The UK retailer’s debut sustainability-linked bond was underpinned by synergies between its business and finance.

Lynda Heywood Tesco headshot

Lynda Heywood, Tesco

For more than a decade, Tesco has been transforming itself into a leader in sustainable business. Back in 2009, the UK’s biggest retailer became the first company in the world to set a net-zero carbon emissions target. Then, eight years later, it committed to limit global warming to 1.5 degrees Celsius at a time when other firms were aiming for 2 degrees. And last year, its UK operations brought forward its net-zero deadline from 2050 to 2035. “That shows we are really up for the challenge of getting to this target,” says Lynda Heywood, the firm’s group treasurer.

These efforts laid the foundation for Tesco’s long-awaited foray into sustainable debt. Its debut last October was a £2.5bn ($3.4bn) revolving credit facility (RCF) with interest payments linked to its so-called ‘Little Helps Plan’, an annual report-like document that tracks sustainability performance.

For its next deal, the retailer looked to the markets and quickly realised that a sustainability linked bond (SLB) should be its instrument of choice. While green bonds must be tagged to certain projects, SLBs offer a more holistic solution in that the funds can be used for general corporate purposes and the payoff depends on the issuer’s satisfaction of sustainability key performance indicators (KPIs). Crucially for Tesco, this meant it could tie the bond to its Little Helps Plan. “We wanted to align our financing strategy to the business,” says Ms Heywood. “The idea of an SLB is to showcase Tesco as a sustainable business and have the flexibility of being able to use the proceeds for anything.”

It was buoyed by the International Capital Market Association’s release of SLB principles in the middle of 2020 and the deals it saw from other issuers throughout autumn. “We could see the market was gaining a bit of traction,” she says. Tesco started working on the deal internally before mandating Citi, BNP Paribas, MUFG and RBC Capital Markets in late December.

Bowled over by demand

Tesco wanted to link the bond to its greenhouse gas emission goals, and, based on its debt maturity profile, opted for an 8.5-year tenor. It committed to a 25 basis point (bp) coupon step-up in 2027, 2028 and 2029 if the firm misses its 2025 emissions target. Tesco wanted to use the funds raised to buy back more expensive outstanding debt; this proved important when choosing the currency. “It meant the bond had to be quite large, and we took advantage of the larger benchmark in euro rather than sterling,” says Ms Heywood. “The relative value for us was also better for us in euro.”

After announcing its Christmas trading results in mid-January, Tesco hosted a global investor call followed by one-to-one meetings. Feedback throughout this process, combined with Tesco’s broader dialogue with investors and the success of other recent SLB sales, revealed significant buy-side interest. “We knew there would be demand, but we were bowled over with the amount there actually was,” she says.

On the morning of 20 January, the firm launched a €750m SLB at mid-swaps plus 110–115bps. Within a few hours, the order book peaked at nearly €6bn before the pricing tightened to 80–85bps. It closed in the early afternoon at 75bps over mid-swaps with a 0.375% coupon.

We took advantage of the larger benchmark in euro rather than sterling

Lynda Heywood, Tesco

The deal made Tesco the world’s first retailer, and among the first UK corporates, to issue an SLB. Additionally, the tender offer — which closed later that month — received strong take up and absorbed the SLB’s entire proceeds, saving Tesco from holding excess debt.

Hand in hand

Sustainability aside, the deal was buoyed by the resilience of Tesco’s business throughout the Covid-19 pandemic and, according to Ms Heywood, the relative scarcity of its paper. After being downgraded to junk status in 2015, Tesco did not issue bonds for several years while it reduced debt and strengthened its balance sheet. “Since coming back into the investment grade space, we have returned to the market, issuing once or twice a year. There’s still demand to get hold of our bonds that we haven’t exhausted,” Ms Heywood says.

Since the world’s first SLB was sold in September 2019, it has become one of sustainable finance’s most promising asset classes. Some forecast global issuance to hit $30bn this year, but she warns that for the market to really take off, issuers need a holistic and clear sustainability strategy. Tesco’s long-standing targets and Little Helps Plan, for instance, laid the groundwork for its debut. “Without that, the deal’s success would have been much more difficult to achieve and require much more work, as we would have been starting with nothing,” she says. “For the corporate SLB market to develop, it needs to develop in tandem with a more general sustainability agenda among companies.”

As for Tesco itself, Ms Heywood is not ruling out another SLB. But she also indicates that the firm is keeping its sustainability options open. “We’d like to expand the KPIs, so not always use greenhouse gas emissions, and also consider other sorts of sustainability linked financing. We quite like to be innovative and look at what else we can do,” she says. “It’s certainly not the last you’ve seen of us in this space.”

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