Elizabeth Cain, head of debt origination at the Pension Insurance Corporation – an insurer of defined benefit pension funds – tells New Private Markets she is seeing more in the way of ESG-related covenants and ESG-linked interest rates in debt facilities. The insurer, which has £41 billion ($51 billion; €47 billion) in assets, had 16 percent of its assets in private debt as of the end of 2022, primarily invested by the team in-house. Cain was speaking following PIC’s £50 million investment of senior debt to finance the construction of the first new reservoir in the UK (press release).
“ESG reporting, ESG covenants, ESG linked-targets: these are the sort of thing we are starting to see filter into individual transactions,” said Cain.
ESG covenants: Cain is seeing increasing covenants in loan documents that require borrowers to report on certain metrics. These are often tailored to the company in question (say, data around leaks and spills for a water company), but would also frequently relate to carbon emissions, biodiversity, employee health and safety etc. “Usually there is some sort of third-party validation of those metrics, so you’re getting some assurance, which is good,” she said.
“[ESG covenants] have definitely been a growing feature of the market over the last 18 months, and we do expect to see more of that going forward; we are pushing for that where we can,” she said.
ESG-linked loans: PIC does have some loans on its books where the level of interest can move in line with ESG performance. However Solvency II, the regulatory framework PIC and other insurers are subject to, requires investments to produce “known cash flows”, so introducing variability into the interest rate is not straightforward. “It will come down to the specifics of the mechanism,” said Cain. Essentially the lender would currently have to assume the lowest cashflows: “If it is stepping up over time, that’s probably easier, because you just assume day one that it’s not going to step up. One that steps down is harder because, day one, you have to assume some materially worth economics; you have to assume a lower coupon than you are actually receiving.” Reform to Solvency II is currently being considered. Changing the requirement for absolutely fixed cash flows to “highly predictable” would be helpful, said Cain.
PIC invested £50 million in March to finance the construction of the first new reservoir in the UK since 1991. The investment comprises £50 million of CPI-linked senior debt, the investor said, maturing in 2037.