Given the substantial capital expenditures required to finance decarbonization efforts, corporate issuers have been increasingly using labeled bonds to finance projects along their climate journey.[1] They issued more of these sustainable-debt instruments than supranationals, sovereigns and agencies in 2023.
The funded projects (for use-of-proceeds bonds) or associated targets (for sustainability-linked bonds) should be tied to the issuer’s overall sustainability objectives.[2] Given that many of these commitments follow climate-related goals, many investors assessing these bonds might expect companies that have been tapping sustainable-debt markets to be on a more credible decarbonization path compared to issuers who haven’t. But are they?
To test this, we identified 931 companies within MSCI ESG Ratings coverage that had at least one outstanding self-labeled green, sustainability or sustainability-linked bond (SLB) in the market in the last three years through Sept. 30, 2023.[3] We then assessed the credibility of their decarbonization targets relative to the 3,437 corporate-bond issuers in our coverage without any such bonds outstanding, using criteria aligned with MSCI’s climate-targets and -commitments methodology:
- Did they set an emissions-reduction target approved by the Science Based Targets initiative (SBTi), or have they committed to obtaining one? What emission scopes did their targets cover?
- Have they met any of their historical climate targets, and have they reported being on track to meet at least some of their current ones?
- If they declared a net-zero ambition, were they estimated to be on track to reach it by 2050?[4]
- Were there notable differences between use-of-proceeds (UoP) and SLB issuers on the above criteria?
We found that almost 40% of labeled-bond issuers either had or were committed to work on an SBTi-approved emissions-reduction target, double the proportion among the other issuers across sectors. A notable exception was the energy sector, for which SBTi hasn’t finalized a target-approval methodology, as of October 2023. More labeled-bond issuers also had carbon-reduction targets covering all three emission scopes (Scopes 1, 2 and 3), relative to the other issuers. However, that does not necessarily result in more total emissions addressed by the targets, so it is vital to look into how a company’s emissions are distributed across its business model and how much of them are effectively covered. In terms of the estimated proportion of total emissions covered by their targets, labeled-bond issuers on average covered 67%, compared to 55% for the other issuers.
To see whether emissions-reduction targets have been implemented, we looked at whether issuers reported meeting any of their previous targets: 40% of labeled-bond issuers had vs. 20% of the other issuers. Similarly, based on their reported progress, 41% of labeled-bond issuers were on track to meet at least some of their current targets, compared to 20% of the other issuers.
Finally, among the issuers with a net-zero ambition, MSCI ESG Research projected that 22% of the labeled-bond issuers (10% of the other issuers) may near that goal by 2050, based on how much of the emissions their targets covered.
Quality and comprehensiveness of climate targets across sectors and regions
Lastly, we looked at whether there were notable differences among issuers that have issued only UoP bonds, those that have chosen only SLBs and those that have issued both types. Interestingly, more SLB-only issuers met our criteria for climate-target credibility compared to the UoP-only issuers, and notably more did compared to issuers who have not issued any labeled debt.
Comparison of issuers who have only issued UoP bonds, SLBs or both
This could help alleviate some of the concerns expressed by some in the SLB market that see their issuers eating a free lunch (in the form of cheaper financing) by setting unambitious key performance indicators combined with mild penalties for not meeting them.[5] That said, the devil is in the details, and the concerns around SLBs may be warranted in some cases, depending on the structure of each transaction.[6]
Looking ahead
Overall, companies raising capital in the labeled-bond market led other corporate-bond issuers in their respective sectors and regions on our climate-target assessment criteria, suggesting they could be on more-credible transition pathways. This finding could contribute to the overall credibility of the sustainable-bond (and loan) market and support its further growth, vital for reaching global climate goals.[7]
That said, while labeled-bond issuers led other bond issuers, only 37% of them, on average, met all our criteria for climate-target credibility (compared to 18% of other issuers). Therefore, in their security selection and potential issuer engagement, investors may consider paying attention to both the quality of the labeled bonds in question (i.e., alignment with recognized frameworks) and the credibility of their issuers’ transition path using measurable criteria.