Global Investment Forum: Inefficiencies and opportunities

Three sets of inefficiencies are likely to continue pervading global infrastructure markets that investors should be on the lookout for, according to Morgan Stanley’s McLean.

In today’s infrastructure markets, assets being put on the block are carefully optimised and sold through very competitive auction processes yet significant margin for efficiency gains remain, delegates at Infrastructure Investor’s Global Investment Forum heard in Hong Kong last week.

Mark McLean, Morgan Stanley Infrastructure’s head of Asia Pacific, explained inefficiencies were great opportunities for infrastructure investors as they meant scope for improvement and asset appreciation. Another good news, he added, was that inefficiencies were unlikely to completely vanish overtime.

“Inefficiencies are often inevitable because they are quite sensible from the perspective of upper objectives pursued in a transaction, which therefore will continue to exist in the years to come.”

Three trends permeating the divestment scene today could be turned into entry points for investors, he said. The first one was when a vendor was looking to divest an asset it saw as strategically important but when achieving the highest price on the sale was not its primary objective.

“The infrastructure market evolves and infrastructure funds and investors are seen as being high-quality and attractive counterparties for industry participants in a deal,” explained McLean.

The Morgan Stanley Infrastructure executive cited its Eureka Hunter deal, sealed this September, which involved the creation of a joint venture in which the vendor partnered with them instead of divesting for a maximised price.

Another appealing scenario was when a vendor was looking to achieve strategic objectives through the sale of an asset – typically because they are looking to refocus on their core activities through a portfolio rationalisation or because deal certainty is extremely important to them.

Little incentive in keeping what constitutes a small portion of the revenue stream provided by an asset, coupled with the inability of running optimally a business because of a lack of industry knowledge, often made selling to a third party with a good understanding of the business an attractive proposition.

These opportunities were more frequent in European markets, McLean said, where, due to regulatory reasons such as antitrust laws, infrastructure assets were regularly bundled with commodity trade businesses and sold together despite a strong business rationale for selling them separately.

Another key source of potential value creation arose when the seller saw ways to make the asset more efficient post-acquisition that the vendor is not able or willing to implement pre-divestment, possibly because the asset only makes for a very small part of its portfolio.

To implement such plans, McLean spoke of a gestation period ranging from one to two years before asset acquisition, emphasising the need for patience as well as large teams of professionals to carry out the optimisation strategy.

“You need people who have been doing it for 10+ years. You need people who have plenty of experience doing deals, and to harness skill to execute deals, which is extremely hard in times like this. But you also need people who are experienced at running businesses, because you need to identify the inefficiencies so you need to know what to do and what you can get in your period of ownership.”