This article is sponsored by Quinbrook Infrastructure Partners
Q: What is driving the industry’s move towards sustainable investment practices?
Supported by the UN’s Principles for Responsible Investment and, in particular, the Sustainable Development Goals, there is a growing appreciation among institutional investors of the non-financial aspects of the investment of their capital.
Meanwhile, the carbon divestment movement has highlighted reputational risk for investors and sustainability track record and credentials are increasingly important in their choice of strategy and relevant managers.
It is only in the past three years that we have seen ESG screening factored into manager selection criteria. That is a very significant development. There is real momentum building behind the need for sustainable investment practices and I don’t think that is going to change.
Q: How are LPs approaching due diligence in this area and is it changing?
We are seeing more questioning around ESG credentials from both a policy and investment management perspective, although this is often still rather superficial. Three years ago, I would be able to count the number of due diligence questionnaires that specifically referenced sustainability/ESG on one hand. Now it is becoming the norm. However, relatively few investors probe much deeper than that. Having a PRI ESG rating offers additional comfort for many LPs, because it provides a third-party validation of a GP’s ESG credentials. These things are definitely starting to be factored into investment decision making and GP selection, but we are still at the beginning of the journey.
Q: What about LP attitudes towards impact investing? And how does the concept of impact fit with sustainability?
For us, the two go hand in hand. We define impact investment as the ability to measure incremental benefits and value creation from the deployment of institutional investor capital. It can be measured in many ways such as job preservation, for example, or in quantification of carbon emissions reductions or improvements to health and safety through lower incident rates. But it needs to be tangible and it needs to be objective.
Investors want to know that, yes, you have constructed a project on time and on budget, but also that you have adhered to industry best practices around all of these other areas in the conduct of your business deploying their capital. And, if you can’t measure it, you can’t manage it. So, for us, impact is about being able to directly attribute and measure those especially non-financial benefits and incremental value creation to the real time deployment of our investors’ capital.
Sustainable asset creation in practice
In June 2019, Quinbrook Infrastructure Partners signed a 25-year Power Purchase Agreement with NV Energy for the AC Gemini Solar + Battery Storage Project.
Located in Nevada, Gemini is believed to be the largest solar-powered battery storage system in the world to date, featuring a 690 MW photovoltaic array, coupled with a 380MW AC battery storage system capable of storing over 1,400 megawatt hours of low-cost, renewable power each day. Gemini will be a major new construction undertaking for Quinbrook, at an estimated cost of $1 billion and extended over an 18-month period. The project is expected to use more than 2.5 million solar modules, support over 2,500 jobs and bring over $450 million of financial stimulus to the Nevada economy.
“Gemini is a significant power infrastructure project that sets new benchmarks for the teaming of solar PV and battery storage at large scale in order to deliver low priced, renewable power to benefit the citizens and the economy of Nevada,” says David Scaysbrook.
“Gemini has the potential to be a game-changer for the deployment of cost-effective renewable power at a time when sustainable investment to reduce emissions from power generation has never been more critical. The long-term commitment that NV Energy has made to ensure that Gemini can be built shows their commitment to harnessing the abundant and low-cost solar resource available in Nevada and matching that with the recent advancements in battery storage pricing and capability.
“The advantageous location of Gemini and the significant scale of the project means that based solely on cost factors, renewable power from Gemini is expected to be cost competitive with traditional sources of power generation for at least the next 25 years,” adds Scaysbrook. “Gemini offers very positive and tangible ESG impacts due to the deployment of our investors’ capital in new energy infrastructure, allowing us to both create and deliver material financial, environmental and economic benefits on their behalf.”
The addition of battery storage at the Gemini site, especially during periods of high electricity demand from Nevada power consumers, is expected to help reduce carbon emissions from existing power generation sources by over 1.5 million tons per year. At 690MW of solar PV capacity, Gemini currently ranks as the second largest solar project in US history and together with the 380MW AC of battery storage capacity, offers the ability to power over 400,000 homes in Nevada both throughout the day and into the early evening hours.
Q: You focus on new asset creation in the clean energy space. What implications does that greenfield strategy have for sustainability, and for impact?
We bring new assets into existence. We are not just buying assets that are already operational and improving them. That is critical because the positive and incremental impact of new build is so much greater, and so much more tangible.
Q: How do you ensure that sustainability is embedded in all your investment and asset management decision-making? What do you consider to be best practice?
Anyone who says they’ve cracked that nut is probably exaggerating. It’s still very much a work in progress for us as it is with most GPs. But, for us, it starts with identification of meaningful sustainability indicators followed by measurement. Over the past few years, we have been focused on practical approaches to measuring non-financial benefits and broader value creation resulting from our investment process. Increasingly, we are spending more time on sustainability aspects of day-to-day decision-making in operational asset management post-investment.
But there is no industry standard in energy infrastructure as yet. We ask ourselves questions like “how far do you go in your enquiries with manufacturers of equipment to interrogate their business and operational practices in supply chain management” for instance? Is a set of initial questions enough? Or do you need to dig deeper? Is that practical in the cut and thrust of managing a fast-paced investment timetable?
To give you an example, there are two main types of battery technology within the lithium landscape that we evaluate. One is eminently more recyclable than the other but is currently more expensive upfront. Do we put a value today on the likely future cost of recycling to make the two comparable? If so, how do we price that today, if the materials are not going to be recycled for another 25 years? These are the sorts of things we are wrestling with. Just how far do you go? What are investors’ expectations? There really isn’t a benchmark for best practice assessment right now. The concept of sustainable investment is still quite nascent.
Q: What are the biggest obstacles to being able to measure and benchmark sustainability? What would help you when you are wrestling with these issues?
I think it’s definitional. Having a consensus among institutional investors about what their expectations are on criteria and measurement is where we need to start. We are only custodians of their capital after all. The UN SDGs have been helpful in this regard. They have at least created a charter that people can sign up to and say, yes, we will subscribe to these principles when we invest. I think developing a greater consensus on what is most important to our stakeholders is essential for sustainable investing to continue to evolve.
Q: How successful has the industry been, overall, in improving sustainability? How much of a differentiator is it?
I think an honest assessment is that we are still very much at the beginning of what can be achieved, and it won’t be until investors start voting en masse for sustainable investing by allocating their dollars that we will see meaningful change. We are however, genuinely moving on from the ‘window dressing’ phase.
Everyone has an ESG policy because, from a business perspective, you would be crazy not to. But the next stage is demonstrating that policy in action with practical examples and proof of improved investment outcomes. Ultimately, we will get to the point where institutional investors will withhold their investment unless their sustainability criteria are met.
For example, a state pension plan in the US recently deselected two, very well-known GPs, because they didn’t have sufficient diversity within their investment team. That was a big statement for the LP to make and it really made people sit up and take notice. Normally these things happen in a nuanced way, behind closed doors, but to actually stand up and say this in public was a real wake-up call.
Q: What do you see as the correlation between sustainable investment practices and returns in infrastructure? And how do your underlying investors view this issue?
For us it comes back to the asset creation story. Not long ago, investors were reluctant to allocate to strategies where GPs were taking development and construction risk despite the potential for higher returns. They were very risk averse and they wanted assets de-risked and operating before they were interested in investing. But now there is a growing realisation that if you are not prepared to take those risks, then how can you bring new and more sustainable, assets into existence and have the true impact that you are seeking? Admittedly the potential return premium has made these risks easier for LPs to accept when there is return deterioration across the board in most asset classes.
“Ultimately, we will get to the point where institutional investors will withhold their investment unless their sustainability criteria are met”
There has historically been a misconception (in our view at least) that the development and construction risk offsets the impact benefit. But investors are acknowledging now that by taking on development and construction risk, it is possible to both generate better returns and deliver impact without a financial penalty.
They are more prepared now to allocate a portion of their portfolio to new asset creation because they want that impact attribution. They want to be able to say their capital is driving more sustainable outcomes. And, if they don’t want a return penalty as a result, they need to make sure the GP they have chosen is managing construction and development risk well and has a good track record of success.
Q: How much further does infrastructure have to go, as an industry, to be truly sustainable? What do you believe can and will realistically be achieved?
The next 10 years are going to be critical from a variety of perspectives. Some of the macro trends we are experiencing have been incredibly helpful – low inflation, low interest rates and a dearth of returns in equities and fixed income, in particular – have all helped drive more capital into infrastructure asset classes.
Meanwhile, new asset creation is taking an ever-bigger share of the overall allocations pie and I believe that over the next decade, new asset creation in more sustainable infrastructure will reach three or four times the capital flows that we see today. At the same time, we are seeing the emergence of new sub-classes of assets within the sustainability thematic.
Renewables dominate today, but we will also see more opportunities in areas such as waste management, recycling, water efficiency and new agricultural practices.