Finance & Banking

GREEN SUKUK MAPPING FINANCING FLOWS FOR CLIMATE CHANGE Siti Rohaya Mat Rahim Academy of Islamic Studies, University of Malaya, 50603 Kuala Lumpu

Climate change can be defined as rising of
average temperatures, extreme weather
conditions, rising sea levels, and shifting of
wildlife populations and habitats. Battling
climate change is crucial to address the issue
of global warming. Today, global average
temperature is 0.85ºC higher than it was in the
late 19th century.

The main reason of climate change is global
warming caused by greenhouse gases.
Greenhouse gases trap heat within the
atmosphere causing global temperatures to
rise. Climate scientists believe that human
activities are the main cause of global warming
observed since the middle of the 20th century;
and the impact of climate change is huge. This
means more droughts and heatwaves, more
precipitations, more natural disasters like floods,
hurricanes, storms and wildfires, and frost-free
season being affected by these upheavals.

The climate change is already altering entire
ecosystem. Warm sea surface temperature is
intensifying major typhoons, hurricanes and
tornadoes, as more water vapors enter the
atmosphere where they become fuel for more
powerful storms to develop. Experts warn of
the association between tropical cyclones and
anthropogenic global warming in western North

The outcomes show that thermodynamic
changes to the environment significantly
influence the upper portion of extreme typhoon
intensities, signalling that super typhoons are
likely to be stronger. Researchers also found that
the climate change has enhanced the average
and extreme rainfall of hurricanes Katrina, Irma
and Maria. Nevertheless, it does not change the
power of tropical cyclone wind-speed.

The strong rainfall from hurricanes and other
tropical storms will negatively impact the human,
and may require billions of funds in restructuring
of buildings and the related infrastructure. In
the same vein, severe flooding is also caused by
the climate change. For instance, a 2011 study
reported that 1,822 individuals across United
Kingdom in 2010 were affected by floods.
Similarly, during the monsoon period of August
1-19, 2018, the Indian state of Kerala witnessed
unprecedented floods resulting from heavy
rainfall in a short space of time, killing over 474
people and making another 800,000 homeless.
Consequently, the Hong Kong government had
to offer $8.262 million to provide relief to the
flood victims in Kerala. This is just one small
example of financial implications of the climate

Islamic finance cannot ignore the rising
importance of environmental concerns in
terms of its product offerings and its own
commitment to ESG-related concerns. An
important development in this respect is the
advent of Green sukuk.

Such observations point to the significance
of the climate change. It is already shaking up
social, health and geopolitical balance in many
parts of the world. Furthermore, the scarcity
of resources like food and energy might lead
to new conflicts. Thus, mobilising investment
and innovation in low-carbon technologies and
renewable energy, is a central idea in keeping
the global average temperatures below 2ºC.

Sukuk is plural of sakk – Arabic for an Islamic
bond. Green sukuk refer to a new investment
certificate representing shares of an investment
vehicle which in turn invests in tangible assets.
Green sukuk aims to finance renewable energy
projects. Islamic Development Bank defines
green sukuk as the Shari’a-compliant version of
a green bond and represents Shari’a-compliant
investments in renewable energy and other
environmental assets. Green sukuk notably
addresses the Shari’a concerns for protecting
the environment.

Thus a Green sakk may specifically be
earmarked for investments in solar parks, wind
and hydro. Green sukuk could also conceivably
serve in other renewable energy sources, such
as biomass, geothermal and tidal, as well as in
power generation and transmission systems,
energy efficiency, reduction of greenhouse gas
emissions, water treatment projects, sustainable
waste management, redevelopment of polluted
or contamination sites, public hospitals or
medical services, educational services and
affordable housing.

The main reason for the green sukuk to
continue to increase in importance and use
is the potential of green investment projects
needed in ASEAN from 2015 to 2030. The
green investments in the region may go up to
USD$3 trillion. According to Moody’s, the green
finance market itself has grown rapidly since
2017 when it recorded issuance amount worth
USD$155 billion. This is obviously only a small
fraction of the potential requirement.
In the following, we discuss developments in
the green sector and related sukuk issuance in a
few countries of importance.

In November 2011, Paris Europlace launched
the French sukuk guide to support the issuance
of sukuk in France. In this regard, Legendre
Patrimoine and Anouar Hassoune Conseil
issued the first green sukuk known as the
Orasis Sukuk. Orasis Sukuk would be utilized
for financing solar plants project. Investors
of the Orasis Sukuk would be eligible for tax
deductions up to 10 years. The financing offers
7% return per annum for every second quarter
and benefit from a 71% tax cut. Currently, Orasis
Sukuk offer ownership rights to individual and
institutional investors Hulot, France’s Environment Minister, said
“France is struggling to cut greenhouse gases
and obtaining cash for the climate-friendly
renovation of buildings.”

Recently, on September 26, 2018, France,
Germany, Hewlett, Grantham and IKEA
Foundation and BlackRock, as the asset
manager have, announced the Climate Finance
Partnership at the One Planet Summit in New
York. The partnership committed to developing
an investment vehicle that aims to invest in
climate change infrastructure in emerging

Specifically, the partnership will make
investments in renewable energy, energy
efficiency, energy storage, low carbon and
electric transportation across Latin America,
Asia and Africa. More importantly, renewable
investment in OECD and G20 countries was
driven by targeted investment incentives like
feed-in-tariffs, tradeable renewable certificate
and public tenders.

Oman has a varied climate and geography.
There are periodic droughts, the summer winds
often produce large sand and dust storms in
the central region, and the strong southwest
summer monsoon is recorded between May to
September. It is one of the most water scarce
countries in the world. Rising temperatures
and climate change is likely to threaten water
security and disrupt agricultural production.
Furthermore, increase in urban population
density has led to increased air pollution
deriving from energy production, transportation
and industry, especially cement, chemical and
petrochemical plants.

Last year, Abu Dhabi Future Energy fully
financed the first of the 13 turbines at Dhofar
Wind Farm. Each turbine has a capacity to
generate an estimated of 50 MW electricity.
The Dhofar Wind Farm is expected to
become operational by the third quarter of
2019, supplying 7% of Dhofar governorate’s
electricity demand. It is expected to supply
green energy to power 16,000 homes, while
offsetting an estimated 110,000 tons of carbon
dioxide emissions annually.

Elsewhere, in Oman, Mazoon Electricity
Company raised $500 million from its debut
sukuk issuance. The 10-year sukuk offered
profit rate of 5.2% per annum. The issuance will
support the group electricity transmission and
distribution networks investment. The issuance
is rated BAA2 by Moody’s and BBB by Fitch.
The composition of the investors is represented
by 52% of banks and 46% other asset managers.
Similarly, Saudi Arabia Electricity Company has
issued a 30-year sukuk. The $1 billion issuance
demonstrated the increasing popularity of
sukuk in the global market.

Morocco is the largest energy importer in the
MENA region because of its limited hydrocarbon
reserves. The country imports 95% of its
primary energy supply, of which US$80 billion
is spent on imported oil. Moroccan government
has spent US$150 million since 2015 for its
Clean Technology Fund.

The main objective of this fund is to support a
cleaner economy regime in Morocco. And, yet,
so far, Morocco’s Investment Commission plans
to invest nearly $11 billion in solar and wind
energy projects. The fund aims at turning the
country into an exporter of alternative energy
by 2020 .

Morocco’s largest concentrated solar power
farm is located in Ouarzazate. This project is
financed by the World Bank with a $400 million
loan, combined with $216 million provided from
the Clean Technology Fund. The solar power
uses solar cells to directly convert sunlight to
electricity for over one million homes.
The first phase of the project, Noor 1, was
officially turned on in 2016 with a generating
capacity of 160MW. It enables storage of three
hours’ worth of electricity. Phases 2 and 3 of the
project are under construction with capacities

of 350 MW and 70 MW, respectively. As for
hydro power, Morocco lately installed 12 small
hydro plant with totaling 92MW. Furthermore,
Morocco aims to install 2,000 MV hydro plant
capacity by 2020.

Morocco’s central bank had been expected
to tap local sukuk market since July 2018,
after multiple delays. Nevertheless, after the
new securitization law gazette in April 2017,
Moroccan authorities announced the first
“sukuk” worth 1 billion Dirhams, about 90
million EURO with a demand that exceeded 3.6
times that of conventional bonds. The sukuk
was issued on October 5, 2018.

A paper by Dalal Aassouli and her colleagues,
looked at the application of istisna’ ijara structure
for green sukuk in Indonesia. The solar project
required up to AUD $550 million of financing
for 250 megawatt solar panel project. The first
phase of the project offered AUD$150 million
of sukuk and agreed to pay between 6.5% to
7.5% returns. Under this model, guarantor was
responsible directly for the investors (sukukholders).

A simple istisna’ ijara sukuk structure is given
above in the figure. During the construction
phase, issuer or SPV issues istisna’ sukuk to
raise funds from the investors (sukuk-holders).
Investors make payments to SPV, in order to
purchase Istisna’ Sukuk Certificate. Istisna’
Sukuk Certificates are issued to the investors
upon receiving the funds.

SPV uses the sukuk proceeds to pay the
contractor who is also known as the supplier of
solar panels, under the istisna’ contract to build
and deliver the asset. However, on its own, an
istisna’ sukuk does not generate returns for the
sukuk-holders during the construction phase.

In case of the Indonesian Green Sukuk, for first
20 years from the completion, SGI-Mitabu will
issue ijara sukuk. Ijara sukuk is a hybrid between
an operational lease and a capital lease with
certain ‘ownership’ risk. In simple words, ijara
sukuk will sell certain physical assets to a Special
Purpose Vehicle (SPV).

The SPV will finance this acquisition by cash
raised by the issue of sukuk certificates. Unlike
istisna’ sukuk, ijara sukuk entitles the sukukholders to receive a proportionate share of
the returns, generated by the underlying asset
through a lease back to the issuer company.

Meanwhile, for 20 years onwards, a musharaka
sukuk will be used to finance the construction
projects. The SPV pays cash toward the capital
of the musharaka to the operating companies,
and subsequently, leases the underlying
musharaka assets to the energy distributors at
agreed regular fixed or floating rentals.

The sukuk-holders are entitled to earn returns
from the underlying assets that are distributed
between the issuer and sukuk-holders in
accordance with a profit-sharing ratio. In the
case of default or maturity, the issuing entity
issues a promise to musharaka units from the
SPV at an agreed price.

The list of relevant case studies from France,
Oman, Morocco and Indonesia have been
brought to understand the issues. The agenda
is the same, which is to fight climate change and
protect the environment and the planet.

To meet green sukuk deployment goal for
financing the climate change problem, policy
makers and banking system needs to strengthen
investment conditions, be it an investment
policy, specific policy incentives or trade and
financial market policy.

The introduction of green sukuk may have
had the consequence for providing access to
debt financing for capital-intensive investment
such as renewable projects. Finally, there is a
strong endorsement of the message that green
sukuk and climate change risks must go handin-hand with representatives from government,
business and civil society

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