Two out of five investors in infrastructure funds plan to participate in co-investment opportunities in 2020, according to the Infrastructure Investor LP Perspectives Survey 2020. A further 35 percent do not intend to co-invest, while 25 percent are unsure. These figures may convey surging appetite for co-investment opportunities, but they are unlikely to be reflected in completed transactions, particularly if non-discretionary vehicles are excluded.
“We would be extremely surprised if the actual figure is close to that,” says Bruce Chapman, a partner at placement agent Threadmark Partners. “Especially if we ignore co-investments executed through a vehicle where investment discretion has been handed to a third party – typically the fund manager of the parallel fund.
“Co-investments are typically executed with a limited number of co-investors, up to a maximum of three to four groups, and more typically one to two groups, unless the deal is very large.
“When you consider that there will likely be somewhere between 20 and 100 investors in a fund of $500 million and upward, and a fund might typically complete two to three deals per year, which require co-investment, the numbers just don’t stack up.”
Tavneet Bakshi, a partner at placement agent First Avenue, adds that they too often lean towards discretionary co-invest vehicles. She says this “can help overcome some of the challenges of getting co-invest processes at the LP level to align with the needs of the GP when progressing transactions.”
Appetite vs ability
Appetite for co-investment is clearly increasing. A growing number of investors now have a solid track record in infrastructure fund investment. They have grown their teams internally and built trust in their manager relationships. In short, they feel ready to move to the next stage.
Meanwhile, as their sophistication grows, investors are beginning to create more complex portfolio construction goals; to them, co-investment is a way to meet those targets. Some investors are looking to ramp up exposure to specific sub-sectors – those with strong ESG credentials or a demonstrable societal impact, for example. Others simply consider co-investment as an opportunity to average down fees.
However, execution on co-investment is not always straightforward. The biggest inhibitor for investors, according to the survey, is the speed of execution required. Even post-deal syndications demand an agile due diligence and approval process, which many investors struggle to meet.
Time constraints are followed equally by a lack of internal resources and the level of risk involved in terms of key co-investment challenges. Survey respondents also cite the required ticket size and a lack of available opportunities. Governance models and mandates preclude others from taking part.
“That is absolutely consistent with the feedback that we get from our investors,” says Jessica Kennedy, Northleaf Capital Partners’ director of investor relations. “Reviewing co-investments takes time, agility and experience. Investors that have the ability to move quickly and get investments through their processes to board approval are the ones that are able to transact successfully.”
Chapman says: “The market is clearly bifurcated into those groups that are set up to transact efficiently on co-investments, and those which are not. For the former, the greatest inhibitors tend to be lack of bandwidth and a lack of available capital.
“For the latter, it tends to be a single gating item, often a lack of team capacity and skill set but might equally be a lack of familiarity with a specific market, or inefficiency in decision-making.”
Chapman adds, “A pension fund, for example, may be able to move quickly when co-investing into a low-risk asset in its local market but will be much less efficient as it moves further away from home.”