The UK’s National Audit Office just published a report entitled “Planning for economic infrastructure”. It’s a very interesting read, as it details the UK government’s intense efforts to secure investment for the country’s infrastructure, including energy, transport, water, waste, flood defense, and communications assets. Interestingly, the report suggests that the country’s planned infrastructure projects in the coming years will require 60% or more of private capital. In fact, here is exactly what the report says:
“With only limited public funds available, the government is looking to private companies to wholly own and finance around 64 per cent of the £310 billion of new infrastructure. [And there are plans to] promote UK infrastructure investment opportunities to overseas investors including sovereign wealth funds.”
Wow, that’s ambitious! But, let’s be honest, it isn’t the first time a cash-strapped government has looked to pensions or sovereigns to help finance much-needed infrastructure projects. And, truth is, many of these investors do like investing in infrastructure. But there is a problem: Most infrastructure developers have been largely unsuccessful in enticing institutional investors into the development stage of large infrastructure projects. As the NAO report itself notes, “Pension funds and insurers have generally preferred to invest in operational projects with revenue streams rising for inflation aligned with their liabilities ...Pension funds and insurers have had limited appetite for construction risk.”
This is, quite literally, the problem that drives my day-to-day existence (at least the Stanford part of it). The Global Projects Center, which I help run, is focused intently on identifying creative ways to unlock institutional capital for investment in long-term projects and assets. And, in the past few months, we’ve published two white papers on this specific topic: “Public-Private Partnerships for Infrastructure Delivery” and “A Public-Private Infrastructure Cooperative for California”. So, I’m intently interested to hear how the UK government is going to solve this problem. Here’s some blurbage:
“Where infrastructure investment decisions are strongly influenced by global markets, UK government cannot control those decisions. It can, nevertheless, influence the relative attractiveness of the UK through the regulatory environment, market support mechanisms, and promoting credible and significant contracting and investment opportunities. The role of government in planning economic infrastructure therefore varies from direct investment decisions and coordination, to creating a framework to attract private investment.”
The government is intervening to address the major challenges in raising finance for infrastructure and is prepared to bear more project risk. The deficit reduction programme means that public borrowing is constrained. The credit crisis means that project sponsors’ balance sheets are stretched while project finance is costly and hard to secure. The government has taken steps to try to attract new sources of finance from pension funds, insurers and overseas institutions. These parties have been generally unwilling to provide construction finance unless another party takes the construction risk.”
And, so...
“The government has recently said it will give guarantees against a range of project risks to attract finance and has published a Bill to facilitate this.”
In short, the idea here is for the government to bear some of the construction risk, which (it hopes) will entice the institutional investors to participate. And, good news, that actually should work. There are other examples of thriving alternatives markets where the government served as a catalyst by offering to de-risk segments of the risk profile (see the Israeli venture capital industry as a good example).
But I have another take, and it actually begins with the investors themselves. I think the siloed nature of many investment organizations makes it very difficult for an infrastructure group to take on the venture risk embedded in infrastructure construction projects. As such, funds should build investment teams that can ‘move between silos’ and focus on the ‘between the cracks opportunities’. Unfortunately, there aren’t all that many funds that have the ability to do that.
In sum, until the investors get their own organizations up to par, governments will bear much of the burden when it comes to unlocking private capital for investment in development projects. In effect, they need to package Greenfield assets in a way that makes them look and feel like Brownfield assets... and that’s not an easy (or cheap) thing to do.
