Environmental and social due diligence: IFC standards and the Equator Principles

A bank asked to finance a mine, a pipeline or a power plant checks the numbers first. Then it asks what the project will do to people and the environment, and whether the sponsor can manage the harm. If the answer is unclear, the loan stalls. Two frameworks shape most of those questions in emerging markets: the IFC Performance Standards and the Equator Principles. A company that knows them can prepare for the review. One that does not may learn about them from a lender's checklist late in the process.

The IFC Performance Standards

IFC, the private-sector arm of the World Bank Group, published its Performance Standards on Environmental and Social Sustainability in 2012. They are directed to clients, meaning the companies IFC finances, and they provide guidance on how to identify risks and impacts and how to prevent, reduce and manage them. They also set the client's obligations for stakeholder engagement and disclosure. IFC has said it is updating its Sustainability Framework, so check the current version before relying on an older summary. IFC updated the Guidance Notes for the 2012 standards in June 2021.

There are eight standards.

• PS1. Risk management. This is the system standard. It sets out the assessment of risks and impacts, the management programmes, the organisation and the monitoring.
• PS2. Labour. It deals with working conditions and workers' rights.
• PS3. Resource efficiency. It deals with the use of energy, water and materials, and with pollution.
• PS4. Community. It covers the health, safety and security of people living around the project.
• PS5. Land resettlement. It applies when a project takes land or restricts its use.
• PS6. Biodiversity. It deals with the protection of habitats and ecosystem services.
• PS7. Indigenous peoples. It addresses projects that affect indigenous communities.
• PS8. Cultural heritage. It covers archaeological sites, sacred places and other heritage.

PS1 is the one that everything else hangs from. A sponsor with a credible management system can meet the others. A sponsor with none will struggle with every one.

The Equator Principles

The Equator Principles are a framework that financial institutions adopt to manage environmental and social risk in project finance. The Association describes them as a common baseline and risk management framework. The current version, EP4, took effect for all Equator Principles Financial Institutions on 1 October 2020. A bank that adopts them applies them through its own policies and procedures.

They cover five financial products across all sectors, subject to thresholds: project finance advisory services, project finance, project-related corporate loans, bridge loans, and project-related refinance and acquisition finance. For project finance and advisory services, they generally apply where total project capital costs are US$10 million or more.

The ten principles read as a process. They are review and categorisation, environmental and social assessment, applicable environmental and social standards, the management system and action plan, stakeholder engagement, a grievance mechanism, independent review, covenants, independent monitoring and reporting, and reporting and transparency. Principle 3, applicable standards, is where the IFC Performance Standards often appear, because banks use them as a reference for projects in countries that lack a strong domestic regime.

What the review looks like in practice

A bank first categorises the project by the level of risk. Projects with potentially significant, diverse or irreversible impacts get the closest examination. The sponsor then commissions an environmental and social impact assessment, usually by an independent consultant, and the bank's own adviser reviews it. Out of this comes an action plan with deadlines, which becomes part of the loan agreement through covenants. During the life of the loan, independent monitoring reports on compliance.

Stakeholder engagement and the grievance mechanism are not paperwork. Lenders look for evidence that affected people were consulted before decisions were made, that their concerns changed something, and that they have a way to complain. A project that begins consultation after design is frozen has a weak record.

Why it matters to tender bidders too

These principles reach beyond lenders. World Bank procurement rules say sustainability requirements are normally evaluated through non-price criteria, and the Bank may disqualify a firm for two years for non-compliance with contractual obligations on sexual exploitation, abuse and harassment. Those provisions mean a contractor needs a labour and conduct policy that works on site, and one that its subcontractors also apply.

A construction firm bidding on a bank-financed project should read the environmental and social clauses in the bidding documents as binding. They usually require a site management plan, a code of conduct, worker grievance procedures and incident reporting. Costing those obligations at the bid stage avoids a dispute later.

What a sponsor should prepare

• A system. A written environmental and social management system, with named responsibilities, budget and reporting lines.
• Baseline data. Surveys of the site's environment, communities, land use and cultural heritage, collected early enough to influence design.
• A stakeholder plan. A list of affected groups, a consultation record and a public information plan in the local language.
• A grievance process. A channel people can use without cost or fear, with deadlines for response.
• Land documentation. Evidence of how land was acquired, who was compensated, and on what terms. Resettlement raises the heaviest scrutiny.
• Contractor requirements. Clauses that flow the standards down to contractors and suppliers, with audit rights.
• Independent verification. An agreed way to check the work, such as an independent consultant reporting to lenders.

Sponsors who prepare these items before the first lender meeting save time, and a gap in any of them is likely to come back as a condition in the loan agreement.

Guides explain how things generally work. They are not legal, tax or investment advice for a specific project or country. See our editorial policy.