Explained | Lucknow Municipal Corporation listed at BSE: All you need to know about Rs 200-crore municipal bond issue

The Rs 200 crore municipal bonds issue of the Lucknow Municipal Corporation (LMC) was listed at the Bombay Stock Exchange (BSE) on December 2, making the city the ninth in the country and the first in North India to have raised municipal bonds.

Uttar Pradesh Chief Minister Yogi Adityanath attended the Bell Ceremony at the National Stock Exchange in Mumbai.

What’s the Lucknow municipal bond issue about?

The total issue of Rs 100 crore (including green shoe option of up to Rs 100 crore) attracted considerable investor interest and received bids totaling to Rs 450 crore.

Also Read: UP CM Yogi Adityanath launches bond of Lucknow Municipal Corporation today

It closed at a coupon rate of 8.5 percent for a 10-year bond, which is a record, particularly in times of COVID and is reflective of the investor demand for good quality and well-structured municipal bonds.

This bond issue from Lucknow Municipal Corporation is rated ‘AA’ by India Ratings and ‘AA (CE)’ by Brickwork Ratings.

The proceeds of the issue are proposed to be invested in a water supply project being implemented under AMRUT scheme of the Government of India and a housing project.

The tenure of the Lucknow Municipal Corporation bond is 10 years and it is structured as a ‘strip’ bond with 7 STRRPs (A to G) and principal repayment to happen in 7 equal annual payments from the 4th year to the 10th year. In addition to asset cover, a structured payment mechanism has been put in place to ensure timely payment of both principal and interest obligations.

Also Read: Here's why cities need municipal bonds

The significance of this maiden bond issue from an urban local body in Uttar Pradesh is not merely the quantum of resources raised for investments in urban infrastructure but a demonstration of the transformation of Lucknow Municipal Corporation into a model for urban governance, the ministry of housing and urban affairs (MoHUA) said in a statement.

The decision to raise funds from the debt instruments was taken under the flagship Smart Cities Mission of the Centre to expand the financial pool of the respective municipal bodies for launching self-sustaining infra and civil projects.

The Rs 200 crore LMC bond, which was launched on November 13, was 4.5 times oversubscribed and closed at 8.5 percent coupon rate for 10 years, which is the second lowest rate of all the municipal bonds launched till date.

The merchant bankers to the bond issue were A.K. Capital Services Ltd and HDFC Bank Ltd.

How will it help the city?

Municipal bonds have been incentivized by the Ministry of Housing and Urban Affairs, Government of India under the mission AMRUT (Atal Mission for Rejuvenation and Urban Transformation).

The bonds issue will ensure that the LMC will get ₹26 cr to subsidise its interest burden. This upfront incentive amount equates to reducing interest burden by 2 percent on the municipal corporation.

It will help in improving financial and municipal governance, make the city move on the path of self-dependence and provide necessary support for developing civic infrastructure. This will also boost Atma Nirbhar City as a part of Atma Nirbhar Bharat.

Also Read: Lucknow Municipal Corporation garners Rs 200 crore on BSE Bond platform

Adityanath said raising resources through the bond issue improves the accounting practices and other systems at a municipal body, and also helps deliver services for the citizens of the city as the required resources get raised.

The funds raised through the bond will be invested in various infrastructure schemes in the state capital, including the water supply project and housing project being implemented under the AMRUT Scheme.

Will other municipal bodies in UP follow suit?

The Government of Uttar Pradesh is keen to encourage other local bodies in the state to emulate the example set by Lucknow Municipal Corporation.

Uttar Pradesh Chief Minister Yogi Adityanath on December 2 said Ghaziabad will be the next local body in the state which will be raising money through the issuance of municipal bonds.

He said that Agra, Kanpur, Prayagraj and Varanasi will be the other cities using this route for raising resources followed by a pooled municipal bond issue from some of the smaller municipal entities in the state.

Adityanath said there are 700 urban bodies in the most populous Indian state that support a population of over 8 crore people. Seventeen of these are municipal corporations, and ten of them have been selected under the Smart Cities mission.

Of the 17 municipal corporations in UP, Lucknow and Ghaziabad are the largest with annual budget of nearly Rs 2,000 crore each.

Which are the other cities across the country that have raised funding through municipal bonds?

The listing follows the trend set by Ahmedabad Municipal Corporation which issued the first municipal bond for Rs 100 crore without state government guarantee to finance infrastructure projects in January, 1998.

Out of the total 11 municipal bond issuances totalling to Rs 3,690 crore, Rs 3,175 crore has been raised on the BSE Bond platform, scaling its market share to 86 percent, the exchange had said.

The city of Lucknow is the ninth in the country to have raised municipal bonds that have cumulatively touched around Rs 3,600 crore. The next city to raise municipal bonds will be Ghaziabad, followed by a joint bond by Varanasi, Agra and Kanpur.

Eight other cities have raised municipal bonds so far. These include Amaravati (Rs 2000 cr), Visakhapatnam (Rs 80 cr), Ahmedabad (Rs 200 cr), Surat (Rs 200 cr), Bhopal (Rs 175 cr), Indore (Rs 140 cr), Pune (Rs 495 cr) and Hyderabad (Rs 200 cr).

Under the Atal Mission for Rejuvenation and Urban Transformation (AMRUT) scheme, cities have been encouraged to mobilize resources by issuing municipal bonds. These are issued when a government body wants to raise funds for infra-related projects like roads, water among others.

SEBI had circulated detailed guidelines for urban local bodies (ULBs) in 2015 to raise funds by issuing municipal bonds.

What are municipal bonds?

Municipal bonds are bonds issued by urban local bodies to raise money for financing specific projects such as infrastructure projects. The Securities and Exchange Board of India regulations (2015) regarding municipal bonds provide that, to issue such bonds, municipalities must: (i) not have negative net worth in any of the three preceding financial years, and (ii) not have defaulted in any loan repayments in the last one year.

A city’s performance in the bond market depends on its fiscal performance and one of the ways to determine a city’s financial health is through credit ratings.

Why is there a need for municipal finance?

The growing urban sprawl in India is leading to an increase in the use of private vehicles, congested roads, increased pollution, public safety issues and increased household spending. Along with this comes the added stress that an increasing population puts on the existing infrastructure of our cities. The infrastructure and services being grossly inadequate even for the existing population, a report by JLL India titled 'Municipal Finance Funding' has said.

According to the World Bank, the scale of urbanisation in India is only 33%, whereas the size of the urban population is about 429 million – much larger than that of many other countries. Although it is an indicator of positive development, a host of challenges also accompanies rapid urbanisation.

Local bodies oversee various expenditures on local services, including transportation, water and sewers, garbage collection and disposal, safety, housing, health, recreation and culture, education and social expenditures. They fund these services and the infrastructure associated with them from a variety of sources under municipal finance.

How do municipal bonds help smart cities raise funds for projects they plan to execute under the Smart Cities Mission?

Owing to India's growing economy, there is huge demand for creating more infrastructure. As per HPEC report on Indian Urban Infrastructure and Services, over a period of 20 years (2012-2031), the estimated investment for urban infrastructure is Rs. 39.2 lakh crore.

Government budgetary allocation is not sufficient and public sector companies, given their limited implementation capacity, cannot meet the huge infrastructure requirement. Municipal bonds have a huge potential for fulfilling the massive investment requirement in the urban infrastructure sector.

Apart from providing much needed term funding and promoting sound corporate governance standards in urban local bodies, municipal bonds are necessary for stimulating the revenue generation process of ULBs. In Smart Cities Mission (SCM), it was envisaged that Centre/State/ULB funds will meet only a part of the project cost and balance funds are expected to be mobilised from various innovative finance mechanisms such as municipal bonds with credit rating of ULBs.

Are municipal bonds the best/viable alternative available? What are the other sources through which SPVs can raise money for smart city projects

Other than municipal bonds, there are various innovative fiscal tools, such as Value Capture Financing (VCF) that are currently being explored by state/local governments, many of which have also been in existence for a few years.

Some VCF methods that can be adopted or have been in place for the past few years are: land value tax, vacant land tax, fees for changing land use, betterment levy, development charges, transfer of development rights (TDRs), premium on relaxation of FSI/FAR, tax increment financing (TIF), land acquisition and development, land pooling system (LPS), among others.

What more needs to be done? Tax incentives for investors the need of the hour

Municipal bonds although not developed significantly in India have been among key sources of accessing capital for municipal corporations in developed markets. Municipal bonds would provide long-term monies which is critical for public infrastructure projects such as construction of roads, bridges, at a cheaper cost.

“The poor state of finances, lack of transparency, inadequate systems and processes have been key reasons for lack of penetration for municipal bonds. In the recent past there have been proactive measures by the central and various governments to ensure and permit raising funds through municipal bonds such as tax incentives for the investors, allowing smaller size capital raise for private placements,” said Piyush Gupta, managing director, Capital Markets and Investment Services, India, at Colliers International.