One exception may be the subordinated debt piece which is behind senior but ahead of equity in the structure.
“I think the risk-adjusted return – high single digit returns – is competitive,” says Richard Lane, a principal within AMP Capital’s infrastructure debt team. “It is not that far away from a core equity strategy, but credit spreads to the senior piece are significant. The yield compression to date has had a greater impact on senior spreads mainly due to the banks being back. Banks generally don’t like subordinated debt as it is too capital-intensive and therefore the scarcity of this capital has helped keep yields relatively higher.”
Addressing the risks
It is not, however, just about the funding, but the projects themselves. Investors are often wary of the greenfield projects because they are seen as more complex than brownfield assets that have a proven operational track record.
“In our experience, greenfield risk is not well-understood by many investors,” says Toby Buscombe, global head of infrastructure investments at Mercer. “Some of the fears can be traced to high profile investment failures in some sectors, e.g. toll roads in some parts of the world. A large number of those were patronage deals and in some cases the original projections of the traffic did not materialise. However, those structures are largely dead and buried as a basis for delivering new projects.”
Buscombe also notes: “There are a few key main risks – development, construction and ramp-up risk, which are distinct, and only some are applicable to each given greenfield investment. For example, ramp-up is generally confined to traffic assets such as toll roads, which, in turn, have been structured to pass this risk directly to the end investor (structures themselves are becoming rarer). We are seeing more investors willing to take construction risk in projects which do not carry the ramp-up risk.”
Construction risk has also been mitigated by stronger financing packages which include guarantees or letters of credit.
In addition, as Andrew Wiggins, head of institutional at Allianz Global Investors, notes: “You do not lend all the money upfront but in stages when different phases of the projects are completed. You also ensure that there is a fixed price contract so the risk of construction exceeding budget is transferred to the contractors, and if a contractor becomes insolvent and another more expensive firm has to be hired then that is at the cost of equity and not debt holders.”
Cohen adds: “I think the issues around greenfield have been inflated. The construction industry in the UK has over 100 years of successfully managing complex infrastructure projects. There is a premium for greenfield, but it can also offer longer term investors access to long-term revenues which can be used to offset their long-term liabilities.”
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