How will the private sector finance an upgrade to

UK infrastructure?

Read time: 4 mins        Added date: 22/01/2024

Tunnel Drill

To reach net zero carbon emissions by 2050, the UK’s infrastructure needs to be transformed. While government-financed initiatives are important, the private sector has a significant role to play, especially in the infrastructure sector and to do so, will need to raise a lot of new money. What needs to change to make this happen?

“The government’s Net Zero Strategy sets out a roadmap to help businesses and consumers move to more sustainable power, this alone seeks to mobilise £90 billion of private investment by 2030,” explains Hannah Simons, Head of Sustainability at Lloyds Bank Corporate and Institutional. “With that quantum of money, capacity will become a challenge.”

To win over investors in a potentially crowded market, it’s critical for issuers to have a clear, credible and consistent story, according to Mathew Duncan, CFO of Tideway London, the company delivering the Thames Tideway Tunnel.

“You need to work hard to allay concerns, especially where there is significant construction risk in the early stages of a project,” he says. “That means demonstrating prudent treasury management, front loading the shareholder contribution (to keep gearing low) and locking in borrowing before the need. Tideway is now 90% complete, so we can afford to be more opportunistic in our financing.”

Choosing the right market

Given the scale of funding required, both the public and private debt markets will need to be fully engaged, says Chris Palmer, Head of Illiquid Assets Origination at Phoenix Group, one of the UK’s largest long-term savings and retirement businesses.

“Public markets can be important for bigger deals and straightforward financing requirements,” he adds. “But private markets are the place to go when transactions are more complex – as is often the case with infrastructure – and club or syndicate deals can raise up to £1 billion.”

The ultimate bespoke transaction is project finance. “You effectively start with a blank sheet of paper and work out the structure based on the asset’s underlying qualities,” says James Taylor, Head of Infrastructure & Project Finance at Lloyds Bank, which works on projects as an advisor or a lender. “It is perfectly suited for infrastructure because of its long-term nature and high barriers to entry, which allow you to push boundaries.”

Given the financing volumes that are required for net zero, Taylor believes there is a need to increasingly shift project finance back towards debt capital markets rather than banks (which have dominated the market in recent years).

“Certainly, banks need to be there to finance projects at the beginning when there is construction risk, which is problematic for the institutional market,” he says. “But once projects are operational, that debt needs to be churned into the capital markets.”

He adds that net zero will also require an important shift in mindset: “Many of these projects are not core infrastructure, so the market will need to step out of its comfort zone.”

 

Watch Mathew Duncan, CFO, Tideway

Mathew explains what infrastructure providers need to be thinking about to seize the opportunities ahead.

ESG will become the only option

Issuers continue to be rewarded for their environmental, social and governance (ESG) qualities, according to Palmer. “The greenium is now worth between 20 and 100 basis points,” Palmer says. That is prompting an increasing number of issuers to develop green and sustainable bond frameworks.

Tideway created its green bond framework in 2017 and now has around 70% of its debt rated as green or sustainable. “When we first considered issuance, we were told that it would be more expensive,” recalls Duncan. “But we didn’t believe that – and it turned out not to be the case – and we felt it was the right thing to do anyway.”

Similar changes are happening on the buyside; it’s possible that the weight of ESG-focused money could eventually shut out non-sustainable borrowers. “If you’re a dirty issuer, you’re really going to struggle: you might be the best coal-fired power station in Europe but at some point, everyone is going to say no,” adds Palmer. “Our end investors – especially the younger ones who will come to dominate business in the future – don’t want us to provide finance to those borrowers.”

 

Watch the 30 second video

Chris Palmer, Head of Illiquid Assets at Phoenix Group, talks about how critical it is for borrowers to have a framework for their sustainable green operations.

Honing in on what is sustainable will become ever more challenging, however. “One of the largest investment banks in the world has decided that electric vehicles aren’t sustainable because much of the lithium is mined in Africa, where the average age of a miner is 13,” says Palmer.

“That’s a bold statement but it’s the kind of decision that everyone in this market will face. For those who are comfortable with that risk – and a diversity of views is what makes a market – there should be a better deal available because there’s less capital chasing the transaction.”

This article, and quotes within, are based on discussions at the Lloyds Bank Markets Summit Conference held on 20 November. The views expressed are those of the speakers and do not necessarily reflect those of Lloyds Bank.

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