The ‘re-invented project finance guy’

Christopher Lee, founder and managing partner of New York-based fund manager Highstar Capital, was once – early in his career – a political speechwriter in Washington DC. Given that the election campaign he was working on was ultimately lost, he describes his efforts as “lousy”. It’s a disarming moment of self-deprecation from someone who had a long and successful career even before he began raising infrastructure funds around 15 years ago. 

It was in December 1998 that Lee hooked up with insurance and financial services giant American International Group (AIG). By this time, his writing skills – if they had ever been as sub-standard as he suggests – had obviously improved.

Starting out with a 30-page business plan for an infrastructure fund that would attempt to capture a mid-teen return, Lee discovered that Maurice “Hank” Greenberg – AIG’s legendary chairman and chief executive – had a marked preference for concise business plans. The 1.5-page, revised version that Lee handed to Greenberg proved sufficiently compelling that AIG put up $150 million on the basis that it would have AIG’s branding.

What ultimately materialised was AIG Highstar’s first fund, which closed on $407 million in November 2000.

But there was a back story which provides interesting context – and Lee is happy to fill in the gaps. Following his speechwriting misfortune, Lee recalls that he spent a couple of years at Chase Manhattan in New York “doing real loans, not casino banking”. Born to a foreign service father, his nomadic instinct kicked in and he then headed off to Asia, moving between Hong Kong, Korea and the Philippines.

TO MEXICO

Lee found his way into project finance, providing limited recourse financing for Korean companies that were heavily involved in infrastructure development in the Middle East. “All the people who started infrastructure funds, like me, are just re-invented project finance guys,” he reflects. In the 1980s he was very involved in Asian infrastructure privatisations before ending up as chief financial officer at Mexican construction company Grupo Tribasa.

Lee recalls his stint at Tribasa thus: “We built toll roads in Mexico until the 1994 peso devaluation which brought traffic levels down.” He adds, with a smile: “I learnt about the perils of toll roads before everyone else.”

Tribasa brought Lee opportunity from an unlikely source, however. During his time there, he got to know the then vice chairman of AIG, known as a sponsor of emerging markets infrastructure funds. “There was a problem raising money in dollars and investing it in Asia,” recalls Lee. “In 1998 I pointed out to Hank Greenberg and Ed Matthews, who ran AIG in those days, that, with deregulation, there were a lot of opportunities in assets with stable cash flows and upside potential in the US and maybe Europe.” And that was the starting point for the discussions that led to the birth of AIG Highstar.

Lee insists that the placement memorandum for the debut fund was very similar to what it would be today. Then, as now, Lee set out to capture infrastructure’s stable cash flows with solid upside, rejecting core infrastructure where “the returns are not commensurate with the risk. Portfolio managers in this business should get paid to add value and not manage annuities”.

By treating infrastructure assets as businesses – and taking his inspiration from the likes of Blackstone Group and Kohlberg Kravis Roberts in terms of delivering upside potential – Lee believed mid-teen returns were achievable. 

ALL IN THE NAME

In successfully raising the first fund, Lee says AIG’s support was essential in ways that went beyond its $150 million contribution. “We got backing from investors I had a prior relationship with. They knew what I’d done and they liked the fact that AIG was behind me. AIG was an AAA organisation and the backing of Hank Greenberg and Ed Matthews was a great seal of approval.”

These investors may have sensed that the AIG name could be decisive when it came to negotiating the purchase of certain assets. Lee says: “We bought a pipeline from Williams – Williams Gas Pipelines Central/Western Frontier Pipeline Company – in 2002 when we wouldn’t have had our calls returned in those days if we were not partnering with AIG.”

Almost five years after the closing of the first fund in 2000, AIG Highstar Capital II closed on $800 million – almost twice as large as the debut vehicle – in July 2005. “When we started the Highstar business, energy was going through transformation in the era of deregulation,” says Lee. “After the Enron accounting scandal [which was unveiled in October 2001 and led to the bankruptcy of the US energy firm] a lot of strategics were selling off businesses. That was a good opportunity for us.”

Since then, Highstar has gone on to raise two more funds: AIG Highstar Capital III, which represented a step change in terms of capital raised, at $3.5 billion (over 90 percent of which came from non-AIG-affiliated investors); and Highstar Capital IV, the first fund following Highstar’s decision to gain independence from AIG in 2010, which closed on $2 billion in May last year.

On the move to independence, Lee reflects: “When Ed and Hank left in 2005, working with AIG became very different and when the company got into their financial difficulties in 2008, we became fully independent. We have been very successful since then on our own, I’m happy to say.”

Although the precise nature of the opportunity has changed over the years, Lee insists that there are common characteristics associated with a Highstar investment that always prevail. “These days, the big theme in US midstream infrastructure is around shale gas,” he says. “None of us saw that coming back in 2000 but it fits well with what we’ve always done.  Historically Highstar has not made significant investments in development, but we’re a partner when the first piece of a network has been built and people want to expand it.”

Starting with Southern Star in 2002 and running through Kinder Morgan and more recent shale-related investments, Lee says that “Highstar has built a strong franchise in midstream energy investing, as well as investing in a number of successful power generation opportunities. One of my partners started his career building pipelines in Louisiana and another spent years in developing and operating power plants. It’s the operational expertise we have, and not just financing skills, that has always made Highstar special”.

As examples of its strategic approach, Lee also points to Highstar’s commitment of up to $270 million in Caiman Energy in July 2011, which targeted an “aggressive build-out program” for a firm which had been building a network of gathering and processing infrastructure in the Marcellus Shale since 2009; and the December 2012 acquisition of a 50 percent stake in Wildcat WMH Holdings to fund the development and expansion of Wildcat’s midstream infrastructure in North Louisiana and West Texas.

SIGNATURE DEAL 

However, neither Caiman nor Wildcat earn the sobriquet of Highstar’s “signature deal”. In Lee’s view, this is awarded to Kinder Morgan, the owner of more than 37,000 miles of pipeline and 180 terminals, in which Highstar first invested in May 2007. For one thing, Kinder Morgan fits a key Highstar criterion of providing stable cash flows through long-term contracts. But, Lee insists, it’s also a fit with Highstar’s focus on upside potential in order to drive returns higher than would be possible with a classic core infrastructure approach.

“We seek investments where we can see upside potential, where we can add value by improving EBITDA,” says Lee. “It’s a classic private equity strategy, we just do it in infrastructure. At Kinder Morgan, the management team added value through expansion. Normally, with a pipeline, you won’t get upside.”

Lee has also spent decades working on public-private partnerships around the world; more recently Highstar has been a leader in P3s in the US, including the first major privatisation under the Federal Aviation Administration at Luis Muñoz Marín International Airport, or LMM.

“LMM has long-term leases with airlines which covers the downside. If you think about it, an airport is a shopping centre with a captive clientele and we have a partner in this deal who has had amazing success in significantly improving commercial revenue at other airports in addition to aeronautical cash flow,” Lee points out. 

“The secret to a successful P3 is not just making an investment, it’s understanding the objectives of all the affected constituencies, aligning your interest with government, and above all else these days, creating jobs. Managing political risk in our investments is one of the most important things we do. “

In the waste management sector, meanwhile, Highstar’s attempts to add value have revolved around roll-ups. “There are a lot of small family businesses and we can buy and bolt these onto an existing platform at 3-5 times EBITDA, whereas in the US these businesses are generally trading at 7 to 9 times,” says Lee. 

In July last year, Highstar added the US waste management unit of French environmental solutions firm Veolia Environnement to this platform in a deal worth around $1.9 billion. “The recent acquisition of Veolia by Highstar portfolio company Advance Disposal Services was an add on to a very good team,” says Lee, “and it has allowed us to increase the geographic diversity of our waste management operation, and provide a significantly larger footprint for future roll-up acquisitions.”

'VERY ACTIVIST'

One of the other Highstar traits that Lee highlights is its ability to put together strong management teams.  “We’re very activist and we recognise that these are businesses and not just assets. That said, a lot of infrastructure is sold by big utilities and energy companies and you often buy assets with an operating team but no management team. So we have gotten pretty good at creating successful management teams from scratch. I know all about the CFO function; others within Highstar have been CEOs and operational experts.”

This team-building ability was in evidence at Southern Star Central (SSC), which Lee selects as the “most satisfying” deal he has been involved with. SSC was a Midwest natural gas pipeline and storage business which Highstar acquired from the Williams Companies in 2002. Lee recalls: “It was the first time we had built a team from scratch. It had regulatory issues but we gave it a new identity and improved morale. People might have been laid off otherwise. I got made a Kentucky Colonel by the Governor in recognition of what we did!”

But, for all the positive stories, Lee acknowledges that things can go wrong. Many infrastructure investors were wrong-footed by the extent of the linkage that some infrastructure assets had to economic fortunes when the global financial and economic crisis struck in 2008. Lee admits that Highstar faced this issue with its ports platform, in which it first invested in July 2007 and which comprises Ports America, MTC Holdings, Ports America Outer Harbor and Ports America Chesapeake.

“Energy infrastructure is as solid today as it was when we started,” opines Lee. “But ports made us more wary of GDP-related assets. We bought at the top end and then the Great Recession came along and we learned a lot about GDP assets.” He adds that “we’ve sought to mitigate” the issues that arose.

But the effects of economic woe that have already been experienced may not be the end of the story, according to Lee. He also has concerns about what the future may bring. “My biggest worry is that, at some point, the printing of money, low interest rates and the deficit will catch up with us. It doesn’t affect deals now but if we move up to high interest rates and we have inflation then infrastructure becomes riskier.”

'WE'LL END UP LIKE EUROPE'

Lee also has concerns that infrastructure is well represented in the political arena. As a result, his has become an influential voice on Capitol Hill, especially in putting forward the merits of the P3. Asked about his political preoccupations at the current time, he says:

“My concern is that President Obama stops playing politics and understands that we can’t afford the current level of entitlements; and that the Republicans see that there has to be a safety net. That needs to be addressed or we’ll end up with the same problems as Europe. Each party is equally to blame. They also need to see that PPPs can be very helpful.”

And, in mentioning what might be helpful, Lee has returned to the positive frame of mind which is his default setting. Asked about the future he pauses a while and then says: “The next year will be steady as we go. Deal flow is very strong. I’m very optimistic about the next few years. The next five years? I’m no pundit!”

Lee does however provide a small insight into the future with a brief rumination of the possibility of taking Highstar’s US midstream and waste experiences onto the international stage “on a selected basis with local partners”. He also speaks of strong relationships in Mexico – a possible hint there, maybe?

Whatever Lee decides to do next, he will do it with a certain modesty. “I’m just a small businessman trying to do deals,” he reflects.

“My concern is that President Obama stops playing politics and understands that we can’t afford the current level of entitlements”

Highstar Capital at a glance
Formed: 2000
Assets under management since 2000: $7.6bn
Target sectors include: energy infrastructure, environmental services infrastructure, transportation infrastructure
Founder & managing partner: Christopher Lee
Other senior executives include: Christopher Beall, Scott Litman, Michael Miller, Bret Budenbender, Emmett McCann, Andrew Nevin, James Timmins, Wayne Berman, John Miller, John Stokes, James Kowalishin
Investments include: Kinder Morgan, Caiman Energy, Advanced Disposal Services, Ports America Companies, London City Airport
Source: www.highstarcapital.com