Equator Principles Adoption:Peer Pressure or Piggybacking?

Bos, J.W.B., Contreras, M.G., Kleimeier, S.m.contreras@maastrichtuniversity.nl

School of Business and EconomicsFinance Department

Maastricht University

We study adoption of voluntary codes of conduct, the EquatorPrinciples, by banks in a setting in which banks cooperate.

What are the EquatorPrinciples?

Set of voluntary codes of conduct for marketself-regulation.Address environmental and social issues in projectfinance operations.Response to NGO-led campaigns accusing banks ofsupporting project financing with negative social andenvironmental consequences.

The EP provides with tools and mechanisms to manageenvironmental and social risks.Projects are categorized prior to financing.Members prepare annual reports on their activities.Standardized way of financing.

Expected benefits of adopting theEquator Principles

Brand benefits and product differentiationCredibility boostsIncreased corporate profitabilityBetter market accessPositive signal mechanismPre-empt boycotts, and signal responsible conductReputation mechanism

2003 2004 2005 2006 2007 2008 2009 20100

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Why not adopt the EquatorPrinciples?

Low reputation riskOther practices in placeEconomies of scaleOpportunity costs

Banks adopting the EP tend to beHeadquartered in countries with stronggovernance/institutions/CSR profiles (Wright andRwabizambuga, 2006; Bondy et.al., 2004)The largest in the market (Saunders and Allen, 2002;Saha and Darnton, 2005; Wright and Rwabizambuga,2006; Scholtens and Dam, 2007)Multinational banks operatings transnationally (Wrightand Rwabizambuga, 2006)In the spotlight

Number of EP Adoptors # Adoptors 2010 Rule of Law2003 2004 2005 2006 2007 2008 2009 2010 Market Size 2010

North America 8U.S.A. 1 1 2 4 4 4 4 4 0.04 1.63

Canada 1 1 2 3 4 4 4 4 0.21 1.81

South America 4Brazil 0 2 2 2 2 2 2 2 0.67 0.00Chile 0 0 0 0 1 1 1 1 1.00 1.32

Colombia 0 0 0 0 0 1 1 1 1.00

Europe 26Netherlands 2 2 3 3 3 3 5 6 0.67 1.81

France 1 1 1 1 2 3 3 4 0.22 1.51United Kingdom 3 3 3 3 3 4 4 4 0.19 1.76

Germany 0 0 0 0 0 0 0 1 0.02 1.62

Africa & Middle East 5South Africa 0 0 1 1 1 1 3 3 0.60 0.11

Egypt 0 0 0 0 0 0 1 1 0.13 -0.12Oman 0 0 0 0 1 1 1 1 0.50 0.64

Asia & Oceania 7Japan 1 1 2 2 3 3 3 3 0.06 1.33

Indonesia 1 1 1 1 1 1 1 1 0.11 -0.64Australia 1 1 1 2 3 3 3 3 0.18 1.76

Total 30 38 44 53 62 70 77 80 0.20

We take a different approach

The corporate loan market is a market of cooperations

Banki ——– Bankj

Peer pressurePiggybackingSocial pressure

Adopt/Not Adopt

1 2 3 4 5 6 7 80

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Equator Bank

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Table 1 : Estimation 1This table presents the estimation results from our Cox Proportional Hazards regression.Clustered standard errors by bank pair and time. Ties=exact. Unbalanced panel.

Hazard RatiosBase Model Controls

(1) (2)# Equator Relationships 1.047*** 1.209***

[0.005] [0.0177]Peer Pressurej 1.721*** 1.016

[0.078] [0.063]Equator Peer Pressurej 3.149*** 1.732**

[0.271] [0.315]Piggybacking 0.694*** 0.806***

[0.040] [0.036]Social Pressurei 1.008*** 1.009***

[0.000] [0.001]Country Riskj 1.000

[0.002]Country Riski 1.108***

[0.011]Dodgy Dealt 0.959

[0.074]Dodgy Dealt−1 0.435***

[0.114]Top SL Lenderi 1.870***

[0.072]Country lending concentrationi YesIndustry lending concentrationi Yesp- values in brackets* p < 0.05, ** p < 0.01, *** p < 0.001

Explanation Test ResultCSR country profile Bloomberg ESG Country

Risk 2010Other sources of socialpressure

Dodgy Deals from BankTrack

Bank characteristics Size: Large vs. Small (Syn-dicated Loans)

Country lending spe-cialization

Country lending concentra-tionDeveloped vs. Developingcountry lending concentra-tion

Bank origin Geography of lending Dodgy Deals Bank Size(1) (2) (3) (4) (5) (6)

# Equator Relationships 1.035 *** 1.041 *** 1.069 *** 1.015 ** 1.074 *** 1.095 ***[0.006] [0.006] [0.009] [0.006] [0.010] [0.011]

Peer Pressurej 1.852 *** 1.809 *** 1.026 1.614 *** 0.986 1.000[0.082] [0.080] [0.058] [0.075] [0.059] [0.058]

Equator Peer Pressurej 2.321 *** 2.332 *** 2.317 *** 3.465 *** 2.264 ** 2.045 **[0.267] [0.266] [0.320] [0.297] [0.362] [0.332]

Piggybacking 0.761 *** 0.759 *** 0.736 *** 0.76 *** 0.742 *** 0.791 ***[0.045] [0.045] [0.034] [0.040] [0.034] [0.034]

Social Pressurei 1.007 *** 1.007 *** 1.008 *** 1.005 *** 1.008 *** 1.004 ***[0.000] [0.000] [0.000] [0.000] [0.000] [0.000]

Country Riskj 1.003 **[0.002]

Country Riski 1.017[0.002]

Lending in developingi 0.810 ***[0.043]

Lending in developingj 1.068 **[0.030]

Dodgy Dealt 1.748 *** 1.619 ***[0.025] [0.037]

Dodgy Dealt−1 1.800 *** 0.911 **[0.028] [0.042]

Top SL Lenderi 2.392 ***[0.045]

Country lending concentrationi Yes YesIndustry lending concentrationi Yes Yes Yes

Explanation Test ResultCSR Country Profile Bloomberg ESG Country

Risk 2010X

Correcting image Dodgy Deals from BankTrack

X

Bank characteristics Size: Large vs. Small (Syn-dicated Loans)

X

Country lending spe-cialization

Country lending concentra-tion

X

Developed vs. Developingcountry lending concentra-tion

X

In conclusion

Voluntary codes of conduct, such as the Equator Principles(EP) are a source of reputation for banks in a setting ofrepeated interactions. However,

Banks piggyback on adopting banks and do not adoptthe EP.Banks do adopt the EP when the EP bank theycooperate with has a strong influence on thenon-adopting banks.Banks do adopt the EP when the losses from damagedreputation are higher than the costs of adopting.Adoption of such voluntary code of conduct is contingenton the duration of continuous collaboration with EPbanks.

EP adoption has slowed down since its inception in 2003Piggybacking through collaboration explains this slowdownRegardless of country of origin, country/industrylending specialization, size, involvement in dodgy deals,piggybacking offers a way for banks to participate inEquator-led project financing without adopting the EP.This implies that the EP is far from becoming anindustry standard in responsible lending.

Extra Slides

For all syndicated loansAverage Estimation

Equator Non-EquatorSyndicate Syndicate

Log[Deal Amount] 18.7207 18.3631 0.1908 ***Number of Arrangers 2.7859 1.6092 0.3090 ***Fees 11.3644 12.6583 -0.0013 ***Pricing (Drawn) 93.2611 126.6088 -0.0018 ***Pricing (Spread) 121.9537 155.4485 -0.0001 ***Multiple Tranches 0.1107 0.0510 0.9095 ***Number of tranches 28232 26484

Extra Slides

For project finance loansAverage Estimation

Equator Non-EquatorSyndicate Syndicate

Log[Deal Amount] 19.2092 18.7686 0.3913 ***Number of Arrangers 3.5750 1.9038 0.2796 ***Fees 27.2547 29.2276 -0.0022Pricing (Drawn) 151.0141 139.9679 0.0003Pricing (Spread) 181.0678 151.5510 0.0012Multiple Tranches 0.1063 0.0769 -0.2426Number of tranches 160 150

Extra Slides

Descriptive Statistics

Variable Mean S.D. Minimum Maximum# Equator Relationships 3.203 2.266 0.000 14.000Co-arrangement with Equator Bankj 0.165 0.371 0.000 1.000Log[Degree Banki] 5.976 1.704 0.693 8.468Cumulative Project Finance Deals 30.463 45.068 1.000 268.000Banki Importance for Bankj 0.069 0.1514 0.000 1.000Banki Importance for Equator Bankj 0.005 0.038 0.000 1.000Npairs = 9,037

Extra Slides

Piggybacking

Year Equator & Two Equator Non- Equator &Non-Equator Bank Banks Non-Equator Bank

2003 0.2743 0.0203 0.70542004 0.2679 0.0219 0.71022005 0.3171 0.0255 0.65742006 0.3547 0.0432 0.60212007 0.3927 0.0637 0.54362008 0.4200 0.0871 0.49282009 0.4427 0.1117 0.44562010 0.4569 0.1259 0.4172