It was the end of 2010, and a new year was about to dawn. Tom Murley, head of the renewable energy team at European private equity firm HgCapital, was unsure whether to celebrate. At that point, the firm’s second renewable energy fund – RPP2 – had raised around €200 million of its €500 million
target but Spain was proving to be, in Murley’s words, “a problem”.
During 2010 and early 2011, first the Spanish government’s debate over retroactive solar tariff changes and, second, its decision to make those retroactive changes, was a hot talking point – to put it mildly.
And for renewable energy funds seeking fresh capital, it was threatening to deliver a blow to their prospects. “For a couple of months, we really wondered whether the appetite was going to be there and there was a period where everything shut down,” Murley reflects.
For HgCapital, the story had a happy ending. RPP2 went on to close on an oversubscribed €542 million in December 2011 – despite having to fight its way through the turbulence caused by the Eurozone crisis in the second half of last year (“there was very little traction in the US, where they were very worried about Europe”). The dust over Spain eventually settled, says Murley, and HgCapital was able to “show what we had done. We had structured our investments well, produced yield and not used excess gearing”.
But the Spanish solar debacle has left behind a bitter after-taste in the mouths of investors caught off-guard by the exposure of an Achilles heel. Infrastructure investment – billed as a solid, reliable form of capital deployment offering long-term, stable cash flows – had shown that it could be derailed by the capricious actions of governments under fiscal pressure. And, given that Spain was far from alone in facing such pressure, limited partner (LP) investors were understandably spooked by the possible implications.
Fast forward to March 2012, and Murley believes investors “still have their concerns” over the pressures created by the tough economic climate and governments’ need to balance the books. “If not more retroactivity, will we see other measures such as windfall taxes on future profits?” he ponders. He also thinks the issue is “not about renewable energy” specifically, but one that must be confronted by investors in all types of infrastructure.
Rob Gregor, managing partner at London-based fund manager Balfour Beatty Infrastructure Partners, is upbeat about the fundraising landscape while still having some lingering concerns. He says: “Investor sentiment is picking up and there is a more positive mood around in 2012, with Eurozone sentiment not as significant a factor as it was last year. However, fundraising remains challenging. You need to be differentiated and have a strong track record.”
He also points out that, although there are signs of investors in the US and Asia “making new allocations and getting more comfortable with the asset class”, the counter-balance is the number of investors now seeking to invest directly in infrastructure rather than deploying capital with fund managers.
“Some European investors, which have gone through the fund route, are now going direct,” he points out.
Given the direct exposure that LPs increasingly want, Gregor says it’s no longer simply an option for infrastructure funds to offer co-investment rights – it’s absolutely imperative. “Larger investors are asking themselves whether they can build a long-term relationship with you that has the potential for co-investment,” he says. “Co-investment rights are increasingly seen as a way of averaging down the fee costs.”
Boe Pahari, head of infrastructure for Europe in the London office of Australian fund manager AMP Capital, says LP allocations to infrastructure are still typically around 1 to 2 percent but “when that doubles or triples, you will see the floodgates open”. The logic for increased allocations is there, he believes, because of the growing sources of deal flow.
He cites, for example: cooordinated infrastructure plans at the national level, such as the UK’s National Infrastructure Plan; one-off asset sale programmes, again at the national level, such as that in Ireland (AMP Capital was appointed in November 2011 to manage the Irish Infrastructure Trust, set up to invest solely in Irish infrastructure); corporate deleveraging; and the need for infrastructure assets to refinance over the next two to five years.
All of the above are reasons why, in Pahari’s view, the playing field for everyone in the infrastructure asset class will become larger. He cites the emergence of increasing numbers of infrastructure M&A advisers and infrastructure-focused funds of funds as two examples of this. “As a market, infrastructure
is becoming deeper and richer and the volume of activity is increasing,” he muses. “Certain pockets were not well developed but they are being fleshed out now.”
Pahari believes that fund managers will benefit from this and that they need not feel too threatened by the trend to direct investing.
“Those [investors] that can’t write big cheques and need diversification will go with fund managers, so there is definitely scope for growth,” he says. However, like Gregor, he also thinks it will take a while for the benefits to be seen. “It’s a road to a larger dimension that we’re observing but you won’t see the market peaking just yet,” he says.
One area of the fundraising market where Pahari does believe there is strong momentum is infrastructure debt. In February, the AMP Capital Infrastructure Debt Fund announced a fourth closing on €326 million, edging it closer to its €500 million final target. “You’ve got banks deleveraging and that’s an opportunity for [debt] funds to participate on a primary basis to support deals as the senior portion is not as large as it used to be,” Pahari notes. “Infrastructure debt in defensive assets is a pretty attractive place to be.”
HIGH YIELD, LOW RISK
This is a sentiment echoed by Stephen Ellis of London-listed infrastructure debt fund manager Gravis Capital Partners, which more than doubled its fund size with a £67 million (€81 million; $106 million) fundraising in December last year. “We offer high yield and low risk, we target 8 percent net returns from public sector-backed cash flows, and we’re never in a first-loss position in any asset – and that’s a very favourable set of circumstances,” says Ellis.
“These are rare market conditions,” he adds. “There’s a clear arbitrage where we can raise equity through an IPO or C share offering and then apply the proceeds in the advancing of debt to debt-starved companies.” He also points out that, as a passive investor, Gravis can afford to charge a maximum of 0.9 percent per annum in management fees.
“Moreover” says Ellis “as the sole listed infrastructure fund focused on debt, we can to a significant degree pick and choose our target assets, whereas the rest of the listed infrastructure funds are all fishing in the same pond, competing for equity stakes.”
Ellis believes that the popularity of his fund is as much to do with its listed status as with its focus on debt. “I think for the unlisted space, for all except the very biggest names, fundraising is always a struggle,” he says. “And new unlisted funds, no matter how credible, will find it difficult in current market conditions.
By contrast, we decided to go with a main board listing right from the start; despite the fairly intense regulatory burden this imposes on us, we feel an LSE [London Stock Exchange] listing provides substantial comfort to incoming shareholders both in terms of the transparency of our offering and the liquidity that we can provide.”
Of course, if deal flow expands in the manner envisaged by Pahari, there will be rather more deals to fight over. But for funds to be in a good position to take advantage, investors may have to overcome some nagging doubts about whether the asset class is as predictable as originally anticipated – and whether funds are the best way to access the opportunity.