SBTi: The financial sector needs science-based targets, but make them bankable

It turns out there is such a thing as too much standardization. At least that is what some banks concluded when it became clear that the Science-based Targets initiative (SBTi) – which is designing a net-zero target-setting standard for the financial sector – wouldn’t cater to the specifics of transition banking in emerging markets.

As a result, the independent arbiter for transition pathways in the private sector is shedding support from lenders. Over the course of 2023, four big banks retreated from their commitment to seek SBTi approval for their emissions-reduction targets. They did so very quietly.

Societe Generale backed away in January alongside HSBC, while Standard Chartered and ABN Amro did so in October.

The banks prefer to stick with the pathway and target-setting guidelines of the Net-Zero Banking Alliance (NZBA), which is also science-based, but has been put together by banks for banks – as a result of which, it cannot really be considered as independent.

Herein lies the problem with third-party supervisors in sustainable finance: their legitimacy as supervisors depends on the compliance of the entities they are supposed to be supervising.

Back when the SBTi announced its project to enable financial institutions to align their lending and investment portfolios with the Paris Agreement, the banking sector was quick to get on board.

ING committed to get its science-based targets aligned with SBTi criteria as early as 2015, while BNP Paribas said it would do so by 2016.

In October 2021, SBTi launched its corporate net-zero standard, declaring in the certification document: “The number of businesses committing to reach net-zero emissions has grown rapidly, but not all net-zero targets are equal. Without adhering to a common definition, net-zero targets can be inconsistent, and their collective impact is strongly limited.”

This was good news for the finance industry and for banks under pressure to get corporate clients on board while transitioning to cleaner business models.

By April 2022, and under the new leadership of Luiz Amaral, the SBTi had also published the first foundation paper for science-based net-zero target setting in the financial sector.

The SBTi then set up an expert advisory group of bankers, insurers, asset managers, consultants, scientists and NGOs. The aim was to get the financial institution net zero standard (Finz) published by the first quarter of 2024.

According to the SBTi, banks took the lead in adoption in 2022. They were the sector with the most science-based targets, representing approximately one third of all financial institutions.

Last June, SBTi published a consultation draft with sector-specific criteria and recommendations. It included the immediate end of project- and company-level financing flows to the coal value chain.

It also said financial institutions must end new financing to all unabated oil and gas activities at project level, and to companies that are involved in expanding production and/or adding capacity.

Importantly, the SBTi requires financial institutions to publish their net-zero targets within 24 months of committing to the initiative – although some have received extensions because of the delay in getting the standard published.

Ironically, the SBTi process is both too much and not enough for banks.

On the one hand, the requirement to submit targets across all sectors within a two-year period is seen as too strict by some, especially in comparison with the NZBA approach, which offers the opportunity to focus on priority sectors first.

According to the SBTi’s new commitment-compliance policy, firms that do not follow the 24-month timeline are marked as ‘commitment removed’ on the target dashboard. That has been described as an unfortunate way of naming and shaming the laggers and quitters.

For example, by mid December, HSBC and ABN Amro did not feature on the dashboard anymore, whereas Standard Chartered was still there, but its near-term target status is marked as ‘removed’. The same is true for Allianz, which committed to the SBTi in 2018.

Nevertheless, since the Finz standard has not yet been finalized, it doesn’t make much sense for a bank to commit to following a methodology without being sure of what that will entail.

A lot of corporate and investment banks have already started setting sector-specific transition pathways to align their lending books to the 1.5-degree warming scenario without any assurance that these meet the SBTi’s – as yet not finalized – criteria.

“The experience we have is that SBTi is not fit for purpose or keeping pace with what’s needed to deliver a transition, given delays in both validation and the provision of critical sector guidance,” one source says.

For them, it is better to back out now and wait for the final text. Hopefully, that will be achievable. At worst, banks can still follow the NZBA.

Beyond the timeline issue, there are – as always – disagreements over how prescriptive a lender’s transition pathway should be when it comes to ending the financing of fossil fuels.

Two main arguments come up. Firstly, some banks claim that the SBTi ought to consider that ending financial flows to the coal, oil and gas value chains looks very different for a lender than for an insurer or investment manager.

It is all well and good to ask asset owners to move their capital from brown to green – which is what asset managers could do by funnelling capital to labelled funds with stricter portfolio exclusions – but if the point is to transition and to get polluting companies to pollute less, then banks need to be able to meet the capex needs of clients as they do that.

That means remaining financially exposed to the value chain in some way.

Secondly, banks will never accept an approach that limits their ability to work with clients, especially those exposed to high-emitting sectors in emerging markets, some of which have net-zero ambitions that exceed the 2050 deadline, such as India and China.

For those lenders that are engaging with the Just Energy Transition Partnerships in South Africa, Indonesia or Vietnam, cutting financing to fossil-fuel clients is just not feasible.

Much like the high-level negotiations at the COP meetings, it comes down to polarized views on what counts as a credible transition – and who makes that decision.

During the break between two panels on impact investing at COP28, I was told to consider why there had been a delay in finalizing the Finz standard, and why the feedback and consultations are essential to the SBTi.

“It’s the credibility of SBTi that is at stake here, not ours,” one delegate said.

Clearly, SBTi knows this. After having received and analysed over 200 responses, the verifier updated its near-term criteria and recommendations, making changes to its position on fossil-fuel financing.

The group loosened its call to end corporate financing to oil and gas companies still expanding production and softened the definition of ‘fossil fuel companies’ as those listed on the Global Oil and Gas Exit List (Gogel) or that derive more than 30% of their revenue from the oil and gas value chain (as opposed to the previously suggested 5% threshold).

SBTi was slammed for this by the financial sector watchdog Reclaim Finance.

This echoes a similar experience at COP27 in Egypt, when several US banks threatened to quit the Glasgow Financial Alliance for Net Zero (GFanz) unless the organization dropped the UN race-to-zero requirements that would force them to stop financing new fossil-fuel projects and publish a transition plan that covered all emissions scopes, both portfolio and financed.

At the time, one banker told me that this was a necessary step backwards to consider the bipartisan political realities that US banks faced.

In other words, it is not the banks that should adapt to new industry standards, but the standards that should be moulded in a way that makes sense to banks. Or else, the banks will leave and the standard will be pointless, was the implication. If only banks could validate themselves.

The same old conclusion.