The sustainable infrastructure conundrum: a lack of finance or projects?

As the EU’s new InvestEU initiative to boost sustainable infrastructure investing has been preliminarily agreed, Responsible Investor asks what is really needed to address the bottlenecks holding back private investments.

The EU is planning to bring together its flurry of financial instruments supporting private investments under one roof. Sustainable infrastructure will be a key focus of the new InvestEU programme, which moved closer towards becoming reality in March when the European Parliament, Commission and member states reached initial agreement on the initiative. InvestEU builds on the so-called Juncker Plan or Investment Plan for Europe launched in 2015. The Commission’s flagship European Fund for Strategic Investments (EFSI) – also known as the Juncker Fund – will effectively be expanded and rolled into InvestEU, alongside other smaller funding and technical assistance initiatives with a focus on infrastructure. The rationale behind InvestEU, which is proposed to run during the EU’s next 2021-2027 long-term budget period, is to make these funds easier to access by member states in order to catalyse the finance needed to plug the investment gaps in, for example, sustainable infrastructure. Expanding the EFSI, for which sustainable infrastructure is a priority sector, means EU funds will continue to address some of the factors holding back investments in the sector, such as a lack of investor appetite for certain technologies and regions perceived as too risky for some without the guarantee of a public institution. Figures, however, indicate the fund has been successful. By July 2018, the EFSI had met the goal set out at its launch in 2015 of mobilising €315bn of capital into infrastructure, innovation and SMEs.
But some argue the EFSI hasn’t done enough and is focusing on projects that would have been financed without its involvement. A special report on the EFSI, published on 29 January by the European Court of Auditors (ECA), said some EFSI financing “just replaced other EIB and EU financing” and “part of the finance went to projects that could have used other sources of public or private finance”. It also noted that most EFSI investments went to a few larger member states, rather than to projects in countries with poorer access to investment. Furthermore, the EU High-Level Group onSustainable Finance (HLEG) said in its final report in January last year that infrastructure made up less than one-fifth of EFSI’s commitments as of November 2017.
But this could be about to change.
InvestEU promises a stronger focus on climate protection and on projects that would otherwise be difficult to finance: “At least 55% of the investment under part of the programme reserved to support sustainable infrastructure was set for climate and environment objectives,” says a press release published by the European Parliament in April after it approved a provisional InvestEU agreement.
But some market participants wonder if InvestEU might be missing a trick. Institutional investors often say there isn’t a lack of capital for infrastructure, but too few projects to invest in. And on the face of it the InvestEU provisional plan puts relatively little emphasis on addressing the supply of infrastructure projects, although it highlights its Advisory Hub will provide “technical support and assistance to help with the preparation, development, structuring and implementation of projects, including capacity building”.
The relative lack of focus on promoting project development is arguably not in line with HLEG’s sustainable infrastructure observations and suggestions. In its final report, HLEG said: “Access to capital is not the most pressing issue, and many large-scale private funds stand ready to invest in viable infrastructure projects,” Recent announcements by major institutional investors support this statement. Norway’s sovereign wealth fund NBIM recently expanded its mandate to include unlisted renewable energy infrastructure. Sweden’s AP pension funds were from this year given the go-ahead to increase exposure to illiquid and alternative assets such as infrastructure. They join a long list of pension funds with significant investments in sustainable infrastructure such as renewable energy. To improve the pipeline of investable projects, HLEG proposed launching a new body called Sustainable Infrastructure Europe. In a set of proposals, HLEG
specifically focused on boosting project development capacity, citing an “urgent need for interventions at both macro and project level to help develop investment frameworks and to more rapidly build complex infrastructure”. It highlighted central and eastern Europe as an area where infrastructure investment is lacking.
“There are too few projects. The supply just isn’t there,” says Magnus Billing, CEO of Swedish pension fund Alecta and an HLEG member. Billing, HLEG’s only pension fund member, belongs to the group of institutional investors yet to invest in infrastructure despite thinking the asset class suits Alecta’s long-term investor mandate.
In addition to facilitating project development, he explains that HLEG wanted Sustainable Infrastructure Europe to act as an aggregator and consolidator of projects across Europe to “give investors transparency on what’s actually out there”. When asked why the proposal wasn’t highlighted in the Action Plan, he says: “I don’t know, but I agree with you that the Commission focused on other proposals”. He adds that the Commission might be confident it already has instruments and initiatives through which it can address HLEG’s concerns. A Commission spokesperson confirmed Billing’s view: “Our priority is to avoid having several types of instruments or new structures,” the spokesperson told Responsible Investor, adding that its conclusion with regards to Sustainable Infrastructure Europe was to make necessary changes in existing EU programmes: “For example, the current EFSI and the European Investment Advisory Hub are already supporting, through the provision of advisory support and finance, sustainable infrastructure projects across EU member states”.
Billing doesn’t rule out that existing mechanisms can help address the lack of projects, but other observersare less optimistic. “I’m very disappointed,” says a low-carbon infrastructure expert who preferred not to be named. “When I saw the Sustainable Infrastructure Europe [proposal] I thought ‘finally’ – this validates what I’ve been working on for years, the gap isn’t finding money but finding projects. But in the Action Plan on Sustainable Finance (the HLEG output) this has been reinterpreted into something very fluffy. It seems like it just fell through the cracks and it’s a complete collapse of the [original] recommendations.” He adds that the ELENA programme, which provides grants for technical assistance focused on the implementation of energy efficiency, distributed renewable energy and urban transport programmes – is not yet sufficient and its potential has not been maximised.

“It seems like it just fell through the cracks.”

Comments made by José Manuel Entrecanales, chairman of Spanish energy and infrastructure developer Acciona, after the action plan launch in March last year echo these concerns: “Europe shouldn’t forget its greenfield investors, because we are a key element in this equation,” he said. Equity investments in the development of new projects “is what is really going to make a difference”, he added. The Commission spokesperson said its work on the Green Taxonomy in the Action Plan will help to boost the pipeline of green projects and activities: “In addition, as part of the Juncker Plan we set up the European Investment Project Portal which provides visibility to projects for investors,” the spokesperson said. As of March this year, 1,270 projects had been submitted to the portal, which acts as a matchmaking service between EU-based projects and potential investors worldwide. Some market participants
believe the main issue is still investment demand for sustainable infrastructure. “There are lots of projects,” says a UK-based energy and infrastructure lawyer. But some investors might struggle to find something that fits their risk-return profile. No investor can consider the entire pipeline, and many investors think EU-backed projects provide extra certainty if they consider investing in a project with more risk attached to it than the investor would normally accept, the lawyer says.
EU platforms such as the EFSI and EIB have been crucial to catalyse finance in these markets where projects existed and finance did not, the lawyer adds. A key example of this is the UK’s offshore wind transmission owner (OFTO) tender programme, where energy regulator Ofgem in 2009 launched auctions of equity stakes in the transmission infrastructure for some UK offshore wind farms. The EIB provided project finance debt for a raft of these assets, which contributed to private investors feeling more comfortable with the projects, the lawyer adds. “OFTOs literally wasn’t a market before the EU got involved [on the financing side] – then it became de-risked and a mainstream infrastructure investment.” Private investors in UK OFTO’s since the market’s inception include Aviva Investors, Dalmore Capital, Legal & General Investment Management, InfraRed Capital Partners and Equitix.
Sticking to the transmission theme – an area where many European states are lagging behind and struggling to rapidly expand and upgrade their grids – the EU Connecting Europe Facility funding instrument has also proven crucial in the development of cross-border electricity interconnectors, the lawyer says. In addition, the introduction of the EFSI meant the EIB could expand its mandate to invest in a broader range of sustainable infrastructure projects, explains Gregor Paterson-Jones, an independent consultant and former EFSI committee member: “The advantage of EFSI is that they had the existing EIB platform – an origination machine of projectscoming to it,” he says. But the EFSI allowed for other investments than the EIB; it would accept lower credit ratings and riskier investment profiles. He explains that “pretty much all of the EFSI projects wouldn’t have been financed by the EIB before as they would have been too high risk – they would have been classified as ‘special activity’ as it is called in EIB terminology.” Whether or not a project is a special activity is based on the EIB’s internal credit rating model, he says. The increased risk appetite was highlighted in the January ECA report, which said EFSI support enabled the EIB to achieve a four-fold increase in its higher-risk financing compared with 2014. But it noted that the value of riskier financings signed by the EIB was lower than originally planned. The question of whether private investors would have invested in the EFSI-backed projects without the fund’s involvement is more difficult to answer, Paterson Jones admits. Determining the additionality of an investment is notoriously difficult, and most national initiatives to boost sustainable infrastructure investing – such as the previously government-owned UK Green Investment Bank – have also been criticised for not being additional enough. However, Michael Ebner, head of infrastructure at German asset manger KGAL says the EFSI-backed seed investment in its latest ESP4 renewables fund significantly expanded its investor universe and helped it attract new institutional investor LPs from outside Germany. “It helps medium-sized asset managers like us to gain traction on the international fundraising side,” he says. “This is the key idea – not to flood the market but to help find new [private] investors.”
Billing at Alecta agrees that co-investments by multilaterals and public institutions provide some extra security when considering a long-term infrastructure investment. But this isn’t the key thing holding Alecta back from infrastructure, he says: “Prices in this asset class are often very high: this isn’t a buyer’s market. So, it all comes back to the lack of supply, and demand exceeding supply.”