Finance

Gillian Tan is a Bloomberg Gadfly columnist covering deals and private equity. She previously was a reporter for the Wall Street Journal. She is a qualified chartered accountant.

President Donald Trump may be trumpeting great days at the White House, where there is supposedly no chaos (ahem). Regardless, his $1 trillion infrastructure plan is, by all accounts, stalled

Notably, that hasn't stopped private equity firms in their tracks. Blackstone Group LP is forging ahead with its whopping $40 billion infrastructure fund, KKR & Co. is preparing to raise $5 billion for its third (and biggest) global infrastructure fund, and all eyes are on the likely debut of Apollo Global Management's efforts in this area.  

I've previously suggested a number of potential privatization candidates that could be a starting point for these funds and other longtime infrastructure investors including pension and sovereign wealth funds. Potential assets include the Pennsylvania Turnpike and Chicago Midway International Airport, two privatizations that failed in part because of discontent from local governments and their taxpayer constituents. For the private sector to play a meaningful role in those or any other future infrastructure improvements, potential investors must address concerns from politicians and communities that have so far blocked the sale of long-term leases attached to key U.S. infrastructure assets. 

Not Defying Gravity
Investors keen on privatizations will most likely be aware that North American airports are extracting the lowest revenues per passenger of any region except for Latin America and the Caribbean
Source: ACI Airport Economics Survey (2016)

First, they should understand that simply handing over huge piles of cash in exchange for the right to operate assets won't be enough to secure support for transactions, even if the federal government sweetens the deal with booster grants. Instead, they must be prepared to provide taxpayer-friendly protections or guarantees, such as linking price increases to inflation. Critics of such deals often point to the privatization of Chicago's parking meters, where downtown rates skyrocketed to $6.50 an hour from $3 an hour in 2008.

Governments may welcome a level of stability, too, because a defined, predictable path of price bumps is preferable to the outsize ad hoc increases that have been necessary to meet municipal bond payments. Notably, since the Pennsylvania Turnpike's $12.8 billion privatization collapsed in 2008 and it has remained under government control, tolls have risen faster than inflation every year since 2009 and are projected to rise 3 percent to 6 percent a year through 2044. 

Above and Beyond
Tolls increase substantially even on roads that are operated by state governments. Private investors should be prepared to offer milder increases in any future deals.
Source: The Pennsylvania Turnpike Commission
*Increases for E-ZPass users have been less steep

Another way investors should attempt to woo states and communities is to provide assurances around customer outcomes. In other words, they ought to put themselves on the hook for financial and other penalties if, under their watch, an asset fails to meet key performance indicators. A framework for this can be lifted from Britain, where consumers may be entitled to compensation when standards on anything from water pressure to responsiveness to complaints aren't met. Plus, companies like South East Water (controlled by Canada's Caisse de depot et placement du Quebec and the Utilities Trust of Australia) are subject to oversight by Water Services Regulation Authority, known as OFWAT, the watchdog of privatized water and sewage companies in England and Wales. That includes a requirement to provide fresh water totaling 10 liters (2.6 gallons) a day for each person by bottle or portable tanks if traditional pipe-supply fails. And others including Thames Water (controlled by Canadian and Kuwaiti funds) have been fined for sewage leaks

Separately, investors should dispel the notion that they can throttle growth after acquiring an asset by instead spending to promote it. That can be done, for instance, by following through with additional funding that can be used to widen roads, add depth to a port or increase tarmac capacity.

Path to Profits
Fans of airport privatizations will take comfort in the fact there has been significant growth across various revenue segments
Source: ACI Airport Economics Survey (2016)

Additional funding could also be channeled into improving traveler experiences at various airports by revamping various retail and other offerings. 

Room to Improve
The privatization of North American airports likely appeals to investors who believe they can boost non-aeronautical revenue by selling more advertising or improving retail offerings
Source: ACI Airport Economics Survey

Another point to ponder is whether cities or states would be best served by having infrastructure assets leave in place any outstanding municipal debt once a so-called concession lease is granted because such borrowings are cheaper than standard infrastructure debt. Such a move would also maximize the proceeds from any concession lease, according to Carlyle Group's co-head of global infrastructure Pete Taylor.

Finally, infrastructure funds -- even those of the open-ended variety -- should consider subjecting themselves to lock-up provisions, which prevent them from selling all or parts of their various stakes within a certain time frame. Still, it'll be hard to provide a complete guarantee that governments won't end up appearing foolish or shortchanged if firms proceed to sell their long-term leases on various assets to other investors at lofty profits. One way funds may be able to navigate past this issue is if those profits are genuinely warranted because of operational improvements and investments in expansion.

To be sure, these measures may not win over politicians and their voters in every state, or even at a federal level, where some assets may shake loose. They may, however, shape conversations between states and cities and infrastructure investors as they seek to deploy their growing war chests.

This column does not necessarily reflect the opinion of Bloomberg LP and its owners.

  1. Concurrently, Carlyle Group LP is raising $2.5 billion, Stonepeak Infrastructure Partners is on the hunt for $5 billion, I Squared Capital is seeking $4 billion and Macquarie Infrastructure and Real Assets is targeting $3.5 billion.

  2. Admittedly, such proceeds are a key piece of the puzzle because they can be immediately redirected back into investment in other public works such as schools, hospitals or water systems.

To contact the author of this story:
Gillian Tan in New York at gtan129@bloomberg.net

To contact the editor responsible for this story:
Daniel Niemi at dniemi1@bloomberg.net