What is the impact of COVID-19 on infrastructure deals? has been saved
What is the impact of COVID-19 on infrastructure deals?
Authors: João Almeida
2 minutes read
Victory comes from finding opportunities in problems – Sun Tzu.
The impact of COVID-19 on infrastructure deals
The COVID-19 outbreak has had a major impact on the global economy and the infrastructure asset class is no exception.
This crisis is hitting several sectors as financing is scaled back and project closings are delayed, primarily as a result of uncertainty across financial markets.
More broadly, the impact on asset valuations across all sectors of the economy is also being felt in infrastructure, where asset valuations are being downgraded across the globe. The impact spills over into the cash distribution and yield-generating capabilities of the underlying investments, forcing some asset managers to reassess their distribution models.
This desire to preserve cash in the asset-holding entities creates tension with the expectations of LPs for dividends and yield distribution. Nevertheless, given the nature and long-term strategies typically associated with infrastructure investments, valuation downgrades have generally been less extreme in this asset class in comparison to other sectors in the economy.
Two of the sectors most affected, due to travel limitations, are transportation and oil & gas. This can be observed in the decrease in passengers in airports, reductions in public transport and the mothballing of projects to expand airports, and build bridges and railways.
On the other hand, the situation is highlighting the fact that there are some infrastructure sectors where there is no room for a slowdown, despite this crisis, due to their link to social responsibility and current demand, e.g., telecom, water, healthcare and information technologies.
In the healthcare industry, additional infrastructure is required in new hospitals and facilities to fight this global health emergency, and this is expected to boost this sector.
Furthermore, telecommunications infrastructure is facing a unique challenge to meet the worldwide requirements to guarantee homeworking and maintain economic activity and the exploding demand for wider, stable bandwidth and more data centers.
However, even these sectors are facing some practical difficulties, which will need to be taken into account in the relevant M&A transactions, such as the on-site visits needed to undertake health checks, safety due diligences on assets, and physical meetings between executives.
Relevant players within the M&A market, have signaled1 that despite uncertainty created by the pandemic, signed deals are moving towards closure. However, the pandemic has delayed the launches of new funds by at least two months.
Even though deal value in Q1 2020 dropped $70bn when compared with Q4 2019, the trend is still in line with Q1 20192, which, in light of the approaching economic storm, means that infrastructure is proving extremely resilient in comparison to other asset classes.
No less importantly, governments have tended to use ambitious infrastructure projects as a key instrument for reviving declining economies and fighting unemployment. Recently, the Chinese Central Government resorted to the traditional model of boosting infrastructure investments, but stated clearly that this time the private sector is expected to play a more important role. In the United States, the crisis has shown a clear requirement for further investments in water systems and telecoms. However, the expectation is that the Federal Government will not take an aggressive approach to boosting infrastructure investments, but will instead opt to increment existing investment policies and programs. Furthermore, the stimulus to the infrastructure asset class in the United States will largely be driven by the unemployment rate, which will only be assessed when the pandemic’s impact becomes clearer. The industry is therefore keeping an eye on any new big-ticket projects, which may be launched after the reopening of US Congress on 20 April in the aftermath of this outbreak, and will certainly be required to meet the unprecedented expectations of a population that has already profoundly changed its way of living.
Fundraising3 during the COVID-19 pandemic
Unlike other alternative asset classes where fundraising in Q1 2020 dropped considerably given the economic instability caused by the COVID-19 outbreak, infrastructure has seen a stable fundraising trend and secured the third highest quarterly level of funds ($38bn), topped only by funds raised in Q4 2019 ($43bn) and in Q3 2018 ($39bn).
The number of funds to achieve a final closing dropped from Q4 2019 to Q1 2020, with only a few funds attracting the majority of investor commitments. Most of the capital raised for infrastructure in Q1 ($20bn) was secured by Brookfield Infrastructure Fund IV for investment in North America, in contrast with the usual trend of recent years, when the most active infrastructure fundraising market was focused mainly on Europe.
Furthermore, the number of mandates issued by investors for infrastructure funds decreased significantly when compared to Q1 2019 (from over 200 to less than 100 in Q1 2020).
With the majority of investors planning to commit to only one fund in the coming 12 months but with larger commitments, the outlook in this asset class is positive. However, the overall trend seems to be towards the concentration of capital in mega-funds. A reinforcement of this trend may come from an increase in the cost of debt, which we can already see in the recent rise in bond spreads for investment grade projects.
Finally, with governments and central banks reducing interest rates globally in response to the economic crisis created by the COVID-19 outbreak, the level of investor appetite for debt/mezzanine infrastructure funds naturally increased from 22% in Q1 2019 to 47% in Q1 2020.
1 S&P Global Market Intelligence: Power M&A deals going on pause as coronavirus stalls US economy, 30 March 2020
2 Preqin Quarterly update, Infrastructure Q1 2020
3 All figures are based on Preqin Quarterly update, Infrastructure Q1 2020