E&S Risk Management Insights from International Banks...Apr 26, 2018 · E&S risk management system, which results in a risk transfer. An E&S risk management system aims at enhancing

E&S Risk Management

Insights from International Banks

Olivier Jaeggi

Managing Director

[email protected]

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Agenda

1. Introducing ECOFACT

2. Frameworks

3. Setting up the E&S Risk Management System

4. Where Do the International Banks Stand Today?

GCPF E&S Workshop • April 26, 2018 2

Agenda


2. Frameworks





Introducing ECOFACT

ECOFACT AG was founded in 1998 as a spin-off from an international bank. It is a fully independent, privately held company. We work primarily for banks, insurers, institutional investors, and international standard-setters.

Due Diligence

We assist our clients in designing risk assessment processes and conducting due diligence.

Issue monitoring

Policy development

Portfolio screenings

Individual risk assessments

Engagement services

Research Products

The Policy Outlook covers regulatory change pertaining to ESG and corporate responsibility issues.

The ECOFACT Quarterly focuses on environmental and social risk.

Agenda


2. Frameworks




Understanding Sustainable Finance


Financial Institutions

Sustainability Challenges

The Evolving Risk Landscape


(d)

New and stricter minimum

requirements

(e)

Advances in

business practices

(b)

Changing perceptions and

expectations

(a)

Growing materiality

of E&S risks

(c)

Greater transparency

and accountability

Five main drivers reshape

the risk landscape

The Evolving Risk Landscape


(d)

New and stricter minimum

requirements

(e)

Advances in

business practices

(b)

Changing perceptions and

expectations

(a)

Growing materiality

of E&S risks

(c)

Greater

transparency

Five main drivers reshape

the risk landscape

(a) The growing materiality of sustainability challenges

influences (b) how these challenges are perceived by the

public and, therefore, influences the expectations towards

financial institutions.

(c) Greater transparency and accountability, (d) new and

stricter minimum requirements, and (e) advances in

business practices, particularly those by peers, increase

the necessity for financial institutions to address the risks

related to sustainability challenges more actively.

E&S Risks: Financial Risk Categories


Primary risks Operational risks

Credit risk

Market risk

Funding and liquidity risk

Transaction processing risk Compliance risk

Legal risk Liability risk

Security risk Tax risk

Reputational risks

E&S Risks: Financial Risk Categories


Primary risks Operational risks

Credit risk

Market risk

Funding and liquidity risk

Transaction processing risk Compliance risk

Legal risk Liability risk

Security risk Tax risk

Reputational risks

The Financial Stability Board on Climate Change


Agenda


2. Frameworks




"Where does my bank stand in comparison to international banks?"


Level of expertise

Level of implementation

"This is what I expected."


Level of expertise


My bank

International banks

"This is what I believe now."


Level of expertise


My bank

International bank

Our bank's E&S Risk management system

The Key Elements of an E&S Risk Management System


The business case

• Make the case: why do this?

Values, meet expectations, compliance,

financial objectives, risk management?

The business case





Senior management

• Find a champion

• Gain senior management buy-in

• Reporting



The business case





Senior management

• Find a champion


• Reporting



Policies

• Issues to cover?

• Internal or external

policies?

• Alternative ways to

collect internal

positions?

The business case





Senior management

• Find a champion


• Reporting



Policies



policies?


collect internal

positions?

Processes and tools

• On what to focus first?

The "worst"; the most relevant?

• E&S risk identification and assessment:

Larger clients: how and on what to engage?

Smaller clients/transactions: standardized process.

• Decision making/power, escalation

• Resources

The business case





Senior management

• Find a champion


• Reporting



Policies



policies?


collect internal

positions?

Processes and tools

• On what to focus first?

The "worst"; the most relevant?

• E&S risk identification and assessment:

Larger clients: how and on what to engage?

Smaller clients/transactions: standardized process.

• Decision making/power, escalation

• Resources

Training

• Make it relevant for

participants

Real-live examples;

Overcome skepticism,

illustrate the business case;

Help them to create value

for clients.

What Has Worked

● Focus on material risks first (there may not be a financial gain at first). Mitigate these risks.

● Provide the business with the knowledge they need to help their clients to mitigate the risks.

● Remember: In most cases the client is affected first - the bank suffers when the client suffers.

● Create value by advising your business on how to address these issues more professionally than your competition does.

● Don't forget to look for (such) opportunities.

● In-house ecology is important, it's the homework that must be done. But keep this separate from what you are doing in the business.


Source: The University of the Philippines Nationwide Operational Assessment of Hazards (UP-NOAH)

Gaining Senior Management Buy-In (1/2)

Compliance with investor requirements is still an important driver, as in many countries multilateral development banks are pushing on these issues. The objective is to achieve sustainable development. Some of the larger FIs are now listed in the Dow Jones Sustainability Index. This motivates the next tier of FIs to start their own sustainable finance programs.


Gaining Senior Management Buy-In (2/2)

Leading FIs have also started to systematically limit their exposure in certain sectors and/or certain clients. Affected clients then move down to other banks that do not have an E&S risk management system, which results in a risk transfer. An E&S risk management system aims at enhancing the risk management system. Risks are assessed more broadly. This allows to identify potential "bombs" when analyzing the portfolio. Some banks are developing risk maps for certain risks (for vulnerable flood plains or high-risk deforestation areas, for example). Such information also helps banks to support clients with better advise. This is an organizational learning process, that eventually gives FIs an edge over their competitors when exploring new market opportunities or new products.


Source: Lisette van der Kroon

Reporting to Senior Management


Materiality of

issues

Regulatory

expectations

Implementation;

performance

Agenda


2. Frameworks




Policies and Certification


Priorities


Risk Appetite and Assessment Criteria


Processes and Tools


Relevant Standards

● Equator Principles Guidelines for E&S risk management in asset-specific financing http://equator-principles.com

● IFC Environmental, Health, and Safety Guidelines tailored to approx. 60 industry sectors.

● IFC Performance Standards "Define IFC clients' responsibilities for managing their E&S risks."

● UN Guiding Principles on Business and Human Rights Human rights risk assessments / due diligence. Guidance: http://www.ohchr.org/Documents/Publications/GuidingPrinciplesBusinessHR_EN.pdf

Video: https://www.youtube.com/watch?v=BCoL6JVZHrA

● OECD Guidance for responsible business conduct (RBC) in the financial sector Initial document for institutional investors; second document is being produced on RBC in corporate lending/finance. http://mneguidelines.oecd.org/rbc-financial-sector.htm

● FSB Task Force on Climate-Related Financial Disclosure Climate risks. https://www.fsb-tcfd.org/

● Sector-specific standards, such as the Roundtable on Sustainable Palm Oil Due diligence. https://www.rspo.org/


http://equator-principles.com/



http://www.ohchr.org/Documents/Publications/GuidingPrinciplesBusinessHR_EN.pdf

http://www.ohchr.org/Documents/Publications/GuidingPrinciplesBusinessHR_EN.pdf

https://www.youtube.com/watch?v=BCoL6JVZHrA

https://www.youtube.com/watch?v=BCoL6JVZHrA

http://mneguidelines.oecd.org/rbc-financial-sector.htm





https://www.fsb-tcfd.org/




https://www.rspo.org/

https://www.rspo.org/

Summary

● The risk landscape is changing. Several drivers increase the necessity for banks to address E&S

risks more actively.

● E&S risks present credit and market risks, as well as compliance and reputational risks.

● Climate change presents physical and transition risks.

● There are several factors that can be used to successfully implement an E&S risk management

system: focusing on material risks and gaining senior management buy-in are two of them.

● International banks have implemented more or less sophisticated E&S risks. However, they still

face challenges - particularly when it comes to day-to-day business decisions.

● Regulatory change is happening (at the level of soft and hard law).

● Don't forget to explore potential business opportunities.
