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Project finance – the financing of infrastructural and industrial projects where debt and equity used to finance the project are paid back from the cash flow it generates – is traditionally the preserve of governments and leading institutional investors.
However, low yields mean companies with healthy balance sheets are looking at their options for investing in infrastructure projects – as well as funding their own projects.
One of the factors that increases the appeal of internal project finance investment is where the project is of strategic importance to the company and can be financed internally until it is operational and could be refinanced. For example, telecommunications companies in the UK have committed approximately £13 billion to strategic investments in infrastructure, according to the national infrastructure plan.
Also in the UK, Euromoney understands a leading food company is about to commence construction of a biomass facility – funded from its balance sheet – to create a reliable source of energy and increase the sustainability of its production facility by turning waste product into energy.
On the other side of the world, NTPC, the largest thermal power generating company in India, decided to fund two hydro electric projects from balance sheet.
A working paper on challenges for infrastructure finance published by the Bank for International Settlements (BIS) in August 2014 suggested that future infrastructure financing would need to come increasingly from the private sector.
Yield pick-up
Yield pick-up relative to comparable asset classes is one of the factors investors will take into account when considering whether to back a project, explains Michael Wilkins, managing director of infrastructure finance ratings at Standard & Poor’s.
“The average yield on a sovereign bond is around 2%, whereas infrastructure projects generate returns of between 3.5% and 4%,” he says.
The uncorrelated returns on infrastructure investment balance out the impact of volatility on other types of investment, say investment advisers to treasurers.
Manish Gupta, head of infrastructure corporate finance at EY, suggests treasurers looking to invest for a period shorter than seven to eight years should consider infrastructure debt instruments that are liquid, such as government guaranteed bonds issued by Network Rail or high credit-quality bonds issued by infrastructure companies such as Heathrow Airport and regulated utilities.
“I am aware of many institutional investors who have invested in high credit-rated bonds, in some cases as a replacement for gilts,” he says.
Most treasurers in developed markets will have an aversion to considering investment options in developing markets, says Gupta, adding: “There is some nervousness around projects in less-developed economies in Europe and further afield, particularly where the currency is not linked to the pound or dollar.”
Projects also come with a variety of risk factors – technical, operational, legal, environmental – which need to be fully understood. The economics of the project need to be sufficiently robust to withstand lower market-price assumptions and the overall leverage needs to be appropriate for the company.
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Giles Frost, CEO, |
Most of the assets in the infrastructure space have behaved in a very predictable way, generating steady returns over a long time horizon, says Giles Frost, chief executive of Amber Infrastructure, adding: “One of the benefits of project finance is that the returns are largely – or in some cases completely – uncorrelated to wider economic factors.” When considering the appeal of infrastructure investment, he draws a distinction between the relatively small number of treasurers who have access to long-term cash – for example, those working in insurance companies who are looking for assets to match their long-term liabilities – and the much larger group who are focused on efficient cash management. For the latter, Frost suggests listed infrastructure funds are a good way of accessing this asset class.
“These funds [which include International Public Partnerships, a fund managed by Amber Infrastructure] show many of the characteristics of the underlying assets but can be easily traded in and out of,” he says.
Frost observes that treasurers tend to favour investment in their domestic market, with those in the UK and US displaying the most international tendencies.
“The profile of London as an international financial centre and the access to a variety of experts that this entails means UK treasurers tend to get offered a wider variety of investments,” he says.
According to the BIS, issuers of infrastructure funds need to do more to tailor their products to the needs of long-term investors, particularly in relation to fees, which it describes as being often comparable to those for private equity and hedge funds, even though the targeted returns are substantially lower.
Public bond issues appear sporadically, but the real story is private debt, both for new projects and as a source of refinancing for existing bank loans, according to Doug Segars, associate managing director of Moody's EMEA project and infrastructure finance team.
“Institutional lenders are also very active, both the infrastructure debt funds and insurance companies’ own asset managers,” he concludes.
