As GreenFin Weekly readers know well, a "green bond" is a fixed-income security that specifically targets environmental projects to benefit from its sale. These bonds are just like other bonds in terms of their credit rating. For example, Microsoft could sell a plain vanilla bond and a separate green bond. Both will have the same credit rating — but the proceeds of the green bond sale are specifically earmarked for a "green" project rather than general expenditures. At least, that's the intention.
The global green bond market easily topped $500 billion in 2021. That was up from about $270 billion in 2020. The pace of issuance was off in 2022, according to data from the Climate Bonds Initiative, but hopes for a rebound in 2023 are high.
A green bond is often more expensive for an issuer to sell because it carries the need for an external independent review, regular reporting to make sure the bond proceeds are doing what they were intended to do, and an assessment of the impact. At least that is how it is supposed to work. And corporate issuers should be prepared to face more scrutiny of those assessments, as scrutiny of commitments and progress reports about their ESG strategies intensifies.
A mighty complaint
Consider the case of Brazilian food company JBS. Last month, the global advocacy organization Mighty Earth filed a whistleblower complaint with the U.S. Securities and Exchange Commission against JBS, calling for an investigation of the company’s green bonds.
Mighty Earth contends that JBS issued $3.2 billion in four separate "green bond" offerings in 2021, referring to the bonds as "sustainability-linked bonds" that would help the company reach net zero by 2040 goals. Unlike other green bonds, proceeds from sustainability-linked instruments can be used broadly, but the interest rate is tied to how well a company’s performs against certain ESG or sustainability metrics. Mighty Earth’s complaint is that JBS’ emissions have gone up since the issue. What’s more, the company excluded Scope 3 emissions — which make up nearly all the company’s impact — from being addressed in assessments of the bonds. These emissions mostly come from the company’s supply chain, but should be considered as part, argues Mighty Earth.
The shade of green of a bond (or blue for newer ocean- or water-linked bonds) is often in the eye of the beholder.
The complaint directly references the Second Party Opinion on JBS’ sustainability-linked securities from Institutional Shareholder Services (ISS) that states that the bonds "were not material to the whole corporate value chain as the KPI does not include Scope 3 emission," which are responsible for an estimated 97 percent of the company’s footprint.
Buyer beware
So, did JBS intentionally mislead investors, as Mighty Earth claims?
Not all green bonds are green, and there will be different shades of green — deep green to light green to not green at all — depending on the overall impact. Regulation and law differ around the world, so what is green in one market is not necessarily green in another.
There are many examples of questionably "green" bond projects, such as the Hong Kong Airport raising $1 billion in green bonds to expand the footprint of the airport — thereby encouraging more air travel, which is a major source of greenhouse gases.
Investors should be aware that in some cases, a green bond may be little more than a marketing exercise. With consumers and potential employees increasingly interested in the green credentials of the places where they shop and work, companies may see the cost of green bond issuance as a small price to pay for some positive PR. But if something is called green, investors should make sure that they are getting the shade of green that they want.
Kick those green tires, and take off your green-tinted glasses
Investors can start with the Green Bond Principles (GBPs) to begin to judge whether a bond they are considering is as green as they want it to be. The GBPs are concerned with the transparency, accuracy and integrity of information that will be disclosed and reported by issuers to stakeholders. There are four core components to consider:
- Use of proceeds
- Process for project evaluation and selection
- Management of proceeds
- Reporting
If one of these steps is missing or disclosure about one of them is inadequate, investors should walk away and demand better.
The GBPs note that companies can go the extra mile by getting a second-party opinion on the use of proceeds — although that might not have been a good idea for JBS, as it seems to have shed too much light on something it might have wanted to keep dark. Bond issuers can also obtain independent verification that their process is sound, or go further still and have their green bond certified against a green bond standard or label. For example, the European Green Bond Standard was launched in 2022, as one of the most stringent green bond standards intended to curb greenwashing.
Evaluating 'greenness' is still more art than science
During a meeting discussing multi-asset class strategies in ESG and impact in late 2020, NN Investment Partners green bond specialist Doug Farquhar may have said it best when he noted it takes several years for asset managers to build the expertise and internal processes necessary to understand whether bonds are truly green, or fit for the purpose intended. Farquhar cautioned investors not to rely solely on external research, and he estimated that about 17 percent of bonds labeled green would not pass muster according to NN Investment Partners own standards.
That percentage number would probably be much different at several firms, some with much higher numbers, some with lower.
The lesson is that the shade of green of a bond (or blue for newer ocean- or water-linked bonds) is often in the eye of the beholder. Regulators and lawmakers need to ensure there is a robust process for transparency and auditing the use of proceeds of a green bond. Investors need to do their homework and have a "trust but verify" mindset. They also need to educate themselves to make sure the shade of green they want in their portfolio is the one they are getting.
That, and they also need to be prepared for unexpected adverse events. If a factory that was built with a bond you bought burns down, you are likely still getting your money. If a forest that was protected or planted with the green bond you bought burns down, you might still get your money, but you just lost the reason you invested in that bond in the first place. In such an instance, you might have to fork out more money for a new green bond.
