INSIGHT

The wait is over: Equator Principles 4 is here

By Phillip Cornwell, Jo Ye
Banking Human rights obligations Project Finance Risk & Compliance

In brief 4 min read

The Equator Principles Association unveiled the finalised fourth version of the Equator Principles (EP4) on 18 November 2019. Set for an effective date of 1 July 2020, EP4 heightens requirements for designated OECD countries and tightens due diligence assessments with a greater focus on human rights, climate change and biodiversity. While there are many improvements and refinements from the draft we reviewed in June, the only potentially material change is a compromise on the 'free prior and informed consent' requirement for affected Indigenous communities.

We outline the main changes and assess their impact for Australia.

Who in your organisation needs to know about this?

EP4 will apply to mandated transactions from 1 July 2020. Legal, risk and compliance teams should keep an eye out for implementation guidance in Q2 2020 to assist with a smooth transition.

Main changes in the final version of EP4

  • Look beyond the dollar amount: The threshold for project-related corporate loans has reduced to a minimum commitment of US$50 million. Where the underlying project is financed under the Equator Principles, project-related refinancings and acquisition financings will be covered by EP4 (which will also apply to any expansion or upgrade financing). General corporate loans and project-related bonds remain outside the scope.
  • What to look for in due diligence: The environmental and social review and due diligence must include an assessment of adverse human rights impacts, human rights risk analysis and a climate change risk assessment. The latter includes, for high emission projects, transition risks and an alternatives analysis to evaluate less greenhouse gas intensive alternatives. However, EP4 does not require consideration or reporting of Scope 3 indirect emissions resulting from projects such as fossil fuel projects and pipelines, though the preamble of EP4 does express support for the objectives of the 2015 Paris Agreement. In terms of biodiversity, project sponsors are to be encouraged to share commercially non-sensitive project-specific biodiversity data to enhance the evidence base for research and decision-making purposes.
  • Not just host country laws?: For projects in designated OECD countries, an 'evaluation' of the project-specific risks against the IFC Performance Standards could be used as guidance to address those risks, in addition to host country laws. However, it is up to the adopting banks whether a further due diligence against the identified risks will be necessary and whether more stringent controls are to apply.
  • Indigenous peoples have a say?: The final version goes largely with the first (soft) option offered by the June draft in relation to the free, prior and informed consent (FPIC) of affected Indigenous communities, mandating 'good faith negotiation' with, and 'meaningful participation' of, the affected Indigenous Peoples. According to BankTrack, this is 'a missed opportunity' and 'fixed none of the concerns that led to the demand for a revision two years ago'. These tweaks are said to ignore a passionate call from 312 civil society group from 58 countries 'to act with courage and ambition' and fall short of a clear and explicit commitment to implement FPIC as a right.

    That said, for projects covered by paragraphs 13-17 of IFC Performance Standard 7 (IFC PS7) which require FPIC, EP4 does require (globally) an independent consultant to evaluate the consultation and participation process and its outcome against local laws and IFC PS7. If, despite a compliant process, FPIC has not been achieved, the financial institution must then determine whether this qualifies as a 'justified deviation' from IFC PS7, and whether the project sponsor should pursue additional corrective actions to meet the objectives of IFC PS7.

FPIC in Australia

What this means for Australia is that, on top of checking compliance with Australian law (eg the requirement for good faith negotiations under the Native Title Act 1993), banks must retain an expert to evaluate not just the consultation and participation process, but also any FPIC requirements under IFC PS7. Those requirements can be enlivened in the circumstances summarised in EP4, which include projects with significant impacts on critical cultural heritage – a frequent feature of projects in Australia.

If, despite compliance with local laws, FPIC has not been achieved, the bank must then determine whether this qualifies as a 'justified deviation' from IFC PS7. That justification would need to be compelling. Proceeding regardless could obviously put the bank in a difficult position, and possibly make it a target for activists.

Actions you can take now

  • Read the full text of EP4 here.
  • Consider aligning existing environmental and social review policies for the in-scope products with the latest updates to ensure EP4 compliance by mid-2020.
  • For projects in designated countries, consider any material divergences from the IFC Performance Standards, and whether any additional due diligence is necessary. In particular, consider prioritising engagement with clients concerning the potential impact of IFC PS7 and identification of suitably qualified consultants.