03-02-2022 14:21

A deep dive on social debt: Formats and applications

The pandemic catalysed an explosion in issuance of social debt, most prominently by sovereign issuers. While the share of social bonds issued has now decreased as pandemic bonds are phased out, investor appetite for the new format remains. We explore how social issues can be integrated into existing debt formats and how they can differ in their application.

Sustainable debt products such as bonds and loans are generally split into two wider categories: use-of-proceeds and sustainability-linked debt. In the case of use-of-proceeds debt, such as social bonds and loans, the proceeds are earmarked for specific or eligible projects according to the Social Bond Principles and the more recently established Social Loan Principles. In contrast, with sustainability-linked debt, proceeds can be used for general corporate purposes without regards to specific projects.

When issuing sustainability-linked debt, the company determines sustainability key performance indicators (KPIs), corresponding sustainability performance targets (SPTs) and test date(s), at which progress will be evaluated. Sustainability-linked debt can include a combination of several individual metrics, which span over various ESG areas combining environmental, social and governance KPIs.

Social bonds and loans: Use-of-proceeds linked to pre-determined social projects

The Social Bond Principles define the market standards, and eligible project categories can include investments in affordable basic infrastructure, affordable housing and socioeconomic advancement and empowermentamong others. However, the social categories are often not as clear-cut as their green counterparts, as the market has yet to derive standards for a “social activity” in a funding context. The largest difference with green bonds however, is the additional requirement to define a target population, which is affected by a social issue and will ultimately benefit from the investment, such as those living below the poverty line or marginalised populations.

In the Nordics, social bonds have so far been issued by social infrastructure companies and “social pure-play” companies, such as health care product provider Getinge. Social loans, on the other hand, have been provided by Kommuninvest, as most large banks do not yet have the needed frameworks in place to offer these types of loans. As first movers, the format seems most accessible to companies with inherently social business models, such as education providers and health care providers targeting underserved populations.

Another option to link funding to targeted social investments is sustainability bonds and loans, which combine green and social project categories. A prominent Nordic example is Trianon. The format is particularly suitable for real estate issuers, as it can cover green buildings as well as affordable housing categories.

The sustainability-linked format has the potential to expand the positive influence of sustainable debt financing to companies with different types of assets, or those that are at an earlier stage of their sustainability journey.

What is “material” and “ambitious”?

Material: The issue is having a significant impact on the company, or the company can make a significant impact on the issue.

Ambitious: The company must go beyond “business as usual” in order to reach the target.

Sustainability-linked debt with social KPIs: Flexibility in the use of proceeds

Social metrics in sustainability-linked debt are far more widespread than the use-of-proceeds application as they rely more heavily on sustainability KPIs many companies already have in place, such as gender diversity and employee health and safety. The sustainability-linked format requires that any performance indicators and targets must be both material and ambitious.

Examples of social KPIs in sustainability-linked bonds include Kinnevik’s target to continuously invest capital in female-founded companies. Sustainability-linked bonds and loans are similar in their sustainability structure, the main difference being that most bonds only have one (or several) targets in the future, while loans have to have annual SPTs.

As the sustainability-linked format is in some ways more flexible in its application than the use-of-proceeds format, due to the lack of a requirement for suitable pre-existing assets, we view the sustainability-linked format as a route to opening up social sustainable debt financing to a new set of companies and industries. The format therefore has the potential to expand the positive influence of sustainable debt financing to companies with different types of assets, or those that are at an earlier stage of their sustainability journey.

The challenge: Impact metrics and measurement

Independent of format of social debt, the main challenge remains the selection of suitable metrics and impact measurement, where difficulties arise from two main factors. Firstly, social progress is often difficult to quantify. While CO2 emissions have proven to be an effective, impactful and standardised metric when it comes to climate impacts, not many social metrics have been developed or tested. This makes it difficult for issuers to determine how material the issue really is and which impact they can make. Secondly, social impact often becomes visible only in a long-term perspective, making it more difficult to unify with shorter-term financing needs.

At the core, both problems rest on the fact that not many companies have defined clear social targets, or comparable methods of measuring this type of impact on stakeholders and society. With the market maturing and the format withstanding initial trials and tests, we expect metrics and measurement to keep trending towards standardisation. However, debate over the appropriate assessment of the ambitiousness of sustainability-linked targets may continue to evolve over the coming year.


David Ray
Nordea Sustainable Finance Advisory
Lea Gamsjäger
Nordea Sustainable Finance Advisory

Nordea Sustainable Finance Advisory

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