Infrastructure debt has become an essential asset allocation component for investors looking to diversify their credit exposure with assets offering steady cash flow, an attractive risk/return profile compared to fixed-income instruments with an equivalent credit quality, and favourable treatment by regulators when it comes to the solvency capital ratio.
A market supported by M&A activity
With USD 108 billion of infrastructure debt deals closed in 2017, up 29% on 2016, infrastructure finance in Europe is booming. Increasingly, infrastructure is being accepted by investors as an asset class. Financial investors are willing to commit more capital to the market, underpinned by solid merger and acquisition (M&A) activity throughout Europe. For institutional investors, there is an added attraction: eligible infrastructure debt benefits from a favourable Solvency II capital ratio.
Infrastructure debt market overview
Exhibit 1: Europe deals by type and project finance value
Source: Inframation, as of June 2018
Exhibit 2: Sector breakdown by value (FY2017)
Source: Inframation, as of June 2018
At the same time, with interest rates still low, investors are attracted by the higher and relatively stable yields that infrastructure offers. For issuers, the improved cost of borrowing has created refinancing opportunities, underpinning deal flow.
While deal volumes slowed year-on-year in the first quarter of 2018, market activity has been supported by continuing M&A activity. Asset sales agreed in the first quarter foreshadow a healthy deal flow for the rest of the year.
Sector wise, the telecommunication services sector saw a wave of deals focused on the rollout of fibre optics networks. In the renewables sector, the transition from subsidised revenues to merchant power prices is ongoing across all types of greenfield renewables and the deal flow has been sustained by brownfield assets with numerous refinancings and in-market consolidation.
The largest deal of the quarter was the EUR 3.6 billion takeover of Finnish grid Elenia by a consortium of infrastructure funds and the state pension fund of Finland. Other notable deals included Deutsche Glasfaser capital spending and refinancing, Koole Terminals (oil and gas storage), and the sale by Spanish energy and utility company, Naturgy, of its Italian portfolio (energy transmission).
So what kind of debt deals could investors expect? Think of a loan facility for a regional fibre optics networks operator aiming to grow into a nationwide operator and bringing broadband internet connectivity to hundreds of thousands of homes.
Or a refinancing and expansion financing deal for a state-of-the-art datacentre facility with an anchor contract with a large, investment-grade cloud provider. Or funding for a fibre optic network bringing ultra-broadband connectivity to households and business sites in under-served rural areas. Another example is that of the refinancing of a portfolio of ground-mounted photovoltaic plants located across a region and boasting years of satisfactory operations.
And who would be the sources of deals? These range from an in-house infrastructure franchise, based on an open architecture, to a proprietary sourcing capability based on established relationships and access to the main infrastructure players, including financial and industrial sponsors, financial advisors and banks’ origination and syndication teams.
Building an infrustructure debt portfolio
This involves the usual criteria to ensure diversification across sectors (transport, renewable energy, telecommunications, social infrastructure, conventional energy, utilities, etc.), geographies and asset types. Decisions are needed in terms of credit quality, target weighted average life at the portfolio level and a distribution policy for, for example, principal amortisation and prepayments.
At BNP Paribas Asset Management, extra-financial criteria are at the heart of the investment philosophy. Environmental, social and governance (ESG) factors are fully integrated in our investment process. This means each project is assessed in terms of the ESG policies and management systems of the sponsors or property owners, and its specific environmental and social performance.
Key performance indicators for each specific project can include its impact on biodiversity, greenhouse gas emissions or energy efficiency. From a social perspective, they could include consulting with impacted communities or improving social wellbeing.
At BNP Paribas Asset Management, we have engaged additional independent expertise to conduct an environmental and climate impact assessment of our assets. Metrics include induced emissions linked to construction, operation, maintenance and asset use; avoided emissions through asset optimisation; alignment with a ‘2°C’ trajectory based on a decarbonisation approach; and the project’s contribution to energy and ecological transition.
Combing the various criteria, performance indicators and metrics for asset selection, we believe we can provide investors with infrastructure debt portfolios that meet their and our standards in terms of cash flow, risk/return, credit quality and ESG compatibility.
For more on sustainable and responsible investing as an investment theme, click here.
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 Infrastructure debt is part of the private debt & real assets platform of BNP Paribas Asset Management (BNPP AM), which comprises more than 50 investment professionals and manages EUR 7.7 billion of assets (as at end March 2018).