Emerging Asia Forum The $8 trillion deficit

It is estimated that, between 2010 and 2020, there will be an $8 trillion infrastructure deficit in emerging Asia, according to to the Asian Development Bank (ADB) and PricewaterhouseCoopers. Of this sum, $4.1 trillion is required for the power sector alone, and another $2.5 trillion for transport (mainly roads). This shortfall in financing opens the door for private investing in the infrastructure space.

Hence, the theme for the annual Infrastructure Investor: Emerging Asia Forum, which was held recently in Singapore, was ‘Capitalising on the rising need for private investment’. The conference brought together professionals from private equity firms, institutional investors, government agencies, multilateral institutions, private infrastructure developers, advisory firms and law firms to delve into the emerging Asia infrastructure opportunity in greater detail.

We noted some key takeaways from the conference that touched upon different aspects of infrastructure investing in emerging Asia. They were as follows:

Pipeline: Governments talk about the amount of private investment needed, but investors are not clear what the projects are. Kamran Khan, programme director of the Global Infrastructure Finance Center of Excellence at the World Bank, said there isn’t a sufficient pipeline of properly prepared projects in emerging Asia. He added there was a need to think about different public-private partnership (PPP) structures, or the possibility of carving out existing assets if investors are not keen on greenfield projects.

“We have to change the status quo because what we have today is not working,” he said. It was a view echoed by Sharad Somani, partner and head – global infrastructure advisory at KPMG Advisory, who said there is a lack of “credible” projects to finance in the region. As a result of too few projects, there is aggressive bidding and often too much leverage being deployed, according to Anita George, director – infrastructure and natural resources at the International Finance Corporation.

Political risk: It is important to mitigate risk through investing in diversified geographies, panelists suggested, and investors need to be mindful they are buying into the risks in the region. However, “the emerging markets do not have a monopoly on political risk”, according to Johan Bastin, chief executive officer of CapAsia. He said it was important to explain to investors that the risks are lower than perceived and that mature markets have different sets of risks. According to Andrew Yee, global head of infrastructure, principal finance, at Standard Chartered Bank, a large majority of global investors do not want to invest in emerging markets infrastructure. He said it is a high-risk, high-reward game and managers have to explain the volatility to investors.

Indonesia the market to watch: Through the two days of the conference, Indonesia was the most talked-about country, while India seems to have fallen off the radar owing to sluggish growth, a degree of policy paralysis, and other issues relating to stakeholder alignment and land acquisition problems. Raj Kannan, founder and managing director of Tusk Advisory, said one of the areas where Indonesia is doing particularly well is geothermal energy. According to Khan, Indonesia’s commitment has been “brilliant” and they are trying “really, really hard” to develop their infrastructure. The government’s push for greater private sector involvement in infrastructure development is widely acknowledged and there is finally a sense of optimism about the country.

Asian bonds and debt: A key shortcoming of the Asian infrastructure market is the lack of depth in the Asian bond markets. Ian Greer, managing director for corporate and infrastructure ratings at Standard and Poor’s Ratings Services, said there is a $6 trillion bond market in Asia currently, of which China and South Korea make up about 78 percent ($3.4 trillion and $1.3 trillion respectively). Despite sustained rapid economic growth in the region, the overall Asian bond market is less than 5 percent of the European bond market.

Yee said governments and financial institutions in the region need to encourage the development of local bonds. Boo Hock Khoo, vice president of operations at the Credit Guarantee and Investment Facility, said: “Debt is not the spare tyre when you need it; it is the second tyre of a bicycle.” He added that funds in the region have begun moving into government bonds and the next step will be to move into project debt.

Importance of private equity-led governance:Arun Sen, chief executive officer of Lanco Power International, talked about the importance of governance in adding value to projects and the role private equity can play. “Typically, local developers confined to a market will not have sufficient or mature levels of governance,” he said. Sophisticated investors need to bring these governance models in order to add value in emerging markets. This can be done through unlocking further access to capital for the developers. Moreover, private equity investors can help originate deals for developers, especially in the case of either a multi-sector, single-country investor or a single-sector, multi-country investor.

The need for common ground: Various stakeholders in the infrastructure sector need to be more flexible if emerging Asia is to meet its infrastructure requirements, World Bank’s Khan said. He likened the space to a square with different corners that contain bankers, advisors, governments and private equity investors. In his view, all four sets are “stubborn” and inflexible, and the challenge is to find common ground in the middle of the square. Khan said governments don’t have the capacity to prepare projects; the advisors are capable but are waiting for the right funding structures; private equity-type ‘flips’ are not compatible with infrastructure, which does not fit their business models; and the banks are conservative. The solutions lie somewhere in the middle, and that common ground has to be discovered.

Asian investors are looking overseas: Asian investors are seeing appropriate risk-return profiles overseas. Thierry Déau, founding partner and chief executive officer of Paris-based Meridiam Infrastructure, said that development risks are much higher in emerging Asia than in the OECD countries. A lot of the money spent on infrastructure globally comes from Asia – particularly South Korea, Japan and China – but it remains to be seen whether their view of emerging Asian infrastructure will become more positive in the near future.

Governments in emerging Asia need reform: According to Khoo, governments in emerging Asia need better coordination between various departments. Bindu Lohani, vice president – knowledge management and sustainable development at the ADB, said that the private sector accounts for only an estimated 20 percent of regional infrastructure today, and that has to change. To encourage more private money to come in, there need to be proper projects to fund. But money is required to prepare these projects properly before the private sector can be drawn in. As such, governments need to be more flexible in their approach. “The multilaterals have a big role in helping do this,” he said.

Urbanisation: Thirteen of the 19 new megacities set to emerge in the next 10 years are in emerging Asia, and this urbanisation process is a big driver of infrastructure requirements, according to Toshan Tamhane, a partner in the Mumbai office of McKinsey & Company. Urban infrastructure requirements in emerging Asia today are huge, ranging from housing and sanitation, from power supply to water supply, and from road networks to mass transport systems. ADB’s Lohani summed up the scale of the challenge when he said: “We are trying to constantly meet demand and we are always several years behind when it comes to infrastructure in our cities.” He added that Asian cities today are rich, and suggested that this wealth should be used to provide fixes.

Transparency: Governments in emerging Asia can be generous in terms of contracts, but they are often only very selectively generous, said Sophie Mathur, a partner at law firm Linklaters. She said that governments in the region are often biased towards certain groups or local companies to whom they hand out favours. Such “generosity” can deter foreign and/ or private investors, Mathur said, and this lack of transparency is a problem. Panelists agreed that while this is definitely a problem in Indonesia, other emerging Asian economies are not immune from blame either.