Holding out for top dollar

From the sell side, there are certain advantages to the maturation of the infrastructure asset class – and one of them is that you can get a better price in the secondary market these days.

Go back 10 years and the universe of infrastructure fund managers was so small – and track records so limited – that buying what few secondary positions came up for grabs was more art than science. And, as a result, valuations would fluctuate wildly.

But these days, says Peter McGrath, founder and managing director of Toronto-based secondary adviser Setter Capital: “Secondaries of infrastructure funds will typically clear at 90 percent or more of NAV [net asset value]. Unless they’re challenged or impaired, sellers generally don’t transact unless the valuation is north of 85 percent.”

Stability

Part of this is to do with the stability of the sellers, says McGrath. They are generally not the type of sellers to change strategy suddenly and be in a rush to offload their holdings. Therefore, they can hold out for a decent price.

“Relative to private equity, for example, these tend to be very big, stable investors,” says McGrath. “Private equity has more investors that have had to deal with liquidity problems such as banks facing regulatory pressures or over-levered family offices.”

He continues: “A distressed situation [in the infrastructure secondary market] is very rare and we have not seen mass selling. Infrastructure has not been the focus for investors facing liquidity problems as it typically is not as large a part of their illiquid exposure, compared to say private equity or real estate. For instance, you don’t see banks with big, diversified portfolios to sell – it’s generally just one or two stakes.”

Another reason for buoyant pricing is that many investors are only now identifying the positive characteristics – such stable returns, decent yield and inflation hedging – that infrastructure can bring to their portfolios. Those with zero or near-zero allocations may be inclined to snap up whatever decent buying opportunities come along simply to raise their exposures – rather than obsessing too much over optimal price.

Favoured status

Furthermore, buyers tend to be very name-specific in their interest and have shortlists of favoured funds, whereas in private equity more buyers are willing and able to put a price to any asset. “Infrastructure is different from private equity as people tend to buy and sell single funds rather than portfolios,” says McGrath. Some funds figure prominently on many buyers’ shortlists and when these funds come on the market, their sheer popularity is bound to push up the pricing.

“It’s just one fund or one strategy,” he adds. “Buyers may have a strong interest in one fund or a small shortlist of funds. They think, ‘If I can get that, I’ll be aggressive but I won’t be aggressive across the board’.”

Michael Barben, co-head of private infrastructure at Swiss private markets specialist Partners Group, confirms the existence of ‘most favoured’ lists. “We have a target list of assets we’d like to buy, that would fit well into our portfolio and which are at a good point in the cycle where value has been created but is not yet reflected in the net asset value [NAV],” he says.

But while he has identified priority funds, Barben says “there is an opportunistic component as well. In the current environment, accessing core infrastructure through secondaries is attractive as there are often core brownfield assets in these portfolios that are more attractively valued than in a competitive direct transaction”.

Barben agrees with McGrath that the discounts on infrastructure secondaries have narrowed after an initial period where prices were quite volatile (Partners Group having notably witnessed an 80 percent discount on one occasion). “We’ve done a total of 19 transactions over the last three years at an average discount of about 20 percent,” he says.

“Recently, it’s been in the range 10 to 20 percent,” he adds. “So it’s more consistent. The overall trend has been for NAVs to increase and GPs to write up their holdings.”

Do your homework

But while there is little volatility in pricing, this does not mean that the pricing of each acquired asset is not the subject of highly detailed due diligence. Barben says the difficulty of pricing infrastructure secondaries can often be greater than for direct transactions.

“What is really different to other types of transactions is that there tends to be much less information available to inform your decision. The seller may have limitations in terms of how much they can disclose and you’ll have to find the pieces of the puzzle. You gather whatever information can help you with a specific asset when it comes up for sale but there often won’t be a data room from the seller and, if even if there is one, the information you will get, such as quarterly fund reports, won’t answer all your questions. The market information we have gleaned from our direct investment activities is therefore a key advantage.”

He adds: “Also, infrastructure assets’ valuation is often driven by very specific factors relating to contracts. Hence valuations can be very difficult and the multiple benchmarks that can help you in private equity may not help you in infrastructure. It’s an advantage to have a large team with access to multiple sources of information.”

In a recent interview with Infrastructure Investor, Andrea Echberg, a partner responsible for infrastructure investments at London-based fund manager Pantheon, said that the secondary market offered “access to a very good asset class with the right risk-adjusted return”.

For example, when a consortium including iCon Infrastructure sold water utility Sutton and East Surrey Water to Sumitomo Corporation in February, the multiple to the Regulated Asset Base was reported to be close to the peak valuation of such assets over the last seven or eight years. But Pantheon picked up a secondary position in the same sector that was understood to be near the bottom end of such valuations over the same period.

This goes to show that snapping up infrastructure assets at a good price is certainly possible. But, if you’re looking for cut-price cast-offs from distressed sellers, infrastructure may not be the right shelf to be browsing.