By Martin Lennon
Greenfield infrastructure projects offer institutional investors early access to assets that can generate high yields and predictable, long-term, often inflation-linked cashflows. They are a natural fit with pension funds that have greater capacity to give up immediate yield in order to generate premium returns over the long term. As governments across Europe seek to attract private capital into large-scale infrastructure development, significant opportunities are emerging from which investors can benefit.
‘Greenfield’ investment is a broad term referring to investment in new infrastructure at the beginning of its project lifecycle, usually in the pre-construction or pre-expansion phase. This is in contrast to traditional ‘brownfield’ investment into pre-existing infrastructure. Whilst brownfield investors can expect immediate yields, greenfield projects are not typically cash-flow generative until operational; greenfield investors also accept the construction risk of a project. They are therefore typically compensated with more attractive yields over the long term, as well as potential capital gains. We believe dedicated greenfield strategies can reasonably target a 10-15% gross internal rate of return over the long term.
Greenfield is by no means a new asset class, but it has gained increasing attention in recent years as governments across Europe acknowledge the need to develop new infrastructure and encourage long-term private investment into the sector. The European Commission’s Investment Plan for Europe, announced in December 2014, sets out a €315bn programme of cross-sector infrastructure projects to be financed during the next three years[1]. In the UK the government’s most recent National Infrastructure Update outlines a £411bn pipeline of projects, of which 64% will be privately financed[2]. This change in the financing landscape provides a clear opportunity for pension funds, which seek relatively stable and often index-linked cashflows to match their long-term liabilities, to step in and provide capital.
Pension funds are already enjoying the benefits of investment in brownfield projects, but few institutions have begun directly investing in new infrastructure. Construction risk has deterred many would-be investors, but this can be minimised through a rigorous asset selection process and appropriate project structuring. Successful outcomes can be achieved through strict selection of experienced project partners, and careful risk allocation across the construction contracts. It is therefore vital that investment managers have the skills, experience and resources to ensure projects are completed on time, on budget and to the required specifications.
The infrastructure industry sector has the lowest ten-year cumulative project finance bank loan default rate across all industry sectors, according to Moody’s[3]. As a result, we believe greenfield project investment, particularly as the brownfield market becomes more saturated, offers an attractive risk-return proposition.
Diversification is a further tool that can lower greenfield investment risk, by constructing portfolios that combine projects from a range of sectors and geographies. Greenfield infrastructure offers a broad investment universe, but social, energy, transportation and communications infrastructure are likely to represent the most significant areas of opportunity. Investment prospects exist throughout Europe, as highlighted by the Investment Plan for Europe and national government support for private finance in new infrastructure.
It has long been argued that pension funds are a natural fit with infrastructure investment, including greenfield, since savers can take a long-term view and trade near-term liquidity for higher returns on their savings in years to come. This enables pension contributors to invest their savings in the very structures that will provide them with future socio-economic security. Pension funds’ capacity to act as patient, long-term providers of capital can allow them to absorb the lack of initial yields in greenfield investment, and they are well-placed to gain early mover advantage in this exciting sector. Today’s greenfield is tomorrow’s brownfield – the time to invest is now.
Martin Lennon is head of Infracapital in M&G’s infrastructure equity business
[1] http://ec.europa.eu/priorities/jobs-growth-investment/plan/docs/invest_in_europe_en.pdf
[2] https://www.gov.uk/government/publications/national-infrastructure-pipeline-july-2015/national-infrastructure-pipeline-factsheet-july-2015
[3] Project Finance Bank Loan Default and Recovery Performance 1983 – 2013, Moody’s, March 2015
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