As a result, rating agencies have gradually integrated ESG factors into their credit ratings to account for additional, non-financial factors that could influence a company’s creditworthiness. In 2019, Fitch became the first credit rating agency to apply a systematic approach to do so, and Moody’s and S&P have since followed suit.

However, these agencies make it clear that traditional, cash-flow-generating factors remain at the core of their rating decisions, with sustainability factors only considered to be secondary elements. What’s more, their scores often include a clause that states that ESG factors may or may not fully influence an agency’s credit analysis process. Another issue is that, often, credit rating horizons do not take account of longer-term factors.

But as ESG considerations become more prevalent within investment analysis in general, we could see them gaining more importance in the determination of credit ratings for firms in certain high-risk industries. Airlines are a good example.

There are a number of different channels through which airlines’ exposure to the low-carbon transition risks could affect their financials, and potentially, creditworthiness:

• The use of sustainable aviation fuel (SAF) represents an opportunity to reduce CO2 emissions (more on that here), but its high cost and limited availability are preventing widespread use at present 

• Social pressure, including flight shaming and general distaste among the general public towards emissions, is intensifying 

• There is a growing body of regulation by governments and other bodies designed to limit emissions

With this in mind, we analysed changes in airlines’ credit ratings between 2017–20 – the period with the highest availability of carbon emission disclosures – to try to answer two key questions:

• To what extent are ESG-material issues reflected in credit ratings? 

• Are the ESG-material issues weighted substantially enough relative to traditional measures of creditworthiness for them to have any impact?

In total, 18 companies provided robust data over this period covering four variables of interest: (1) carbon intensity (Scopes 1+2), (2) absolute intensity (Scopes 1+2+3), (3) changes in credit ratings,  and (4) changes in ESG ratings. We used credit ratings from S&P, Moody’s, and Fitch, and obtained all ESG-related information from MSCI. We focused primarily on annual changes in carbon intensity as this is the main ESG factor affecting the aviation industry.

We found no significant general correlation between ESG factors and credit ratings for the airline industry as a whole. Annual changes in carbon intensity, absolute emissions and ESG ratings all had a negligible to zero effect on credit ratings in the sample that we analysed. 

Looking at each year in the sample more closely does yield some interesting findings:

2019–20: 

There were 14 credit rating downgrades among airlines: four of these downgrades affected firms that experienced reduced emissions intensity (carbon emissions per unit of sale), and ten were for firms with increased intensity.

Takeaway: we saw mixed results in terms of changes in emissions for the 14 downgrades. Increases in emissions intensity can be explained by the rise in the number of ghost flights in the early stages of the pandemic combined with lower revenues. 

2018–19: 
There were four upgrades: one increased intensity, three reduced intensity.

Takeaway: this is the year that provides the strongest (though not conclusive) evidence that reduced emissions intensity may lead to better credit ratings, with three out of the four upgrades over the year being for firms that cut their emissions. This is a more useful period to analyse as there were no major pandemics or wars to contend with. This provides a hint that as things return to normal, we might see more credit rating upgrades for airlines that reduce their carbon intensity.  

2017–18: 
There was one downgrade, two upgrades: all three with increased intensity.

Takeaway: this is a small sample size to track changes in emission intensity relative to credit rating changes, but for all three changes in credit ratings, the firms involved had higher increases in intensities than the average for the industry that year.

While ESG considerations have not always been systematically integrated in their final credit ratings, agencies have begun the process of considering ESG issues in their analysis. The results we present above suggest that the emissions intensity of an airline has little impact on its credit rating at present. But this doesn’t mean that it won’t in the future, and it also doesn’t mean that investors and airline customers don’t already take these matters into account. 

The drive to become more sustainable could have complex implications from a credit-rating perspective. For example, we expect regulatory pressure and government subsidies will lead to accelerated adoption of SAF, but credit ratings are not necessarily pricing this in. Increased use of SAF will lead to higher prices for the airlines’ customers: this has the potential to reduce demand, ultimately impacting cash flows. 

Regardless of the impact of ESG factors on credit ratings, the aviation industry must continue to assess its impacts on the environment and invest in technological advancements to help mitigate them.

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