ESG risk management
FMO categorizes the E&S risk profile of its customers as follows: A & B+ (high risk), B (medium risk) and C (low risk) for direct investments and ID-A (high risk), ID-B (medium risk) and ID-C (low risk) for indirect exposure through debt and PE funds. The following chart show the risk profile for our entire portfolio and for the new customers that were contracted in 2021.
Number of customers by E&S risk category
Full portfolio
New projects
The following chart displays the type of E&S risks, as per the IFC Performance Standards, and frequency with which high risks occur in our portfolio. The scale of potential issues in our portfolio is determined by the type, frequency and degree to which these risks are managed by our customers. The frequency of E&S risks is sector agnostic in our direct and indirect financing portfolios.
We have five management tools for tracking ESG performance: ESG performance target, environmental and social action plans (ESAPs), overview of E&S performance gaps in our portfolio, serious incidents register and Independent Complaint Mechanisms (ICM).
ESG target performance
The ESG performance target applies to the high ESG risk customers in our portfolio contracted prior to 2021 (‘target list’). We register and monitor the different types of ESG risks of our high-risk customers and aim to have at least 90% of the ESG risks managed at a satisfactory level.
We monitor all E&S risks in our portfolio. The target focuses specifically on high-risk customers and those supported by a CG specialist. Out of a total 718 customers in our portfolio, 337 customers had a high E&S risk category (A or B+) and three customers received support from a corporate governance specialist. By further consolidating customers belonging to the same corporate group or group of companies, this led to a target list of 268 customers, representing a total of 3,653 ESG risks that were tracked during the year. The 2021 results showed that 92% of risks were managed adequately by our high-risk customers, exceeding our target of 90%.
Environmental and social action plans (ESAPs)
For customers with contractually agreed ESAPs, we monitor progress towards implementation to ensure that our investments comply with our policies and standards within a reasonable time period.
E&S performance gaps in our portfolio
Given the high degree of variation in ESG regulations and practices in our markets, FMO accepts that when we first start working with a customer, the ESG performance may be below standard. We do, however, expect performance to improve over time in line with agreed action plans. This is part of FMO’s non-financial additionality in our geographies. Most customers show good progress towards action plans and are receptive to FMO’s ESG advice and support.
During 2021, FMO has identified 62 high-risk customers who are not managing E&S risks adequately, which can lead to incidents or issues. FMO works with these customers to address such E&S gaps, to fully realize their positive impact potential. In most cases, we are confident that we can bring customers back on track within a reasonable timeframe. Our E&S engagement and approach with our customers is tailored to their own circumstances. In some instances, E&S non-performance may be the result of a wider (financial) problem that requires the restructuring of a loan or a full exit. Some E&S and human rights impacts are irreversible and together with the customer we look at different remedies.
The following table shows the current E&S performance gaps and our approach. It also includes the number of customers for which subpar performance has been identified (represented by the letter 'n'[1]).
E&S performance gap | Description | Our engagement | |
|---|---|---|---|
Willingness and commitment (PS1) | Resistance to engagement on ESG issues can stem from over-reliance on e.g. DFIs to drive ESG work streams. Commitment can waver due to financial, operational and contextual difficulties. Wavering commitment can have tangible implications on human rights and the environment, for example through delays in implementing management plans or community benefits, or in undertaking required specialist studies. | We use contractual leverage on specific E&S items, raise issues with customer’s top management and exert influence on their boards, e.g. to push for improvement of organizational culture. | |
Environmental and social governance and budget (PS1) | Where the customer’s leadership is not fully aware of and involved with E&S performance management, and/or has not allocated sufficient budget, resources or time. Governance issues can result in poor workers’ rights protections, a range of risks to communities, as well as damage to the environment. | We use contractual leverage and escalate the issue to top management. We may offer capacity building and advice on integrating E&S costs into financial planning and monitor frequently. | |
Organizational capacity and competency (PS1) | When E&S staff do not have the required qualifications, teams can be too small, change often, or continue to perform poorly. This is a key issue in many of our target geographies where environmental legislation is developing, and/or state human rights protections are weak in policy or practice. | We use contractual leverage, offer capacity building and look for competent staff in our network. | |
Identification and assessment of risks and impacts (PS1) | Weak (initial and ongoing) identification and mitigation of risks. This can adversely impact human rights. | We provide customers with continuous engagement with our ESG staff and capacity building. If needed, we exert formal pressure e.g. through withholding additional financing or triggering default. | |
Stakeholder Engagement, external communication, grievance mechanisms (PS1) | Trust and communication between FMO’s customer and its stakeholders is eroding or has broken down. Ineffective channels of communication play an important part here, particularly ineffective grievance mechanisms, which don’t capture grievances, and / or don’t enable suitable redress. Poor performance in this area can infringe on the freedom of opinion and expression, and even result in inhuman treatment, retaliation, and risk to lives. | We intensify our customer engagement and offer to connect customers to experts in the field, mediate or providing capacity building. | |
Working conditions and management of workers relationship (incl. third party workers) (PS2) | Project workers working in substandard conditions, unaware of their rights or without access to grievance mechanisms. This can infringe on labor rights. | We discuss gaps with the customer, enable capacity building and set conditions, e.g. by making disbursements conditional to an improvement. | |
Occupational health and safety (PS2) | Gaps in ensuring safe and healthy working conditions, possibly leading to serious injuries and fatalities. This could infringe upon the right to health and safety in the workplace, and the right to life. | We discuss gaps with the customer, enable capacity building and set conditions, e.g. by making disbursements conditional to an improvement. | |
Resource Efficiency and Pollution Prevention (PS3) | Projects reduce the availability of water in arid regions or pollution prevention measures are inefficient. This can infringe upon the right to life, the rights of the child and the right to live in a safe, clean, healthy environment. | We discuss gaps with the customer, enable capacity building and set conditions, e.g. by making disbursements conditional to an improvement. | |
Community health, safety and security (PS4) | Risks to local communities deriving from projects are poorly managed, especially when security forces are mandated to protect project personnel and assets. This is an increasingly complex area with the increasing fragility of political environments across the geographies we work in. | We discuss gaps with the customer, enable capacity building and set conditions, e.g. by making disbursements conditional to an improvement. FMO can require a root cause analysis and corrective measures or redress. | |
Land Acquisition and Involuntary Resettlement (PS5) | When resettlement and livelihood restoration plans are poorly managed or insufficiently recognize vulnerable groups and/or have ineffective grievance mechanisms. This can impoverish people and infringe on their right to an adequate standard of living, notably the right to food and adequate housing. | We find an expert to conduct gap analyses and implement recommendations. In the event of an early exit, FMO seeks to remedy of the impacted people. | |
Biodiversity and living natural resources (PS6) | Biodiversity risks have not been modeled well enough or monitoring and mitigation are insufficient, or new findings are missed or ignored. This reduces biodiversity and access to forest products, thereby infringing on the right to food and/or an adequate standard of living. | We intensify customer monitoring, engage a biodiversity expert and use our influence to improve the situation. | |
Indigenous Peoples (PS7) | Community engagement processes do not meet FPIC requirement and/or do not allow for sufficient participation of indigenous people. In some cases, we recognize challenging operating conditions where risks to these communities are difficult to control. May lead to the infringement of indigenous peoples’ right to food, their traditions and their sacred sites. | FMO encourages customers to meet FPIC standards, share benefits with communities, and include indigenous groups in livelihood restoration. We may intensify monitoring of contextual risk factors. | |
Cultural Heritage (PS8) | Failure to protect cultural heritage. This can infringe on the rights of people to benefit from their and other people’s cultural heritage. | We exercise our leverage to improve the situation, looking at past and future risks. | |
Financial intermediaries: financial institutions and fund managers | Substandard system for identifying and managing E&S risks of financed activities. Processes and procedures are unclear, E&S management responsibilities are insufficiently defined and/or capabilities are lacking, or inadequate evidence or execution of E&S DD and monitoring. Compounded by contextual risk factors, e.g. lack of exposure to and experience in E&S risks management by the financial sector in our markets and the lack of a level-playing field. This can lead to infringements of all types of human rights as referenced before. | We provide expertise and funding for the ESMS or sit on E&S risk management committees. We negotiate improvement plans and, in some cases, initiate/contribute to sector initiatives |
Serious incidents
Unfortunately, serious incidents cannot always be avoided considering the large number of people that are employed by our customers, the higher-risk countries and sectors we invest in and the challenges of operating in emerging markets. FMO’s environmental and social DD identifies areas where existing mitigation practices fall short of (international) standards to be able to agree actions to improve mitigation practices, so our customers can improve their practices to prevent accidents and incidents from occurring.
FMO requires its customers to immediately report any incident occurring on or nearby any site, plant, equipment or facility belonging to the customer that has resulted in the loss of life, has had a material effect on the environment or has resulted in a material breach of the law – inter alia – and how the incident was dealt with. FMO follows up on each incident to ensure that a meaningful root cause analysis is completed and corrective action is taken.
We believe that strong occupational health and safety (OHS) management systems are part of an employer's duty of care, it improves job quality and adds value to a business. Unfortunately, OHS norms and regulatory systems can be weak in emerging markets, leading to serious accidents occurring more frequently. Where a customer’s mitigation practices fall short of (international) standards, FMO develops and agrees an environmental and social action plan with the customer to close those gaps. FMO also helps customers to develop their OHS risk management capabilities, for instance through (funding for) training.
In 2021, we regret to inform that 28 FMO customers reported 50 fatal incidents with a total of 58 casualties. 41 of those were workers (employees or contractors/suppliers) of either our customers or the underlying companies of funds and 17 were members of the general public. Of the 50 incidents, 20 were road accidents, 13 work-related, 11 asset-related[2], 2 security-related, and 4 were classified as ‘other’. FMO aims to provide a total overview of all fatalities resulting from the activities it finances and trusts that its customers hold themselves to the contractual agreement to report any occurrence. However, as FMO relies on these instances being brought to our attention, there is an inherent risk that some incidents may not have been reported to us and, therefore, have not been included in these numbers.
Incident type | No. of incidents | No. of fatalities | No. of workers | No. of public |
Work-related | 13 | 13 | 13 | 0 |
Security-related | 2 | 2 | 1 | 1 |
Road-related | 20 | 24 | 18 | 6 |
Asset-related | 11 | 15 | 6 | 9 |
Other | 4 | 4 | 3 | 1 |
Total | 50 | 58 | 41 | 17 |
Independent Complaints Mechanism
FMO has an Independent Complaints Mechanism (ICM) for project-related complaints. This consists of the Complaints Offices of FMO, Deutsche Investitions- und Entwicklungsgesellschaft (DEG) and Proparco and an Independent Expert Panel (IEP). This mechanism ensures the right to be heard for complainants who feel affected by an FMO-financed operation. This can lead to a resolution of the dispute or it enables FMO to apply lessons learnt to future investments through a compliance review.
The IEP decides on the admissibility of each complaint, performs preliminary reviews to determine whether a complaint should proceed to the next stage, and can perform a compliance review or support a dispute resolution process in accordance with the ICM Policy. The ICM also monitors the implementation of measures agreed upon to bring a project into compliance or agreed as outcome of a mediation process. The IEP comprises three members with complementary expertise.
In 2021, COVID-19 continued to impact the ICM’s activities. COVID-19 restrictions on traveling and gatherings have prevented the panel from conducting site visits and in-person consultations in the first nine months of the year. Therefore, the ICM adjusted its case handling, in discussion with the parties involved, where possible. The ICM reverted to videoconferencing and calls, but this wasn’t always possible, causing delays in handling and monitoring cases. The IEP resumed the site visits in September.
In 2021, four new project-related complaints were received. All of these were declared inadmissible by the IEP and closed accordingly (2020: one admissible complaint). For information about the status of complaints filed in earlier years, please refer to our website.
Other key ESG activities
Corporate governance
FMO supports its customers and investees in the development of good corporate governance (CG). The global pandemic and economic crisis have demonstrated that this is essential to improving readiness and responses to risks and crisis situations. Due to the pandemic we had to virtually make the case for good CG and amend companies’ governance structures, something that is best done in person.
FMO continues to invest in its CG approaches, incorporating important developments and insights. In 2021, we have tailored our approach to the specific needs of early-stage companies and have been able to help these companies work towards having more mature CG systems over time.
We have developed a climate risk methodology and approach that will help us to bring this crucial topic to the boardrooms of our customers. In 2021, FMO delivered multiple virtual customer sessions on the matter.
FMO wants to provide our cadre of nominee directors with valuable insights that allow them to be successful in their role as Board member. This year FMO organized a virtual Nominee Director Round Table on Climate Change, Climate Adaptation and Task Force on Climate-Related Financial Disclosures (TCFD). Due to a high uptake, FMO and DEG organized three virtual CG trainings for the directors that sit on the boards of our investee companies and on boards of our partners’ investees.
Sector initiatives
Sector initiatives are projects that target and address systemic ESG and impact issues in a given sector or geography. Sector initiatives leverage FMO’s ability to bring together multiple perspectives and stakeholders to create positive change. During 2021, several sector initiatives were ongoing and others were started. One example is the Rallying Cry, a nascent platform to connect African women entrepreneurs to leadership opportunities and to mobilize private sector investment in climate- and gender-smart enterprises.
- 1 A customer may demonstrate subpar performance in more than one area.
- 2 Resulting from contact with portfolio company's assets, such as an electricity distribution line.