A niche investment sector that is growing

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In a world that constantly needs repair, upgrading and innovative new energy and data systems, private equity investment is increasingly important — and that means opportunities for private investors to get involved.

“These components of infrastructure are physical assets that are critical to the economic and social functioning of society,” says Ashley Ng, director and head of infrastructure investment at Nicola Wealth Canada.

“The assets span across many sectors — digital infrastructure, utilities, energy transition assets [to meet global climate change goals], transportation and more,” she says.

“They’re different from one another but they share several key characteristics. They’re long-life assets, they provide essential services and the barriers to entry for general investors are high. At the same time, they offer inflation linkages and predictable cash flows,” she says.

The need for private equity to join with public funding to get infrastructure built has been growing. Governments are strapped after taking on debt during the pandemic, and as vital systems that keep the world running grow old, become outdated or simply break.

The Global Infrastructure Hub, a not-for-profit organization formed by the G20, reported as far back as 2018 that the world will require global infrastructure investment to the tune of US$94 trillion by 2040 just to keep pace with population growth, economic and technology changes and gaps in upkeep.

Global infrastructure investment gap

The hub also forecasted a global infrastructure investment gap of about US$15 trillion by 2040 — equal to 16 per cent shortfall in what governments can pay. Meeting the United Nations Sustainable Development Goals (SDGs), considered vital to limit the extremes of climate change, raises this gap to about $18 trillion, the global hub says.

Private equity funds are needed to fill this gap as governments face limits on how they can fund infrastructure in an economy where interest rates have climbed steeply since 2022, raising governments’ own borrowing costs.

Other options are unpalatable too — increasing deficits and debt could fuel inflation and higher taxes are politically risky and put even larger burdens on already-stressed taxpayers.

Meanwhile, the need for action keeps growing. Brookfield Asset Management, which runs the world’s largest private equity fund focusing on energy transition, has noted that in the United States alone, 70 per cent of America’s electricity grid is into the last half of its lifespan and power outages are taking place more frequently.

“There’s a lot of activity and interesting opportunity for private equity investment in energy transition,” says Byron Monaghan, assistant vice-president, investment director, alternative investments, Mackenzie Investments. Mackenzie offers the Mackenzie Northleaf Private Infrastructure Fund, which it co-manages with Northleaf Capital Partners.

“In addition to maintaining and enhancing the grid, there’s big activity in energy moves such as the development of renewable power, and the expansion of electric vehicle charging stations,” Monaghan says.

But, Monaghan cautions that, “You have to pick your spots and not throw money blindly at different assets.”

Private equity infrastructure investments take a long-term approach, adds Jamie Storrow, managing director at Northleaf.

“They tend to have long physical asset lives, stable operating cashflows and they tend not to be highly correlated to broader macroeconomic cycles,” Storrow says. These investments aim to avoid the wilder ups and downs of the markets and have low volatility, he explains.

The digital revolution is another promising area for private equity infrastructure investment, Ng says. Nicola Wealth’s Infrastructure and Renewable Resources Limited Partnership fund offers investors access to investment in digital assets such as fibre optic networks, telecommunication towers and data centres.

Data centres are increasingly vital parts of infrastructure as artificial intelligence and cloud storage take over more and more aspects of daily life, she says.

“Data centres have a life of 30-plus years, they support email, websites, online transactions — all of which need more and more storage. Our fund invests in providing this under 30-year contracts with credit-worthy partners — the big tech companies we all have heard of. Our investments provide the power, the cooling and security for that equipment,” Ng says.

One part of the due diligence involved in private infrastructure investment is to consider the particular risks that come from working such large undertakings that also involve government funding and support.

Ng and Monaghan acknowledge that there are many stories of infrastructure boondoggles — transit lines that take forever to get built, megaprojects that get stopped when new governments come in, cost overruns and more.

“These kinds of risks from geopolitics, natural disasters, drastic regulatory changes and so on are all that can impact infrastructure investments,” Monaghan says.

“They can’t be avoided entirely, but to some extent you can protect against them by avoiding projects that involve countries with unstable governments and legal systems,” he says.

“It’s also increasingly important to look at ESG (environmental, social and governance) factors as part of due diligence to making the investment,” he says. “And then, once the investment is made, you want to ensure that you’ve got the right management team in place. You can also look at measures such as insurance and hedging,” he adds.

“To avoid these kinds of risks, we target OECD countries (members of the mostly wealthy Organisation for Economic Co-operation and Development, which includes Canada),” Ng says. And we work with fund managers who have knowledge of the regions and the sectors, so they know how to mitigate the risks,” she adds.

The low volatility, stability and disengagement from the turbulence of the everyday markets has made private equity infrastructure investment attractive to huge institutional investors such as pension funds. These investments should be attractive to other large investors, such as family offices, too, Ng says.

“These investments sit somewhere on the spectrum between fixed income and traditional, more general private equity. I think there’s a place for private equity infrastructure in all kinds of portfolios,” she says.

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