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sustainability and finance

How ‘sustainable’ and ‘finance’ can go hand in hand

‘Sustainability’ and ‘finance’ can sound like a contradiction. Hydro Chief Financial Officer Pål Kildemo talks about how to combine the two, for the benefit of investors, companies and society.

pål kildemoCan finance become combined with sustainability? What is, in your view, sustainable finance?

That's a good question. And I know that typically the thoughts among many finance and economy people have been that finance or profitability and sustainability don’t necessarily go hand in hand.

Why has that been the case?

I think it’s because many business cases for investments which have a longer-term aspect have not been as easy to calculate as those which have been maybe “less sustainable”. But in the longer term, I'm quite clear on that, that there is probably a strong relationship between those two.

What has changed?

Well, what has typically changed is probably the consumer interest in sustainable products, that the fact that we're now seeing an increasing interest for the ability to pay for products which are sustainable. That definitely has made it easier to combine the two elements.

But whose responsibility is it to drive sustainability and how can the finance sector drive sustainable investments?

Well, before we go into that, I think when we talk about sustainability, I would like to focus on what sustainable finance is. Because as with any sustainability topic which generates a lot of interest, there are challenges and opportunities for business. There are many different definitions, often tailored to fit the need for the person or entity who is talking about the topic. And in my view, there are two elements of sustainable finance. One is finance in the marketplace, which are products that are made available with the sustainability aspect. For example, green bonds, green stocks, or other products or elements of sustainability. And the second one is reporting-driven transparency elements, which includes sustainability reporting, the green P&L, the third-party sustainability ratings. And so, when we talk about finance and sustainability, we need to both focus on the market side, but also the transparency side.

Whose responsibility is it to drive sustainable financing then?

I think it's both the companies from the transparency and reporting side, but also the financial markets from the market side. If we purely make available reports, benchmarking, visualize data for investors and analysts, and these are not turned into products for the markets to invest in, then this movement will be slower than if both parties work on this.

Have you seen a change in investors’ interest in sustainability in your time? You have been in Hydro for a long time in investor relations and in primary metal and now you're back as the CFO. What have you seen during these years?

There's definitely been a big change in external interest. Five, six years ago, when I worked in investor relations, we would typically spend three to five minutes of a meeting on sustainability-related topics. Now in the same meeting, we can spend 40 to 45 minutes of an hour on that topic. So there's definitely a greater interest. We have more and more funds and similar investing purely from a sustainability perspective. And we're also getting more and more challenging questions on the topic. So there's clearly been a shift. I think another area where you can really see that is in the pricing of sustainable companies. You have smaller greener companies, which are now trading at a much higher multiples and premiums compared to companies which are not viewed to be sustainable.

So you're receiving questions from investors. What type of questions?

Well, it can typically be related to what plans do you have, within all the different UN sustainability criteria? What are you doing for life above water? What you're doing for life below water? What are you doing for climate? What are you doing for employment, for schooling, etc. It's all across the board. And typically, it varies a bit from investor to investor.

But do you find investors are definitely skilled in these questions?

There's been a huge increase in skill there. And typically, you have departments within the larger investor houses which focus on this. So, if the general analyst is not really up to speed on all topics, they always have someone with that extra level of competence, which ensures that they're pushing the right buttons.

But how can we ensure certainty about what is actually a sustainable investment?

That is one of the most difficult questions. Because today we have many different, what you would call taxonomies when it comes to what is sustainability. And you would think that it is easy to say that this is either sustainable or not sustainable. But what might be sustainable for one company is not necessarily for another. If you look at, for example, Hydro. We are emitting CO2 from our smelters, and if you only as an external party focused on that part of our operations, you might deem us a non-sustainable company. But then we produce hydro power and we produce aluminium based on hydro power, which  has a completely different footprint from a lot of the world's operations, which produce based on coal. So in that manner, you would say, ‘Well, maybe Hydro is a bit more sustainable than a coal-fired producer.’ And then you have the full life-cycle aspect, our products, they are lighter, they reduce weight when put into cars, they're infinitely recyclable. If you put that aspect into it also, then we are more sustainable than other types of material, compared to if you only look at one part of our process. And so, landing on what is sustainable and what is not, isn't straightforward. But neither were accounting rules when they were set up in the first instance, when you first started with IFRS (International Financial Reporting Standards). You have a frame, and then you gradually developed it over the years. And I think the same thing will happen for sustainable metrics.

Do you often get into discussions with the investors about what you would call sustainable and then you're challenged on that?

Oh, yes. All the time. And it's not the discussion in a negative aspect, it's more an enlightenment process. Because what is clear from us internally in Hydro is not clear when you first look at the company from the outside. So, again, if you only look at the total tonnes of CO2 emissions, then you might have one view. But when you see the full story, then that changes a bit. And that is very important for us to work on towards the EU, towards other authorities, to ensure that when we define a common taxonomy, that that taxonomy is relevant for all companies, and not focused on a particular group or segment of a company.

And from a Hydro point of view, can you give some examples on how you work with sustainability in finance, and also how you prove the sustainable operations?

We have many different examples and I would maybe like to start with one which is very much finance related. As you know, we need to finance our operations from time to time. We recently signed a new revolving credit facility, which is basically funds available to draw on if the markets move against us. And here, we decided to link the margin that we pay for gathering this money if we needed to the reductions of CO2 targets that we have. So, if we are able to deliver on our CO2 reduction targets, then we pay a lower landing fee than if we are not able to deliver on them.

How much can you save by doing this and reach your sustainability targets?

You can save some basis points, when it comes to the margin calculation. Of course, at the end of the day, it's not what tilts the company in one direction or the other. But the more incentives like this you put into place, the greater the link between sustainability and profitability becomes and the easier it is to ensure that we push through with the sustainability investments.

Do you see an increased interest in those kinds of relationships in the financing side?

Oh, yes, definitely. Just recently, we're out issuing new bonds in light of the ongoing COVID-19 situation. We had many discussions on if this should have been green bonds’ and the potential for doing that going forward. Then again, you come back to these taxonomy discussions and the lack of a clear alignment on taxonomy on what are green bonds and what are not, so there is an interest. That's why we also need to move fast to ensure that there is a way of measuring sustainability in an aligned way so not everyone can call bonds ‘green’ bonds.

When you discuss these kinds of financing with banks and others, who is initiating such a relationship and is it us a company or is it the banks themselves?

When they came to the revolving credit facility, we initiated it. It fit well under our new sustainability and profitability setup. When we had the last bond road show, it was some of the investors that initiated it. Basically, they said that we would love to lend to Hydro, and we would like to do it in a greener perspective. We believe that a lot of the targeted improvements you're doing under the sustainability heading is something which would qualify for green lending. So sometimes it's us, sometimes it's the markets, and of course, sometimes it's third parties.

In setting a European framework for sustainable finance, what might be the challenges in designing a taxonomy with sustainability objectives?

I think it’s a bit back to the topic we touched upon earlier, that sustainability can be different between different companies. Someone who is becoming a bit less unsustainable is also probably the right thing to do from a sustainability perspective. And I think the fear is that you might end up with taxonomies and definitions only favoring those companies which are 100% sustainable across the value chain. And thereby you’re losing the potential to use these measures to have companies change. And I think that is an interesting topic to touch upon because you can approach sustainability and financial sustainability in two ways. Either you can say that we just exclude all of companies which don't match a certain part of the criteria. And that might work well in parts of the world, where there is not an alternative to attract capital from outside that region. But if for most markets which are general, you choose that approach, then these will probably get financing from a different place, maybe at a somewhat higher costs, but you're not helping drive change necessarily.

So the idea is to drive change and a change in behavior rather than to only reward those who already changed.

Exactly. The exclusion principle is one. The other principle is basically to say that we want to use these measures to help companies change, so you will have access to sustainable capital and similar, given that you do this, this and this. You could take it a step further. You could say that there's a lot of passive capital sitting around these days and basically if that capital were to be invested with sustainability in mind, then that capital could influence decisions made in boards or other arenas to ensure that the companies change rather than just excluding them.

Is there a need for regulations to drive interest in sustainability from the investors’ side and from the finance sector? And basically, is sustainable finance hype? Or is it here to stay?

In general, I'm not a big fan of enforced regulations on the markets. And I think what we've seen in the latter years is that this is probably not hype and something which is changing the marketplace. So with the example of the interest you're seeing for greener companies, even in this COVID-19 situation, they have not fallen more than other type of companies, as you typically saw after the dot-com bubble. I think you can say that there is an underlying desire to drive this forward, even if markets move a bit against you. So, at the end of the day, I'm more positive to putting powers in the hands of the markets and not necessarily trying to enforce this.

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