Predictably, President Cyril Ramaphosa’s Economic Reconstruction and Recovery Plan placed a grand R1trn infrastructure plan (leveraging up to R660bn of ‘crowded in’ private sector capital, or so it is hoped) at the centre. But plans are wearing thin and only execution matters at this late stage, to pull South Africa back from the brink of failed statehood.
Catalyst sat down with one of the leading infrastructure-focused general partners, Harith – the country’s second largest defined benefit fund, The Eskom Pension and Provident Fund – and private equity advisory firm, RisCura, to thrash out what happens next to unblock the constipated infrastructure pipeline.
Harith General Partners started investing in infrastructure in 2007.
Emile Du Toit, MD: Fund Raising and Liabilities Management at Harith General Partners, is as credentialed as they come in this space, having headed Corporate Finance at the Development Bank of Southern Africa in South Africa for several years before joining Harith in 2011.
Harith manages two pan-African infrastructure funds with a combined commitment value of just over US$1bn.
“And our investors are all African-based investors as well,” Du Toit points out.
“We've had 13 years of experience investing in various infrastructure projects, ranging from power to transport to telecoms and, by and large, the experience has been exceptionally good. Early on, we clearly had some lessons to learn about how to invest in certain parts of Africa. But over the period, we've managed to hone our risk management skills and identify the projects where we can provide good risk-adjusted returns to our investors, the bulk of which are pension funds and DFIs. It's important for us to ensure that we provide those long term consistent cash flow returns, and that the risks are well mitigated. Whether you talk political risk or currency risk. Those are really the value adds that we have as portfolio manager.”
But what about COVID’s impact on the asset class?
“I think as we've seen coming through this COVID period, our entire portfolio has held up extremely well,” says Du Toit. “There are obviously some elements of longer-term impacts on power projects, for example, but where we've seen the biggest impact is in a certain section of the transport sector, which is the airports. We are also a big investor in Lanseria and that's clearly been severely impacted by the COVID crisis.”
Du Toit hastens to add that the rest of the portfolio is benefiting from the fact that infrastructure assets are, primarily, essential services; whether its power, fibre telecoms, water, or transport such as ports, which has meant that it has proved to be a very good defensive asset class, especially for pension funds.
“Our argument has always been that infrastructure is the foundation of all other asset classes. In order for other assets in your portfolio to grow, you have to have sustainable infrastructure in the country or region where you are investing.”
And the proof really is in the fact that Harith has almost fully invested its second fund and is starting a new fund-raising cycle.
In the South African environment, pension funds are increasingly looking at this space, perhaps driven by where South Africa finds itself.
Du Toit says he’s seen different countries on the continent going through these cycles, and he believes that the South African space is opening up and becoming a very large area of potential investment for Harith in the future.
Ndabe Mkhize is Chief Investment Officer of the Eskom Pension and Provident Fund, which is a giant on the African continent with more than R150bn of assets under management (AUM) and more than 80,000 members.
“We have responsibilities to our members to manage our assets responsibly,” says Ndaba. “We have to invest for the long term and to ensure we have enough assets to meet our liabilities as they fall due. We look at assets that diversify our exposure. Infrastructure and real assets like property are good assets because they provide high returns, double digit returns, and lower risk. If you look at private debt, it tends to have lower loss ratios than some of the corporate debt [being offered].”
Ndaba points to the economic multipliers as a key non-financial metric that is attractive to the EPPF because it offers the ability to have job-creating growth and drive impact, especially as the country is looking to catalyse growth in the wake of COVID-19.
“Infrastructure assets will be able to give us that push to restart the economy. More importantly, our members don't have to wait for retirement before they start enjoying the benefits of the pension fund. They can start enjoying exposure to some of the investments we are making, be it in affordable education and affordable healthcare under the social infrastructure bucket, or the economic infrastructure in renewable energy or in telecoms and transport [such as] in dry ports. The Canadians, the Australians and other international pension funds have been playing this game for a long time and we just need to catch up with them.”
And the reason that South Africa has been lagging behind the rest of the world when it comes to private sector participation in public infrastructure is largely a legacy of the apartheid era, when state-owned enterprises were created to insulate the country from sanctions and wound up dominating their vertical sectors and becoming monopolistic behemoths; a structural feature of the South African economy that worked well when these behemoths were better managed and also enjoyed the added benefits of artificially cheap inputs in apartheid-era labour and sweetheart iron ore pricing for steel, for example.
“So the development of new projects or sponsors coming to market, pitching new projects, has not really been as active in SA as other places,” says Du Toit. “But with the position we find the country in at the moment, and with government opening it up to more public private partnerships, I think these opportunities will open up.”
And the belief is that, despite the political and currency risk that South Africa presents, investors will go where there are good opportunities to invest and where the ground rules are known.
“I think we are in a very exciting stage in SA, where a lot of people are willing to look at these projects,” says Du Toit, referencing some of the recently gazetted Strategic Infrastructure Projects. “Clearly, some development of projects needs to take place. That's often been a bottleneck in many places, and especially in SA. But I don't think those stumbling blocks are very difficult to overcome. We've been looking at the South African market for a long time and we've probably invested about 20-25% of our portfolio already in SA, and we potentially see that growing going forward.”
Ndaba adds the fact that the asset class lacks profile among pension funds trustees as a key choke point to its growth in the past.
“The availability of bankable projects, as well. I would also add that we've also seen high due diligence costs. Information asymmetry, meaning the person who is selling the infrastructure project knows more about it than you do, as well as the lack of skills to be able to analyse the proposal being made by private equity or private markets players, and to see whether those are relevant to the pension fund. We believe, though, that those challenges can be overcome.”
One of the biggest recurring themes that Ndaba says he has seen in South Africa and across the continent is the trust deficit between members of pension funds and government and the public at large. “People do not trust their governments,” he says bluntly. “They know that they need things like energy and digital healthcare, but they don’t trust that government will be able to do what it says it will do.”
It’s unfortunate for the African continent because we are seeing international players investing in this asset class and, therefore, benefiting their economies.
So what has to happen to shift the narrative?
Ndaba believes that the creation of something akin to an asset owners’ forum, where the pension funds and other institutional investors can come together and talk peer to peer (when you are not listening to a ‘silver-tongued private equity player trying to sell you something’) is a step in the right direction.
“And finding a way of sharing those high due diligence costs in financial, commercial and legal aspects, being able to negotiate even more meaningful fees with those private equity players, and to upskill the trustees at the same time. And lastly, to be able to engage with government so that the trust gap can be closed. To look at the terms to make sure there is transparency and good governance. We believe that it has to be done and we cannot sit on the sidelines and wait for government to be trustworthy. The large institutional investors need to come together with a plan and make sure this asset class is understandable.”
On the point of ensuring that there is no ambiguity about what needs to happen, the Association of Savings and Investment South Africa (ASISA) recently introduced the infrastructure standard.
ASISA is a non-profit company formed in 2008 to represent the savings, investment and insurance industry that contributes trillions of rand to South Africa’s economy. Some put the AUM of its collective memberships at R8trn.
Heleen Goussard, Head of Alternative Investment Services at RisCura, believes that ensuring clarity will help guide decision-making and improve allocation to the asset class into the future.
“When we say we want to increase the funding that goes to infrastructure, the first thing we've got to do is decide, what does infrastructure mean? So that when we speak to an investment fund that is offering its product to the market, for example, and they say this is an infrastructure product, we know we are talking the same language when we go from one fund to the next fund. In addition, when asset owners, like the pension funds, want to report, there is some consistency on what that means,” says Goussard.
Infrastructure, like most other asset classes has some overlaps and, in some areas, it does not appear immediately apparent whether it is part of the asset class. There is also a debate about whether it is indeed an asset class or whether it's an investment theme, which is not necessarily the most relevant.
“In the longer term, once we know what it means, we can then report on levels of current exposure and ongoing exposure,” explains Goussard.
“Then, even longer term, we can start reporting on returns of the asset class.”
This also allows us to start analysing the risk profile against performance and whether the two match up for investors.
The bottom line for Du Toit is that capacity exists to speed up delivery, and South Africa needs to leverage the skills that it has in the country.
“There is a significant skills base in the private sector,” says Du Toit, “in private equity fund managers like ourselves, or within the banks who have been significant providers of infrastructure debt, for example, on the continent and in South Africa. And then we also have a very strong legal profession, in terms of expertise in structuring these projects. The real difficulty is that pension funds will find it very difficult to invest directly into greenfield infrastructure projects because of the level of financial and legal structuring, which is extremely complicated. Sometimes, it takes us three to four years to finalise a project before we can start building.
Government needs to even the playing field, firstly, between the public and private sectors so that, for example, areas where Eskom and Transnet have had a monopoly are opened up to the private sector on a competitive basis.
“The real issue is that if you offer infrastructure projects on a competitive basis, you will find the capital chasing those projects. And ultimately, what you do is you bid on the end price of the infrastructure, so you get private sector players bidding for the lowest possible provision of infrastructure to the public, at a very high quality. And the benefit in structuring it that way is that you don’t have these risks on cost overruns and time overruns that we've seen in some of the large public sector projects. There just needs to be good differentiation between who the players are, what the rules are, who the referees are, and the fact that government can't be all three.”
Has the president’s plan assuaged those concerns? Only time will tell.