Rating, Credit Decision and Pricing – How Sustainability and Life Cycle Assessments are Changing Credit Practice

Session
MO.3.E || Life Cycle Metrics in Sustainable Finance and Business

Authors
Ender, Manuela; Ilg, Robert; Albrecht, Stefan; Fischer, Matthias; Wimmer, Konrad

Abstract
If climate protection measures are inadequate, the economic consequences could soon exceed the impact of the COVID 19 pandemic. To prevent this, ecological and economic factors must be intelligently linked: this is the only way to ensure that sustainable aspects are already taken into account in the valuation of investment objects and that incorrect economic assessments can be avoided as far as possible in the future. The practice of lending is facing not inconsiderable adjustments. From a sustainability point of view, our market economy system must ensure as quickly as possible that the prices of the goods produced reflect the entire value chain up to disposal and recycling costs that will only arise in the future (“life cycle costing”). This approach is now strongly supported by the Sustainable Finance Committee of the German Federal Government. This is also a key message to the banking industry. Investment decisions by bank customers are increasingly linked to the demand for “green investments”. Without a meaningful life-cycle costing approach, the danger remains that both bank and customer are exposed to the risk of “green washing”. The same applies to lending decisions: here, the bank must ultimately assess the business model of the borrower as well as the subject of the loan. Without monetary integration of ecological indicators, the existing rating systems lose their ability to make accurate assessments of creditworthiness. Investment objects like real estate would be assessed with incorrect market values and, accordingly, the lending decision (the same applies to the valuation of collateral) would be based on inadequate data. This would lead to wrong decisions (lending yes/no) and to loan interest rates that are not appropriate for the risk taken, since sustainability risks would not be taken into account or only insufficiently. The contribution presents a concept of how, in addition to industry-specific factors in the rating, the sustainability of the loan applicant or the object to be financed can be taken into account in the loan decision by means of additional quantitative and qualitative individual factors.