Banks look to apply free prior and informed consent in North America

On May 22, 2017, an open letter was sent from 10 global banks requesting the Equator Principles Secretariat to reconsider how financial due diligence should be done in developed countries like Canada, the United States and Australia.

The Equator Principles (EP) is an agreement between 90 of the world’s largest financial institutions to conduct environmental and social due diligence before lending to projects anywhere in the world. EP financial institutions have in place internal teams of environmental and social risk experts and also hire “independent review” advisors to assist them in conducting this diligence. The reviews consider a variety of aspects of a project, such as resource efficiency, greenhouse gas emissions, biodiversity, health and safety, labour standards, resettlement issues, Indigenous peoples and human rights.

In less developed countries, projects are assessed against both local legal requirements of the project and the World Bank’s IFC Performance Standards on Environmental and Social Sustainability (IFC Performance Standards). The approach in more developed countries has been to only evaluate the project against local legal requirements. Financings can be conditioned (through contractual covenants) on compliance with these standards or on corrective actions being taken to bring the project into compliance. There can be events of default whereby disinvestment could occur if the project falls out of compliance with accepted standards. Ongoing monitoring and review of the project will also be conditions of financing.

The EP are viewed by member banks as a risk management strategy. The long repayment horizon of debt financing for projects means that banks are exposed to project risk for a long time. The EP conditions financing on the application of best practices for environmental and social risk management. The goal is to protect the lender’s reputation and also manage the financial and legal risks associated with a project.

The EP were updated in 2013. At that time, the EP drew a distinction between “Designated” (developed) and “Non- Designated” (developing) countries. While the EP apply globally, the distinction meant that the IFC Performance Standards would only be applied to Non-Designated countries. The theory was that developed countries’ legal systems were more or less in line with the IFC Performance Standards, whereas less developed countries may have gaps versus international standards. This was the source of some controversy. Project proponents and governments in Non-Designated countries argued that there was no reason to assume those legal systems set lower standards than the IFC Performance Standards. Some financial institutions also felt that the laws in developed countries often fell short of the IFC Performance Standards. This included in the area of Indigenous rights where the IFC Performance Standards expressly calls for the application of “Free Prior and Informed Consent” for certain projects that would impact on the rights of Indigenous communities.

In practice, several lenders have begun conducting gap analysis on legal requirements and the IFC Performance Standards wherever they do business. But the prevailing practice was not to do so and there was no express requirement in the EP for that to be done.

Recent controversies relating to the Dakota Pipeline project brought this controversy to a head. As set out in the May 22nd letter, EP banks associated with that project felt they were “harshly criticised for supporting a project where consultation with an Indigenous community did not involve (FPIC)…”. They also felt they were criticized for “…not being able to intervene with the Sponsors (of the project) in order to help identify a solution that was agreeable to all parties in this context.” This experience led the 10 EP members (from Europe and Africa) to request the EP to reconsider its approach to drawing distinction between Designated and Non-Designated countries. In the letter, the group calls for the application of the IFC Performance Standards in every jurisdiction in the world. The writers also call for more mechanisms in the EP to address project related disputes in a way acceptable to lenders. In response, the EP have established working groups to make recommendations on these matters before the end of the year.

For Canadian miners, the application of the IFC Performance Standards to projects in Canada would be a big change that could create very challenging hurdles for financing.

Anticipating these future trends should lead companies that may seek financing to closely consider international standards like the EP and IFC Performance Standards in planning and executing projects. Access to capital for all may depend on the proponent’s ability to prove to lenders that the project can meet standards like FPIC, even if they are not required by law.

Traditional understandings of regulation are being disrupted by a growing emphasis on international CSR standards in global finance. This means that the goalposts for companies are ever shifting, but must be understood to preserve access to capital.

MICHAEL TORRANCE is a lawyer with Norton Rose Fulbright, Toronto.