Germany - upcoming Sustainable Financial Investments Act

On 18 October 2022, the German State of Baden-Württemberg published a draft of its Sustainable Financial Investments Act (Gesetz für nachhaltige Finanzanlagen, NaFiBWG). The Act is subject to amendments until the end of the consultation period - 29 November 2022. The draft legislation is available in German only.

Investment of pension assets in fossil fuel energy has been prohibited in Baden-Württemberg since 2017. The state is now proposing to go several steps further by incorporating sustainability into state investment.

The draft legislation includes a strict criteria for financial investment by the state and state-owned companies. It elaborates upon the existing three criteria of profitability, liquidity and safety as minimum requirements for investment guidelines and sets out sustainability as a fourth fundamental criterion of investment. By establishing the 17 sustainable development goals of the UN, EU Taxonomy and the Paris Agreement as the basis for future investment decisions, the legislation aims to better align investment decisions to global sustainability objectives. It also aims to motivate companies to actively invest in sustainable initiatives and climate protection. Investment decisions within the scope of the legislation should foster investment in more sustainable sectors and improve the financing conditions for such investments.

The upcoming legislation is relevant to companies and funds in which the State of Baden-Württemberg has invested.

Economic criteria

The draft legislation lays out specific requirements regarding the existing economic criteria for investment guidelines of relevant organisational units:

• Safety - The investment guidelines shall regulate the investment universe, counterparty risk and investment forms as well as their relative proportions in accordance with the investment purpose.
• Profitability - The investment guidelines shall define appropriate benchmark indices, and suitability of the fees for financial products and asset management shall be reviewed regularly.
• Liquidity - The investment guidelines shall contain appropriate conditions that allow necessary withdrawals from the investment at any time.

Sustainability criterion

Furthermore, the draft legislation introduces a sustainability criterion: The establishment of certain minimum greenhouse gas reduction arrangements by securities investment portfolios of companies aligned with the 1.5°C target of the Paris Agreement.

For the overall portfolio of each individual financial investment under management (not taking into account the bonds of government issuers), the greenhouse gas emission intensity or, if applicable, absolute greenhouse gas emissions shall be reduced by at least 7 % per year on average and should be at least 50% lower than the emission intensity or the absolute emissions of the underlying investment universe.

The draft legislation excludes investment in companies which derive 1% or more of their revenue from the exploration, mining, extraction, sale or refinement of hard coal and lignite; 10% or more of their revenue from the exploration, production, distribution or refinement of petroleum; 50% or more of their revenue from the exploration, extraction, production or distribution of gaseous fuels; and 50% or more of their revenue from electricity generation with an emission intensity of more than 100 g CO2 e/kWh.

Investment in companies which operate in significant hindrance of one or more of the 6 environmental objectives set forth in Art. 9 of the Regulation (EU) 2020/852 (EU Taxonomy) or the 17 UN sustainable development goals are also excluded. Furthermore, companies which achieve an especially high proportion of their turnover through environmentally sustainable economic activities should be given preference when investing.

The draft sets out further exclusions on ethical or environmental grounds in the following sectors: weapons and arms (eg “ABC-weapons”, cluster bombs, anti-personnel mines), atomic energy, tobacco growing and production and green genetic engineering. It also requires adherence to the standards of the UN Global Compact and the OECD Guidelines for Multinational Enterprises as a supplementary minimum requirement.

Finally, for the purchase of securities, issuers must be signatories of relevant international agreements regarding climate protection, biodiversity, human rights and ABC weapons as well as cluster bombs and anti-personnel mines. Investment will be prohibited if countries or municipalities of countries have been classified as “insufficient” in the evaluation of political and civil freedom or “particularly corrupt”.

Conclusion

For new and continued investment from the State of Baden-Württemberg and its associated organisational units, companies will have to adhere to the economic and sustainability standards laid out above and must monitor developments closely.

Simmons & Simmons is closely monitoring the legal developments on ESG at a European and national level. For more information, please visit our microsite on Sustainable Finance and ESG Investment.