Closing Africa’s infrastructure gap

According to the World Bank, closing Africa’s infrastructure quantity and quality gap has the potential to increase GDP per capita by as much as 2.6% per annum.

Infrastructure development allows for the delivery of goods and services that promote prosperity, growth and contribute to quality of life for Africa’s burgeoning populace.

Historically, governments have borne the responsibility for infrastructure development as it is typically considered a “public good”. 

However, in most African states, governments are struggling to keep up with the level of development required and alternative sources of funding are needed.

Institutional investors are increasingly seen as natural funding partners given their long-dated liabilities that seek inflation-linked assets. 

But not all infrastructure assets offer the virtues of inflation hedging. 

It is important for investors to understand the different categories of infrastructure, as well as the life stages of their development, as these result in different cash flow risk profiles. 

There are two main types of infrastructure investment – greenfield and brownfield.

Greenfield infrastructure refers to the creation and construction of a new asset. 

For investors, inherent risks of these projects include construction risk, performance risk and off-taker risk. 

The creation of the asset primarily involves funding the project, with risk of the project not reaching a stage of being commercialised. 

At this stage of development, the infrastructure asset would not manifest any inflation-hedging features.

Brownfield infrastructure investment refers to existing and ready-to-operate infrastructure assets. 

These assets can potentially generate revenues. 

Given that the infrastructure now exists and is in use, the risks of investing into this project are substantially less than a greenfield project. 

Because many infrastructure assets have monopolistic features (e.g. a toll road that all road users must utilise to access a specific town), cash generation for such assets is easy to model. 

Brownfield infrastructure investments are also often scalable; by enhancing the facilities, greater output can be produced and therefore greater cash flows. 

These features allow for the cash flows emanating from brownfield infrastructure investments to be modelled to escalate or be linked to inflation, and the cash flows can be used to match long-dated liabilities driven by the long-dated nature of the operating capacity of most infrastructure assets.

With an understanding of the fundamental merits of the asset class, prudential institutional investment requirements might preclude them from taking up exposure to a single asset (e.g. one toll road) and they could invest in a diversified portfolio of infrastructure assets. 

This can be achieved by investing in a fund, where the fund is able to give investors diversified exposure to the asset class. However, most infrastructure investments are classified as unlisted investments. 

Additional routes to investments would be to expose their capital to listed public equity investment opportunities that provide the investor with exposure to infrastructure assets, such as Umeme, Uganda’s main electricity distribution company, listed on the Uganda Securities Exchange and cross-listed on the Nairobi Securities Exchange. 

Umeme operates a 20-year electricity distribution concession, which was effective from 1 March 2005, from the government of Uganda. 

Institutional investor exposure to infrastructure has historically been via fixed income, where long-term investors have invested in infrastructure or project bonds and where these fixed income securities are underpinned by the cash flows of a ring-fenced infrastructure project(s). 

Most institutional investors are relatively risk-averse and may not have investment mandates allowing for investing in unlisted instruments. 

Thus, for long-term savings to be channelled towards African infrastructure assets, the investment mandates (inclusive of the regulatory thresholds) would need to be revised to accommodate investments in unlisted instruments, including infrastructure assets.

In addition to revised mandates, institutional investors would benefit from the creation of an African infrastructure performance benchmark which would improve their ability to allocate and evaluate investment opportunities, monitor the performance of their infrastructure investments against the benchmark, thus increasing the investability of infrastructure. 

RisCura has partnered with Africa Investor to launch Africa’s first infrastructure performance benchmark, which should facilitate increased investment into African infrastructure. 

The index allows investors to assess likely returns if they are considering investing in this asset class. 

Historical returns to be measured by the benchmark include a default risk. 

There is generally a perception that African infrastructure may be riskier with lower returns, however, traditionally infrastructure on the continent has a low reported default risk; therefore there is a difference in the real risk versus perceived risk in the asset class in an African context which investors need to be aware of. 

In time, the index should contribute towards closing Africa’s infrastructure gap and help boost economies across the continent. 

Gerald Gondo is business development executive at RisCura. 

This article originally appeared in the Collective Insight supplement in the 9 May edition of finweek. Buy and download the magazine here or subscribe to our newsletter here.