Infrastructure: financing driven by innovation and ESG

Rising interest rates have benefited infrastructure debt funds, providing fund managers with numerous opportunities in the secondary market. The energy and digital transition will require the mobilisation of institutional investors and all sources of savings. To convince them, fund managers are focusing on sustainable development, the fight against global warming and innovation. Bérénice Arbona, head of the infrastructure debt team at LBP AM, looks at how she perceives and addresses these new challenges in her investment decisions.

The paradigm shift in interest rates has not dampened investors’ appetite for infrastructure. While it is true that equity infrastructure funds were able to attract substantial investment until recently, infrastructure debt is now proving more attractive. The return on infrastructure debt is based on the interest rate plus a credit margin. With the rise in interest rates today, the yield offered on infrastructure debt is equivalent to that offered by certain core infrastructure equity funds a year or two ago. The relative value of the debt sub-class within the infrastructure asset class is higher today. It is therefore attracting new categories of investors. With yields of 6% on senior debt and between 8% and 10% on junior debt, family offices are showing interest in the asset class. It is worth noting that this defensive asset class is invested in real assets and can also help with the energy transition and have a social purpose. Even though in absolute terms, the market is becoming more complicated due to the denominator effect, the economic climate has never been so favourable. Institutional investors have less money to allocate to this asset class and have reinvested in liquid assets whose yields have become attractive again. To attract institutional investors, we need to continue to deliver the promise of a complexity premium and an illiquidity premium, which form the value proposition for our asset class. In terms of investment, we have seen fewer opportunistic refinancing deals and a slowdown in mergers and acquisitions. Generally speaking, deals are taking longer to exit as we adapt to the new economic environment. Conversely, our project portfolios remain robust, and the pipeline of new transactions is strong.

“Financing requirements for energy transition infrastructure in France are expected to rise to €60 billion a year in the coming year”

At the InfraWeek meetings held on 10 October, the French Minister for Industry indicated that France’s energy transition infrastructure financing needs will amount to €60 billion per year in the coming years. This compares with the €4 billion invested in low-carbon infrastructure in 2022. The energy transition represents a huge challenge and a new industrial revolution. Investors are aware of these challenges and the opportunities they present, but they require returns and a track record to make an investment decision. If, on top of these two conditions, an investor can justify investing in solutions that comply at least with Article 8 of the SFDR regulation – or even Article 9 – and have impact, this will be an additional argument in favour of the investment. In this context, the management company must be credible in terms of ESG and have the capacity to produce robust non-financial reporting. In our view, this requires resources and data processing for the entire portfolio, as well as a detailed non-financial analysis that includes negative externalities in addition to traditional legal and financial analyses.

Last year, we launched our first unit-linked infrastructure product, which proved very popular with the general public. There will undoubtedly be more. This asset class is attractive for retail investors. However, for fund managers, it means establishing a mechanism to ensure liquidity for the end client. 
We are in a rare moment where the financial response is ahead of the political response. While the Taxonomy helps guide investment and funding, investors of all kinds are well aware that if they want business models to change, they must allocate the necessary resources. This is a real paradigm shift that will have to be brought about in a very short space of time.    

“It is through innovation that we can create value for investors.”

Diversification remains essential for investors. It means combining different geographical, sectoral and risk profile criteria to find transactions offering the best risk/return ratio on the market while being in line with investors’ strategies. We have launched an Article 9 impact fund that finances projects offering solutions for decarbonisation, electrification and energy efficiency. More recently, we launched a €1 billion Article 8 impact fund that will invest in both pure-player projects and traditional infrastructure with a commitment to a decarbonisation trajectory. This is also how we generate impact.

It is through innovation that we can create value for investors. However, to finance innovation, managers need to be well equipped. They must analyse the technical, regulatory and financial complexities of this innovation in depth.  

“It is essential for fund managers to be made aware of non-financial criteria.”

While most infrastructure funds fall under Article 8, we were keen to launch an Article 9 impact fund. This is the most demanding level, in line with the Group’s and our management company’s convictions. Nevertheless, this fund is diversified: currently, only one transaction corresponds to a renewable energy project, while the others are in line with various aspects of the energy transition. These include energy efficiency, electrification and the circular economy. Additionally, the concept of impact necessitates the definition of KPIs (key performance indicators) that can be monitored over time and are therefore based on reliable data – a significant challenge in itself. We have therefore developed the necessary tools to manage these KPIs. With this in mind, we cannot limit ourselves to what our borrowers tell us; we must be able to control the KPIs based on the data collected.  

They are carrying out increasingly detailed non-financial due diligence in line with SFDR requirements. We must demonstrate the tools used by the funds and provide examples of impact reports. In this context, we believe that SRI should permeate the entire management company, not just a dedicated department. We have developed our own tools, and each manager must master them, as they are the first level of screening in the selection process and in discussions with borrowers. It is crucial that managers understand non-financial criteria.  

Find out more about the "Great Infrastructure Debate" on the Option Finance website (French only)