Okay – so you already knew that pink was the new black and real estate was the new sex. Now infrastructure is sexy. So say Forbes, The Guardian, and the Wall Street Journal.
We’re not talking about your grandfather’s municipal bonds either. Operating costs and necessary maintenance and improvements are something every homeowner understands – all too well. You may be able to meet all these needs without assuming debt beyond your mortgage. Or you might just have to endure an avocado-hued fridge, pastel yellow formica counter, midget sink, pinched shower stall and shaky deck for far longer than you’d like. Cue the violins. Life is hard. But suppose you owned a worn-down state ferry fleet or highway system and were responsible to millions of people?
As a government rather than a household, you’ve got way more income, but it’s spread thinner and there’s major pushback on “revenue enhancement.” An aging upper rear deck attached to a private home can be prudently roped-off until money is available for repair. No one will suffer as a result. But an elderly, disaster-prone bridge or elevated roadway, or a chronically dangerous maldesigned highway, or ancient car ferries with rusting hulls cannot easily be decommissioned at a moment’s notice. Yet, neither should the risks of continued operation be borne for long.
Squeezed by rising costs, constricted cashflow and often, gobs of existing debt, owners can’t keep borrowing to operate, maintain, improve or build public infrastructure. Nor, as they are reminded by the period stick in the eye from voters, can they count on raising taxes whenever they’d like. So to keep pace with the infrastructure challenges stemming from wear and tear, vibrant states and regions with real leaders are increasingly turning to private investors in carefully-structured, project-specific partnerships.
Public employee union pension funds are a fast-growing part of the mix within private infrastructure investment groups. The focus is on steady, long-term returns, not “grab and go” profit-taking. Scrutinizing their courtiers carefully are the governments which own the assets, rights of way or greenfield properties around which the public-private deals are struck. They have to steer a deliberate course to ensure the public interest is served. But doing it all the old way isn’t an option anymore. Not with the growing gap between basic needs and public resources. There’s an estimated $400 billion in private resources to be tapped for U.S. infrastructure, and capital formation is accelerating.
Here are a few signposts on the road to the future.
Forbes pronounces “Infrastructure Is Sexy,” highlighting the formation of two more new funds that have raised more than $10 billion for first-round investments in the sector. Morgan Stanley has secured $4 billion for a new infrastructure fund that will invest in transportation, energy, utilities and communications; and a similar General Electric/Credit Suisse-led group has marshalled $5.6 billion.
Infrastructure assets such as utilities, toll roads and airports are attractive to financial bidders like banks and pension funds because of their stable cash flow despite having lower growth rates than other private equity opportunities…”The successful fund-raising underscores the particular demand for infrastructure investment, and broadly, for alternative assets that generate long-term stable cash flows,” said James Gorman, co-president of Morgan Stanley (pictured above, right). The company said it raised capital in North America, Europe, Australia, the Middle East and Asia in to reach the $4 billion mark, which far exceeds the fund’s initial target of $2.5 billion.
Investors ran the gamut from pension funds, insurance companies and high-net-worth individuals to Morgan Stanley employees. Morgan Stanley infrastructure’s investment team will operate out of New York, London, Hong Kong and Beijing. Morgan Stanley had a total of $577 billion in assets under management as of February 29, 2008.
Across the pond, The Guardian explains “How Infrastructure Got Sexy In The City.”
With more esoteric investments becoming unfashionable, it is easy to understand why longer-term funding of real, if prosaic assets has become more appealing. They are often quasi-monopolies with virtually guaranteed inflation-linked returns. They are also pretty much recession-proof – people still use bridges and electricity even in hard times.
The market is also ripe for investment. In the developed world, money is needed to replace ageing infrastructure, and there are growing demands for roads, water and electricity. Meanwhile, public finances are under increasing strain because of ageing populations. In emerging economies, the need is even greater to build huge infrastructure projects from scratch. Then there are the broader global trends: the world’s population is expected to add another one billion people over the next decade, there is increasing urbanisation and the challenge of climate change. In a lengthy recent report, the Organisation for Economic Cooperation and Development said $53 trillion of investment is needed in infrastructure by 2030.
In “Why U.S. Highways Are Falling Into Private Equity Hands,” Mayer Brown partner John Schmidt explains to The Wall Street Journal’s “Deal Journal” blog:
Every day you pick up the paper and you find that a major fund has raised more money than it expected to, or is raising a new fund. Capital is being raised in an almost amazing way, with funds that raised $2 billion before now pulling in $4 billion. The infrastructure of one of the strongest economies in the world has to be one of the best long-term investments in the world. Most of the money for the private equity investments is coming from big pension funds. There’s a lot of competition and the gestation period for the sector has been long.
For more than a year, Cascadia Center has continued to recommend that public employee and union pension funds be tapped as partners to help fund pressing regional transportation infrastructure needs in Puget Sound. That does not mean that every sort of infrastructure investment is equally attractive to a pension fund. As Robert Poole of the Reason Foundation observes (second article from top here), because pension funds are already tax exempt, they are unlikely to buy the lower-interest tax-exempt bonds issued by a public tolling authority. However, as Poole emphasizes, pension funds are getting in the transportation infrastructure game by buying direct equity stakes in revenue-producing facilities or by joining with private infrastructure investment groups in equity or lease deals. That’s something for policy-makers here to consider, going forward.
Washington state must confront a big whammy. There are tight limits on available public funds. This is a permanent, not temporary condition, even with the odd transportation tax measure passing now and then. Yet according to the state there is $2 billion of needed work on I-5 in Seattle plus $1.84 billion more required for fixes to deadly State Route 2 in Snohomish County. And while studies grind on, the effort to raise money for replacement of the badly aging fleet of state car ferries is far from complete. Funds for crucial improvements to car ferry terminals also remain unsecured. The state car ferry fleet is the nation’s largest and the boats and facilities – by an act of the legislature – are part of our state highway system. In Pierce County, unfunded major road projects include completion of the Cross-Base Highway, and extension of SR 167 to the Port of Tacoma.
Seattle Times editorial page editor James Vesely suggested last weekend that the region may have already resigned itself to playing small ball for a while on transportation infrastructure. He’s right to raise the point. Maybe, following the defeat of last fall’s controversial roads and transit ballot measure, some more stasis has to precede bold action. But what’s being contemplated is a transit-only measure, centered on modest improvements – over the course of more than a decade – to a starter light rail system that won’t begin operating until next year. That’s hardly all the doctor ordered. We’ve got a 52 percent increase in the four-county population due by 2040 (up by 1.7 million from 3.2. million in 2000), and as many as four million newcomers expected by the turn of the century. The ultimate costs of wearily muddling through will be far higher than doing things a new way. That new way must include private capital for roads and transit; transit that truly competes on travel time and reliability; congestion pricing to ration limited peak-hour highway capacity; and a federal carbon tax to drive broad adoption of clean vehicle technology.