In times of crisis

There surely can’t be any more galling prospect for infrastructure investors to confront than having assets that they own simply taken away from them. Yet that may indeed be the fate awaiting investors in parts of Ukraine.

According to a report in the UK’s Guardian newspaper earlier this week, the leader of a pro-Russian separatist group in the eastern Ukrainian city of Donetsk vowed to take control of all “strategic” infrastructure in Donetsk province – which has a population of 4.3 million and is home to much of the country’s heavy industry.

“Everything from city cleaning to the sewage system, the airport, railway stations, military…should all be under your control,” group leader Vladimir Makovich was reported to have told his fellow comrades in arms.

An article by risk management specialist Lockton for the forthcoming May issue of Infrastructure Investor explores all the threats that arise for investors when political crises such as the one in Ukraine/Crimea erupt.

It looks first at the issue of possible nationalisation and expropriation and points to the “uncertainty over agreements and even the current ownership of assets”. It then goes on to point out that even minority stakeholders can be gravely affected, discovering overnight that they have a new “partner” and that proprietary systems and intellectual property are under threat.

Further, it points out that agreements drawn up under one legal regime may now be subject to another. Under the new laws, licencing agreements for example may no longer be valid.

There is also a potential problem with financing assets as capital flees from the region. As funding becomes harder to obtain, and keeping assets functioning becomes more difficult, it only provides more justification for nationalisation in order to make sure that vital infrastructure remains available.

These are not all the issues referred to in the article (you’ll need to check out the May edition to be fully in the picture), but it’s clear that investors face numerous challenges.

In terms of lessons for the future, some would stress the importance of extremely through political risk due diligence including assessment of the strength or weakness of central government and the potential for social unrest. Some would say Ukraine was always a potential flashpoint; others that Russia’s 2008 move into Georgia had all the appearances of a one-off event rather the precursor to other flare-ups.

One observation to be made – other than that hindsight is a wonderful thing – is that the importance of political risk insurance should not be overlooked. The likes of Lockton and other insurance providers of course have a vested interest in making this argument. This does not make the argument invalid, however.

At a time of hot competition for core infrastructure assets, the temptation is to trim bid costs to the absolute minimum. Eschewing the safety net of insurance may be a saving too far.