Little competition for the assets you buy, but a whole load of competition for the assets you sell. For any fund manager, that has to be the Holy Grail. And Erich Becker, partner and co-head of infrastructure at London-based Zouk Capital, believes his firm has discovered it – by focusing on the part of the infrastructure spectrum many other investors tend to be cautious about: namely, the construction phase.
“There is a lack of equity for construction,” says Becker, relaxing on a sofa in the bar area of One Aldwych in the West End, sensibly sipping water. “The bulk of the equity is at the operational, de-risked end. We don’t want to compete for operational assets where you pay a higher price for a lower return.”
But, because there is an abundance of capital seeking ‘low risk, low return’ infrastructure, Becker is more than happy to contemplate the prospect of selling assets into this pool of capital – which market estimates have put at around €100 billion in equity sitting on the sidelines – once Zouk has made the assets in question a safer proposition.
He describes the opportunity thus: “We want to cater to that capital pool by coming in ourselves slightly earlier. We aim to use our skill sets to de-risk assets and then sell our positions to these would-be buyers.”
Through the minefield
Of course, the process of taking an infrastructure asset and seeing it through the early, minefield-dotted landscape of its early years to the sedentary, mature stage of life is easy to describe but, one assumes, not easy to achieve – otherwise, surely many others would be doing it?
It helps to be of an operational mind-set – and, in Becker’s case at least, this means genuinely operational as opposed to merely laying claim to the tag. This, after all, is someone who completed a PhD in applied thermodynamics whose work experience while gaining that qualification came from designing power plants. ‘Operational’ is very much in his make-up.
He points out that there are other trained engineers in the Zouk team also who “understand the risks of building an asset, the pitfalls to avoid and how to lay off risks”. In Becker’s view, some of the key ambitions for an investor such as Zouk are making sure projects are delivered on time and on budget, that creditworthy contracts are in place, that a long-term off-take exists and that there is appropriate insurance coverage.
He adds that things like delays, cost overruns and poor asset performance are among the things that can easily go wrong. Among all the various other risks of infrastructure investing, he also manages to identify one that’s probably not familiar to many: namely, contractor interface risk. He explains:
“In a project you will typically have a construction company, the supplier of the plant, the operator of the plant, fuel suppliers, off-takers…there are a lot of contractor interfaces. If something goes wrong, they may end up pointing the finger at each other. Managing this interface risk is key, and part of it is about finding a wrap that will guarantee the overall performance.”
Furthermore, Becker says there are other risks that are not part of construction risk in the strictest sense but also need to be taken into account right from the get-go. For example, permitting risk: “What if you can’t transport the fuel to the plant because you would need loads of lorries to go through a village?”
Commodity price risk can be a big factor in renewable energy projects, for example in the biofuel sector where feedstock and off-take prices are poorly correlated and there has sometimes “not been enough feedstock at a good enough price for the plant”.
And then there’s that old favourite, regulatory risk: “If you have a feed-in tariff or some form of subsidy, how do you ensure there will be no financial hit if it’s taken away? Will you still be competitive in a non-subsidised environment?”
Of course, the proof is in the pudding when it comes to Zouk’s ability to defy successfully the various risks of the construction phase. The firm is only now raising its second infrastructure fund, so its track record is not the fullest – but expectations that the firm will close the €200 million-target vehicle in the fourth quarter of this year appear to bode well (it has already posted a first close, though the amount raised was undisclosed). The firm’s first infrastructure fund closed on €52 million in 2008.
But while ability to deal with risk remains to be proved, one thing that Becker is absolutely certain he has evidence of is the scale of the opportunity. With a huge shutdown in Europe’s conventional power generation pending and a new energy landscape emerging thanks to the prominence of renewables, “there is a big need for capital to upgrade infrastructure,” he says.
The opportunity for private capital providers is that it’s hard to see where else the funding will come from. “Governments have stressed budgets and utilities are going through tough times with deleveraging and a different risk profile to that which they used to have,” says Becker.
On utilities, he adds: “They used to be long-term, safe, yield-bearing assets. But since they have been forced into a process of unbundling, they are left with risky generation assets and/or supply where it’s competitive and market forces rage. Their higher risk profile and concurrent need to refinance debt means they won’t provide all the needed capital.”
Business skills as well
In order to exploit the opportunity, Becker acknowledges that engineering skills alone are not enough – the reason why he is keen to point out that, in addition to his vocational studies, he also completed an MBA. “As an engineer you want to build the best power plant but, as a business person, you target the highest return,” he reflects.
It was interest in this combination of financial and hands-on operational skills that led him to join Goldman Sachs in the 1990s when Europe’s energy markets were undergoing liberalisation and the investment banks saw a “great business opportunity”. While there, he worked in a principal finance role, exploring investment and trading opportunities, including acquiring equity stakes in energy assets.
His career then took him to alternative asset manager Och-Ziff in 2005 and Macquarie in 2008, in both cases to make energy and energy-related investments. It was in 2011 that Zouk came calling, at a time when “it was considering building an increasing footprint on the infrastructure side. By this time, I thought it was a better place to be than at a bank given that regulators were now opposed to banks taking risky equity positions. My equity investment skills are more suited to a private equity environment”.
Becker has now been at Zouk for two years as co-head of infrastructure alongside former power industry chief executive Colin Campbell. And he’s very confident about the outlook: “We don’t have a shortage of opportunities,” he reflects. “Our target investment space is not competitive but the exit space is very competitive. That’s a good scenario,” he concludes, in what may qualify as an understatement.