Question ID
2022_6606
Legal act
Directive 2013/36/EU (CRD)
Topic
Credit risk
Article
74
Paragraph
1
COM Delegated or Implementing Acts/RTS/ITS/GLs/Recommendations
EBA/GL/2020/06 - Guidelines on loan origination and monitoring
Article/Paragraph
146
Type of submitter
Credit institution
Subject matter
Exposure of the borrower to ESG factors
Question

Does the assessment of exposure and mitigating techniques in the referenced articles apply to the impact of the borrower on ESG factors, or to the impact of ESG factors on the borrower? 

Background on the question

In paragraphs 126 and 146, the EBA Guidelines on Loan Origination and Monitoring apply the following wording:

Institutions should assess the borrower’s exposure to ESG factors, in particular environmental factors and the impact on climate change, and the appropriateness of the mitigating strategies, as set out by the borrower.

We seek clarification on whether the requested assessment of exposure and mitigants refers to:

  • Option a: the exposure of the borrower to ESG factors which cause risks to the borrower's operations or financial position, e.g. physical risks such as flooding or wildfires, or transition risks such as changing consumer behaviour or government policies, or
  • Option b: the impact of the borrower on ESG factors with negative impact (in aggregation), e.g. greenhouse emissions or soil erosion due to by production activities by the borrower, or the borrower's application of (non-)compliant labour standards. 
Submission date
Final publishing date
Final answer

Paragraphs 126 and 146 of the Guidelines on loan origination and monitoring (EBA/GL/2020/06) are related to the assessment of the borrower’s creditworthiness under section 5.2 of those Guidelines.

In accordance with these paragraphs, institutions should integrate ESG considerations into the creditworthiness assessment of the borrower at the loan origination process. More precisely, institutions should assess how ESG factors can have an impact on the financial performance of the borrower and whether the borrower takes any adequate measures to mitigate existing or potential detrimental impact of ESG factors on its financial performance.

Based on the above, option (a) raised in the question should be considered as the primary perspective to be analysed when the institutions assess the creditworthiness of the borrower.

It should also be understood that the borrower’s impact on ESG factors may in turn impact its risk profile and hence its creditworthiness. For example, if the borrower is contributing to climate change by emitting a large volume of greenhouse gasses (the impact of the borrower on ESG factors), this may then increase the transition risk for this borrower and translate into financial risk on its balance sheet (the impact of ESG factors on the borrower). 

This interpretation is also in line with the EBA Report on management and supervision of ESG risks for credit institutions and investment firms (EBA/REP/2021/18). More precisely, paragraph 40, 41 and 49 of this report present the concept of the so-called “double materiality”, which are relevant in this context.

Based on this interpretation, option (b) raised in the question should also be considered as an input to assess the impact of ESG factors on the borrower and eventually for the assessment of the borrower’s creditworthiness.

Status
Final Q&A
Answer prepared by
Answer prepared by the EBA.

Disclaimer

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