How we apply our investment process 

How we apply our investment process

Our investment process consists of the following stages. Through case studies we illustrate how ESG risk management is an integral part of this process.

Step 1 | Investment selection

Within our markets, we identify investment opportunities that contribute to our three SDGs. We check geographic limitations, the exclusion list, customer capacity and commitment, the viability of the investment plan and the business itself. We also check if our investment is additional.

In practice

FMO was asked to finance a commercial forest on native grassland. The project had uncertain land tenure due to local complexities, current law and previous displacement of local communities. In addition, the project would require not just a high conservation value (HCV) assessment, but also a credible biodiversity offsetting program with evidence of biodiversity net gain. While the project was attractive on many fronts, including the commercial one, it didn’t appear as if the mitigation measures could meet FMO’s exclusion list and IFC PS6 Biodiversity Requirements. As such, FMO did not move forward with the investment.

Step 2 | Clearance in principle

We make an initial assessment of risks and opportunities, define the terms of our engagement, and scope any further assessment needs. We conduct an initial KYC assessment to ensure that we identify potential risks pertaining to the customer in relation to financial economic crime and that the customer complies with anti-money laundering, anticorruption, and anti-terrorist financing regulations. We screen potential effects on environmental, social, governance and human rights issues. We document this in a Clearance in Principle (CiP) proposal, which informs our decision to continue to prepare a final investment proposal.

In practice

FMO was considering an investment in a debt fund aimed to provide scalable financing solutions (e.g. project and asset-based finance loans and financial lease arrangements) for small and medium-sized solar and electricity storage projects for commercial and industrial companies in Africa. The fund’s investment team had significant experience in Europe. In addition to identifying key E&S risks, the due diligence process sought to understand how the fund was addressing contextual risk and how the investment team's European expertise could be extrapolated to the African context.

Step 3 | Due diligence

We carry out a more in-depth project assessment. We document the results in a finance proposal that informs our final decision to invest. For high-risk ESG investments, we conduct a site visit and meet with various stakeholders associated with the investment. Where needed, we engage external experts. We define and negotiate further ESG requirements and conduct further ESG risk assessments when needed. This may include additional human rights studies, a look at animal welfare and consultation with local civil society.

In practice

An African bank in a fragile state presented both high contextual risk as well as corporate governance risks. The assessments highlighted the bank’s exposure and gaps, but also initiated a meaningful engagement. Recognizing the potential for improving the management of environmental and social risks in their portfolio and enhancing their corporate governance practices, FMO took proactive steps. These involved negotiating with the bank to implement additional ESG requirements and increase its awareness on opportunities to improve management of E&S risks in the portfolio and to enhance its corporate governance practices. The due diligence process resulted in an E&S and corporate governance action plan that were included in the loan agreement. The close involvement of the ESG specialists fostered a strong relationship with the key decision makers of the bank. The bank has since begun to implement both the corporate governance and E&S improvements.

Step 4 | Financial Proposal: decision to invest

Our Credit department evaluates each financial proposal and prepares a comprehensive credit advice to guide the final investment decision. Upon approval of an investment, but before finalizing any contract, we disclose the proposed investment on the World Map page on our website per our Customer Disclosure Policy. This disclosure period is vital, as it allows (local) stakeholders to offer feedback or additional information. This enhances the quality of our investments and enables FMO to make more informed and effective decisions. This process not only ensures transparency but also fosters a collaborative approach in our investment activities. 

In practice

FMO’s Credit team endorsed an investment in an agricultural-processor and exporter with operations spanning across Asia and Africa, and emphasized the significance of ESG additionality. We identified a valuable opportunity for FMO to act as a strategic business partner and to support the customer in implementing a robust E&S supply chain management program that is aligned with the latest EU regulations concerning human rights and climate change. Our involvement is expected to enhance the E&S management practices of the customer’s smallholder farmers and, simultaneously, to ensure compliance with these new EU regulations. Moreover, our corporate governance specialist proposed a comprehensive corporate governance action plan to facilitate the customer's journey towards an initial public offering.

Step 5 | Contracting

To make them legally binding, FMO includes ESG requirements in its contracts. We disclose a summary of the contracted investments, including an E&S rationale, on our World Map.

In practice

Due diligence for an energy project was concluded in early 2020, just prior to the recent pandemic. This and other complexities, prolonged the contracting process, which was only concluded in 2023. While the standard E&S requirements were integrated into previously drafted investment contracts, the delays coincided with emerging risks in the solar supply chain. To meet FMO’s developing approach to solar supply chain risks, the customer was required to commit to new actions and additional E&S requirements. These new conditions were integrated into the final contract, alongside commitments to IFC Performance Standards and the World Bank EHS Guidelines. This investment shows how adaptable customers must be for projects with lengthy lead times in order to align with an increasingly challenging ESG landscape.

Step 6 | Disbursement

Disbursement of funds can take place upon fulfilment of the conditions, ESG and other, as set out in the contract.

In practice

During the recent pandemic, E&S risk management practices severely deteriorated at an existing banking customer. In 2023, refinancing came with strict E&S requirements specified in an environmental and social action plan, and conditions precedent. These were divided over two disbursements to maintain leverage. The bank responded promptly and made immediate improvements after due diligence was concluded. This led to significant improvements and to the bank being compliant with all conditions, before signing and actual disbursement.

Step 7 | Monitoring and value creation

Throughout the lifetime of the investment, we monitor its performance and look for opportunities to add value. We continue to work with our customers to ensure implementation of our ESG requirements. We review the customer’s and consultant’s ESG monitoring, as well as any accident and incident reports. We conduct regular customer visits and perform an annual customer credit review, including, where applicable, a check whether the affected community still supports the investment.

In practice

An existing aquaculture customer had demonstrated its willingness to adopt the latest, best available technology and science-based approaches to its business. Over the four years of working with FMO, the customer adopted a sustainability mindset and was looking into climate mitigation and adaptation strategies. The company started a decarbonization journey, developed improvement plans and looked at efficiencies and ways to curtail emissions. The customer also participated in fisheries climate adaptation studies and started to embed the recommendations into its business model. To further support value creation for this customer, our corporate governance team was engaged to improve the structure and functioning of its Board of Directors, to develop and implement succession and business continuity plans, and to enhance their internal control standards.

Step 8 | Exit

FMO's mission to create impact implies sustaining impact even after the relationship ends. Through our equity and non-performing investments, we may decide to exit a transaction. On occasion, there are unusual endings of transactions as well, such as prepayments of loans. Prior to exiting an investment, we carefully review and consider the implications this can have on ESG risks and the need to sustain any potential development impact as long as possible.

In practice

In 2023, an African energy investee was preparing to sell its assets to a new party, whilst several E&S risks were yet to be properly managed. FMO organized a monitoring visit together with an independent consultant to assess the remaining E&S and technical risks of the assets and to develop an action plan to exit the investment responsibly. Part of the action plan needs to be implemented prior to exiting the assets, and part will be negotiated with the new owner of the assets, in the event an exit occurs prior to all action items being implemented. Through this active approach, FMO is steering its investee to consider E&S aspects upon exit, ensuring that residual risks are managed appropriately.

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