The UK Treasury will be heartened to see that pension funds and insurers are slowly making inroads into the financing of new infrastructure – which, as previously discussed, they need to do if that infrastructure is to get financed. It might feel deflated, though, to learn that it can’t take any of the credit.
Last month this blog noted the presence of insurer Friends Life in the Drax coal-to-biomass conversion project. A few days later, a consortium led by French infrastructure fund Meridiam signed financing for a £190 million student accommodation project at the University of Hertfordshire. £145 million was provided by a bond bought entirely by Legal & General, the country’s largest insurer by assets. This project has been project financed – the project company, not the developers, is the borrower, and the finance is long-term. Quite different from conventional property finance, which is much easier for institutional investors to get comfortable with.
What makes this deal particularly spicy from that point of view is that, as a project finance deal with property characteristics, it is subject to market risk. Revenue comes from rent, and therefore fluctuates with occupancy rates. Construction risk and revenue risk are both stumbling blocks for insurers and pension funds; this deal has both. And L&G is also planning investments in the UK renewables sector.
L&G could have asked for someone to cover their bond with a guarantee – like a Treasury guarantee – but they didn’t. Just as M&G, asset manager of Prudential, didn’t when they closed the Alder Hey children’s hospital in March; or Hadrian’s Wall Capital* when (as Infrastructure Journal recently reported) it was mandated to lead bond financing of the Salford housing PFI, which will almost certainly end up with an institutional investor; or Aviva in any of their infrastructure investments since UK Guarantees was announced.
The Treasury has announced a new framework for procuring public-private partnerships, PF2, which amongst other things is meant to encourage insurers and pension funds to lend to projects, by forcing project sponsors (the private firms who will invest equity) to offer a financing plan where bank debt is not the majority.
Now, the current stream of projects getting financed mainly by non-bank debt at the moment is only a trickle, but that reflects the lack of projects to actually finance out there at the moment. It seems that the insurers and pension funds who are ready to finance infrastructure are moving in without much help from the Treasury. Most of them still don’t have the appetite for these sorts of deals yet, of course, but the more successful deals they see, the more encouragement they’ll get.
*A good reason for this is that Hadrian’s Wall Capital is itself providing risk mitigation through its financing structure – what HWC does is (with co-investors’ help) invest in a sliver of subordinated (higher-risk) debt on a project which cushions the senior (lower-risk) bond it sells to other investors. But this bears out my point, which is that solutions are coming from the private sector, not the Treasury.