Future Wave: The Growth of Green Bonds in Indonesia

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Indonesia’s economy has recorded strong growth over the past few decades. The economic performance has been shaped by government policy, a young and growing labor force and the utilization of Indonesia’s abundant but finite natural resources. It’s clear that for businesses to be able to continue creating value in the future, they need to evolve and become more sustainable. Sustainability in this sense is defined as meeting present needs without compromising the ability of future generations to meet their needs.1

The need to consider sustainability issues such as climate change, pollution and natural resource depletion have revolutionized the way businesses operate and driven innovation across industries. Clean technology, such as solar power and wind turbines, is gaining stronger traction in the market, while process efficiency, waste reduction and emissions prevention are becoming global industry norms. Such a shift in business practices requires significant amounts of investment.

UNFCCC identified that clean development requires investment amounting to US$200-210 billion per annum by 20302. The Indonesian Ministry of Finance, through its Climate Budget Tagging mechanism, has identified more than Rp78 trillion ($5,7 billion) of FY 2017 national budget component related to climate change impacts, amounting to a 32 percent increase over the FY 2016 budget.3

Several market instruments have been developed to seize the investment opportunity, one of which is Green Bonds. The unique characteristic of Green Bonds is the requirement that the proceeds must be invested in projects that generate environmental benefits (“green projects”), otherwise, they are no different from conventional bonds. The first Green Bond was issued in 2007 by the European Investment Bank, as a structured bond with proceeds dedicated to renewable energy and energy efficiency projects. Since then, Green Bonds have gained tremendous momentum. The Climate Bond Initiative reported that between 2016 and 2017, the Green Bond market grew by 78 percent expanding from $87.2 billion to $155.5 billion.4

 EY - Green Bond market issuance since 2010

Figure 1 : Green Bond market issuance since 20105

In response to the sustainability and development challenge facing Indonesia as well as the investment opportunities offered by clean development, the Financial Services Authority (OJK) has issued a series of sustainable finance polices to encourage a shift in the Indonesian economy towards sustainable and low carbon economic growth. In December 2017, the OJK issued a regulation on Green Bonds that is geared towards raising the capital for green projects. OJK Regulation number 60/POJK.04/2017 sets out the standard for Green Bond issuance in Indonesia. This standard is an amalgamation of globally accepted Green Bond standards, such as the Green Bond Principles, the ASEAN Green Bond standards and the Climate Bond Initiatives, with specific adaptation for the Indonesian capital market.

In January 2018, the OJK, Indonesian Ministry of Finance and The World Bank held a joint technical workshop on Green Bonds. The workshop explored the regulatory framework and guidelines for issuing Green Bonds in Indonesia juxtaposed against regional and global standards, guidance on the process of issuing Green Bonds and the case study of Malaysia which issued the first Green Sukuk in June 20176. EY has assisted with both the development of Green Bond frameworks over the last decade and supported over $7.5 billion of Green Bonds issuances globally.

EY Indonesia was invited to share its experience in assisting Green Bond issuances for corporate, commercial banks and other institutions. Particularly, this session was made to raise awareness about the importance of third party assurance in ensuring the integrity of Green Bonds for investors.

 “The potential of Green Bonds to raise finance to support Indonesia’s transition to a low carbon economy is significant and there are positive signs, from both the regulatory end with the issuance of the OJK’s new regulation and the interest from a range of companies and Ministries, that 2018 will see more of the issuance of Green Bond in the Indonesian market and EY looks forward to supporting this important development.”  - Rebecca Razavi, Executive Director for Climate Change and Sustainability Services (CCaSS) at EY Indonesia

What is the Indonesia’s approach to the Green Bond issuance?

As any other type of bond in the Indonesian capital market, issuers of Green Bonds must adhere to the capital market regulation on debt securities, with additional characteristic of7

  • Eligible projects - Green Bonds can only be issued to finance eligible green projects. The regulation specifies 11 types of eligible green projects, including renewable energy, energy efficiency, biodiversity conservation, clean transportation, climate change adaptation, and sustainable waste management.
  • Use of proceeds - The regulation stipulates a minimum of 70 percent of proceeds from the Green Bond sale shall be used to finance the agreed green projects.
  • Management of proceeds - Issuer has to manage the proceeds from green bond and report on the use of proceeds. As part of the management of proceeds, issuer should create a separate account or disclose in a specific note in the financial statement.
  • Reporting and verification - The environmental benefit of the projects should be clearly defined and verified by an independent third party. The performance of the green bond and projects should be reviewed by an independent third party and the result shall be reported annually to the Financial Services Authority. In the case that the underlying projects no longer meet the green project criteria, the issuer shall define the action plan for remediation and will be given one year to execute the action plan. In the case that the action plan fails to restore the green eligibility criteria of the project, the bond holders may seek the issuer to buy back the green bond or to increase the coupon rate.

The opportunities are there

Investment required for climate change mitigation to limit the global warming to two degree Celsius is predicted to be between $200 - $210 billion per annum in 20308. As mentioned previously, Government of Indonesia had tagged Rp 78 trillion ($5,7 billion) budget component in FY 2017 as related to climate change mitigation/adaptation. The tagging mechanism is done through Climate Budget Tagging in six key ministries in State Budget FY 2016 and 2017 to track resources spent to achieve the national emission reduction target of 29 percent by 2030.

Green Bonds were traditionally demanded by environmentally and socially responsible investors. However, currently the market opportunities have extended beyond this category of investors, with a growing number of asset managers having mandates to increase investment in instruments that support low-carbon growth. For example, investors with $45 trillion of assets under management as Principle of Responsible Investing (PRI) signatories have made public commitments to climate sensitive and responsible investments. Furthermore, research from Nielsen and Morgan Stanley reveals an encouraging future for Green Bonds:

  • 66 percent of global consumers are willing to pay a sustainability premium for products and services.
  • 72 percent of millennials are willing to pay such a premium.
  • Women investors are twice more likely to consider impact when investing.
  • Among all investors, millennials are twice more likely to make investments that target environmental and social outcomes.

The OJK have also noted that the efforts of the regulator, relevant Ministries and wider partners are bearing fruit with environmentally responsible investment gaining traction in the Indonesia capital market.  Indonesia had made the first step to actively participate in Green Bond market, by issuing USD 1.25 million sovereign Green Sukuk in February 2018 to fund a number of environmentally friendly projects such as renewable energy, green tourism, and waste management projects.

EY - Competition of JCI dan SRI-KEHATI Index 2008 - 2017

 “Green Bonds have opened a new finance flow that will be essential to confronting climate change. They are providing green investment opportunity for an ever wider investor group, including those who wish to divest and diversify from fossil fuel-intensive portfolios, and they have proven that a stream of investor capital exists for green assets.”  - Rachel Kyte - World Bank Group Vice President and Special Envoy for Climate Change9

Keeping it up…

The success of Green Bonds relies on their ability to maintain the environmental benefit of the investment and build trust in the market of their “green” claims. Therefore, most Green Bond standards encourage or require the issuers to undertake an assessment or review by independent opinion providers to ascertain the greenness of the underlying projects/assets of the Green Bond. Second opinion providers and verifiers play a very critical role in the process; building trust, integrity and transparency needed to facilitate a credible Green Bond market. Typical third parties oversight on Green Bond issuance are:

  • Consultant review

    An issuer can seek advice from consultants and/or institutions with recognized expertise in environmental sustainability or other aspects of the issuance of a Green Bond, e.g.: Second party opinion of an issuer’s Green Bond framework. 

  • Verification

    An issuer can have its Green Bond, associated Green Bond framework, or underlying assets independently verified by qualified parties, such as auditors. In contrast to certification, verification may focus on alignment with internal standards or claims made by the issuer, e.g.: Environmental features evaluation of underlying assets.
  • Certification

    An issuer can have its Green Bond or associated Green Bond framework or Use of Proceeds certified against an external green assessment standard. An assessment standard defines criteria and alignment with such criteria is tested by qualified third parties/certifiers.

  • Rating

    An issuer can have its Green Bond or associated Green Bond Framework rated by qualified third parties, such as specialized research providers or rating agencies. Green Bond ratings are separate from an issuer’s ESG rating as they typically apply to individual securities or Green Bond frameworks/programs.

We can always help you…

The developing green market has to deal with several challenges such as clear definition of what is considered “green,” procedures on how the Green Bond proceeds should be used, tracked, managed and reported, and the lack of verification requirements over the information reported. Given that Green Bonds are long-term financing vehicles, the reputational risk to issuers extends for many years across the life of the bond and beyond. Therefore, it is recommended to seek expert advice to reduce that risk.

EY can either advise a Green Bond issuer on developing the green criteria and maintaining it over the life cycle of the bond, or conduct verification and ensure that the issuer is following the defined green criteria throughout its life cycle.

With its leading role as an advisory and assurance services provider across sectors, in the areas of environment, health and safety, energy, renewables, climate change mitigation and adaptation, EY brings in a multidisciplinary team to help navigate through the process. The combined expertise of EY’s Transaction Advisory Services (TAS) with debt/capital raising advisory capabilities and EY’s Climate Change and Sustainability Services (CCaSS) group, we can provide clients with end-to-end assistance as they embark on the Green Bond journey.

1 Bruntland Report for the World Commission on Environment and Development (1992)
2 Investment and Financial Flows to Address Climate Change, United Nations Framework Convention on Climate Change, 2007
3 Indonesia Climate / Green Investment Plan, presentation by Badan Kebijakan Fiskal Kementerian Keuangan RI on Technical Workshop on Green Bond in Indonesia, January 2018
4 Green Bonds Highlights report 2017 – Climate Bonds Initiatives
5 Climate Bonds Initiative, Moody’s, Environmental Finance, Market Realist | Source (current market value): The Green Bond Database, as at 11/12/201
6 https://www.sukuk.com/article/malaysia-launches-the-worlds-first-green-sukuk-6361/
7 Peraturan Otoritas Jasa Keuangan Nomor 60/POJK.04/2017 tentang Penerbitan dan Persyaratan Efek Bersifat Utang Berwawasan Lingkungan (Green Bond).
8 Investment and Financial Flows to Address Climate Change, United Nations Framework Convention on Climate Change, 2007
9 Source: http://www.worldbank.org/en/topic/climatechange/brief/green-bonds-climate-finance