o Articulates I1"3s commitment to Strate ic Development An inte ral part of I1"3s approach to (isk )ana ement ,rovides uidance &internally and to clients* on how to identify risks and deal with them Desi ned to help clients avoid and miti ate adverse impacts and mana e risk as a way of doin business in a sustainable way

S!stainability #ra%e+ork $ Chan es +ith effect fro% )41) o o o o o o o o o Access to &nfor%ation Policy &AI,* &formerly 9::A Disclosure of Information ,olicy* ! a response to the reco nition that I1" needs to improve Stakeholder Awareness - "ommunication throu h reater Transparency and more fre+uent (eportin Increased reco nition of the importance of "limate "han e ! e. . lowerin of 767 reportin thresholds Ti htenin of wordin on @!siness and H!%an Ri hts ! e. . human traffickin #ree Prior and &nfor%ed Consent &1,I"* ! clear definition to clients and uidance on how to implement it Cate oriAation of pro"ects ! more robust to ali n with World bank and other D1Is ! likely to double E of "ate ory A &6i hest risk* Ne+ 3!idelines for #inancial &nter%ediaries &1Is* ! 1Is will be re+uired to develop and implement 'S() systems in accordance with e$istin and prospective environmental and social risks in their portfolio&s* S!pply Chains ! re+uirements &to be proactive in ensurin that ,S are met within the supply chain* stren thened whilst reco niFin the limits on the sphere of influence dependin on position within the supply chain. &%ple%entation ! each ,S comes with a 3!idance Note 8!treach ! throu h I1" Sustainable Business Advisory unit

> Perfor%ance Standards ,S;/ Assess3t - ) t of 'nv3t and Social (isk - Impacts ,S</ (esource 'fficiency - ,ollution ,revention ,SK/ Dand Ac+uisition - Involuntary (esettlement ,SB/ Indi enous ,eoples ,S9/ Dabour - Workin "onditions ,SM/ "ommunity 6ealth, Safety - Security ,SA/ Biodiversity ) t and Sustainable ) t of Divin 5atural (esources ,S8/ "ultural 6erita e

ECBAT8R PR&N&CP-ES #&NANC&A- &NST&TBT&8NS 5EP#&s6 o o o o B< 1inancial Institutions &9 Associates* ,ro%ect 1inance Specific 'stablished in 9::< "urrently under oin ',III (eview

ESG - Focus
o EEP8RT CRE7&T A3ENC&ES 5ECAs6 of 8EC7 <9 A encies

/H8 BSES THESE0

EBR8PEAN @AND #8R REC8NSTRBCT&8N 9 7E;E-8PMENT 5E@R76 o )odelled their ,erformance (e+uirements on I1"/,S

PR&;ATE SECT8R C8MPAN&ES

EBR8PEAN 7E;E-8PMENT #&NANCE &NST&TBT&8NS 57#&s6 Includin "D"

@BS&NESS ASS8C&AT&8NS

Appendix 4 $ Asset or pro"ect centred ESRM $ The Players, Prod!cts and Principles
/0 /e Financial Products n /0 /e Credit Enhancement n /0 /e "d'isory n /0 /e Pri'ate Equity In'estors n /0 /e n
2

Contracted Parties

E1port Credit "!encies

E # R # S
1

/ 0 / /e 0 n / /e 0 n / /e 0 n / /e 0 n /e 2 n (e'elop )t Finance ((FIs)

(e'elopment Construction 6peratin! efinancin! Securiti-ation

is/ is/ is/ is/ is/

Financial "rran!ers 2

Pri'ate Equity Funds

Pri'ate Equity

Supplier Finance Technical "d'isors

5

Host Go'ernment
3

e t c
1

Securiti-ation
1
1 0

Suppliers (Equipment) Suppliers (Ser'ices)

Financial "d'isors 2
1

Credit 5rap

(e0t
1 refinancin! 6

"sset Sale

Financial "d'isors 4

Financial "d'isors *
4 4 2

Pro"ectC o Asset

Equity

&
2

atin!s "!encie s
7

Political

is/ Insurance

Pro&ect Sponsors
2

Equity Equity

Financial "rran!ers *

1 1

Pri'ate Equity Funds

ESG - Focus
8

+enders (,e--anine)

+enders (2) (Senior +3T +imited ecourse (e0t)

,e--anine (e0t

1 2

Senior +enders (*) (.an/s$ ,+"s) Senior (e0t

< G G9 s
7

Equator Principles (EP)

National ESG Standards

Technical EHS Standards

atin! "!ency

ESG

atin!s (e%!% EI IS)

IFC Performance Standards

Corporate ESG Standards

Financial Standards

#NP I$ GC$ G I etc%

1 0

Corporate Go'ernance (e'elopment Frame7or/ (CG()

Dey to Appendix 4 "ontracted ,arties &includin advisors, credit enhancers. uarantors and insurers* ! &in order of contractual pro$imity to the underlyin asset* o Host 3o(ern%ent ! in addition to settin the national re ulatory environment, a overnment3s contractual involvement may take a number of forms includin @ o ,artnership / a risk.benefit sharin e$ercise with private sponsors e. . co/lendin alon side commercial banks and .or providin uarantees &a ainst political risks* for commercial debt. o "oncession ! whereby the private party is iven the ri ht to use land etc. for a specific period for a defined purpose o Dicence ! whereby the private party is iven the ri ht to own or use somethin o ,rivatiFation ! whereby assets are transferred to private ownership and mana ement
3

'S7 Standard@

5ational Standards which may incorporate international elements &includin reference to World Bank '6S ,ro%ect Sponsors.owners, ,ro%ect"o.

Transaction ,artners@ o

Pro"ect Sponsors ! dependin on the nature of the pro%ect.asset this will usually be a combination of a local partner &possibly already contracted with the host overnment* forei n industrial partners, e+uipment.services suppliers and financial investors &includin seed capital providers and D1Is*. It is not uncommon for the domestic partner to contribute e+uity in kind &e. . a physical and.or contractual asset* whilst forei n partners would typically contribute finance.
4

'S7 Standards@

"orporate 'S7 codes which, dependin on the nature of the sponsor, may be more accountability/based &e. . 7(I, 7lobal "ompact, 45/,(I* and.or, if an industrial partner, may incorporate specific sector based standards &e. . World Bank '6S* "o/sponsors, host overnment, lenders, insurers, suppliers, off/takers &if sales are contracted*, advisors, ,ro%ect"o.

Transaction ,artners@ o

7e(elop%ent #inance &nstit!tions 57#&s* ! includes I1", Asian Development Bank &ADB*, "D" 7roup ,lc &4L*, 'uropean Investment Bank &'IB* and 1)# &5etherlands*. "an en a e in early sta e e+uity investment &seed capital* as well as providin a ran e of advisory and arran in capabilities &e. . commission and evaluate feasibility studies, develop financial models, or aniFe and evaluate market studies, select and supervise pro%ect advisors, structure the D.T finance, ne otiate financial, commercial and le al terms of pro%ect a reements, obtain pro%ect assets and permits and source pro%ect e+uity and debt financin * in return for a minority carried e+uity interest.
1 2
1 0

'S7 Standards

'+uator ,rinciples &e. . 1)# and LfW &7ermany**, I1"/,S, and "orporate 7overnance Development 1ramework,. ;9 Sponsors, technical advisors, ,ro%ect"o., host overnment, senior lenders, meFFanine finance providers, suppliers, financial advisors, 57#s

Transaction ,artners

Technical Ad(isors ! these may be employees of one of the sponsors or e$ternal 2e$perts3. They will typically have to comply with trade association standards but should also be co nisant of and take in account the industry/ specific 7ood International Industry ,ractice &7II,*;< contained in the World Bank3s 'nvironmental, 6ealth and Safety &'6S* 7uidelines.
5

'S7 Standards

Technical '6S Standards &7II,*, ,rofessional Bodies Sponsors, host overnment, lenders, D1Is, '"As, ,ro%ect"o.

Transaction ,artners@ o

#inancial Ad(isors 1 ! these may be independent advisors, D1Is, or pro%ect finance banks &not part of the lendin roup* and may provide financial advice and structurin services in con%unction with other services &see D1Is above*.

1! 1/

http8::www cgde$elopmentframework com:

http8::www1 ifc org:wps:wcm:connect:**>eFdF1>FF@*Fe>b?@af?@a@*1*bb1F:FinalI!"-I!"GeneralI!"EDSI!"Guidelines pdfB 'G-C5JPERES

'S7 Standards

1 0

1inancial advisors may be si natories to ', and.or "7D1 but will, in any event, need to be co nisant of and apply;M the standards likely to be re+uired by lenders &some of whom may be ',1Is or, in the case of many '"As and D1Is, applyin 'S7 principles based upon the I1"/,S.* Sponsors, host overnment, financial arran ers, lenders, insurers, suppliers, off/ takers, uarantors, technical advisors, ,ro%ect"o.

Transaction ,artners@

S!ppliers 5e.!ip%ent6 ! these may be part of the sponsor roup &there may be a connection between e+uity contribution and.or finance offered and the award of a supply contract*. )ay be intimately involved in the desi n of the asset and durin the construction phase. )ay sub/contract &partially* to local companies.
4 5

'S7 Standards

'+uipment will need to meet reco nised industry standards and the companies themselves 'S7 policy may reflect elements of risk mana ement codes &e. . World Bank '6S* and reportin frameworks &e. . 7(I*. Sponsors, other suppliers, '"As, 1inancial Advisors ;, 1inancial Arran ers ;, ,ro%ect"o.

Transaction ,artners@

S!ppliers 5ser(ices6 / may be part of the sponsor roup &there may be a connection between e+uity contribution and.or finance offered and the award of a supply contract*. )ay be intimately involved in the desi n of the asset. )ay sub/contract &particularly durin the construction phase* to local companies.
4 5

'S7 Standards

,erformance of services will need to comply with local re+uirements e. . w.r.to employment conditions and, dependent on the scope of the services rendered, meet the standards of performance &includin reportin and monitorin * enshrined in the pro%ect documents and where applicable, the underpinnin 'S7 codes. Sponsors, other suppliers, '"As, 1inancial Advisors ;, 1inancial Arran ers ;, ,ro%ect"o.

Transaction ,artners@

#inancial Arran ers 1 / It is not uncommon to see the same institutions competin for arran in and advisory roles, since both re+uire an intimate knowled e of the entire ran e of contracts overnin pro%ect finance.
1 2
1 0

'S7 Standards

1inancial arran ers may be si natories to ', and.or "7D1 but will, in any event, need to be co nisant of and apply;K the standards likely to be re+uired by lenders &some of whom may be ',1Is or, in the case of many '"As and D1Is, applyin 'S7 principles based upon the I1"/,S.* 1inancial advisors, lendin banks, sponsors, suppliers &e+uipment - services*, '"As, )DAs, ,ro%ect"o.

Transaction ,artners@

Senior -enders 1 / "omprisin a roup of underwritin banks &i.e. those prepared to take some syndication risk* and syndicate banks &typically smaller with limited pro%ect.asset finance capability*. Arran ers and underwriters will often be ',1Is &e$ceptions are some of the rapidly rowin markets, e. . "hina and India* where the debt may be syndicated solely amon domestic institutions, none of whom are ',1Is. To the e$tent that there may be )DA and.or '"A participation, I1"/,S or similar 'S7 codes may be applicable.
1 2
1 0

'S7 Standards

The ne otiation of pro%ect financin terms &includin the 'S7 monitorin and reportin re+uirements* is undertaken by the arran in bank&s*. Some of the smaller loan participants may lack a robust internal 'S() procedure and rely upon the e$pertise of more senior lenders to apply the re+uired standards. Below the level of arran in banks, lenders will have little direct en a ement with sponsors, the ,ro%ect"o, suppliers, )DAs and '"As. All communication will tend to flow throu h the A ent bank &for payments, re+uests for waivers etc.* and the

Transaction ,artners@

1>

The e7ception would be where the pro0ect was being financed wholly by banks and other institutions )usually domestic+ who are not signatories to EP #t should be noted& that failure to enshrine #F%-PS:EP compliant measures within the finance and pro0ect documentation does not necessarily imply that the underlying pro0ect would not be capable of complying with these ESR' codes were they to be subse(uently re(uired )e g when refinancing+ 1* The e7ception would be where the pro0ect was being financed wholly by banks and other institutions )usually domestic+ who are not signatories to EP #t should be noted& that failure to enshrine #F%-PS:EP compliant measures within the finance and pro0ect documentation does not necessarily imply that the underlying pro0ect would not be capable of complying with these ESR' codes were they to be subse(uently re(uired )e g when refinancing+

relevant arran er &information updates*. t is important to note that this is the first part of the financing chain where we see a significant reduction in the degree of active involvement in and influence over the details of the pro6ect structure. o -enders 5MeAAanine6 / Sometimes referred to as =unior Senior Debt, )eFFanine debt sits lower in the priority of payout than senior debt and is therefore more e$posed to default risk in the event of pro%ect failure. It will carry a risk premium, typically 9 to ME over senior debt mar ins, and may e$tend for maturities beyond that of senior debt. )eFFanine fills the ap between the supply of e+uity and senior debt. ,roviders may be pro%ect sponsors, banks or even suppliers, and hence the 'S7 principles applied can vary widely. As the source of meFFanine finance is so diverse, the 'S7 standards overnin these flows are e+ually varied. It is important to note that meFFanine finance is less of a 2deal driver3 i.e. it is not as important an element in determinin the financin structure nor does it tend to influence the underlyin physical pro%ect. )eFFanine finance is closely linked to senior debt and providers will want to ensure that actions taken on behalf or senior lenders do not compromise their position. This is particularly the case where 'vents of Default &payment* result in a financial restructurin . 1rom a ,ro%ect"o &borrower* perspective, meFFanine debt is e$pensive and will therefore be tar eted for a &cheaper* re/financin as soon as markets for the underlyin asset risk improve.

'S7 Standards ! Wide ran e

Transaction ,artners@

Political Risk &ns!rance ! ,(I is particularly relevant for pro%ects undertaken in developin markets where political, le islative and re ulatory frameworks are sub%ect to fre+uent and or si nificant chan e in the short to medium term. )ain providers include '"As and )I7A &part of the World Bank 7roup*.
2

'S7 Standards

I1" ! ,S based standards will typically be applied. 6owever, it is important to note that ,(I providers may not be involved in the ne otiation of early finance documentation and may, therefore, be used as a 2Tro%an 6orse3 to force throu h amendments at a late sta e to make the financin compliant with I1" ! ,S. Suppliers, lenders &all cate ories*, sponsors, host overnments

Transaction ,artners@ o

Export Credit A encies 5ECAs6 ! '"As in #'"D countries operate under < models ! independent companies &e. . SA"' in Italy*, overnment departments &e. . '"7D in 4L, 4S '$im in 4S* and private companies providin outsourced services to overnment &e. . "#1A"' in 1rance*. In each, they typically follow I1"/,S uidelines as well as followin the Arran ement on #fficially Supported '$port "redits &the #'"D "onsensus* whose aim is to establish a level playin field amon #'"D e$portin nations. '"As provide uarantees and insurance with re ard to both the political and commercial risks associated with the supply of oods and e+uipment. &See comments above for ,(I w.r.to Tro6an #orse issues*
1 2

'S7 Standards

As well as basin their decisions on I1"/,S, some '"As &4S '$im, '$port Development "anada and LfW &7ermany** are ',1Is. Suppliers, lenders, sponsors, host overnments

Transaction ,artners@ o

N38s ! may be national or international with a broad watch &e. . environmental and social* or a focus on specific issues &child labour, species endan erment, water pollution etc.*. Sponsors and.or lenders may choose to en a e with 57#s at the plannin sta e in order to miti ate the risk of later potential conflicts. A number of lenders routinely consult with 57#s in formulatin their 'S7 policy. Whilst not si ned up to any particularly 'S7 code or codes, 57#s play an important part in their formulation and evolution &e. . I1"/,S 9:;9 and ',<* and, in the absence of <rd party auditin , hold corporates and institutions to account &typically on a pro%ect by pro%ect basis*.
N

'S7 Standards Transaction ,artners@

57#s will typically set 'S7 tar ets beyond current standards 57#s are not & enerally* contractual partners to the financin . They may, from time to time, however, en a e will all other parties where they feel they can brin about chan e and it is not inconceivable that an 57# could be en a ed as a technical advisor.

-enders ) ! 9nd sta e senior debt may be accessed either to finance an e$pansion of the ori inal facility or to refinance all or part of the ori inal debt. In each case, the level of 'S() practiced will have been established by the ori inal finance documents and there will be minimal scope for amendments.enhancements thereto. The

providers will usually be a subset of the ori inal senior bank roup althou h due to the timin &post the hi h risk construction phase*, such lendin can be attractive to institutions with fewer ,1 credential and a lower risk.reward appetite. &An e$ample mi ht be banks wishin to develop or enhance their relationship with one or more key sponsors*. 'S7 Standards
1 6 2

To the e$tent that the debt is overned by an Intercreditor a reement, it will de facto benefit from the same 'S() framework established in the first round financin . If financin a discrete 2phase3 of a pro%ect, it is theoretically possible, albeit unlikely, that a different set of 'S7 uidelines would apply. Sponsors, suppliers, 1inancial Advisors 9, 1inancial Arran ers ; - 9, Senior Denders ;, Denders &)eFFanine*. &5ote@ Depends on whether security and cashflow 2waterfall3 is shared*.

Transaction ,artners@

#inancial Ad(isors ) ! At the re/financin sta e, the financial advisors3 primary task will be to improve on the cost of financin to match the reduction in risk associated with the transition from construction to a mature operatin phase where cashflow eneration is proven. They will also look to put in place lon term financin structures includin &potentially* securitiFation of the asset throu h a credit enhanced bond placement. Where advisin on 9nd sta e &e. . e$pansion* facilities, their approach will mirror that for the ori inal financin to the e$tent that the two assets are kept separate in terms of security and cashflow. #ften, however, e$pansion will be financed by the same lenders and some form of security sharin will be put in place.
1 6 2

'S7 Standards

To the e$tent that the debt is overned by an Intercreditor a reement, it will de facto benefit from the same 'S() framework established in the first round financin . If financin a discrete 2phase3 of a pro%ect, it is theoretically possible, albeit unlikely, that a different set of 'S7 uidelines would apply.

Transaction ,artners o #inancial Arran ers ) ! The need for a financial arran er at the refinancin .e$pansion financin sta e will depend on the debt instruments bein proposed by the 1inancial Advisor 9. 1or e$ample, if a 9nd tranche of D.T senior debt is bein raised, then it would be common for the ori inal senior lenders to form the core of that roup includin the ori inal arran in bank&s*. If, however, the ori inal debt is bein replaced with cheaper D.T debt from alternative sources &e. . investors in a rated pro%ect bond*, then the structurin and marketin may be undertaken entirely by the 1inancial Advisor.
1 6 2

'S7 Standards

To the e$tent that the debt is overned by an Intercreditor a reement, it will de facto benefit from the same 'S() framework established in the first round financin . If financin a discrete 2phase3 of a pro%ect, it is theoretically possible, albeit unlikely, that a different set of 'S7 uidelines would apply. Sponsors, 1inancial Arran ers 9, Denders ;, Denders 9, ,rivate '+uity 1unds, (atin s A encies, "redit Wrap providers &monoline insurers ! currently only Assured 7uaranty has a AAA ratin *

Transaction ,artners

#inancial Ad(isors * ! At the sta e where a mature operatin asset is partially sold &e$it of one or more shareholders* or sold in its entirety, the shareholders may en a e a financial advisor. Dependin on the terms of any Intercreditor A reements, this may necessitate re/financin all or part of the debt in the pro%ect company.
4 6 2

'S7 Standards

In preparin the prospectus for sale, particular attention will be paid to the disclosure of operatin and financial performance, market conditions etc. &i.e. a standard SW#T analysis* rather than a detailed review of compliance with a set of 'S7 principles. ,otential ac+uirors will have their own 'S7 re+uirements but these enerally will be less specific than those adopted by &or imposed upon* the initial shareholders. Shareholders &initial*, Shareholders &incomin , includin ,rivate '+uity &,'*, ,' 1unds, Denders &e$istin *, Denders &incomin *, any other parties affected &throu h Intercreditor arran ements* by the sale.

Transaction ,artners

,rivate '+uity. ,' 1unds /

Notes to Appendix 4 $ Asset or Pro"ect Centred ESRM $ The Players, Prod!cts and Principles Nones of (isk #ur analysis focuses on the financin of an asset or a pro%ect over time, from the initial concept and desi n, the Development (isk phase, throu h to the 2corporatiFation of the asset i.e. where it ceases to be a standalone entity but becomes subsumed into one or more corporate entities, what we have called the SecuritiFation (isk phase. The transition from one risk phase to another reflects a number of factors includin ? ;. 9. <. M. K. A. B. ,olitical 1actors e. . obtainin licences, concessions etc. before construction can start ,hysical 1actors e. . overcomin particularly problematic or hostile physical challen es on site Social 1actors e. . securin the support of local communities Dabour Issues e. . ensurin the availability of an appropriately skilled workforce durin plannin , construction and operatin phases )aterials and '+uipment e. . the performance of critical components )arket 1actors e. . the availability of raw material inputs or demand for pro%ect outputs 1inance e. . the availability and pricin of appropriate forms of finance

Appendi$ < illustrates the players, products and 'S7 codes or principles that are typically involved durin each of the risk phases. The transition from one phase to another is typically marked by what we term 2transactional interfaces3 ! i.e. parties transact risk. An e$ample would be a Development 1inance Institution &D1I* which has invested e+uity &sometimes called Seed "apital* in developin the pro%ect to the point where construction can be in. At this point, the D1I may be refinanced by less e$pensive D.T bank debt. Transactions at the risk interfaces may involve counterparties with similar thou h not identical risk appetites and comparable technical e$pertise. An e$ample would be a D1I and a leadin pro%ect finance institution e. . an ',1I. Such institutions employ similar 'S() 2toolkits3 and hence information flows and risk allocations and the pricin of that risk are efficient.;A As we move further away from the underlyin asset both in terms of time and the evolution of risk from the Development ,hase throu h to the #peratin ,hase, we encounter transactional interfaces involvin counterparties with dissimilar risk.reward appetites, technical e$pertise and 'S() toolkits. G"ite e$ampleH #nce a pro%ect has been operatin for a period of time, many of the uncertainties e. . technolo y risk, demand risk etc, have diminished to the point where the universe of institutions willin to provide lon term finance has e$panded. This, in the absence of any eneral ti htenin in the credit market, provides the opportunity to re/finance at lower cost and is typically where pro%ect finance banks and other repositories of si nificant technical e$pertise, e$it the pro%ect. The loss of transactional 'S() tools and the skills to employ them that can accompany this e$it is an area of concern. We have already identified the e$tent to which some leadin ',1Is have taken the underlyin components of ', and I1" ! ,S and either applied that modified toolkit to other financial products, e. . 6SB" and '$port "redits or more broadly embedded key '(S) components across all their financin activities e. . WestDB. '$tendin those efforts e$ternally, the I1"3s Sustainable Investment Advisory 7roup has &since 9:;:* broadened its outreach efforts to institutional investors, e$amples of which include@

I1" &and I1" Asset )ana ement "ompany &4SCMbn of assets* si ned up to 45,(I &9<rd march 9:;;*. (achel Lyte &then 0, of I1"3s Business Advisory Division* noted;B?

;..Our colla$oration with UNPR will ena$le <"*s approach to $e shared $3 investors across a wider range of asset classes and have a larger impact promoting sustaina$le and responsi$le investments..= and ;..will initiall3 focus on three priorities: >.
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?ointl3 convene events in emerging mar-ets to help raise awareness of the $usiness case for responsi$le investment

3hilst a large ma0ority of pro0ect finance worldwide is pro$ided by EPF#s& significant de$eloping markets& notably %hina and #ndia& are not formally affiliated to the E(uator Principles Thus& although they may face the same risks when pro$iding finance& institutions in these markets may not adopt an approach to ESR' which is necessarily compatible either with the re(uirements of EP or #F%-PS This is an area where EP and #F% are engaged in an outreach effort to impro$e the uptake of EP and:or #F%-PS standards 1? http8::www ifc org:ifce7t:mediahub nsf:%ontent:SelectedPRBGpen-ocument4,<#-CE?5@E>"1E1E5/*@"F*!*?F*%11>5@*>E

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<" will support UNPR wor- on private e4uit3 $3 ma-ing its procedure for how to manage environmental and social ris-s availa$le to other PR signatories <" and UNPR will support investors to lin- their emerging mar-et investment strategies with Billennium Cevelopment )oals within a fiduciar3' mar-et-return context.

the 'nvironmental - Social &'S* Toolkit;8 / desi ned to provide mana ers of private e+uity funds with a standardiFed format and &additional* resources &based on the I1"/,S* to improve the thorou hness and consistency of the risk assessment and mana ement process the issue of 7ettin )ore 0alue out of Sustainability (eportin in =une 9:;: demonstratin the potential links between the I1"/,S and the 7(I 1ramework for Sustainable (eportin ;>

1F 1E

For a description see https8::www estoolkit com:-efault asp7

http8::www1 ifc org:wps:wcm:connect:topicsAe7tAcontent:ifcAe7ternalAcorporateAsite:ifcKsustainability:publications:publicationsAgpnAgettingmo re$alue