SEBI’s Green Push: Consultation Paper on Sustainable Financing & ESG Goals

Introduction

To align with the Sustainable Development Goals (SDGs) of United Nations by 2030, the Securities and Exchange Board of India (SEBI) has increasingly focused on sustainable finance. Achieving these goals requires substantial funding and necessitates significant amendments to the regulatory framework to enhance capital markets. The bond market plays a crucial role in this process, offering a long-term asset class that aligns well with the objectives of the Sustainable Development Goals (SDGs). Given the scale of bond markets, they have the potential to bridge the significant funding gap required to achieve the SDGs, providing the financial resources necessary to support large-scale, long-term sustainability projects.

In response, SEBI introduced innovative financial instruments, such as green bonds, yellow bonds for solar energy, and blue bonds for water management, in 2023. Additionally, SEBI has established new reporting standards, including the Business Responsibility and Sustainability Report (BRSR), and issued guidelines related to Environmental, Social, and Governance (ESG) for rating agencies. While these efforts demonstrate SEBI’s commitment to sustainability, the current framework predominantly addresses the environmental aspect of ESG. Recognizing this gap, SEBI has issued a Consultation Paper on Expanding the Scope of Sustainable Finance Framework in the Indian Securities Market to broaden the scope of Sustainable finance (hereinafter consultation paper).[1] This blog will discuss the key points of SEBI’s consultation paper and propose potential ways forward.

ESG Debt Securities

Based on recommendations from market participants, SEBI aims to broaden the regulatory framework for sustainable finance by introducing Social Bonds, Sustainable Bonds, and Sustainability-linked Bonds alongside the existing Green Debt Securities. This expansion aligns with global practices for raising sustainable finance. Collectively, these instruments—Green Debt Securities, Social Bonds, Sustainable Bonds, and Sustainability-linked Bonds—are often referred to as ESG Debt Securities.

ESG Debt securities as per market practises are generally of two kinds:

• Use of Proceeds(UoP) Bonds- these are bonds that are raised for a specific type of projects which are targeted to brings particular result or impacts.
• Key Performance Index (KPI) bonds: unlike the UoP bonds, these bonds are raised to meet the overall goals of sustainability instead of focusing on a targeted result or outcome through  a project.

The existing framework for thematic bonds like Green Debt Securities are UoP based bonds. SEBI through Social Bonds and Sustainable Bonds aims to bring in a new class of UoP bonds, whereas the sustainability-linked bonds shall be a KPI bond.

Due to the nature of these securities, defining and understanding KPI shall become important. Some suggestive social responsibilities include causes to end poverty and other deprivations which go hand-in-hand with strategies that improve health and education, reduces inequality, and spurs economic growth. The international standards stipulated by International Capital Market Association (ICMA) suggests that KPIs should be relevant to the issuer’s core business, aligned with their sustainability strategy, measurable and verifiable, and benchmarked against external references for assessing performance ambition. Since these bonds are tied to specific sustainability targets, SEBI’s role in monitoring and enforcing adherence to these commitments shall become critical to maintaining transparency and integrity within the market.

Compliance Requirements

The ICMA suggests that for any thematic bonds, regulatory bodies must consider four key components when formulating regulations to ensure transparency and protect investor interests. These components include:

1. Use of Proceeds – Clear guidelines on how the funds raised will be allocated towards specific projects or initiatives.
2. Process for Project Evaluation and Selection – A defined process for selecting and evaluating projects to ensure they meet the thematic objectives.
3. Management of Proceeds – Proper mechanisms for tracking and managing the funds to ensure they are utilized as intended.
4. Reporting – Regular and transparent reporting to keep investors informed about the use and impact of the proceeds.

In light of these key considerations, the consultation paper addresses three primary aspects related to these bonds: disclosures (initial and continuous), external reviews, and securitization. It seeks public feedback on these areas. The paper aims to align with international standards for such bonds and references guidelines from ICMA for ESG debt securities.[2]

Disclosures and Reporting

The disclosures are necessary in raising money from public especially in long term asset class such as the securitised ESG debt securitised. In addition to disclosures required under the NCD Regulations[3], the disclosures required for such debt securities shall be both initial and continuous. The consultation paper suggests such initial disclosures could be in the offer documents and the continuous disclosures could be in the Business Responsibility and Sustainability Report (BRSR)[4] stipulated by SEBI for ESG related disclosures for listed entities.

The international guidelines suggests that the initial disclosures in the offer documents can stipulate information regarding (not an exhaustive list):

• Clear timelines for target achievement, including observation dates, trigger events.
• Verified baseline or reference point, with a rationale for its selection.
• Conditions for recalculating or adjusting baselines, if applicable.
• Strategy to achieve the goals under the UoP bonds, detailing ESG governance, investments, and key actions with quantitative contributions where possible.
• Consideration of external factors beyond the issuer’s control that may impact target achievement.
• Recommendation for Second Party Opinion when benchmarks lack clear performance thresholds.

The issuers shall with continuous disclosures through BRSR can include:

• Up-to-date performance information on selected KPIs, including relevant baselines.
• Verification assurance report detailing performance against Sustainability Performance Targets (SPTs) and the impact on the bond’s financial and/or structural characteristics, including timing.
• Information that enables investors to monitor the ambition level of SPTs, such as updates to the issuer’s sustainability strategy, KPI/ESG governance, and any relevant changes in strategic development plans or policies.

External Review

SEBI in line with the international norms, has proposed an external review process to enhance the transparency in raising the green debt securities. This requires the issuer of such securities to appoint external reviewer/certifier. The consultation paper provides four ways in which such external review can be achieved including:

• Second Party Opinion
• Verification
• Certifications
• Scoring / Rating

However, the consultation paper does not provide clarity whether such external review shall be only pre-issuance process or a post issuance continuous year-on-year process. The international framework recommends to conduct a pre-issuance review to evaluate the alignment of their ESG debt security with the four components stated above. Following the issuance, the ICMA recommends issuers to appoint an external review to ensure proper tracking and allocation of the proceeds from such securities.[5]

Securitisation

Securitization of securities refers to the process of converting illiquid financial assets, such as loans or receivables, into marketable securities. These assets are pooled together and sold to investors as securities, typically in the form of bonds or other tradable instruments. This process allows the issuer to raise capital by transferring the risk associated with the underlying assets to investors.

Due to the illiquid nature of such securities, securitisation of the ESG Debt securities also becomes and essential to promote the involvement of market participants to issue and invest in such securities. The definition of ‘securitised debt instruments’ under SDI regulations[6] for creation of a ‘special purpose distinct entity’ shall be amended to include ‘sustainable debt instruments’ which shall include the ESG debt securities as an underlying asset for the purpose of creation of the Special Purpose Vehicle (SPV). This shall provide both domestic and international players an opportunity to participate in sustainable financing.

Conclusion

The introduction of sustainable financing opens new opportunities for market participants to enhance their engagement, reflecting the government’s commitment to fulfilling international obligations. With the growing emphasis on sustainability, SEBI’s initiatives in this area are commendable. However, concerns remain regarding the regulatory frameworks surrounding disclosures and reporting, which the market regulator must address to ensure effective implementation and compliance. Overall, while this move is a positive step forward, it necessitates careful consideration of the regulatory landscape to foster a robust and transparent sustainable finance market.

[1] https://www.sebi.gov.in/reports-and-statistics/reports/aug-2024/consultation-paper-on-expanding-the-scope-of-sustainable-finance-framework-in-the-indian-securities-market_85691.html

[2] Green Bond Principles – https://www.icmagroup.org/assets/documents/Sustainable-finance/2022-updates/Green-Bond-Principles-June-2022-060623.pdf; Social Bond Principles -https://www.icmagroup.org/assets/documents/Sustainable-finance/2023-updates/Social-Bond-Principles-SBP-June-2023-220623.pdf; Sustainability Bond Guidelines – https://www.icmagroup.org/assets/documents/Sustainable-finance/2021-updates/Sustainability-Bond-Guidelines-June-2021-140621.pdf;Sustainability-Linked Bond Principles https://www.icmagroup.org/assets/documents/Sustainable-finance/2024-updates/Sustainability-Linked-Bond-Principles-June-2024.pdf; Climate Bonds Standard-https://www.climatebonds.net/files/files/climate-bonds-standard-v4-1-202403.pdf;

[3] Securities and Exchange Board of India (Issue and Listing of Non-Convertible Securities) Regulations, 2021- https://www.sebi.gov.in/legal/regulations/sep-2024/securities-and-exchange-board-of-india-issue-and-listing-of-non-convertible-securities-regulations-2021-last-amended-on-september-18-2024-_86834.html;

[4]https://www.sebi.gov.in/legal/circulars/jul-2023/brsr-core-framework-for-assurance-and-esg-disclosures-for-value-chain_73854.html

[5] https://www.icmagroup.org/assets/documents/Sustainable-finance/2023-updates/Social-Bond-Principles-SBP-June-2023-220623.pdf ;

[6] SEBI (Issue and Listing of Securitised Debt Instruments and Security Receipts) Regulations, 2008; https://www.sebi.gov.in/legal/regulations/aug-2023/sebi-issue-and-listing-of-securitised-debt-instruments-and-security-receipts-regulations-2008-last-amended-on-august-18-2023-_76336.html