Infrastructure facing an era of risk
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June 10, 2019 01:00 AM

Infrastructure facing an era of risk

Close monitoring called necessary to blunt upheavals from technology

Douglas Appell
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    Robert Shakespeare/Fairfax Media

    Ross Israel sees actively managing assets as crucial in an era of constant changes.

    The accelerating pace of technological disruption today poses growing challenges for institutional owners and managers of long-term infrastructure assets, even as it opens up opportunities as well.

    The risks facing owners and managers of infrastructure portfolios in the coming five to eight years "will be greater than the risks … seen in the last 20 years," necessitating a much more active approach in constructing and managing those portfolios, said Ross Israel, head of Brisbane-based Queensland Investment Corp. Ltd.'s A$11.3 billion ($7.8 billion) global infrastructure business.

    Industry veterans cite advances in solar power and battery storage, which could leave a growing army of household and corporate customers positioned to sell electricity back to the grid, and the inevitable rise of electric and autonomous vehicles as examples of the kind of developments that could upend long-held assumptions about opportunities to invest in infrastructure.

    Investors in the electricity sector have historically been looking at "centralized generation of electricity, moving to high voltage transmission to low voltage distribution, and then to a retail customer," often with different owners of each of those four components, said Mr. Israel. Today, generation is becoming more decentralized with the rise of renewables, while coming advances in battery technology will take disruption to the next level, he said.

    With a likely move toward distributed power grids and more localized energy generation, marked by households and companies with solar installations selling electricity back to the grid, "how are you going to manage those flows, who owns the transmission grid, how is that business model going to work in the future?" asked Neil Johnson, a Hong Kong-based managing director and head of infrastructure, China, with Macquarie Infrastructure and Real Assets. MIRA oversees roughly A$178 billion in infrastructure assets through public and private funds, co-investments, partnerships and separately managed accounts.

    Still, disruption always brings opportunities and "I would expect there'll be some very interesting angles to play," Mr. Johnson said.

    With that looming change, asset owners will need to be more mindful of technological disruption than before, said Bruce Crane, managing director for OMERS Infrastructure in Singapore — the first office in Asia opened, last year, by the C$97 billion ($72.1 billion) Ontario Municipal Employees' Retirement System, Toronto.

    OMERS Infrastructure reported C$20.3 billion in unlisted infrastructure equity assets as of Dec. 31.

    A new approach

    In years past, "the longer, the better" would have been a good way to sum up OMERS' approach to making infrastructure investments, but today it's become much more necessary to regularly retest an investment thesis to make sure key assumptions are holding up, he said.

    That risk comes into play when looking, for example, at a toll road concession that could extend beyond the life spans of OMERS infrastructure team, said Mr. Crane. Even a decade ago, "we wouldn't have questioned the impact of driverless cars after 10 or 20 years," but today such a calculation can't be avoided, he said. "In some ways, it can dampen the value … paid to the seller because we are unwilling to ascribe a value past a certain date" amid a critical mass of technological unknowns, he said.

    That challenge hasn't kept OMERS away from the sector. In 2015, for example, the Canadian heavyweight acquired a 33.3% stake in Chicago Skyway, a 7.8-mile road between downtown Chicago and the city's southeast suburbs, for $512 million, under a concession that extends through the year 2104.

    More broadly, said Mr. Israel, the rise of electric vehicles will boost correlations between certain transportation assets and electricity assets — yet another factor asset owners will have to take into account when considering high-level portfolio construction.

    And again, the likelihood that the traditional centralized model for delivery of electricity will lose ground to a "decentralized model will threaten the historical configuration of the assets in the value chain" — forcing investors to review the mix of energy infrastructure assets in their portfolios, he said.

    "You've got to be awake — not take for granted that these are 'set and forget' assets," Mr. Israel said. "You've got to be actively managing them" with an eye on the evolution of the subsectors in different jurisdictions, he said.

    Some industry veterans, while conceding the disruption, still see room for accentuating the positive.

    A "whole new range of technology" impacting what "used to be considered a very, very low-tech sector … creates tremendous opportunities," said Kyle Mangini, global head of Sydney-based IFM Investors Pty. Ltd.'s A$55 billion book of unlisted infrastructure equity.

    For example, when self-driving electric trucks are delivering groceries in the middle of the night instead of spewing diesel fumes while clogging up rush-hour traffic, that means the toll roads investors own will be used more efficiently, Mr. Mangini said.

    That's ultimately a better way than "building out to the peak" — such as expanding roads for that daily 7:30 a.m. rush hour. "If you can use that capacity more effectively across the whole day, the savings are dramatic and the costs per person go down dramatically as well," he said.

    A more direct opportunity for asset owners and infrastructure managers is investment in "digital technology," a young, fast-growing segment of the market that covers telecommunication towers, fiber networks and data centers.

    Stewart Upson, managing partner and CEO Asia-Pacific with Brookfield Asset Management Inc., said in an email, "we've identified the large-scale investments required to support data transportation and storage as a significant opportunity" globally.

    Investments in related infrastructure have grown quickly from negligible levels just a few years ago to "a meaningful portion" of Brookfield's $112 billion book of infrastructure business now, Mr. Upson added.

    "It's a space we're very excited about — fast growing and maturing very quickly," said Cyril Cabanes, Singapore-based managing director and head of infrastructure investments, Asia-Pacific at Caisse de Depot et Placement du Quebec, Montreal.

    Telecom opportunities

    Telecommunications towers, a sector that didn't exist a few years ago largely because towers were mostly held by mobile operators, is now presenting opportunities across the region as those operators seek capital for new investments. They're doing so by recycling existing assets and entering into partnerships, generating considerable deal flow in a lot of countries, Mr. Cabanes said.

    CDPQ had C$309.5 billion in total assets at the end of 2018, with C$23 billion in infrastructure assets.

    And that relatively new market segment is offering healthy investment yields even as more long-standing segments, such as brownfield water treatment plants and renewable energy, sag under the weight of growing institutional flows to the asset class, market veterans say.

    Macquarie's flagship infrastructure funds "have had to adjust their focus in order to maintain the same level of returns in developed markets," and digital infrastructure is one of the newer sectors the firm is looking at toward that end, said Mr. Johnson.

    Data centers, in particular the wholesale and ultra-wholesale end of the market where a single facility is leased out to one or two huge corporate consumers of data, is a segment MIRA has already invested in in North America, and "we're actively reviewing opportunities in Asia" now, he added.

    QIC's Mr. Israel said there's one other ripple effect of the digital revolution sweeping the globe that infrastructure investors would do well to pay heed to.

    At a time when "that phone in your pocket … allows you to view your power usage at home, turn on and off appliances, monitor security and facilitate your use of public and private transportation," infrastructure will be more "customer-led" — a fact investors will ignore at their peril, he said.

    The customer "is going to be capable of evaluating much more clearly the service they get from infrastructure, the quality of the infrastructure they're using" and ultimately those customers will be empowered to make decisions about the infrastructure they use, Mr. Israel predicted.

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