How China’s steel mills are turning to new bonds to fund their green transition and net-zero goals

Trillions of dollars are needed for Chinese steel mills to transition, amid rising cost pressures and tighter bank loans
Other than green bonds, mills are also turning to sustainability bonds and ‘transition bonds’ for projects that green bonds cannot finance

Lauren Huleatt

Published: 9:15pm, 14 Jul 2023

Why you can trust SCMP

China is the world’s biggest producer of steel, an industry that is not only one of the most polluting in the country, but also a major energy consumer and carbon emitter globally.

In China, the industry accounts for about 11 per cent of its energy consumption and 15 per cent of its carbon emissions. Every tonne of crude steel produced in China, which accounts for more than half the world’s output, also produces nearly 2 tonnes of carbon dioxide – a carbon emission intensity second only to India’s.

China’s massive production share and high carbon emission intensity mean its steel production has a big impact on reducing carbon emissions globally. Decarbonisation actions by China’s steel companies are crucial, not only to achieving the country’s carbon peaking and carbon neutrality (“dual carbon”) goals, but also to accelerate global efforts to mitigate the climate crisis.

Although China’s crude steel output has been falling – by 3 per cent in 2021 and a further 2.1 per cent last year – only about a tenth of it is produced by the more environmentally friendly electric arc furnaces.

Nearly 90 per cent is produced using coal-burning blast furnaces – coal is burned to strip oxygen from the iron ore – and this process generates substantial carbon emissions. This is a key reason for the high carbon emission intensity in China’s steel industry.

To significantly cut carbon emission intensity, Chinese steel companies must prioritise green steel production technology and improve their energy use efficiency – which will require considerable financing. Studies estimate that China’s steel industry needs to invest almost 3.5 trillion yuan (US$485 billion) before its carbon emissions can peak, and around 20 trillion yuan to achieve carbon neutrality.

Policymakers, investors and steel companies are grappling with the challenge of how to use low-carbon transition finance tools to bridge the funding gap and enhance competitiveness. They must also ensure that companies follow a reliable and scientifically supported transition path while avoiding the risks associated with transitioning too slowly or rapidly.

Steel companies in China have been under high investment pressure in recent years, including from production capacity regulation, ultra-low emissions reforms and technological upgrading. In addition, the rising prices of raw materials and strict control of bank loans to high-carbon industries have made it more difficult for companies to obtain financing.

As a result, steel companies are increasingly turning to external financing, such as issuing bonds, to fill the gap in funding their transition.

Many steel companies in China have started to use green bonds, certified sustainability bonds and “transition bonds” to fund their facility upgrades and low-carbon transition. The funds raised not only satisfy short-term needs but also increase medium and long-term capital reserves, and demonstrate the strength of the companies to the market and investors, thereby relieving short-term debt repayment pressure.

02:38

China launches world’s largest carbon-trading scheme as part of 2060 carbon neutrality goal

Although transition bonds can support capacity replacement projects that cannot be financed by green bonds, the size of such bonds is still relatively small. Alternatively, sustainability-linked bonds enable the bond’s terms to be linked to the issuer’s sustainable development goals, without being tied to specific projects, and can provide financing at a companywide level. However, steel companies may use different key performance indicators.

And while “transition finance” provides an important new framework for high-carbon industries seeking funds for a low-carbon transformation, their definition, standards, and scope are being discussed, and there are significant differences. It was only last year, for instance, that the G20 introduced the five pillars for a transition finance framework.

Although these international transition finance standards provide guidance for transition activities and financing, there is still a need for discussions on the improvement of standards, including for performance indicators, disclosure requirements and verification requirements, and specifically in the context of the steel industry.

Is green hydrogen China’s answer to steel mill carbon emissions?

These standards reflect the need to develop climate transformation strategies, set scientific emission reduction goals and establish technological pathways to achieve them. Companies should ensure the proper collection of data and information to prepare for subsequent disclosure and verification efforts.

The low-carbon transition is integral to China’s steel industry’s market development goals. Under China’s previous 13th five-year plan for 2016-2020, the industry had to meet targets aimed at reducing excess capacity, transition to ultra-low emissions, and promote energy conservation and emissions reduction.

The financing focus was on reducing the corporate asset-liability ratio and supporting green development through innovative financial instruments. Steel companies also carried out energy-saving and environmental protection plans through process transitions and product upgrades.

Under the current 14th five-year plan, there is a critical period where old and new transition requirements coexist.

In the race for transition financing, steel enterprises should be proactive – in establishing diversified financing channels, designing scientifically reliable low-carbon transition goals and road maps, and engaging in carbon emissions accounting and management. By doing so, they can gain a competitive advantage in the net-zero race for a future with “zero-carbon” steel.

Lauren Huleatt is program manager and investor lead at Transition Asia