What are Bonds?

A bond is a financial instrument used by many companies, municipalities and governments to raise liquidity for various projects; simply, it is a type of loan made by an investor to a borrower. Investors in the market can buy bonds and thereafter receive fixed or variable interest payments (also known as a coupon), the terms of which are decided by the issuer before the release of the bond. A bond also has a maturity date at which it will mature and its issuer will have to pay the bondholder the face value of the bond.

How Did SLBs Come About?

Sustainability-linked Bonds (SLBs) have followed the well-known instrument, Sustainability-linked Loans. SLBs allow issuers that do not have sufficient green/social projects to be eligible for a traditional bond to nevertheless demonstrate their commitment to sustainable finance, making them an attractive alternative. SLBs are unique insofar that they do not have to prove that the capital they raise will be allocated to specific sustainable projects, whereas other sustainable financial instruments – whether green, social or sustainability bonds – do. SLBs are issued with a structural component that varies depending on whether or not the defined environmental, social and/or governance (ESG) objective is achieved; they are not tied to specific sustainable projects. SLBs are objective-led bonds therefore the income obtained from the bond issuance can be used for general corporate purposes rather than for a specific project. As a result, these characteristics make the bond an extremely versatile instrument, providing opportunities for actors to dedicate themselves to sustainable strategies. Rather than just focusing on the capital they can raise, SLBs also look at how future targets can be met. As a result, those who are unable to issue green bonds due to insufficient sustainability projects can now use an SLB in order to meet sustainable targets which are more aligned with frameworks such as the Paris Agreement or the UN’s Sustainable Development Goals.

One of SLB’s key features is the ‘step up price’, whereby an issuer who does not meet their Performance Target (tied to a specific ESG goal outlined during the bonds issuance) is obliged to step up their interest payments by a minimum of 25 basis points. To this date there has only been one SLB issuance, made in 2019 by the Italian multinational energy company, Enel. Enel have issued a $1.5 billion five-year bond with a 2.650% coupon rate, subject to their strategic objective of having at least 55% of its installed capacity in renewable energy sources by 2021. If this goal is not reached by 31st December 2021, the coupon will be increased by 25 basis points until the bond matures. This sole issuance has dramatically highlighted investor interest in SLBs, with demand skyrocketing, reaching values four times greater than the amount of bonds available.

How are SLBs Tracked and Measured?

In June 2020 – soon after Enel’s SLB issuance – the International Capital Market Association (ICMA) published the Sustainability-linked Bond Principles (SLBP), a set of voluntary guidelines aimed at fostering the development of the SLB market. The Principles will allow issuers to adopt ambitious and credible bonds which in turn will facilitate the market by giving both accountability to the issuers in their sustainability strategies and diluting potential problems with the bond. The guide will enable issuers to provide clear strategies and transparent commitments for investors, underwriters and all other market players studying the SLB.

The SLBP have 5 key components for issuers to consider when creating data for their SLBs. The issuers’ objectives are measured through predefined Key Performance Indicators (KPIs) and assessed against predefined Sustainability Performance Targets (SPTs).

  1. Selection of Key Performance Indicators (KPIs)
  2. Calibration of Sustainable Performance Targets (SPTs)
  3. Bond Characteristics
  4. Reporting
  5. Verification

The ICMA have proposed that KPIs should be relevant to both the issuer’s core sustainability and business strategy, and should address relevant ESG challenges of the industry sector. As well as the relevance of the KPIs it is imperative for the issuer to ensure KPIs are measurable or quantifiable on a consistent methodological basis.

KPIs that are currently used in the loans market include:

  • Greenhouse gas emissions
  • ESG ratings
  • Water and Energy Consumption
  • Proportion of renewable energy production
  • Carbon footprint
  • Solid waste sent to landfill
  • Gender equality measures

SPTs have been designed to ensure that issuers choose quantifiable targets that they can commit to. The issuer should disclose strategic information that may significantly impact the achievement of their said targets. ICMA have also encouraged the idea of appointing an external reviewer to confirm the rationale, the level of ambition and the consistency within the overall strategic planning stated by the SPTs and have stated that reporting should be published once a year at the very least. The Principles are designed to mitigate risk within this relatively new financial instrument by providing legitimacy to the product and thus enabling them to participate in the market with increased confidence and reliability – an in depth analysis of the ICMA Principles can be found on their website.

What Issues Exist with SLBs and How Can They be Addressed in the Future?

Due to the structural complexity of the SLB, additional preparation time will be required to ensure the issuance has attainable and meaningful targets. Using a third-party verification process in order to set attainable targets will increase costs for issuers and further additional costs can be incurred if the issuer does not meet its targets, leading to an increase of the coupon rate. As a result, issuers will need to consider the opportunity-cost of the SLB by deciding whether the long-term investment received from the bond is greater than the short-term costs.

The principal attraction of the bond is by in large the lack of restriction on how the capital raised from the SLB can be spent. Enel, for example, actively pursues fossil fuel production all around the world, and the capital they raise from the SLB may in fact be used to support such unsustainable production – this raises a large question on the inherent sustainability at the core of SLBs. Moreover, not only can the capital be used for non-ESG projects, but companies can return to non-ESG principles following the maturity of their SLB, counteracting the alleged sustainability benefits of SLBs. In order to resolve such loopholes, strict regulations will need to be imposed, however, given the novelty of SLBs and the hypothetical nature of their problems, it is too early to decide upon said regulations. Difficulties with this new instrument will not solely lie with the bond issuer but also with the fund managers who will utilize SLBs in their client’s portfolios. A fund manager traditionally has to consider whether or not the company will meet the bond’s targets however with an SLB they will now have to go beyond just analyzing financial statements but will also have to consider the company’s wider sustainability goals.


Enel has shown that SLBs are a new yet extremely popular financial instrument. Given the short time SLBs have been around it is difficult to resolve the issues they are exposed to, however ICMA have made excellent progress in their attempt to back the standing and reliability of SLBs, with the publication of the SLBP greatly reducing the possibility of misconduct. While it is too early to discuss the hypothetical issue of SLBs’ ‘no restriction’ characteristic, it may be an important turning point for the industry, enticing issuers with a high carbon footprint to make a change and tackle climate change.

Analytics by Emily van den Burg