Sustainable development has become a key global concern in recent years and countries are introducing new policies and regulations in response to the call for more sustainable development. At a global level, some initiatives and voluntary standards related to environment, social and governance (ESG) have gradually been incorporated into regulatory policies, guidelines and requirements. For example, on June 1, 2022, in order to promote the development of green finance in China, the China Banking and Insurance Regulatory Commission ("CBIRC") issued the Circular on the Guidelines for Green Finance for Banking and Insurance Institutions (the "Circular"). The Circular incorporated the core concepts of sustainable development into regulations for the business of banks and insurance institutions, requiring them to integrate ESG concepts into their credit and investment business process and risk management systems. It ensures ESG compliance for credit and investment businesses, with aims of “carbon peaking and carbon neutrality” alongside high-quality development.
1. Why should ESG factors be considered when conducting banking business?
For banks, achieving ESG compliance in investment and financing is a mandatory requirement set forth in Chapter IV of the Circular. From a systemic risk control perspective, if banks, as major financial institutions, do not take into consideration the ESG concerns of proposed credit clients or proposed investment projects while in the process of granting credit and making investment, the future occurrence of major ESG events may affect the client’s solvency or project development. This may result in the lending funds or investment funds of banks going to waste.
2. How should banking businesses integrate ESG factors?
According to the Circular, to achieve ESG compliance, banks should consider the following :
(1)Before granting credit to or making investment, banks should conduct ESG due diligence or ESG compliance reviews for the client or project, based on the industrial and regional characteristics. It is therefore necessary to establish an ESG risk assessment mechanism, and it is important to develop a checklist for due diligence in respect to ESG, a checklist for compliance documents and a checklist for compliance risk reviews considering the characteristics of clients in different industries.
(2)When deciding to grant credit to or make investment in certain projects, banks should strengthen their ESG due diligence, fully identify the ESG risk level, and determine the reasonable credit granting and investment authority as well as the examination and approval processes. Credit granting and investment in clients with serious legal violations and material risks in ESG should be restricted. Therefore, it is necessary to ensure that the appropriate internal or external personnel conduct due diligence, fully identify the material risks, and set up corresponding approval and reporting systems. Approval by higher level personnel is required for particular credit or investment projects, depending on the ESG risk level.
(3)When entering into relevant agreements with clients in connection with credit facilities or investments, banks should incorporate ESG compliance requirements into the relevant provisions of the agreement and incorporate ESG into the sections of representations and warranties, conditions precedent, covenants and liability for breach of contract. For credit clients and investments involving material ESG risks, they shall require the client to provide ESG risk reports in the text or annexes of the contract and enter the representation and undertaking provisions regarding strengthening the ESG risk management by the client and the remedies in the event of default by the client in the management of ESG.
(4)After providing the loans or investment funds, banks shall continuously supervise the ESG management of the investee enterprises or projects. For banks, they shall pay close attention to the impact of the internal and external environment on the client's operating conditions and industry development, strengthen dynamic analysis, conduct scenario analysis and stress testing, and make timely adjustments in terms of asset risk classifications, preparation and other aspects. They shall also establish a reporting system for the occurrence of major ESG risks and link the results of such supervision with the allocation of credit or investment funds. For clients with potentially major environmental, social and governance risks, targeted improvement management measures shall be formulated and implemented.
Given that the Circular requires banks to establish and optimize their internal ESG management systems and processes by May 31, 2023, we recommend that relevant institutions take action to establish relevant internal ESG policies and systems as soon as possible. Banks should begin to implement the requirements of the Circular as soon as possible while granting credit and making investments. Banks may also seek assistance from ESG lawyers or consultants to deal with relevant matters. Please contact your ESG attorney to make amendments to the template agreement/commercial agreement of the relevant parts of the transaction documents to complete the integration of ESG elements.
If you have any questions regarding the Circular or need assistance in preparing ESG due diligence checklists, compliance document checklists, compliance risk review checklists, updating transaction documents or agreements, or carrying out ESG due diligence, please contact us at firstname.lastname@example.org.
JunHe’s EHS and ESG Team
JunHe, with over 1,000 professionals, is one of China’s largest full-service law firms with a recognized international reputation for providing high quality legal services. As one of the pioneers in the practice area of ESG in China and with one of the largest teams of EHS lawyers in the country, JunHe provides clients with a full range of EHS and ESG legal services. JunHe is sustainability-oriented and provides EHS compliance audit services to enterprises across different industries. JunHe relies on different legal and professional compliance teams (including ESG, EHS, antitrust, labor and employment, intellectual property, trade and data, finance and tax, business, criminal compliance and other professional teams related to ESG) to provide ESG due diligence services in supply chain management and M&A matters and assists companies or third-party agencies in drafting ESG reports. Based on our experience in serving clients from different industries, we can provide specialized services for the daily operations of enterprises. These include specialized ESG-related legal and compliance and, as well as drafting and reviewing ESG-related terms and clauses in contracts with business partners, establishing and improving ESG systems, identifying ESG disclosure requirements, green finance, and ESG training.