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The procedures for managing environmental and social risk need to be applied in tandem with other risk management procedures already in place at each stage of the transaction cycle. To ensure this, a financial institution may need to revise the procedures that support its existing risk management framework by incorporating considerations for environmental and social risk throughout the transaction cycle or developing a stand-alone ESMS operations manual to formally document the environmental and social risk management process.

Integrate with Existing Risk Management Procedures
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The financial institution’s documentation associated with each stage of the transaction cycle should be revised to incorporate environmental and social risk considerations or new forms should be developed, if necessary. A financial institution’s transaction cycle typically includes:

  • Identification. The Loan Officers/Relationship Managers at a financial institution identify a potential transaction or are approached by a potential client/investee. The scope of potential transactions that a financial institution will consider will be based on its own financing objectives, and may include a focus on certain transaction types, industry sectors, or environmental business opportunities.
  • Screening. At an initial stage, the Loan Officers/Relationship Managers will determine if a proposed transaction complies with the financial institution’s requirements for financing, such as client/investee reputation and integrity. A financial institution’s requirements may also include a list of activities and industry sectors that it will not finance.
  • Appraisal. The Credit Analysts/Investment Analysts will appraise the financial viability and credit risk of a proposed transaction, which generally entails a site visit. The appraisal process should also incorporate an evaluation of potential environmental and social risk associated with the transaction, based on product type and industry sector. The Credit Analysts/Investment Analysts can assign a environmental and social risk category, which will determine the level of environmental and social due diligence that will need to be conducted.
  • Formal Approval. The Credit Committee/Investment Committee evaluates the overall risk of a potential transaction to determine if the financial institution should proceed with the transaction, and if so, under what conditions. The decision-making process should also factor in the environmental and social risk category, the findings of the environmental and social due diligence and any recommendations for corrective actions to mitigate potential environmental and social risk.
  • Negotiation. After a financial institution decides to proceed with a transaction, the Loan Officers/Relationship Managers discuss and negotiate the terms and conditions with the client/investee. This may include requirements to comply with environmental and social parameters, such as implementing corrective actions to mitigate environmental and social risks.
  • Disbursement. The Legal Department will develop the loan/investment agreement, which will stipulate the client’s/investee’s obligations for proceeding with a transaction to mitigate the financial institution’s exposure to potential risk. Additional stipulations in the legal agreement will include the client’s/investee’s obligations to comply with environmental and social parameters to minimize the financial institution’s exposure to environmental and social risk and liability.
  • Monitoring. The financial institution monitors each transaction on a regular basis to ensure that the client/investee continues to comply with the conditions stipulated in the legal agreement. Any non-compliance, which increases the transaction’s overall risk, can be identified early on and followed up with the client/investee. Monitoring should also include a review of the client’s/investee’s ongoing environmental and social performance as well as implementation of corrective actions, as necessary, to identify early on a potential environmental and social risk to the financial institution.

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