Equator Principles – Creating New Regulators or the Extra Mile?

A recent note on the LinkedIn site of the International Council on Mining and Metals (ICMM) suggests that Equator Principles Financial Institutions (better known as Equator Banks) are emerging as the new 'regulators'. Is this real or desirable?  Shortlink: http://wp.me/p27qSt-wZ

The third generation of the Equator Principles (EP3) was recently launched (see here). Not sure if the Equator Principles (EP) Banks would accept a designated role of de facto 'regulars' for projects they co-finance in emerging markets. This is not to say that involvement of Equator Banks (see list and their EP reporting here) does not result in projects going beyond local regulatory or customary ‘old school’ requirements.

Examples of ‘going the extra EP mile’ can include a more participatory approach in the ESIA and stakeholder engagement process, or adopting a more advanced approach to dealing with biodiversity. It seems to me that the Equator Principles and IFC Performance Standards do not seek to reposition the financial institutions as regulators. Instead, they seek to encourage the adoption of Good International Industry Practice (GIIP). (For further background on the genesis of EPs and IFC PS, see IFC Performance Standards: Lessons Learned).

Consider this: regulators don’t have the luxury of exiting a non-performing project when the going gets tough. However, financiers can decide to pull the proverbial plug or dump their shares. Also, unlike the case of regulations and permits, not meeting EP requirements does not stop profitable project from moving forward. It may simply mean that these projects adopt a financing approach which is more tolerant of social, environmental and reputational risks. Instead of positioning financiers as regulators, the Equator Principles recognize and deal with the capacity limitations of financial institutions.

The EPs (and IFC PS) emphasize the need for technical judgments. Hence, the EPs explicitly introduced requirements for EP Banks interested in financing a project with potentially significant impacts to hire independent technical experts to assist with reviews and due diligence. These experts are typically referred to as Independent Engineers (IEs).

The tasks of such Independent Engineers include reviewing and monitoring projects, and making technical judgment calls. These increasingly include environmental and social aspects of projects if the IE's scope is aligned with the Equator Principles. Overall, I think the application of the Equator Principles and use of Independent Engineers for large capital project developments in emerging markets adds both real and perceived value.

IE's can help investors to better understand and manage significant project risks and fine-tune loan and subscription agreements. These define conditions of disbursements and when project completion has been achieved. Independent Engineers can also vet major project changes, examine cost-overruns and many other issues which happen as projects emerge from desktop/engineering to construction and financial performance stages.

However, as some advocacy NGOs have pointed out, this does not mean that there will no longer be any fossil fuel or other projects they deem to be unfit for financing by Equator Banks (see also While BankTrack criticizes Equator Principles, IFC celebrates Community of Learning). More broadly, the Equator Principles also need to consider justifying their institutional existence (in light of competing standards and organizations), improve their approaches and consistency (given concerns about gap between leaders and laggards), and deal with growing transparency expectations (see also: Are Equator Principles Still Relevant after Rio+20 and UN PRI?).

Following some major delays (about which I blogged here), the updated Equator Principles (Version 3, known as EP3 or EPIII) have been lunched in time for the Equator Principles Conference. This event will help celebrate the 10th anniversary and will be hosted by ING from 4-5 June 2013 in Amsterdam. Do you feel that, by adopting the Equator Principles, financial intuitions want to be or have unwittingly become de facto regulators? And do you think Independent Engineers are just a pain in you know where or do they add value?