Bearishness is back in fashion

There’s a consensus forming among US fund managers that could well shape the flow of future deals in a certain direction – and for optimists about public-private transactions, it looks like bad news.  

If you go back five or six years, you won’t find many pitch-books being too bearish about the US market for government privatisations. From airports to toll roads and beyond, everything was expected to have a price tag attached to it in the near future, giving an unprecedented opportunity for fund managers to deliver choice infrastructure assets to their limited partners.

In hindsight, of course, the historic opportunity didn’t materialise and the expected flood of public-to-private deal flow turned out to be a trickle. The road ahead seems murkier than ever. “It's not clear to us there’s going to be a boom of public-to-private infrastructure in the US,” declared Tim Bishop, country head for Macquarie’s US operations, when asked about the market at an investor briefing.

Slow mover

Bishop is hardly alone. Many fund managers and investors active in the US infrastructure market seem to have come to a similar realisation. The US market for public-to-private deal flow – or so-called public-private partnerships (PPPs) – is, and will continue to be, a slow mover that will give rise to only occasional opportunities.

As such, it’s now an appropriate core strategy only for the very few funds equipped to invest in greenfield, or new-build opportunities, such as Meridiam Infrastructure or HSBC. For anyone else looking to do brownfields, or privatisation deals around existing assets, the PPP market is hardly a core focus. One flagship manager described it as “opportunistic” for his fund.

It’s a striking turn-around from the go-go days of 2005 and 2006. Fund managers could be excused for having taking a bullish view on the market then: Chicago closed a landmark transaction – the oft-cited $1.83 billion Skyway deal – and thousands of pitch-books went in the mail from every big investment bank hoping to replicate the city’s success. A year later, an even bigger deal closed – the $3.8 billion Indiana Toll Road transaction – and soon governors in Pennsylvania and New Jersey were floating similar ideas to their legislatures.

We all know now that very few of those deals had any chance of success. But throughout 2008 and 2009, as the US market witnessed one after another failed auction process – from the Pennsylvania Turnpike to Midway Airport and Florida’s Alligator Alley – there was still optimism that the spigots would nevertheless open and the flood of deals would come. Now that seems highly unlikely.

So how exactly did PPPs go from “core” to “opportunistic”? Last year’s failed Pittsburgh parking auction certainly didn’t help. If one were to line up all the reasons why a PPP would make sense and structure a fair and open process around those reasons, taking the winning $452 million offer from the JPMorgan team would seem like a no-brainer. But even then, politics scuttled the deal.

People moves also send strong messages to the market. When Infrastructure Investor broke news that Dana Levenson, the former Chicago chief financial officer who helped the city ink its early deals, would be leaving RBS’s infrastructure banking group, the departure couldn’t have given much confidence or comfort to anyone looking to buy or lease government assets in the US.

But these developments only added the final flourish to already-growing skepticism about the US PPP opportunity. Limited partners have rightfully become wary of broken deal fees, and that in turn has prompted many managers to become more selective about participating in auctions. One of the most frequently asked questions these days is whether an infrastructure fund manager can deliver proprietary deal flow – deals sourced through the contacts and relationships of the team, rather than auction processes. Both point away from PPPs and toward private-to-private deal flow.

So as a wave of follow-on fund offerings hit the market this year, expect to see fewer pitch-books promising opportunity in US PPPs like toll road and airport privatisations – very unlike the environment five years ago when the managers offering those funds raised their first pots of money for the sector.

This is not to say that PPP deals won’t get done. They will continue to trickle out occasionally and inconsistently and, when they do, bidders will still line up to take a look. But, as many fund managers know all too well, inconsistency is nothing to base an infrastructure investment strategy on.