It’s hard not to feel more than a tiny bit jealous of Australia.
Here’s a developed country with a growing population of 1,000 people per day – where births outnumber deaths two-to-one and a new migrant arrives every two-and-a-half minutes – fuelling a clear demand for new infrastructure.
The economy is heavily dependent on a slowing mining boom, but is still far away from the bleak, no-growth scenarios of Europe and the US. The country is made up of budget-conscious states that are not averse to disposing of an estimated A$220 billion (€153 billion; $203 billion) of infrastructure assets and is home to a sophisticated, trillion-dollar superannuation industry that is already healthily exposed to infrastructure, but can’t seem to get enough of it.
As ideal scenarios for infrastructure investing go, you can’t get much better than Australia.
And now there is another reason to be taking a look at the Australian infrastructure story: having pioneered private sector involvement in infrastructure financing, Australia might again be on the verge of revolutionising the asset class.
A virtuous circle
The coterie of leading infrastructure professionals around the table – comprising David Byrne (ANZ Banking Group); Danny Latham (Colonial First State Global Asset Management); Raphael Arndt (Future Fund); Michael Hanna (Industry Funds Management); Julian Vella (KPMG); Roger Lloyd (Palisade Investment Partners); and Scott Davies (AMP Capital) – is well aware of the significance of this moment.
Put simply, a new wave of privatisations across the country is creating a unique opportunity for long-term equity holders to engage with governments, and, potentially, convince them of the merits of better aligning procurement with the needs of institutional investors.
First, though, it’s important to understand what’s driving this new wave of privatisations and how institutional investors can capitalise on it to potentially change the face of infrastructure procurement.
“If you look back to the 1990s, there were catalyst events, namely the financial distress in the State of Victoria and microeconomic reform at a federal level ,” First State’s Latham says. “So the question is: what is the catalyst this time around? For some states, it’s been ratings downgrades. Some states have accepted the downgrades while others are still trying to hang on to their ratings, however further pressure on finances is expected as intergenerational liabilities and expenses rise.”
“There tend to be two drivers around private ownership of infrastructure,” AMP Capital’s Davies adds. “One is the need for finance and the other is efficiency. The trouble is, it’s only the need for finance that really drives privatisation – the political difficulties of higher tolls and taxes tend to stand in the way of a pure efficiency argument. So it’s only when governments need money that they look to the private sector,” he concludes.
On the one hand, the current round of privatisations, kick-started by Queensland in 2009 and currently spearheaded by New South Wales (NSW), is driven by familiar reasons.
“The fundamentals around privatisation are the same they’ve always been,” Future Fund’s Arndt argues. “Australia has had a lot of privatisation over the last 20 years and, given the pressure on state budgets, that will continue.”
But on the other hand, two decades of deals have created a golden opportunity to re-write the narrative around asset sales.
“I think privatisation is an important part of funding our infrastructure, so it’s important how it’s messaged,” argues KPMG’s Vella. “Generally, I believe there is an acceptance that privatisation is a valid way of raising capital for infrastructure investment, but politicians typically want to go to the electorate with a specific mandate and are increasingly connecting their privatisations to new infrastructure investment,” he adds.
NSW has, of course, done just that via its so-called ‘social privatisation’ model, recently selling ports Botany and Kembla for A$5.07 billion to a consortium led by Industry Funds Management (IFM), promising to recycle the sales proceeds to fund new infrastructure across the state.
At the time of the sale, much was made of the fact that over 80 percent of the ports’ new owners are Australian superannuation funds and that the sales will directly benefit the savings of more than 1.5 million NSW inhabitants.
That’s the sort of messaging – to borrow Vella’s word – that can transform privatisation from an unpalatable medicine into a positive growth story. “The NSW government has been really strong in their messaging,” contends ANZ’s Byrne. “Since being elected they have built a growing narrative around future infrastructure spending funded by recycling capital through asset sales, leases or refinancings (e.g. Sydney desalination plant).”
“If you go back to the [federal government’s] airport privatisations, again, the messaging was key,” Latham stresses. Those messages were selling non-core government assets to recycle capital to repay debt and, through subsequent deregulation, allow the businesses to interact directly with the airlines. The result has been Australian airports have been one of the major success stories in the global infrastructure space in terms of investment and customer experience, with the Australian Airports Association say “$9 billion [have been spent] since privatisation with a further $9 billion planned in the next decade”.
“This virtuous circle of selling assets and refreshing the capital back into new, major infrastructure – I think everybody gets it and can see the point in doing that,” IFM’s Hanna states. “People are crying out for new infrastructure here in Sydney and NSW in general, so I think that will give other [states] confidence – we would hope sooner rather than later. But I think NSW is really flying the flag.”
All this talk of recycling asset sale proceeds into new-build infrastructure begs the obvious question: is there a role for institutional capital in helping to directly fund Australia’s A$700 billion greenfield requirement? Or is this roundabout way the extent of their potential involvement in new-build infrastructure?
“The debate is still a bit confused because the need for infrastructure investment in Australia is well established – and in many cases quantified – and people look at pensions and superannuation funds and say: there should be a happy marriage. The fact is, the needs of pensions are generally correlated to their membership and that produces a very low appetite for greenfields and development risk,” argues Davies.
“I get the feeling that construction risk is being mixed up with other risks,” Palisade’s Lloyd points out. “They’ve seen toll roads fail straight out of construction with the false conclusion: we don’t like construction risk.”
“Potentially what they don’t like is the intermediated situation driven by investment banks, pushing certain figures, and it is really patronage risk which I think people are putting into this construction risk basket,” he stresses.
“All the people around this table, we rarely do competitive greenfields,” says Hanna. “And that’s because the procurement model is more suited to the interests of bidders with a very short-term perspective. That is, investment banks whose prime objective is to win the bid, reach financial close and take a multiple of fees out of the transaction, and a contractor that wants to build something over a two-to three -year period.”
That, however, may be about to change, as the superannuation industry takes advantage of having the government’s ear, partly thanks to the ongoing privatisation wave, to lobby its case.
“Industry funds have recently issued a policy paper that asks for the procurement process to be inverted, so governments actually procure greenfield projects on the basis of attracting long-term equity investors at the front end. That becomes the first part of procurement and then together as partners you procure the construction, maintenance and debt. This way you actually get a chance to procure the best of breed for all components of the concession,” he contends.
As the sole bank representative at the table, it’s only natural to ask ANZ’s Byrne what he thinks of such a potential change.
“Fundamentally, more deal flow is good for me,” he answers, to healthy laughter from around the table. “I think it’s an interesting idea the industry funds have come up with. I don’t think it will fundamentally change the amount of bank liquidity available, though.”
“There’s a significant amount of liquidity there already so if deals suddenly eventuate that money is ready. I think the only constraint – not unlike equity – is that greenfield patronage risk is very difficult – if not impossible – for banks to take on today,” he adds.
Nursing the pipeline
“A question you might ask is where’s the price [of Australian infrastructure] at relative to other parts of the world and how attractive is Australia to investors,” Future Fund’s Arndt offers.
“My observation as an investor that is active around the world is that, as the asset class matures, we are seeing the ‘balkanisation’ of infrastructure investing, where domestic capital in certain countries will be more competitive as it is trying to offset liabilities in the same currency or the same inflation, and not having to worry about hedging or whatever – and I think that’s true of Australia.”
That’s important to bear in mind, not only for outside investors thinking of taking on Australia’s entrenched domestic players, but also for governments looking at how they will manage their greenfield and brownfield pipelines.
“Given the size of the challenge, we could do with better coordination around the country in terms of prioritising projects, as these are expensive capital investments,” weighs in KPMG’s Vella. “More coordination around Australia’s general infrastructure requirement – as opposed to the requirement for particular parts of Australia – would be welcome”.
Hanna agrees: “If both NSW and Queensland start bringing significant projects to market at the same time that can prove to be a bit of a challenge. Whether by design or otherwise, if NSW does projects and Queensland doesn’t for the next three years, that can be quite a coordinated approach.”
“Also, stacking projects that will then be competing for labour can be a problem, as it will drive costs up, although this may be countered by the softening in the resources sector,” adds Lloyd.
That is one reason why all participants welcome the de-politicising role of Infrastructure Australia – even if, as Hanna aptly points out, “the question then becomes whether state governments are willing to follow that advice – the perennial problem in a federal system”.
Funding is another significant issue – even if the pipeline is carefully managed – and there is one peculiarity of the Australian infrastructure market all would like to see addressed: its dearth of long-term debt.
“There is a lot of time spent in investment committees assessing the impact of refinancings and there’s a lot of resource that has to go into it because of shorter tenors. We see that as a real problem. It’s all very well while there is plenty of liquidity, but it is a concern where refinancing coincides with a less favourable environment,” warns Lloyd.
“It doesn’t make any sense to me that we don’t have a long-term financing market,” Arndt complains. “It seems to me that is a pretty obvious area where policy makers can get a market going.”
Of course, for that to happen, the Australian government needs to take the lead and start issuing some long-duration debt – or rolling over existing debt with longer-term facilities. But as Arndt cannily recognises, “coming into an election, it’s not exactly the best moment to speak about debt”.
Still, the upcoming election, whichever way it goes, will not fundamentally change the need for new infrastructure – or for states to balance their books. And while a cultural shift to long-term debt funding might still be some way off, a realignment of infrastructure procurement to fit the needs of institutional investors seems tantalisingly within reach.
Around the table
Raphael Arndt, head of infrastructure and timberland, Future Fund
After six years managing Hastings Funds Management’s infrastructure and timberland portfolios, Arndt made the jump to Future Fund in February 2008, to head the sovereign wealth fund’s infrastructure and timberland business. Since then he has been responsible for establishing both the timberland and infrastructure investment programmes, recruiting and managing the investment team and running the portfolio.
Michael Hanna, head of infrastructure – Australia, Industry Funds Management
A veteran of the Victorian Department of Treasury and Finance, Hanna is responsible for evaluating, implementing and managing infrastructure investments in the Australian market and for managing the Melbourne team. He recently spearheaded IFM’s $5bn-plus acquisition of NSW’s ports Botany and Kembla and sits on the board of Interlink Roads. His career also includes a stint as an associate with global engineers Arup in the UK and Australia.
Danny Latham, partner – infrastructure investments, Colonial First State Global Asset Management
Latham is now based in Sydney following a 5 year secondment to London where he was Co-Head of the European infrastructure investment funds and mandates. A 19 year veteran of the industry, he has been involved in all aspects of infrastructure funds management including acquiring assets, subsequent board representation and portfolio management. He has played a leading role in the acquisition of several landmark deals on behalf of funds and separate accounts, including Melbourne Airport, United Energy, Northern Gas Networks and Anglian Water. Prior to joining First State, Latham was a director of RREEF Infrastructure and a founding member of AMP Capital’s infrastructure team in 1994.
David Byrne, global head of utilities and infrastructure, ANZ
A veteran banker with 20 years of experience, Byrne leads a team of 39 relationship managers and risk analysts who manage ANZ’s relationships with utilities, infrastructure, government, defence and higher education clients. Prior to joining ANZ in 2010, Byrne was head of corporate acquisition finance for Northern Europe and the Middle East at BNP Paribas in London.
Scott Davies, global head of infrastructure, AMP Capital
Davies joined AMP Capital in July 2011 with a busy resume under his belt. With more than 20 years of investment experience, Davies was most recently the chief executive of ASX-listed Macquarie Communications Infrastructure Group, which he ran from its inception in 2002. Under his leadership, the fund’s revenues grew tenfold. Prior to that, he held senior investment positions in Macquarie Capital in London and New York from 1995 to 2002, where he was responsible for cross-border asset financing, with a focus on the telecoms sector.
Roger Lloyd, director, investments, Palisade Investment Partners
Another Macquarie veteran, Lloyd joined Palisade in 2008, having spent the previous two years at Perpetual Investments, where he was head of infrastructure. He was in the project finance division of Macquarie’s Investment Banking Group until 2006, where he focused on infrastructure, liaising with both government and the private sector in a role covering origination, consortium formation as well as structuring and arranging debt and equity for various infrastructure projects.
Julian Vella, national head of infrastructure, KPMG Australia
Vella, who is also the ASPAC Regional Leader for KPMG’s Global Infrastructure Practice and a member of Infrastructure Australia’s Infrastructure Finance Working Group, has extensive lead advisory experience on a number of deals, particularly in the transport and industrial sectors. Standouts include the Moorebank Intermodal Terminal Project, in Sydney, Victoria’s $4.3 billion Regional Rail Link Project and advising the federal government on high-speed rail and the National Broadband Network.