Plenty to Like

Every yin has its yang. And for every European economy labouring under high public debt, ballooning budget deficits, stalling or non-existent growth and the constant threat of runaway inflation, there are many examples in Southeast Asia where the opposite applies – debt under control, deficits limited, few worries about inflation and high growth. Those in the West could be forgiven for feeling a little envious.

As Johan Bastin, chief executive officer of Singapore-based fund manager CapAsia, which is raising a $350 million ASEAN-dedicated infrastructure fund, says: “The growth is remarkably consistent. Even in an advanced market like Malaysia you have growth of more than 5 percent. It’s a very good climate for infrastructure investors to invest.”

As well as these positive economic indicators, what you also have in Southeast Asia is a favourable demographic trend. “We look at a number of factors, when evaluating entry into a new infrastructure market. Demographics is a key driver of infrastructure spend and therefore an important factor,” points out Steve Gross, a managing director in the Asia division at Macquarie Infrastructure & Real Assets.

“We like large populations where a lot of people are moving into working age and where there is an increasing group of middle-income earners. This has a double impact – not only do they have an increased ability to spend but the lower dependency ratio means there are not many pension liability issues. The Philippines is a great example of this but wherever you look in Southeast Asia, it knocks the ball out of the park on this measure.”

Filling the gap

Gross points out a number of other encouraging trends. One of the more obvious ones is that, as elsewhere in the world, governments in Southeast Asia simply can’t meet the infrastructure investment requirement on their own. Hence, there is a gap waiting to be filled by the private sector.

In two other respects, it’s clear that the situation is not optimal – but is improving. One of these is the priority being given to infrastructure in relation to all the other things that money needs to be spent on. There is something of a consensus that Southeast Asian nations should be spending somewhere around 5 percent of gross domestic product (GDP) on infrastructure in order to keep it up to an acceptable level. Traditionally, this figure has been more like 1 or 2 percent. Attitudes are changing, however, as more countries identify infrastructure as a facilitator of strategic goals – for example, in China, the move from agriculture to urbanisation. Such shifts mean infrastructure has to become a priority.

The other is the ‘ecosystem’ around investment. In the words of Gross: “You need an institutional framework where the private sector is able to access publicprivate partnership (PPP) opportunities through a single window and appraise who are the responsible contracting parties, the PPP delivery method, the allocation of risk and the availability and form of guarantees if any. Investors need clarity

and assurance that there is a level playing field.” He says Indonesia, for example, has done exactly this through the establishment of the Indonesia Infrastructure Guarantee Fund (IIGF), which is an independent public body which enables a clear delivery method of PPPs and ringfences the government’s guarantees with respect to PPPs.

With this clearly more favourable backdrop for investors, it’s pertinent to ask why more investment is not happening. Johan Bastin says the problem is not a lack of capital supply – at least on the equity side. He does, however, think there is a lack of investable projects. Indonesia, for example, should be providing all manner of transport-related deal flow. The reality is that it’s not really delivering on this because there is too much of an onus on investors to get involved in the planning process, such as obtaining rights of way and permits.

Policy Risk

There are other problems too – though Bastin feels that the nature of these problems can be easily misunderstood. For example, rather than the political risk sometimes associated with this part of the world, he feels that the real issue is policy risk. When asked about political risk, he says: “Well, emerging markets certainly don’t have a monopoly on political risk.

There have been the episodes in Greece and in renewable energy in Spain and in the UK in the 1990s when a windfall tax was introduced in the water sector. Political risk is when a government adopts a populist stance and changes a tariff agreement or creams off profits that investors have made. I don’t see that risk here.”

He does concede that there is what he describes as policy risk, whereby governments take decisions that will have a negative effect for investors without meaning to cause that effect. For example, he points to a decision made by the Indonesian government to introduce a tax on coal exports which had the knockon effect of creating an environment of uncertainty for investors in coal terminals.

Another risk – and again, by no means limited to this part of the world – is of corruption. There is a sense that, as time goes by, this will become less of a problem. “Rooting out corruption is a key thing,” says one local fund manager. “And there are more high-profile cases now than we have seen previously. It’s a product of things not moving quite as smoothly as they should. If processes are working well and are open and transparent and people are sharing in the wealth, you don’t tend to get corruption. You need to punish those found guilty of doing illegal things but you also need to put in place the right frameworks.”

In terms of competition to do deals, Gross’s view is that this comes not so much from infrastructure funds or institutions investing directly – opportunities in Southeast Asia are often too high up the risk/return scale for the latter grouping – but more from local strategic investors. But as well as providing straight-out competition, these industrials also provide opportunities for partnerships, Gross reasons.

He says: “They have a pretty sophisticated ability to finance and implement deals but we look to partner with them. Not only do we bring infrastructure management skills, through teams of operating experts and a global portfolio that provides access to real-time benchmarks, but also our global footprint provides the ability to help these companies grow internationally.”

Where’s the Exit?

The other side of the equation from doing deals is exiting them – and, in this respect, there is an existing platform of parties willing to acquire infrastructure investments in these markets, though history shows there are reasons to be hopeful that this will continue to deepen dramatically over the coming years.

“The question is how it [the exit market] will develop over the next five to ten years,” says Gross. You start off with strategics and a few financial players doing deals but when the first funds come in then the market will start to mature as those pathfinders have provided an endorsement. You’ll see more global and local infrastructure funds coming in and deregulation of the insurance and pension markets will see the institutions coming in and acquiring businesses as well.”

In terms of sectors, there is already a lot of investment in power, while transport is not far behind. Telecoms infrastructure is also seen as interesting if a little more technologically complex, while the growing middle class in Southeast Asian nations should ensure that the relatively nascent social infrastructure sector should do a lot of catching up in the years ahead.

In sum, while there are challenges for private investors in Southeast Asia, the attractions are hard to resist. In a world beset by macro-economic concerns, we’re talking fast growth, modest leverage, young populations and an overwhelming desire for better infrastructure. Not bad for starters.

Source: The Infrastructure Investor April 2013 Report