Last week’s announcement by Macquarie Airports (MAp) that it would cut ties with its external manager, Macquarie Group, may well mark a milestone in the development of the infrastructure asset class.
In many ways, it wasn’t anything extraordinary. Like Babcock & Brown Public Partnerships, Infrastructure India or a host of other so-called “satellite funds” that have parted ways with their external managers or announced intentions to do so in the last year, MAp’s directors simply saw management internalisation as the best way to help bridge the gap between the value of their shares and their net asset backing.
“It’s hard to judge external versus internal management,” Macquarie chief executive officer Nicholas Moore told shareholders at the firm’s annual general meeting in Sydney on Wednesday. “It’s hard to know what’s right, what’s wrong in these sorts of things but . . . for MAp, the independent directors thought that internalisation was a better path to go down”.
The thinking behind MAp’s move, though, provides a candid insight into why external fund management may be more trouble than it’s worth. And, coming from one of Macquarie’s most prominent listed satellites, it will only put more pressure on others to follow MAp out of orbit.
In its presentation announcing the proposed separation, MAp acknowledged that its current management structure deterred certain investors who are currently “unable or unwilling to invest in an externally managed entity”. That unwillingness should come as no surprise: corporate governance watchdogs, such as RiskMetrics Group, have for some time been warning investors away from external fund management structures due to their potential for conflicts of interest, such as auditor selection.
This issue was openly discussed at the Macquarie annual general meeting, where one Macquarie shareholder – Australian activist investor Stephen Mayne – said he was “uncomfortable” with PricewaterhouseCoopers (PwC) auditing both Macquarie and its managed funds.
“How does poor old [Macquarie Group auditor] David Armstrong feel where, if he’s insisting on write downs happening here, in our carrying value of MAp, he then makes his audit colleague at MAp look silly because you’re in the market with two different valuations?” Mayne asked Macquarie acting chairman Kevin McCann.
McCann said “Mr. Armstrong’s and his firm’s independence is not compromised by the fact that PwC is an auditor of one or the other of the funds”. That may well be. But the whole exchange illustrates ongoing concerns over conflicts of interest that plague externally managed funds and their managers.
Now, one would be remiss not to point out that these concerns have not stopped Mayne from investing in the funds (he said he is an investor in all of Macquarie’s satellites). Nor did he seem to mind the fees they’ve paid to Macquarie over the years. On the contrary, Mayne praised Macquarie management for all the “massive, beautiful fees” they’ve “ripped out” of their managed funds.
For MAp, those fees were massive indeed. The firm told investors it has paid Macquarie A$547 million (€318 million; $449 million) in base and performance fees since 2002. To put it in perspective, that’s about one-eighth of MAp’s current market cap. Avoiding that ongoing liability, which will result in annual savings of A$43 million to shareholders, was bullet point number one in MAp’s outline of the benefits of its management internalisation.
For other funds' boards of directors weighing options on what to do to close the gap between the value of their shares and their net asset backing, that presentation will be hard to ignore.
Expect more satellites to reach escape velocity in the coming months.