Are toll roads core infrastructure? A few years ago, at the height of the credit boom, this question would likely have been dismissed or even laughed at – the ‘yes’ answer was so obvious.
Nowadays, with investors still reeling from the aftershocks of the financial crisis, there is a growing consensus that toll roads are much riskier than they were initially made to appear. And that ‘core infrastructure’ categorisation is suddenly in question.
In an opinion article written for Infrastructure Investor’s Annual Review of 2009, published last month, ING head of infrastructure Michael Dinham wrote that of the 30 toll roads the bank has lent to, ING “can only find two instances where initial sponsor forecasts were met”. As such, Dinham considered them the worst-performing sub-sector within infrastructure:
“The underperformance of the rest (actual revenue versus sponsor case) is about 40 percent on average, with the range between 10 percent and a staggering 80 percent,” which led him to conclude that, “oddly enough, though viewed as core infrastructure, they [toll roads] certainly aren’t low risk.”
Stephen O’Shea, an associate director with asset manager First State Investments, agrees that, “in the past, everybody thought traffic was going to grow forever. But in reality, traffic forecasts are very difficult to do and, frankly, not that many people are good at doing them,” he says.
This is why First State only considers mature toll roads with a known traffic history as core infrastructure. Greenfield tolls, and their high traffic forecast risk, are at the higher end of the firm’s infrastructure risk spectrum, with expected returns of over 15 percent.
Inaccurate traffic predictions have already been costly for many infrastructure investors. The recent collapse of Australia’s $1.6 billion Lane Cove Tunnel PPP is just the latest example of a toll road where the traffic forecasts were spectacularly off the mark.
But Dinham warns that traffic forecasts were not the only blunder: “With hindsight, the surprising feature was not just the inaccuracy of so many forecasts, but the huge bets taken by both equity and debt on GDP growth, inflation and sometimes even exchange rate. Low inflation in particular is going to prove painful to many investors,” he concluded.