Value-add: a costly luxury, or the best way to invest?

As infrastructure matures, we are finally able to access valuable data about the performance of its different strategies. With so much written about return compression in the core infrastructure space, we thought we’d take a look at how value-add strategies are doing. Judging by the performance of debut funds from Antin and EQT, the answer is: pretty well.

Public documents from the State of New Jersey Division of Investment and the Public Employees Retirement Association of New Mexico respectively show EQT’s first infrastructure fund – which closed on €1.2 billion in 2009 – generated a net internal rate of return of 17.6 percent and a 2.39x multiple on invested capital, while Antin’s debut vehicle – which closed in 2010 on €1.1 billion – posted a net IRR of
19.2 percent, a 2.1x net money multiple and a 5.3 percent cash yield. Both sets of figures were valid as of 30 June 2016.

A quick check with my colleagues on sister publication Private Equity International informed me that net IRRs in the region of 20 percent are a very solid return indeed. So value-add infrastructure strategies can, apparently, go toe to toe with your average private equity shop. That’s great and shows infrastructure needn’t be seen as a low-return asset class. But the real question is what kinds of risks these managers are taking on to generate these high returns and whether those risks marry well with the idea of infrastructure as a low-risk asset class.

That is a tougher question to answer, partly because terms like value-add can be maddeningly fluid and partly because risk is not easy to measure. But if we look at what Antin and EQT are actually doing to the assets they buy, we seem to come away with a definition of value-add that is less about mindlessly bleeding up the risk curve and more about rolling up your sleeves and finding ways to genuinely improve holdings.

FPS Towers, Antin’s latest €697 million exit, is a good example. Fund I bought around 2,000 mobile telecom towers from Bouygues in 2012 for some €200 million. It could’ve easily stuck them in a more or less passive towerco and collected the yield generated by the leasing contracts FPS holds with France’s top mobile network operators.

Instead, it painstakingly transformed FPS into a fully-fledged company, boosting its workforce from three to 100 employees, meticulously renegotiating 2,000-plus contracts to improve their terms, and striking out into new markets through its partnership with highways concessionaire APRR, among others (see p. 24)

The type of assets that underpin FPS fits well into infrastructure’s low-risk matrix, with their steady, contracted cashflows. The added risk here for LPs comes from the improvements done to them and whether Antin could pull them off. But – and this is a key point – FPS did not necessarily require those improvements to qualify as a good infrastructure investment (though it visibly benefitted from them).

The main concern for LPs in value-add, then, is more about backing the right team and less about managers pilling on unnecessary risk. That, in turn, raises a provocative question: given that the same assets can often be managed in radically different ways, are fee savings a good enough reason for LPs to settle for strategies that fail to unlock an asset’s full potential?