Needs to raise a large amount of funds (typically $25+ million) for capital-intensive projects that can achieve measurable sustainability-based impacts, such as greenhouse gas reduction or green building certification. Wants to increase visibility into your company's green investments. Wants to attract investors aligned with the goal of making profitable environmental, social & governance (ESG) investments. Can leverage a strong credit rating to raise low-cost capital Can capture tax benefits and incentives for green bonds.
The main difference between green bonds and traditional bonds is that the issuer publicly states how it will use the proceeds to fund sustainable projects, allowing the bond to be marketed to investors as green. While there are no universal requirements for a green bond, the gr Green Bond Principals (GBPs) and Climate Bonds Standard (CBS) are popular voluntary guidelines that advise on the appropriate use of funds, project selection process, and reporting.
The projects considered for green bonds are typically described in a pre-issuance report detailing how the financed projects will achieve the issuer's desired impact. An external party can prepare this report to one of four levels:
-Second party opinion on the bond's general alignment with the GBP;
-Verification against stated business or environmental criteria, such as science-based goals;
-Certification against an external standard like the Climate Bond Standard; or
-A score/rating against an external methodology, much like a credit rating.
Issuers often develop a green bond "framework" in support of their environmental and sustainability objectives and then apply this framework to issue multiple bonds. With no governing body for green bonds, it is possible for issuers to self-label green bonds and perform internal impact verification.
As a debt instrument, the terms of the green bond rely on the strength of the balance sheet of the issuer, with the best rates available to issuers with a strong credit rating. For this reason, the most common types of green bond issuers are large, often publicly traded corporations or municipalities. While there are public listing venues available for green bonds, such as the Luxembourg Stock Exchange (LuxSE), successful green bond sales often involve negotiation directly with investors.
After selling bonds to raise capital, the issuer is responsible for managing the use of proceeds to meet the objectives of the green bond. Projects can be funded directly, with the issuer purchasing equipment or hiring contractors to carry out projects. Issuers can also use proceeds to pay for service agreements, such as Energy Services Agreements (ESAs) or Energy Service Performance Contracts (ESPCs) in coordination with an energy service company (ESCO).
Green bond issuers also typically release regular public post-issuance reports. These reports are required by many of the voluntary guidelines, including the GBP and CBS. Most reports are annual and account for the use of proceeds (i.e. where the funds are going) and the progress achieved towards the green bond's stated objective. These post-issuance reports are distributed to investors and can be released publicly.
Given the administrative costs associated with investor management and third-party verification, projects funded through the sale of green bonds tend to be large and ambitious in scope. For this reason, projects financed in this way frequently include renewable energy generation projects or the portfolio-wide installation of efficient building technologies.
ADVANTAGES
LOW-COST, SCALABLE CAPITAL-The sale of green bonds can generate significant capital at low rates to enable capital-intensive projects or portfolios of smaller projects.
FULL CONTROL-Unlike financing mechanisms that are attached to a specific property or project, green bonds give issuers more discretion in the use of proceeds, provided this complies with the bond's requirements.
TRACKED IMPACTS-Post-issuance reports allow issuers to track the impact of projects funded by green bonds while also complying with the GBPs and CBS guidelines.
FLEXIBLE TERMS-Issuers can set the repayment period as appropriate, enabling them to support a wide range of projects, including those with longer payback periods.
HIGH PUBLICITY-Green bond sales can generate significant publicity for organizations tackling ambitious projects. Additionally, post-issuance reports allow companies to market the impacts achieved through use of bond funds.
DISADVANTAGES
CUSTOM STRUCTURING REQUIRED-Without a governing body enforcing standardization across green bond offerings, each issuer must structure their own bond terms, including deciding on the desired method of impact monitoring.
INVESTOR MANAGEMENT-Green bond issuers frequently need to engage and negotiate directly with investors to make sure enough capital is raised through the sale of green bonds. There are frequently reporting requirements to investors during the repayment period to demonstrate the use of funds and project impact.
ADDED TRANSACTION COSTS-The issuance process requires engaging and coordination with many parties, including credit underwriting and bond reviewers, a burden that can impact the economic impact of smaller bond sales. Establishing a reusable framework can decrease this burden on subsequent bonds.
LARGE MINIMUM BOND ISSUANCES-In the U.S., green bonds are typically issued for $10 million to $100 million, though they are frequently used to raise larger sums. The bonds issued for less than $10 million are typically utilized by municipal organizations.
