Instrument Overview
"Sukuk (Islamic bond or “Sharia-compliant” bond) is an Islamic financial certificate that represents a portion of ownership in a portfolio of eligible existing or future assets. They can be considered an Islamic version of conventional bonds. Sharia (Islamic law) prohibits lending with interest payments (riba), which is deemed usurious and exploitative. Thus, bonds are forbidden in Islamic finance. Upon its issuance, the issuer sells certificates to investors. Then, the issuer uses the proceeds from the certificates to purchase the asset, and investors receive partial ownership of the asset. The investors are also entitled to part of the profits generated by the investment [1].
Why it matters for cities
- Supports sustainable urban development: Funds projects like clean energy, transport, and water infrastructure aligned with climate goals.
- Sharia-compliant financing: Allows cities in Islamic regions to access capital markets without violating religious principles.
- Broadens investor base: Appeals to both Islamic finance investors and global green/ESG investors.
- Builds climate credibility: Shows commitment to sustainability and ethical governance.
- Taps into fast-growing markets: Green sukuk issuance is expanding, offering new capital opportunities for cities seeking innovative financing.
Key features [2]
- Must follow Islamic finance principles (no interest, uncertainty, or speculation).
- Use of funds limited to green projects.
- Backed by real economic assets.
- Requires third-party certification or green sukuk framework compliance (e.g., Climate Bonds Initiative).
How It Works
- City selects eligible green projects and sets up a Sharia-compliant green sukuk framework.
- Sukuk certificates are issued and sold to investors to raise capital.
- Funds raised are exclusively used for the approved green projects.
- Projects generate returns, which are distributed as profit payments to investors.
- At maturity, the principal is repaid to investors, with regular reporting on project impact and finances.
Benefits & Challenges for Cities [1]
Benefits:
- The risk-sharing aspect of Sukuk gives them a clear advantage as a funding instrument for infrastructure: nearly all conventional infrastructure projects contain individual equity and debt components, especially during the greenfield phase. This leads to a concentration of risk in the equity tranche and complex contracts. Furthermore, there is limited flexibility to handle unforeseen but common events such as delays in revenue generation. Sukuk are designed from the outset to spread the risk more broadly because all investors share in the same manner.
- Greater flexibility in issuing return on investment: Sukuk can also be used flexibly over time because payments are tied to underlying returns rather than fixed schedules.
Challenges:
- Project-based green Sukuk issuances are too closely linked with only renewable energy and green real estate projects
- The lack of a classification of green assets and projects by financial institutions prevents the pooling of green assets for green Sukuk issuances.
Use Cases
Solar power plant in Sabah, Malaysia through Green Sukuk from Tadau Energy
On July 27, 2017, Tadau Energy issued the first green sukuk in the world, raising RM 250 million (US$59 million) to finance a solar power plant in Sabah, Malaysia. The proceeds raised are used to finance a 50MWac solar project in Kudat, Sabah, which was secured under two 21-year power purchase agreements (PPAs) entered into with Sabah Electricity Sdn Bhd (SESB) in December 2016. Project includes the financing, design, engineering, procurement, construction, installation, testing, commissioning, ownership, operation and maintenance of the Solar PV Plants, to be located at Kudat, Sabah [3][4][5].
When to Use It
- For income-generating green projects with clear environmental benefits.
- When targeting Islamic finance and ESG investors.
- In Muslim-majority cities or regions.
- During construction or operation stages.
References
[2] https://tradersunion.com/islamic-investing/are-bonds-halal-or-haram/sukuk-bonds/green-sukuk/
[4] https://tadau.com.my/solar-energy-firm-tadau-raises-rm250m-via-malaysias-first-green-sukuk/
[5] https://iais.org.my/attach/2017/20NOV2017_GreenTech/presentations/Session3_Speaker3_MahbubiAli.pdf