The application of Poseidon Principles in naval financing transactions

Poseidon Principles are principles developed by a group of main leading banks operating worldwide in the shipping finance sector, which have also established an association bearing the same name (Poseidon Principles Association).

In particular, the main Poseidon Principles are: 1) assessment of climate alignment, 2) accountability, 3) enforcement and 4) transparency.

Other banks and financial institutions may join the association, and thus comply with the Poseidon Principles, on a voluntary basis. The principles are consistent with the targets of the IMO (International Maritime Organization), namely the reduction of greenhouse gas emissions (GHG) and the reduction of environmental pollution by 50% - in the period of time from 2008 to 2050 - by ships exceeding 5,000 gross tonnage.

Works to draft the Poseidon Principles began as early as 2017, but a first draft was completed only between November 2018 and February 2019 pending the participation of financial institutions. The latter can join by submitting a specific declaration (standard declaration) to the Secretariat of the Poseidon Principles Association, which will accept the member. Participation is also open to leasing companies and export credit agencies (ECA).

By joining the association, signatories acknowledge the importance of their role in reducing greenhouse gas emissions and environmental pollution caused by ships. Once the financial institution (or insurance company) has joined, it shall have to calculate - within the year following the year of acceptance into the association - the intensity of carbon dioxide emissions from the ships it is financing and their level of climate alignment compared to the aforementioned IMO targets to reduce greenhouse gas emissions and environmental pollution by 50% from 2008 to 2050 (decarbonization trajectories).

The calculation can be made on the basis of the indications provided by the IMO DCS (Data Collection System), that is a set of rules attached to the International Convention for the Prevention of Pollution from Ships (MARPOL). The calculation is based on the consumption of each fuel oil type per ton of the ship’s tonnage, distance traveled, hours underway and technical characteristics of the ship. Once the data have been collected, the shipowner is required to share them with the recognized organization of the country where the ship is registered, before sending them to the IMO (in Italy one of the recognized organizations is RINA).

The Poseidon Principles provide for various alternative methods according to which such data shall be brought to the attention of member banks or financial institutions. They provide that the recognized organization may also issue a statement of compliance in favor of the shipowner. In any case, it is legitimate to expect that - when negotiating for the conclusion of a loan agreement - the financial institution may request the shipowner for such data with reference to the ships financed

by said institution.

The Poseidon Principles also establish the formulas that financial institutions will use for calculating the climatic alignment of the ships financed by them, starting from the aforementioned data. Through the use of said formulas it will be possible to verify the level of polluting emissions compared with the decarbonization trajectories provided for by the IMO. Afterwards, the climate alignment calculations shall be repeated every year.

The calculations shall be carried out globally on all the ships belonging to the group of those financed by a signatory (so-called portfolio). This means that if a ship does not comply with the decarbonization trajectories, the financial institution may still be able to comply with the Poseidon Principles if all the other ships belonging to its portfolio are greener than the abovementioned ship and have lower greenhouse gas emissions.

As concerns naval financing transactions (including leasing, sale and lease back transactions), the consequences of banks adhesion to these principles will not be perceived immediately.

Existing loan agreements should not be affected by changes. It is easy to believe, however, that if a bank or other financial institution, after adhering to the Poseidon Principles and after calculating the climate alignment, should prove to be above the curve representing the decarbonization trajectories, it will try to return below it, granting subsequent loans only to shipowners who will commit themselves to buying green ships that comply with said curve.

As concerns new loan agreements, the question is how their standard content will change from the current one. A loan agreement entered into between a bank that has adhered to the Poseidon Principles and a shipowner will certainly include, among the conditions precedent to its execution, the delivery by the shipowner of a carbon intensity and climate alignment certificate. In addition, among the representations and warranties, the shipowner shall represent that it has provided the financial institution with all the information and documents relating to the emissions of the ship(s) to be financed by the financial institution.

There are also other clauses that could be included, but which would oblige shipowners to fulfil fairly onerous obligations. For instance, the shipowner’s commitment to ensure that emissions from the ship(s) comply with decarbonization trajectories and, if they do not, the shipowner’s obligation to carry out works on the ship in order to improve its environmental impact.

An event of default may also be provided for in the loan agreement if the ship exceeds a certain level of emissions, which would result in the financial institution being no longer compliant with the Poseidon Principles. The content of said clause shall have to be discussed very carefully due to the risk of giving the financial institution the power to choose which of its shipowner customers shall have to remedy the failure to comply with the Poseidon Principles if there are several ships in its portfolio which do not comply with the Principles.

However, at present such clauses (commitment and event of default) do not seem to have been included in contracts entered into since the issuance of the Poseidon Principles.

In any case, the application of said principles could bring benefits for those shipowners willing to purchase so-called green ships as it would be easier for them to find lenders available among the financial institutions adhering to the Poseidon Principles.