Municipal Bonds: An Avenue for Funding Urban Development

(this article was published in souvenir as a part of Regional conference of Practising Company secretaries held in Oct 2023 at Kochi)

Municipal Bonds: An Avenue for Funding Urban Development

Introduction

India is considered as Investment and business destination due to its Ease of Doing Business. It is through Make in India programs and positive credit rating by external agencies, India government has been attracting various business conglomerates for making investment in the country which helps in employment generations, increase in GDP and economic growth. Along with government at centre and of each state, local body plays an important in the exponential growth of cities.

India being federal republic consists of 2 levels of government ie., Central and State. Federalism in India separates the power between central and state government so that each of them can concentrate on their own duties and responsibilities.

To maintain economic growth and development in areas of road and bridges, health care & sanitation, waste management system, it is imperative that fund infusion shall also happen in the local self-government particularly Municipalities. As per UN report, Indian population may stand at 675 million by 2035. At the same time, Central Government through union budget 2014-15, has been promoting the “Smart City” program. Developing a Smart City requires huge investment in area of basic infrastructure.

Significant amendments to the Constitution of India w.r.t Municipalities 

The Constitutional Amendments (73rdand 74th) in the year 1992 were considered as landmark that decentralise governance regime in local self-government in rural and urban India. Such amendments have accorded a constitutional status to local bodies as the third tier of government. With this amendment, the nation now has 3 tier governance structures which includes central, state and local level. In our country, Municipalities are local bodies that directly influence the welfare of the general public by exercising economic and social responsibilities. 12th schedule of Indian constitution was introduced which promulgates 18 matters related to the powers, responsibilities, and authority of the Municipalities such as urban planning including town planning, slum improvement and upgrading, urban poverty alleviation etc. to name a few.

The Concept – Municipal Bonds

Normally, Municipalities depends on funds from property tax, advertisements, rental income from properties leased out, user charges, inter-governmental transfers along with loan and advances from banks and public financial institutions. They are also depending on funds from the government grants. As an alternative, municipalities can raise funds by way of issuance of bonds/ debentures. Municipal bond means bond, or a debt security issued by a municipality or urban local body to an investor for capital raise. The proceeds of issue shall be utilised for basic infrastructure, public health care and sanitation, general administration like road and bridges, urban development, waste management and recycling etc.

History of Municipal Bonds

The Municipal bonds were first issued by US in 17th Century and thereafter in New York in the year 1812 which got lot of prominence. It spread all over the world including Europe and exponentially grown over the years.

Regulatory Framework – Municipal Bonds

The issuance of Municipal Bonds is regulated by SEBI (Issue and Listing of Municipal Debt Securities) Regulations, 2015 (“SEBI Municipal Bonds Issue Regulations”) which came into effect on July 15, 2015. These regulations defined the concept “Municipal debt securities” to mean non-convertible debt securities which create or acknowledge indebtedness, and include debenture, bonds, and such other securities of an issuer.

These regulations shall apply to (a) issuance and listing of municipal debt securities by an issuer by way of public issuance; and (b) issuance and listing of municipal debt securities by an issuer on private placement basis which are intended/disclosed to be listed on a recognised stock exchange.

Who is Issuer to Municipal Bonds

As per Reg 2 (1) (l) of the SEBI (Issue and Listing of Municipal Debt Securities] Regulations, 2015 mean any municipality or any Statutory Body or Board or corporation, Authority, Trust, or Agency established or notified by any Central or State Act or any Special Purpose Vehicle notified by the State Government or Central Government subject to the condition that it undertakes one or more functions that may be entrusted under Article 243W of the Constitution of India. A Municipality means an institution of self-government constituted under Article 243Q of the Constitution of India.

Importance of Issuance of Municipal Bonds

India’s population crossed 140 crores and local bodies particularly Municipalities require fund for urban development, waste management, public health care etc. The raising the fund through issuance of municipal bonds is an alternative for the fund requirements at comparatively lesser interest rates.

Utilization of issue proceeds

The funds raised from issue of municipal debt securities shall be used only for the purposes indicated under the objects stipulated in the offer document or placement memorandum. Where the proceeds of the issue are earmarked for a defined project or a set of projects, prior requisite approvals, if applicable shall be obtained from the concerned authorities. The issuers shall maintain a bank account in which the amount raised from the issue shall be immediately transferred after the closure of the issue and such amount shall only be utilised for the indicated project(s).

Creation of Escrow Accounts

The issuer shall create a structured payment mechanism and maintain specific escrow accounts for the purpose of debt servicing of the municipal debt securities.

Mandatory conditions of Municipal Bond issuance

Requirements of Public Issue of Municipal Bonds

No issuer shall make a public issue of municipal debt securities unless:

• It has surplus income as per its Income and Expenditure Statement in any of
  the immediately preceding three financial years or such other criteria as SEBI may specify;

• shall appoint one or more merchant bankers, which are registered with the Board, as lead manager(s) to the issue;

• a draft offer document has been filed with the Board and designated stock exchange through the lead manager;

• public issue of municipal debt securities shall be kept open for at least three working days;

• The issuer may decide the amount of minimum subscription which it seeks to raise by

issue of municipal debt securities and disclose the same in the offer document. Such minimum subscription limit shall not be less than seventy-five per cent of the issue size.

Requirements of Municipal Bonds on Private Placement basis

• An issuer may list its municipal debt securities issued on private placement basis through placement memorandum.

• The issuer shall file the preliminary placement memorandum with the SEBI and stock exchange(s) through the merchant banker prior to issue.

• The minimum subscription amount per investor shall be Rupees ten lakh.

Conditions for continuous listing and Trading of Municipal Bonds

• Where the issuer is a body corporate to whom the Companies Act, 2013 applies, one-third of its Board shall comprise of independent directors, as defined in section 149 of the Companies Act, 2013.

• Every rating obtained by an issuer shall be periodically reviewed by the registered credit rating agency and any revision in the rating shall be promptly disclosed by the issuer to the stock exchange(s) where the debt securities are listed.

Status of Municipal Bond Market and Way Forward 

Pune Municipal Corporation was the first Municipal Corporation in India to raise fund of Rs. 200 crores by issue of Municipal Bonds at a coupon rate of 7.59% in the year 2017. This was followed by Greater Hyderabad Municipal Corporation (GHMC), Indore Municipal Corporation, Bhopal Municipal Corporation, Greater Vishakhapatnam Municipal Corporation (GVMC), Lucknow Municipal Corporation etc.

On March 24, 2022, the Vadodara Municipal Corporation had raised fund of Rs. 100 crores through issue of Municipal bonds at a coupon rate of 7.15% for its water supply project. The issue had received overwhelmed response which was oversubscribed more than 10 times despite economic slowdown due to COVID-19 pandemic and Russia-Ukraine war.

Thereafter, Indore Municipal Corporation, had launched first ever public issue of Municipal bonds in February 2023, to fund solar power project and had raised Rs. 244 crores which was oversubscribed by nearly 6 times. 

Finance Minister of India Mrs.  Nirmala Sitharaman during Budget Speech (FY 2023-24) had mentioned that Centre will incentivise cities to improve their finances and make them ready for municipal bonds. She said that “Through property tax governance reforms and ring-fencing user charges on urban infrastructure, cities will be incentivised to improve their creditworthiness for municipal bonds,”.

Reserve Bank of India in its report on Municipal Finance released in November 2022 mentioned that “As the demand for infrastructure grows among Indian cities, municipal corporations must further explore ways to reinvigorate and foster alternative and sustainable resource mobilisation through municipal bonds.”

Its pre-requisite that we need to give awareness among the investors and civic bodies, the possibilities and scope of municipal bonds as an avenue for funding the urban development. On the other hand, investors feel like lack of transparency in the functioning of civic bodies.

Conclusion

Issuance of Municipal bonds are an alternative source for fund raise from the market for Municipalities including Smart Cities. But it’s necessary that transparency and trustworthiness are essential for civic bodies to raise money from the market through bonds. To raise the debt through bonds, the corporation took some serious measures to revamp its finance statements.

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