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Last updated: August 6, 2013 7:11 pm
When Mike McCollum opened the Bentley crematorium in Essex late last year he could thank the bond markets for the cash to make the expansion of his business possible. Bentley represented a near doubling of crematoria run by Dignity, the UK’s second biggest funeral services company, over the past 10 years.
With its predictable, utility-like revenues Dignity’s growth has been almost entirely funded through bond issuance, which totalled £173m during the past three years alone.
“We’re not [airport operator] BAA but our cash flows are nice and stable and the fact that the business has performed well through the downturn has an added appeal to a certain type of bond investor,” says Mr McCollum, Dignity’s chief executive.
While national utilities and companies such as BAA have been able to tap capital markets throughout Europe’s economic downturn, Dignity is emblematic of a wider loan-to-bond shift among European infrastructure companies.
“Institutional investors are ready to take up the reins where banks won’t, particularly longer tenor [term] loans,” says Paul David, director of the infrastructure debt team at Allianz Global Investors. “The main issue is less the risk than the illiquidity [of the loans] and the longer tenors, which creates an opportunity for institutional investors who are looking for the duration because they need it to match their liabilities.”
Aided by banks’ deleveraging and Basel III regulations - which force banks around the world to hold more capital against loans – capital markets are filling the funding gap. Projects range from the niche - such as a ‘music city’ to be built on Seguin Island in Paris - to more traditional projects like city ring-roads, jails and power stations.
Project finance, seen as one of the riskiest infrastructure investment classes, has seen a recovery since the doldrums of 2008: year to date issuance stands at more than $2bn compared to $1.2bn for the whole of 2012, according to Dealogic.
Banks such as Royal Bank of Scotland and Bank of Ireland have already sold bundles of project finance debt, and other European banks are cutting their dollar-funded, long-term liabilities by selling portfolios of debt in North American and Asian infrastructure assets as they focus on their domestic markets.
Last month Aviva launched a €425m infrastructure credit fund to buy infrastructure loans with a focus on those funding public buildings, transport, transmission and distribution, and renewable energy.
“Banks are now keen to shrink their balance sheets and shorten the duration of their assets,” says Laurence Monnier, infrastructure fund manager at Aviva Investors. ”This offers investors the opportunity to access…senior loans in the infrastructure asset class at a higher yield than available from investment grade corporate credit, yet arguably with lower risk.”
Some banks, such as Société Générale, are pursuing new infrastructure funding models altogether, such as ‘originate and distribute’. These involve lending to infrastructure projects and selling on the loans to institutional investors whereas, before the financial crisis, the loans were syndicated between banks.
“Banks sell them to investors such as insurance and pension funds who are interested in long term revenues,” says Philippe Ferreira, a global asset allocation strategist at Société Générale. “We see a lot of appetite for this asset class, so it suggests the financial constraints on infrastructure in the future may not be there.”
Government stimulus is a key driver. Eager for ways to kick-start economic growth, European states hope infrastructure projects will provide the missing spark bolstered by support from Brussels.
“Governments have identified [it] as an engine of growth...over the last 18 months we’ve seen a a pick up in ratings activities including the development of relatively new asset classes such as communications, ports, airports, student housing and social housing,” says Neil Griffiths-Lambeth, senior vice-president at Moody’s. “It speaks to a growing volume of transactions.”
Hurdles to financing projects still remain. Solvency II regulations may make it more difficult for insurers to make direct investments in infrastructure deals, given the amount of capital they are required to hold in case of default is still unclear. Others are wary of construction risks, particularly in peripheral countries, making projects built from scratch hard to get off the ground
“Some people don’t want to invest in a road in Italy or Spain – so there is a country factor,” says a London-based banker. “But many investors are willing to enter once the construction phase has passed.”
However, a more pressing concern holding back the sector is a lack of projects altogether.
“It’s not the lack of willingness to invest but a lack of attractive opportunities to invest in,” says Giles Frost, chief executive of Amber Infrastructure, the investment advisers to International Public Partnerships, a London-based listed infrastructure fund with £4bn of assets under management in the UK, Europe, Australia and Canada.
“There’s been a lot of talk about new infrastructure projects throughout Europe and enormous numbers [being quoted] but the number of new projects which have actually got going is pretty limited to date, the unanswered question is: when will governments get going and put spades in the ground?”
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