Commission Recommendation (EU) 2023/1425 of 27 June 2023 on facilitating finance for the transition to a sustainable economy

On July 7, 2023, the European Commission (EC) published new Commission Recommendation (EU) 2023/1425 relating to transition financing in the Official Journal (OJ) of the EU. The recommendation is addressed at issuers, non-issuing undertakings, financial market intermediaries, and investors and aims to facilitate transition finance in the EU. It is specifically designed to help companies at different stages of sustainability adaptation improve their sustainability performance and attract new investors and partners for transition and sustainable finance by providing illustrative examples and considerations for the articulation and identification of transition finance needs and projects and the approach to be taken to raise needed funds. Likewise, the recommendation is designed to help investors and intermediaries identify new business opportunities, select specific projects to provide transition financing to, and so to contribute to the EU’s zero net carbon emission goal by 2050.
The summary below briefly outlines some key aspects financial market intermediaries and investors may find helpful to consider when seeking to engage in transition financing. The EC’s recommendations for issuers and firms in need of transition financing is omitted at this point. Please refer to the original documentation for this information.
#### Considerations for financial market intermediaries and investors
(1) Identification of eligible investments and approach of investee firm: Financial intermediaries, investors, and asset owners (in brief: intermediaries) seeking to provide transition financing in one way or the other should far and foremost incorporate transition financing into their investment or lending strategies. They should set specific targets related to climate or environmental objectives, utilize provided information from companies (e.g. prospectuses), use decarbonization methodologies, and incorporate the Taxonomy Framework to identify eligible investments. When engaging with potential investee firms, intermediaries should question firms‘ transition plans and assess their alignment with transition objectives to evaluate the eligibility of investments.
(2) Available financing instruments: Intermediaries may engage in various financial instruments, including different types of loans or capital market issuances with specific features, to enable transition financing of issuers and non-issuing entities. Some possible investment / lending alternatives are briefly noted below:
– Green or other sustainability loans which are designed for a specific purpose related to sustainability or transition and whose interest payments are typically tied to the achievement of set targets.
– Proceed loans which are granted to achieve a specific transition or environmental goal (e.g. for upgrading buildings and machinery that enable production with low climate and environmental impact).
– Green or other sustainability bonds which raise capital for a specific transition or environmental goal similar to green loans. These bonds are typically linked to sound sustainability performance targets, such as Taxonomy key performance indicators, and are issued with a timeframe aligned with the transition. The coupons or interest payments on these bonds are typically contingent on achieving and incentivizing the targeted sustainability performance.
– Equity financing which typically includes the issuance of new stock for dedicated transitional or environmental purposes.
(3) Incentivize transition financing and environmental performance improvements: Financial intermediaries can take various steps to promote the transition to net zero carbon of issuers and firms seeking loans or issuing transition or green bonds, e.g. by offering
– Attractive Interest Rates: Financial intermediaries can offer lower interest rates or preferential terms to companies that demonstrate progress towards their transition targets or meet specific Taxonomy criteria. This incentivizes businesses to invest in sustainable projects, technologies, or practices, as they can benefit from reduced borrowing costs or improved funding conditions.
– Performance-Based Rewards: Financial intermediaries can establish performance-based reward programs tied to transition targets. For instance, they can offer financial bonuses, grants, or other incentives to companies that achieve or surpass their sustainability goals. This encourages businesses to prioritize sustainability and motivates them to strive for better environmental and social performance.
– Access to Capital: Financial intermediaries can prioritize providing capital or funding opportunities to companies that have strong transition plans and demonstrate progress in achieving their targets. By offering easier access to financing, these intermediaries encourage businesses to integrate sustainability into their strategies and operations.
– Risk Mitigation: Financial intermediaries can take into account a company’s transition risk and offer tailored financial products or insurance solutions that help mitigate these risks. By incentivizing risk reduction and providing appropriate tools and support, intermediaries can encourage companies to proactively address sustainability challenges and improve their transition outcomes.
It’s important to note that the specific design and implementation of these incentives would depend on the financial intermediary’s strategy, policies, and risk assessment frameworks. Additionally, coordination with regulatory frameworks, industry standards, and stakeholder engagement is essential to ensure the effectiveness and alignment of such incentives with broader sustainability goals.
(4) Transparency over investments and loans: To promote transparency and accountability, financial intermediaries and investors should report on their transition finance activities, including the progress made towards transition targets, the types of investments made, and the impact achieved in terms of greenhouse gas emissions reduction and environmental sustainability.