The Equator Principles (EP) are rapidly becoming a de facto standard for oil and gas project finance both in the Gulf and worldwide, as the number of adopting banks has virtually tripled. Proponents of the EP say they herald a new era of responsibility by banks, ensuring that projects seeking financing will adopt the highest environmental standards. Detractors counter that the standards are largely superfluous because the Gulf’s projects are already adopting stringent environmental regulations. Melanie Lovatt assesses the EP’s impact so far on the banks that operate in the Gulf and the projects that they finance.
Nearly two years have passed since 10 banks adopted the Equator Principles (EP) and the number of participating financial institutions has risen to 31, including 29 banks, one export credit agency (Denmark’s Eksport Kredit Fonden) and a Canadian insurance company (Manulife Financial Corp) – see table below for the full list. As a result the EP banks now account for 80% of the project finance underwriting on a global basis, according to experts in the sector. BNP Paribas and Société Generale, and most of the Japanese banks, are all big players in the Gulf oil and gas project finance sector, but are notably absent from the list. And not a single Gulf bank is represented.
Financial Institutions Adopting The Equator Principles
ABN Amro* | Calyon** | HVB Group* | Royal Bank of Canada |
Banco Bradesco | CIBC | ING | Royal Bank of Scotland* |
Banco do Brasil | Citigroup* | JP Morgan Chase | Scotiabank |
Banco Itau | Credit Suisse* | KBC | Standard Chartered |
Banco Itau BBA | Dexia | Manulife Financial Corp | Unibanco |
Bank of America | Dresdner Bank | Mediocredito Centrale | WestLB* |
Barclays* | Eksport Kredit Fonden | Mizuho Corporate Bank | Westpac* |
BBVA | HSBC | Rabobank* |
* Adopted Equator Principles at their inception in June 2003.
** Credit Lyonnais was the original adoptee but was bought out by Credit Agricole. Calyon is its corporate and investment banking arm.
While some bankers are genuinely concerned about the environmental impact of the projects they finance, the EP are also being adopted for financial reasons. The principles should, in theory, develop more consistent risk management, thus making loans safer. According to the EP, if the terms of the project become non-compliant with environmental stipulations once the borrower has signed an agreement to receive funding, then the bank can cease lending.
The EP create a common framework based on World Bank (WB) and International Finance Corporation (IFC ‒the WB’s private sector lending arm) safeguard policies and guidelines. They categorize a project in terms of risk: high (A), medium (B) or low (C). Based on the category, an environmental assessment is prepared; and in the case of higher risk projects, an environmental management plan is drawn up. As is the case with projects worldwide, about 80% of Gulf oil and gas project financings are expected to fall into the B category, with possibly a few A ratings. Given that project finance plays a key role in financing the Gulf’s oil and gas industry, adoption of the EP has important implications for overall development of the energy sector. The EP are specifically applied to emerging markets projects seeking over $50mn in finance. WB or IFC issue specific environmental, health and safety guidelines for onshore and offshore oil and development, petrochemicals manufacturing and petroleum refining, as well as for electric power transmission and distribution, gas terminal systems, waste management facilities and wastewater reuse (see www.ifc.org).
The major oil and gas developers, including those in the Gulf, have been operating in accordance with the WB/IFC guidelines for a number of years, so to banks they basically say “welcome to the party,” comments a banker, who was actively involved in the EP at the development stage. He says the principles are expected to achieve consistency among banks, thus making project finance easier.
For And Against EP
However, in the competitive world of Gulf oil and gas project finance, EP status is becoming a contentious issue. Some EP bankers suggest that non-EP banks are trying to lure clients by promising an easier financing procedure for projects. Conversely, non-EP banks claim that certain US clients operating in the Middle East have said that they are uncomfortable working with banks that have adopted the EP. Some bankers claim that EP adoptees are on a public relations exercise, pointing out that while some of them are serious about improving environmental standards, some laggards have made few internal changes. And there is some cynicism even from the EP banks themselves. “More hot air” is how one Gulf oil and gas project finance expert at a large EP bank labels the EP: “To be honest, not many of these projects are sensitive on a socio-economic basis because they are built in the desert. They are not pipelines through rainforests or displacement of villages by dams and so on.” However, others suggest that care is needed because certain desert and marine ecosystems could be negatively affected by project development.
Acceptance Grows
Despite the criticism of EP by both non-EP and sometimes EP banks, the principles appear to be a growing feature of most project financings. A non-EP bank which lends to projects in the Gulf points out that although his bank is not party to the principles, it is nevertheless adopting them. “The projects we do already follow IFC guidelines,” he said. “And the projects we look at are high profile, so the sponsors are environmentally sensitive.” Similarly an oil and gas project finance specialist at a Gulf bank described the EP as a fait accompli: “We wouldn’t mind signing because everyone is adhering to the principles, so why not formalize it?” However, he notes that some of the lean project finance teams, particularly at the medium and smaller banks, do not have the resources to implement new environmental policies, other than in an ad hoc manner as each new project financing demands it.
Less Impact In The Gulf
Even EP advocates admit that use of the EP in project finance is possibly going to have less impact on the Gulf than in other regions. The project sponsors in the region are generally larger oil and gas companies that have already adopted IFC/WB standards. For example, the Middle East’s largest ever project financing, Qatargas-2, was rated a category B by EP banks, although it had undertaken so much environmental due diligence (over and above that required for a category B project) that it had actually met the higher requirements for a category A project. The involvement of Export-Import Bank of the US (Ex-Im) meant that stringent environmental standards were used and EP banks were willing lenders.
According to one EP banker the environmental standards set by the governments of Qatar, and also Oman, are already sophisticated and “consistent with generally accepted oil and gas standards globally – they are the same as those used in the North Sea and Gulf of Mexico.” He added that in Saudi Arabia there was sometimes less transparency, and to assess one petrochemical project’s impact in terms of the EP, his bank needed to bring in an independent consultant. “In order to make procedures more transparent, companies need to provide environmental impact data and not just emissions data,” he explained.
The evaluation of a project according to the EP does not simply classify the emissions of a project, but also takes into account the borrower’s capacity to make sure the project is implemented responsibly. Banks, for example, can make their own internal rating of clients which takes into account financial health, and past track record including any environmental accidents, human rights abuses, Superfund obligations (in the US), and current and past litigation relating to environmental issues. The EP are a guideline, not a law, and it is up to each bank individually to implement it.
Funding Problems For Projects Falling Short Of EP
Despite the non-binding aspect of EP, bankers suggest that projects in the Gulf failing to meet EP criteria may fail to find funding. Possibly this is because even non-EP banks are essentially using EP criteria if they are using WB/IFC recommendations. Presumably if a project fails to meet EP, then most likely it will not accord with environmental regulations in countries like Qatar and Oman, and will fail to satisfy certain ECA requirements. Whether a non-EP project goes ahead could depend on its size. “A non-EP bank could finance a $50mn project, but if it’s a mega project and doesn’t comply it would be a hard sell at syndication,” said an EP banker. He points out that his bank has turned down projects that failed to meet EP criteria – but none so far in the Gulf.
The view among EP-compliant project financiers is that while the principles thus far have not caused major problems for proposed projects in the Gulf, they represent, in the words of one banker, “a good way of codifying our position in industry. There will be an impact on projects because all projects will be subject to considerable scrutiny, although the Gulf will be affected less – there are not many environmental problems. Much of the development is gas-based and gas is benign. There have been more environmental problems related to oil and coal extraction” in other regions like Russia and China.
NGO Criticism
But the generally relaxed attitude of banks to EP has not pleased everyone. Non-government organizations (NGOs) say they are dissatisfied with the extent to which banks have applied the principles, although so far their complaints mostly relate to projects outside the region. An NGO assessment made one year after the launch of the EP found that implementation was “poor to middling,” said BankTrack (www.banktrack.org) which is a network of 14 organizations, including Friends of the Earth and World Wildlife Fund, that lobbies the private financial sector. The organizations criticized nine EP banks for funding the Baku-Tbilisi-Ceyhan pipeline, alleging that it broke the EP on numerous counts. BankTrack members have also lobbied Credit Suisse First Boston on its financial advisory role to the Shell-led Sakhalin-2 oil and gas project in Russia, alleging that it would cause the extinction of West Pacific Gray whales. The NGOs also want the EP to bring more transparency to projects. However, project financiers point out that client confidentiality often precludes publication of such information. NGOs also want an overall governing body to assure compliance, although this runs counter to the original notion that the EP should be a guideline for banks.
Meanwhile, whether more banks will join the EP remains to be seen. Some may be waiting for the IFC to issue its new Social and Environmental Sustainability policy, which essentially forms the backbone of the EP. The consultation period for the new policy ended in April and it is set to become effective on 1 January 2006. Originally it was scheduled to go into effect on 1 July this year, but a number of institutions, including EP banks, lobbied for an extension. But even if more banks fail to sign up, the EP are becoming norm for the region’s oil and gas projects and are likely to remain a consideration for adopting and non-adopting banks in the foreseeable future.
