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There continues to be a disconnect between public and private markets across the listed infrastructure investment company universe, despite several companies offering attractive return profiles and yields.
3IN CORD GCP UKW GRID HICL INPP ORIT PINT SEIT SEQI TRIG ENRG
This report features 249 investment companies and includes Board composition, fees/total remuneration, the value of personal shareholdings and length of tenure and where disclosed, managers’ investment. We also feature progress toward the FCA’s Diversity and Inclusion targets. Since our inaugural Skin in the Game report in December 2010, we have witnessed two seismic changes: Firstly, it has become the accepted norm for Boards and managers to have a reasonable investment in companies. For those Board members with no investment (after an initial grace period), this stance does not sit easily with the degree of commitment now expected by most shareholders. We have certainly come a long way since our first report, when the views of many were summed up by one offshore director who berated us after publication, saying “I’m on so many Boards, I couldn’t possibly have an investment in all of them!” Secondly, there has been significant progress in improving Board diversity, including achieving greater gender balance. In 2022, the FCA published Diversity and Inclusion targets along with transparency rules that require all UK-listed companies, including investment companies, to disclose in their annual financial reports, on a comply or explain basis, whether they have met diversity targets. These were: at least 40% of the board are women; at least one of the senior Board positions is held by a woman; and at least one member of the Board is from a non-white ethnic minority background. We find that: 43.8% of investment company directorships are now held by women, compared to just 8.0% in 2010, and this is broadly in line with the latest FTSE Women Leaders Review published in February 2025, which found that women held 43.4% of FTSE 350 Board roles. In addition, 72% of investment companies have achieved the at least 40% target. Meanwhile, the number of all-male Boards has fallen from 159 in 2010 (almost two-thirds of our original survey), to just 12 (or 4.8%), and many of these companies are facing existential challenges. 41% of senior Board positions are held by a woman, while 80% of investment companies now meet the FCA target. 64% of investment companies now have at least one individual from a minority ethnic background, compared to 29% in May 2023 (we note that in our last report, 40% of companies had not disclosed, while this has now fallen to just 4%).
3IN ASL AAIF ADIG API ATT AIE AGT BGCG BGEU BGFD USA BBH BPCR BIOG BRFI BRSC THRG BRWM BSIF CLDN CTY CORD DGI9 DIVI EDIN EWI EOT FCIT FAIR FAS FCSS FEV FSV FGT FGEN FSFL GABI GCP GRP UKW GRID HVPE
In this note we explore the challenging market backdrop behind the persistent discounts, the potential for corporate activity to increase, our core picks and tactical opportunities, and key characteristics that might appeal to acquirors. We also look at the merits of reporting operational metrics and potential benefits of management internalisation.
3IN BBGI CORD GRID HICL INPP ORIT PINT SEIT SUPR TRIG ENRG
At an Association of Investment Companies (AIC) Directors Conference in October 2023, we said that the investment company industry was experiencing a perfect storm, and undoubtedly a key driver was a flawed cost disclosure regime that had exacerbated the sell-off, particularly amongst Alternative Investments. At that time, we concluded with a blunt warning that there was no room for complacency or poor market practice and, with discounts approaching multi-year highs, we said it was inevitable that this would attract both arbs and corporate buyers. Although we had assumed that our candid message would leave us persona non grata, we were invited back to give an update to more than 500 Board members at the latest AIC conference earlier this month. Time had not mellowed our message though, and we spoke about how the cost disclosure regime has continued to wreak havoc, with significant numbers of institutional investors having either reduced exposure or walked away entirely saying that they will not be coming back until this issue is resolved; for many investors, investment companies are now uninvestable. We spoke of our frustration that the Financial Conduct Authority (FCA) has chosen to ignore the unprecedented response by the industry in January 2024 (see Strong industry support for a simple solution to address the regulatory asphyxiation of the investment company sector), and the significant damage that has clearly already been inflicted, when it launched the Consumer Composite Investments (CCI) consultation in December 2024. This consultation effectively reversed the forbearance given just a few weeks earlier and confirmed that investment companies would be incorporated in the CCI regime and would feature continued aggregation, although somewhat extraordinarily, passive investments are excluded from this requirement. We find it incredibly disappointing that the opportunity to develop and cultivate a true bespoke solution within the new regime has not been realised. The CCI Consultation Period closes on Thursday 20th March, and it is critical that all industry stakeholders now engage and again send the strongest message to the FCA. This is a seminal moment for the UK closed end industry, and we fear that we will look back in years to come and regret not taking a more robust stance. While the consultation spoke about improving the competitiveness of UK capital markets and promoting growth, these proposals will inflict further substantial damage on the closed end industry, and in our view, perhaps threaten its very existence. We have attached a link to the Joint Industry Consultation Response (click here). If you would like to sign this joint submission, please send an email to Ben.Conway@hawksmoorfm.co.uk, advising how you would like to sign it (i.e. name, position, company). In addition, if it is possible, we believe it would be very constructive if you could submit a short Impact Statement detailing how the regime has impacted your business. In order to collate signatures, our deadline is midday on Thursday 20th March.
3IN ASL AAIF ADIG ASLI API ATT AIE AGT BGCG BGEU BGFD USA BBH BBGI BPCR BIOG BRFI BRSC THRG BRWM BSIF CLDN CTY CORD DGI9 DIVI EDIN EWI ESP EOT FCIT FAIR FAS FCSS FEV FSV FGT FGEN FSFL GABI GCP GRP UKW
Investec view: In our report, Time to man the barricades against an egregious and opportunistic attack, but also for some industry self-reflection, we expressed deep concerns about Saba’s proposals, which in our view, went beyond the “greenmail” that Warren Buffett had previously described as “odious and repugnant”. We highlighted how Saba had failed to provide even basic information on key fundamental issues while, given bewildering corporate governance proposals, we questioned the level of shareholder protection should Saba be successful. Last Friday, shareholders of Edinburgh Worldwide voted decisively against all the requisitioned resolutions. In the initial salvo, not only has Saba lost 7-0, but the magnitude of the defeat in each case, sends a strong message. Despite claims of significant support, the total value of shares, from the “miserable seven” companies, that supported Saba was a rather miserable c.£16m vs. an aggregate market capitalisation of £3.7bn. While Saba has appeared intoxicated on US exceptionalism, the first wave of the campaign has been a spectacular failure, which appears only to have succeeded in galvanising an entire industry against it. Given this backdrop, a rethink was urgently required by Saba, and we didn’t have to wait long to find out what it would be. Earlier last week, Saba launched the second wave, which is greenmail, pure and simple. However, in shifting the focus now to open-ending these trusts, Saba again appears to be missing the point. Spurious rhetoric around “trapped” investors and “long overdue liquidity at NAV” strikes a hollow tone given what we see as Saba’s very clear motives, and conveniently ignores the fact that shareholders have deliberately chosen to buy into these closed-ended vehicles, rather than open-ended equivalents, for good reasons. We strongly believe that investment companies have inherent structural competitive advantages that should underpin superior long-term returns. Critically, this includes the ability to take a long-term approach to portfolio management, without having to worry about cash-flows from new investment/redemptions, which are often at the wrong time in the cycle; and this impact is even more pronounced for smaller, more illiquid investments. In addition, investment companies can employ gearing to enhance returns. It was interesting listening to the Annual Investor Meeting of Pershing Square Holdings (PSH.L, Buy) last week, where Bill Ackman spoke about the “enormous competitive advantage of permanent capital”. Maybe, the venerable Mr Ackman is onto something here. While Saba’s initial ham-fisted attack on the UK closed end industry has been decisively repelled, there is little cause for celebration. Saba has quickly modified its strategy, and the industry must accept Saba is unlikely to be going anywhere, anytime soon. Moreover, while discounts remain stressed, there is a clear risk that this may attract further short-term investors. Accordingly, while we have been encouraged by greater proactivity in the past 18 months, including corporate actions, mergers, increased buybacks, tender offers and changes to fee arrangements, it is critical that the industry accelerates efforts to narrow discounts and dampen discount volatility. There can be no room for any further complacency, and the industry must do whatever it takes to ensure a perfect storm doesn’t become an existential crisis.
3IN ASL AAIF ADIG ASLI API ATT AIE AGT BGCG BGEU BGFD USA BBH BBGI BHMG BPCR BIOG BRFI BRSC THRG BRWM BSIF CLDN CGT CTY CORD DGI9 DIVI EDIN EWI ESP EOT FCIT FAIR FAS FCSS FEV FSV FGT FSFL GABI
Castelnau Group - Dignity Farewill share-for-share deal completes3i Infrastructure - Portfolio performance on track GCP Infrastructure - Starting to look more attractive Gresham House Energy Storage Fund - Reduction in fund management fees HgCapital Trust - In its own league at the moment Insider Buying - Management and director dealing activity in January Market Overview
3IN CGL GCP GRID HGT
Investec view: On 18 December 2024, Saba Capital Management (Saba) launched a broadside at seven investment companies, that it has derogatorily referred to as “the Miserable Seven”. Launching a campaign like this over Christmas is a classic activist tactic, clearly designed, in our view, to materially reduce the length of time that these investment companies can engage with shareholders and mount an effective defence. We see this as “greenmail”, pure and simple. However, it goes beyond the “greenmail” that Warren Buffett described as “odious and repugnant” in his 1984 shareholder letter (see Appendix on page 8). In our opinion, this is all about Saba looking to opportunistically take advantage of a UK closed end industry that is enduring a perfect storm, after an extended and exceptionally strong period, and grow its own assets under management. Shocking developments at Keystone Positive Change, where Saba has said they intend to block the winding up of the company and an uncapped exit at a 1% discount, should leave UK investors under no illusions about Saba’s modus operandi. We are deeply concerned about Saba’s proposals on many levels. While the devil is supposed to be in the detail, the latter is conspicuous by its absence. Just how are shareholders expected to make an informed decision with Saba failing to provide even basic information on key fundamental issues including their own track record, future portfolio exposure, fee arrangements, liquidity options and discount control mechanisms. The paucity of information suggests strongly to us that Saba is relying on investor inertia, rather than the strength of its own arguments, for the resolutions to succeed. Do shareholders really believe that they will enjoy the same level of protection if Saba is successful and the current Board is replaced with a two-person Board, consisting of a Saba employee and a Saba nominated appointee? Moreover, should Saba’s resolutions pass, for those managing money on behalf of clients who either vote for Saba, or don’t vote given this information vacuum, how do they justify such a “leap-of-faith” action to their clients? Regarding performance records, Saba hasn’t been shy in lambasting the “Miserable Seven”, based on average discounts and shareholder total returns over the past three years. We note that this period started a few days before a brutal de-rating of the UK closed-end industry, with the transition from the great moderation to a new regime of higher inflation/interest rates and volatility creating exceptionally strong headwinds, particularly for those focussed on long-duration investments and interest rate sensitive asset classes. On p5, we show the long-term performance records of the seven investment companies (10 years or since IPO), discount history and share issuance/buybacks. In our view, an inconvenient truth for Saba is the performance of its flagship Closed End Fund ETF since launch in 2017; the total return is 124% vs. a benchmark total return of 191.1%, with the fund having underperformed in seven out of eight years. Moreover, we highlight that Saba’s two US closed end funds are trading on discounts of 8.3% and 10.5% respectively. We also highlight that the management fee of the ETF is 1.1% of NAV, while the Total Annual Expenses is an eye-watering 5.8%, which reflects the fund-of-funds approach and includes interest expenses Following prior distribution issues, we resend this note, the contents of which are unchanged from the version published at 6:57pm (GMT) on Friday 10th January 2025.
3IN ASL AAIF ADIG ASLI API ATT AIE AGT BGCG BGEU BGFD USA BBH BBGI BHMG BPCR BIOG BRFI BRSC THRG BRWM BSIF CLDN CGT CTY CORD DGI9 DIVI EDIN EWI ESP EOT FCIT FAIR FAS FCSS FEV FSV FGT FSFL GABI ASDTF
Investec view: On 18 December 2024, Saba Capital Management (Saba) launched a broadside at seven investment companies, that it has derogatorily referred to as “the Miserable Seven”. Launching a campaign like this over Christmas is a classic activist tactic, clearly designed, in our view, to materially reduce the length of time that these investment companies can engage with shareholders and mount an effective defence. We see this as “greenmail”, pure and simple. However, it goes beyond the “greenmail” that Warren Buffett described as “odious and repugnant” in his 1984 shareholder letter (see Appendix on page 8). In our opinion, this is all about Saba looking to opportunistically take advantage of a UK closed end industry that is enduring a perfect storm, after an extended and exceptionally strong period, and grow its own assets under management. Shocking developments at Keystone Positive Change, where Saba has said they intend to block the winding up of the company and an uncapped exit at a 1% discount, should leave UK investors under no illusions about Saba’s modus operandi. We are deeply concerned about Saba’s proposals on many levels. While the devil is supposed to be in the detail, the latter is conspicuous by its absence. Just how are shareholders expected to make an informed decision with Saba failing to provide even basic information on key fundamental issues including their own track record, future portfolio exposure, fee arrangements, liquidity options and discount control mechanisms. The paucity of information suggests strongly to us that Saba is relying on investor inertia, rather than the strength of its own arguments, for the resolutions to succeed. Do shareholders really believe that they will enjoy the same level of protection if Saba is successful and the current Board is replaced with a two-person Board, consisting of a Saba employee and a Saba nominated appointee? Moreover, should Saba’s resolutions pass, for those managing money on behalf of clients who either vote for Saba, or don’t vote given this information vacuum, how do they justify such a “leap-of-faith” action to their clients? Regarding performance records, Saba hasn’t been shy in lambasting the “Miserable Seven”, based on average discounts and shareholder total returns over the past three years. We note that this period started a few days before a brutal de-rating of the UK closed-end industry, with the transition from the great moderation to a new regime of higher inflation/interest rates and volatility creating exceptionally strong headwinds, particularly for those focussed on long-duration investments and interest rate sensitive asset classes. On p5, we show the long-term performance records of the seven investment companies (10 years or since IPO), discount history and share issuance/buybacks.
BBSN.L Big opportunities knock RUA.L Abiss a very going concern
3IN BBSN RUA
Investec view: The NAV at 30 September 2024 was 374.7p/share, an uplift of 3.4% over the first half of the year and a total return of 5.1% over the period. The portfolio continues to perform well, particularly the larger assets, which continue to see strong earnings momentum. The weighted average discount rate remained unchanged at 11.3%. The company remains on track to deliver its FY25 target dividend of 12.65p/share, which is 6.3% higher than the previous year and expected to be fully covered by net income. There was outperformance at a number of portfolio companies, particularly Tampnet, Valorem and Future Biogas, whilst its largest investments TCR and ESVAGT both had strong first halves. All investments except SRL (-3.3% asset return) and DNS:NET (0%) delivered a positive total return over the period. SRL performed below expectations in H1 due to a challenging market backdrop, given budget constraints at UK Local Authorities. DNS:NET is demonstrating some early momentum in its FTTH rollout, although the valuation has remained unchanged in recognition of the challenges experienced to date. The €309m of net proceeds for the realisation of its stake in Valorem represents a 31% increase to the September 2023 carrying value (15% to March 2024 carrying value), which is the valuation prior to the commencement of the sales process. Together with the syndication of a stake in Future Biogas at a 15% uplift to its March 2024 valuation (announced in October 2024), this further demonstrates the resilient demand from private market investors for high-quality infrastructure assets. 3IN has constructed an impressive track record of value creation through sourcing attractive opportunities, active asset management, and successfully managing exit processes. The company is currently trading at a c.10% discount to its most recent NAV and we calculate that this implies a steady-state return of 12.3% at the current share price. We reiterate our Buy recommendation. Balance Sheet: At 30 September 2024, the company had drawn £595m on its £900m RCF, which equates to c.17% of NAV. The company expects to receive net proceeds of €309m (£256m at current FX) in respect of the sale of the investment in Valorem in Q1 2025, which would reduce drawn amounts on the RCF to £339m or 9.8% of NAV. The company would also have pro forma available funds of £562m. Continued overleaf
3i Infrastructure PLC
In this note, we review the discount landscape. We also look at continuation votes across infrastructure trusts – with over half of the peer group expected to hold a vote over the next two years – as well as recap on future catalyst events.
3IN AUGM CLDN CHRY CORD GCP GSF UKW GRID HVPE HEIT HBMN ORIT PINT RCP SEIT SEQI ENRG MUMTF
Background:
3i Infrastructure - Binding offer for Valorem stake at 15% uplift to latest book value Oakley Capital Investments - c.£26m investment into Assured Data Protection Insider Buying - Management and director dealing activity in September
3i Infrastructure PLC Oakley Capital Investments Ltd Registered
Digital 9 Infrastructure - Interim results confirm +40% NAV writedown 3i Infrastructure - Portfolio continues to perform strongly Partners Group Private Equity - Sale of Techem at carrying value
3i Infrastructure PLC Digital 9 Infrastructure Plc
Background: An ill-fitting regulatory framework for cost disclosures has generated significant headwinds for the closed-end industry in recent years. When combined with the most challenging of macro environments, this has created a perfect storm. This has seen discounts collapse to the widest level since the global financial crisis; and while there has since been a modest recovery, they remain at stressed levels. Moreover, the elevated discount volatility has led to some investors questioning their future involvement in the sector. Against this backdrop, we were hugely encouraged by the announcement yesterday by HMT and the FCA confirming their commitment to replacing the EU-inherited consumer disclosure regulation (PRIIPs) with a new framework tailored to UK markets and firms. Importantly for our industry, the announcement also confirmed that investment trusts would effectively be taken outside the ambit of the current PRIIPS regime until such time as the new Consumer Composite Investments (CCI) regime has been finalised and implemented. The Government will in H2 2024 lay legislation to exempt closed-ended UK-listed investment funds from the requirements of the PRIIPs Regulation and Articles 50-51 of the MiFID Org Regulation and, in the meantime, regulatory forbearance will be applied so that such funds may choose not to follow those requirements. This means that in the interim period, investment companies are no longer required to publish a KID, and a “zero” can be inserted in the European MiFID Template. The Capital Markets Industry Taskforce recently described this as a “quick and easy win” for the UK and we applaud the Economic Secretary to the Treasury, Tulip Siddiq MP, for her swift action in securing an effective solution. The intention is for the new CCI regime to incorporate bespoke arrangements in respect of investment trusts to address concerns that have been raised with current disclosure requirements. Investec view: We can now see light at the end of what has been a long tunnel, but there is no room for complacency. The FCA will shortly launch a consultation period regarding the new CCI regime, giving stakeholders the opportunity to provide feedback on the new regime. With the closed-end industry facing unprecedented pressures, this opportunity must be taken. Earlier this year, the LSE submitted a joint response to an HM Treasury note on CCI that included more than 300 signatories, put together in just a couple of days, and this record-breaking response sent an incredibly powerful message – no doubt contributing to the decision to temporarily release investment trusts from PRIIPs requirements. The press release notes that ensuring retail investors can make informed investment decisions is an important part of healthy capital markets; and it adds that the new CCI regime is intended to better cater for a variety of products, including investment trusts, while still ensuring that consumers receive appropriate information to allow them to make meaningful choices between investment opportunities. We fully support this initiative, and strongly believe it is critical that disclosures are fair, clear, and not misleading – the key now is to ensure that an appropriate bespoke solution is formulated and implemented for closed-ended UK-listed investment funds. Continued overleaf
3IN ASL AAIF ADIG API ALW ATT AIE AGT BGCG BGEU BGFD USA BCPT BBH BBGI BPCR BIOG BRFI BRSC THRG BRWM BSIF CLDN CGT CTY CORD DGI9 DIVI EDIN EWI EOT FCIT FAIR FAS FCSS FEV FSV FGT FSFL GABI GCP BGHL ASDTF
In this note, we highlight rate-sensitive picks from across the infrastructure, renewables, private equity, real estate and debt sectors.
3IN AUGM CLDN CHRY FSFL UKW HVPE HICL NESF ORIT PHP RCP SEQI SHC
3i Group - Annual results mixed but Action remarkably resilient HgCapital Trust - Underlying performance remains strong Target Healthcare REIT - Continued EPRA NTA growth
3i Infrastructure PLC HGCapital Trust PLC
Abrdn Property Income and Custodian REIT - Proposed merger fails 3i Infrastructure - FY 24 expected to be in line with the 8-10% total return target Digital 9 Infrastructure - Portfolio update and NAV BBGI Global Infrastructure - FY 23 results as expected; we prefer infrastructure funds with better scope for earnings growth International Public Partnerships - Portfolio update and NAV EJF Investments - 7.27% total return in a challenging year Real Estate Credit Investments - Successor buyback programme Home REIT - Further property sales
3IN BBGI DGI9 EJFI INPP RECI
3i Infrastructure - H1 23 Total NAV return of 6.3% abrdn Property income - Office exposure weighs
3IN: keeping it real
Against a backdrop of persistently high inflation and higher interest rates, we revisit three pieces of analysis across listed infrastructure, seeking to identify areas of value and strategies with a robust fundamental outlook.
We anticipate further newsflow on the sale of Attero, where the divestment process has been formally launched. With continued concerns around the fee burden and the rating differential between 3IN and its core-plus infrastructure peers, we reiterate our Neutral recommendation.
Investec view: This is another strong set of results with the NAV total return of 14.7% over the 12 months to 31 March 2023 materially exceeding the target return of 8% to 10% per annum. The longer-term record is similarly impressive; since 2015, when the company adopted its current strategy of focusing on core-plus infrastructure investments, the NAV total return is 19% p.a., and it has delivered 14% p.a. since its inception in 2007. All portfolio companies, with the exception of DNS:NET (which has returned 19.0%), contributed positively to returns during the year. The renewable energy generating companies, Infinis, Valorem and Attero performed strongly, having made substantial progress in developing their pipelines of new projects towards and into operation. These companies delivered asset returns of 18.9%, 30.5% and 42.1% respectively. DNS:NET continues to experience delays in the roll out of its fibre network in the Berlin area, and specifically in connecting and activating customers. The outlook for portfolio returns remains positive, and a number of portfolio companies including TCR, ESVAGT, GCX, Valorem and Infinis are all experiencing strong earnings momentum. Management has outlined that it has started a sales process for Attero, which is currently at an advanced stage. Attero is currently valued at £144m and we would expect any sale to be at an uplift to carrying value. Management also outlined that it would consider other potential divestments across the portfolio. Proceeds will be used to repay the drawn amounts (£501m) on its RCF. We believe that 3iN provides investors with access to a unique, high-quality portfolio of core-plus infrastructure companies that benefit from long-term structural growth trends in their underlying markets. We think the company remains well-placed to provide investors with a respectable yield and attractive total returns. However, we note that the capital raise completed in February was priced with reference to the September NAV, and the publication today of the NAV of 336.2p/share (as at 31 March) confirms our belief that the equity raise (at 330p/share) was likely completed at a discount to the prevailing NAV at the time of the issue. While this raises questions over corporate governance, we acknowledge that, given the size of the issue, the potential dilution would have been limited. On balance, we retain our Buy recommendation. Continued overleaf
3i Infrastructure (3IN, Neutral) was joined by three new investment companies in 2021. They provide exposure to core-plus infrastructure assets through investment in operational business platforms. Pantheon Infrastructure (PINT, Outperform) offers diversified infrastructure exposure through a unique strategy focused on co-investment. Cordiant Digital Infrastructure (CORD, Outperform) and Digital 9 Infrastructure# (DGI9, Outperform) are Digital sub-sector specialist strategies. We view the dual income and growth potential of core-plus infrastructure positively. Today we initiate on each of the above strategies, which each benefit from secular growth themes, and active asset management applied to operational platform businesses backed by real assets.
3IN DGI9 PINT CORD
3IN’s track record is commendable, delivering 12.3% annualised NAV total returns since launch in 2007, ahead of the stated 12% target set out at IPO, driven by significant exits at meaningful multiples to cost. With 3IN trading at a significant premium to its Infrastructure - Equity peers, and having a higher fee burden, we initiate with a Neutral recommendation.
Stanbic IBTC Holdings Plc. (STANBIC) recorded its highest-ever gross earnings of NGN287.54bn, a 39.15% YoY increase in 2022FY, driven by a double-digit growth rate in both interest and non-interest income streams. All funded income streams (particularly interest from customer loans and interest income on investment securities) rose, with interest on customers' loans sustaining its position as the most significant contributor (c.79%).
3i Infrastructure PLC Stanbic IBTC Holdings Plc
Monthly review of the Infrastructure investment trust sector
3i Infrastructure - Completion of £100m capital raiseVPC Specialty Lending Investments - NAV total return of -1.22% in December and -6.97% in 2022NextEnergy Solar Fund - Quarterly dividend unchanged at 1.88p per share
3IN VSL NESF
Battery Energy Storage - Note: Simply the BESS3i Infrastructure - Proposed capital raiseRenewables Infrastructure Group - Extension and expansion of RCFSpace Tech - Seraphim Q4 space index summaryBalanced Commercial Property Trust - 14.3% Q4 2022 NAV declineICG Enterprise Trust - Realisation of Endeavor Schools
3i Infrastructure PLC ICG Enterprise Trust PLC GBP
Background: This morning, 3i Infrastructure announced that it has signed an agreement to syndicate a 27% stake in TCR to 3i Zephyr, a co-investment vehicle managed by 3i Investments, the company’s investment manager, and funded by six institutional investments. Investec view: The syndication of its investment in TCR had been flagged in 3IN’s interim results (see our note here) and the transaction, once completed, will reduce the company’s portfolio concentration and allow it to repay some of the drawn balance on the RCF. 3IN’s holding in TCR will decrease from c.96% to c.69% for proceeds of c.€220m (c.£193m at current FX), in line with the valuation of the incremental stake acquired by 3IN on 31 October 2022. The co-investment vehicle will be managed by 3i Investments and therefore management will maintain its governance position. The company has outlined that the proceeds will be used to repay part of the company’s outstanding RCF balance, which we estimate is currently drawn by c.£668m (c.23% of NAV). Following receipt of the proceeds (the syndication is expected to complete later this quarter), the drawn balance on the RCF will reduce to c.£475m (c.16% of NAV). 3IN has access to a £900m RCF with a maturity date of November 2025 and therefore will have c.£425m available under this facility. The transaction will also reduce the portfolio concentration; TCR currently comprises c.19% of portfolio value and, following completion, this will reduce to c.14%. The 3IN share price experienced a sharp fall immediately following the ‘mini-budget’, however we note that the shares have recovered in recent weeks and are now trading around the levels prior to 23 September 2022, and on a small premium to our eNAV. TCR: TCR is a leading global provider of Ground Support Equipment (GSE) rental solutions and services, supporting air industry customers in their ground handling processes. The business is present in over 160 airports (compared with 100 at acquisition in 2016), with more than 30,000 GSE assets in its rental fleet (compared with 23,000 at acquisition). In its recent interim results, management commented that it believes TCR is well positioned in the post-pandemic environment and is experiencing increasing demand for its full-service rental model. During the six-month period to 30 September 2022, TCR’s revenues increased as utilisation and traffic continued to recover, and management signed a number of new contracts and contract extensions.
Investec view: 3i Infrastructure (3IN) announced a strong set of interim results this morning. The NAV at 30 September was 325.8p/share, which represents an increase of 7.4% and a total return of 9.3% over the six-month period. The portfolio performed robustly and ahead of expectations. In line with its progressive dividend policy, management commented that it remains on track to deliver its FY23 dividend target of 11.15p/share (an increase of 6.7% vs. FY22) and it expects this to be fully covered. The portfolio overall continues to perform strongly and all assets with the exception of DNS:NET generated positive returns. DNS:NET experienced delays in the projected build-out of its fibre network caused by slow authority approvals and a shortage of contractor capacity. Notable highlights included particularly strong performance at Attero (total return of 27.7%), Tampnet (21.8%) and TCR (20.1%). The weighted average portfolio discount rate increased to 11.3% (10.9% at 31 March 2022), principally due to a change in the portfolio composition following the sale of the European projects portfolio and completion of the GCX acquisition. Management commented that rising risk-free rates did not impact the discount rates used at 30 September 2022, primarily due to the significant risk premium already built in and the continued appetite for high-quality infrastructure businesses. We have seen interest rates increase across all key jurisdictions that the company invests in. However, importantly, the underlying portfolio companies have no material near-term refinancing exposure in the short term (until 2026) and over 85% of long-term debt facilities are either hedged or fixed rate. The unhedged element typically relates to capex facilities and RCFs at portfolio companies, which may or may not be fully utilised. As we highlighted in our recent note (3rd November 2022) on the infrastructure sector, 3IN has access to a £900m RCF, with a maturity date of November 2025. Following the acquisition of the further investment in TCR post period-end, drawings are now £668m (23% of NAV). given the increase in rates observed this year, the costs of running these facilities have increased materially and therefore their attractiveness as a bridging tool is reduced in a higher rate environment. We note that management outlined that it expects to syndicate a stake in TCR in the second half of the financial year, which will provide useful liquidity. We believe that 3IN gives investors exposures to a high-quality portfolio of economic infrastructure assets and a management team that can demonstrate a significant depth of resource to originate and manage a portfolio of infrastructure assets. Continued overleaf
3i Infrastructure - 9.3% NAV return for the last six monthsVPC Specialty Lending Investments - NAV down 3.26% in SeptemberWarehouse REIT - EPRA NTA declines 11.8% due to rising industrial yieldsCustodian REIT - £1.4m disposal at 12% premiumThomasLloyd Energy Impact - Equity raiseNB Distressed Debt - Distribution of $18.9m for NBDX shares and £6.8m for NBDG shares
3IN VSL WHR NBDD NH2
We note that yields on the 10- and 20-year gilts have fallen to c.3.4% and c.3.8% respectively, which is in line with the levels they had reached prior to the disastrous mini-budget, with the extreme volatility observed in recent weeks having dissipated to some extent. That said, risk-free rates have increased materially this year and we would expect these to be reflected in upcoming valuations. Whilst the widening of discount rates will reduce NAVs, these moves will be offset to some extent by increased cashflow assumptions, including increased current and forecast inflation expectations, foreign exchange and increased deposit rate assumptions. A further impact from rising rates is on the borrowing costs that these companies may face. Typically, at PPP/PFI and OFTO projects, interest costs at the underlying project level are swapped and fixed out at inception and these assets do not typically have material re-financing risks. Regulated and demand-based assets may have various tranches of debt, and interest costs are again typically fixed or swapped out; whilst the prevailing interest rate environment has a limited effect on current debt costs, there may be some impact on these businesses when existing debt matures and requires re-financing. Revenues earned by regulated assets are typically adjusted by the respective regulators for the market cost of debt at each regulatory review. There is also an expectation that demand-based businesses will be able to pass increased debt costs on to consumers. At 31 March 2022, HICL outlined that two investments, Affinity Water and Northwest Parkway, have refinancing requirements and therefore some exposure to interest rate risk. The debt structure at Affinity Water is published in its annual report and we note that the next material refinancing is a £250m fixed rate bond, which is due to mature in July 2026. Northwest Parkway’s debt is not publicly disclosed; however, we understand from the HICL management that the debt is comprised of fixed-rate, long-term bonds with the first due to be refinanced in 2026. A handful of assets within INPP’s portfolio have refinancing requirements - Cadent, Angel trains, Tideway and BeNEX rail. Whilst there are no material refinancing requirements at Angel Trains or Cadent in the short-term, we note that Cadent has c.€640m of fixed rate debt and c.£520m of index-linked debt that is due to mature in 2024. INPP commented that Cadent intends to mitigate the refinancing risk by undertaking a series of smaller transactions. Cadent issued £300m of senior loan notes last week, although the details are not yet public. The debt structure at BeNEX is not public but we understand from INPP management that, with the exception of a refinancing which is about to complete, there are no material amounts that need to be refinanced over the next few years. In its update on 30 September 2022, 3iN outlined that there were no material refinancing requirements in the underlying portfolio until 2026 and that over 85% of long-term debt facilities are hedged or fixed rate. The infrastructure companies all have revolving credit facilities (RCF) in place, which have historically (with the exception of GCP) been used as equity bridging facilities and therefore only drawn for a relatively short period of time. GCP has used its RCF more structurally in recent years, and debt as a percentage of NAV has ranged between 8% and 15%, with a high of 18% since December 2018. The interest cost on these RCFs is usually charged at a fixed margin above a reference rate such as SONIA, LIBOR or EURIBOR. Given the increase in rates observed this year, the costs of running these facilities have increased materially; therefore, their attractiveness as a bridging tool and, in the case of GCP, as a more structural feature, is lessened in a higher rate environment. We note that GCP has repaid c.£57m of the £156m drawn on its RCF at 31 March 2022. On page 2, we highlight the current position of these RCFs for the companies featured.
3IN BBGI GCP HICL INPP SEQI
Background: Following the mini-budget on 23rd September 2022, there has been a significant shift in interest rate expectations, gilts have dropped in price, with the yield on the 10-year increasing to c.4.5%, although it has now fallen back towards 4.0% (4.08% at the time of publication). For reference, the 10-year gilt was yielding c.2.8% at the beginning of September and c.1.0% at the beginning of the year. Investec view: Conceptually, discount rates for the listed infrastructure companies are calculated by applying a risk premium to an appropriate risk-free rate. In our experience, however, the discount rates used to value projects do not rigidly follow government bond yields and we have observed compressions and expansions in the risk premia over time. This is partly because private market transactions will tend to be priced off more ‘normalised’ risk free rates. Nevertheless, we acknowledge that there is naturally a reasonable degree of correlation between gilts and discount rates over time. Consequently, we observed a sharp fall in the share prices of the social and renewables infrastructure companies in anticipation of a widening of discount rates, although there was some rebound in prices towards the end of last week. Whilst we understand the market’s focus on discount rates, we believe that consideration must also be given to the underlying cashflows of these companies and how these are expected to perform in the prevailing macroeconomic environment. In most cases, we believe that cashflow expectations are likely to have improved/increased in recent months from a combination of factors including higher current and forecast inflation, foreign exchange, UK corporation tax changes and increased deposit rate assumptions. The renewables companies will also benefit from elevated spot and forward power prices. In our view, it is important to consider the impact of macro-economic changes on all variables within the valuation model, rather than purely focusing on the discount rate or risk premium. The extreme volatility of recent days in UK markets, principally within government bonds and yield-based asset classes has not been seen to the same extent in other jurisdictions and therefore we would expect that any impact on valuations from changes to discount rates is likely to be lower for those companies with less UK exposure (BBGI, 3IN, GRP, ORIT and TRIG). Further, those companies with higher starting discount rates such as 3IN and UKW will have a higher risk premium and greater tolerance to absorb increases in risk-free rates. 3IN commented in its pre-close update statement on Friday that, given the significant risk premium included in its long-term discount rates and the continued appetite for high quality infrastructure businesses, it did not anticipate that rising risk-free rates will impact its discount rates at its 30 September 2022 reporting date. Following the dramatic increase in gilt yields, a price correction in UK-centric infrastructure names was inevitable, and we would expect these companies to reflect the changing macro-environment in upcoming valuations. Whilst the widening of discount rates will reduce NAVs, these moves will be offset to some extent by the increased cashflow assumptions outlined above. We have attempted to quantity this impact for HICL on page 2, whilst Bluefield helpfully provided guidance regarding changes to its macroeconomic assumptions as a result of the mini-budget, and we have outlined this on page 3. The average share price fall of the listed infrastructure and renewables companies under our coverage is c.7.3% and c.9.1% respectively from COB on 22 September (prior to the mini-budget). We remain constructive on both the listed infrastructure and renewables sub sectors and believe that the impact on NAVs will not be as extreme as initially feared. We retain an overweight recommendation on both sectors.
3IN BBGI BSIF FSFL GCP GRP UKW HICL INPP FGEN NESF ORIT TRIG
3i Infrastructure (3IN) targets NAV total returns of between 8-10% per annum from investment in privately owned ‘economic infrastructure’ companies in Europe. As we discuss in the Portfolio section, the team look for unique companies with very specific attributes, which will lend them a strong element of predictability, but also that they are capable of outperformance and upside.
Investec view: The NAV at 31 March 2022 was 303.3p/share which represents an increase of 13.1% over the year (4.2% in H2). The NAV and shareholder total returns were 17.2% and 20.9% respectively, materially ahead of the company’s target return of 8% to 10% per annum over the medium term. This is the eighth consecutive year that the company has met or exceeded its return target (NAV TR) and the company has increased its dividend target each year since launch. In FY22, the company paid a dividend of 10.45p/share and is targeting a dividend of 11.15p/share for FY23. This represents an increase of 6.7% on the FY22 level and a current yield of 3.3%. Performance was strong across the whole portfolio. The highlight was significant outperformance by Oystercatcher, as a result of the realisation of the European storage terminals, which generated an asset total return of 81.5% over the year. Other notable performers included TCR (asset return of 40%), ESVAGT (18.5%) and Ionisos (18.3%). All companies in the portfolio, including DNS:NET and SRL which were acquired during the year, generated positive returns. On 31 March 2022, the company announced changes to its management team. Phil White is stepping down from his role as Managing Partner and Head of Infrastructure at 3i Investments with effect from 1 July 2022. Scott Moseley and Bernardo Sottomayor will be appointed as Co-Heads of European Infrastructure. Phil White will continue with the Investment Manager on a part-time basis and will remain a member of the Investment Committee. We believe this represents a natural evolution of the management team and continue to believe that the management team can demonstrate a significant depth of resource to originate and manage a portfolio of infrastructure assets. We believe that 3i Infrastructure provides investors with access to an interesting and high quality portfolio of economic infrastructure assets providing a respectable yield and attractive total returns. Cash drag has impacted returns at the NAV level in the last couple of years and we are pleased to see the company reach full investment. We note that the company is currently drawn on its RCF (£231m) and has further commitments due this year (£300m to acquire GCX). In the absence of material realisations, we would expect the company to raise equity over the coming months. Whilst we remain comfortable with our Buy recommendation, we acknowledge that such an equity raise may represent a more attractive entry point. Continued overleaf
Investec view: We like the fundamentals of the sector; as more of our lives move online, societal dependency on digital infrastructure increases and this will fuel further demand for the asset class. Specific demand drivers include increasing numbers of internet users globally, increasing data consumption per user, improving speeds in data transfer, more connected devices (Internet of things) and as a result, greater need for data storage. The supply of digital infrastructure assets is constrained by a combination of high capital costs, long lead times for development, technical expertise requirements and entrenched customer relationships. We think that the D9 portfolio has two interesting platform investments. The Aqua Comms business (c.24% of eNAV) looks well poised to grow its customer base on its existing Trans-Atlantic subsea fibre network, particularly as c.40% of Trans-Atlantic subsea capacity is due to come offline in the mid-2020s as older cables are retired, whilst the EMIC-1 transaction represents an opportunity to enhance the company’s credentials and network in the Middle East and India. Aqua Comms was a seed investment identified at IPO and had previously been owned by the D9 management team. This geographic expansion may open up further opportunities in this area for the D9 group. Verne Global (c.33% of eNAV), an Icelandic data centre platform, has made a successful transition from a customer base with a focus on bitcoin-mining to a more diverse list of consumers, including financial services, engineering, scientific research and AI. The company has the potential to expand its existing site in Iceland, and possibly further, across the broader Nordics. Verne Global has strong sustainability credentials and benefits from 100% renewable-generated power. However, we have reservations over whether the level of dividend (6p/share) is appropriate, given the opportunity set. More specifically, we struggle to visualise how the company will be able to cover the dividend at this level over the medium-term and meet its ambitious return targets given the growth and return dynamics at the underlying asset level. As a consequence, we believe the company may need to increase its exposure to more mature, cash-yielding but lower returning platform assets in order to meet its ambitious dividend target, or alternatively pay an uncovered yield. Moreover, contrary to the company’s superficial presentation of its underlying contracts, there is very little indexation of revenues and the fixed uplift recurring revenues do not offer inflation protection on any justifiable basis. Continued overleaf
3IN CORD DGI9
Investec view: 3iN announced a positive Q3 performance update this morning, with management highlighting that the portfolio was performing in line with the expectations set at the half-year. Portfolio income was in-line with budgets and the company remains on track to meet its FY22 dividend target. As we highlighted in our December note (here), this was an extremely busy quarter for the company, making c.£850m of new commitments. These comprised c.£376m to acquire 100% of Global Cloud Xchange (GCX), c.£258m to acquire the remaining 50% stake in ESVAGT, c.£191m to acquire a 92% stake in SRL Traffic Systems and a further c.£21m invested into Valorem to increase its stake to c.33%. The company has agreed an additional RCF to finance these and future transactions. Given current commitments, and in the absence of material realisations, we would expect the company to raise equity in H1 this year. Whilst we remain comfortable with our Buy recommendation, we acknowledge that, given the material premium to NAV, such an equity raise may represent a more attractive entry point for the more tactical investor. Balance sheet: At 31 December, 3iN had £86m cash although this was reduced by the £47m interim dividend payment in early January. The RCF was £70m drawn. The £98m outstanding from the sale of WIG in 2019 was due in December 2021; however this has been deferred to December 2023, although it is callable on six weeks’ notice. It is likely that this balance will be called when the GCX consideration (£376m) becomes due in mid-2022. Following the completion of the ESVAGT transaction (£258m), expected today, drawings on the RCF will be £289m, assuming the existing cash on the balance sheet is also allocated to fund the ESVAGT transaction. Following the completion of the GCX transaction, expected in mid-2022, and assuming the WIG notes are called, we estimate that drawings on the RCF will be c.£567m (c.22% of our NAV estimate). Increase in credit facilities: In December, 3iN received lender approval to increase its existing RCF by £200m to £600m. In January 2022, 3iN obtained an additional £400m, one year credit facility from existing lenders. Given that the original £600m RCF is substantially committed following the commitments to ESVAGT and GCX, this additional facility provides the company with greater flexibility to fund future investments in the short-term. Portfolio update: The portfolio continues to perform well and Management advised that total income and non-income cash was in line with expectations at £26m and ahead of the £24m received in the same period last year. The company remains on track to meet its FY22 dividend target (10.45p/share).
Background: This morning, 3i Infrastructure (3iN) announced that it has agreed to acquire a 92% stake in SRL Traffic Systems (SRL) for c.£191m. 3iN has provided a further £83m of debt financing with the intention to replace this with third party debt in due course. On Friday, 3iN announced that it had agreed to acquire the 50% stake in ESVAGT owned by its co-investor AMP Capital for c.£268m. 3iN will then hold 100% of the equity in ESVAGT. Investec view: Cash drag has been a feature for a while, and therefore we are encouraged by the recent deal flow. Following today’s announcement, 3iN has effectively deployed c.£922m (including £83m debt it will look to refinance) in the last month including the Global Cloud Exchange deal, and the incremental investment in ESVAGT. In the absence of any material portfolio sales, and assuming the £83m debt is refinanced by a third party, these acquisitions will deploy all available cash and will utilise c.£480m of the £600m RCF capacity. We were slightly surprised by Friday’s announcement regarding the acquisition of an additional 50% stake in ESVAGT. At the interim results, 3iN had outlined that ESVAGT was the subject of a strategic review and offers had been invited as part of the process, although management stated that no formal decision had been made to dispose of the business. In Friday’s announcement, 3iN outlined that offers for 100% of the equity had been received, but not at a compelling price and therefore it had elected to buy the 50% stake from AMP Capital. At 30 September, 3iN’s 50% stake in ESVAGT was valued at £226m and therefore the £268m paid for the additional stake will add c.£35m (3.9p/share) to the pro forma NAV, net of transaction costs (not disclosed, but we assume to be c.£7m). Management noted that SRL is experiencing strong growth in customer demand driven by an increasing number of roadworks projects as a result of increased spending on highways maintenance, utilities works and major infrastructure projects such as fibre to the home. The asset is described as a ‘core-plus’ infrastructure business and therefore we anticipate that the expected return will be towards the upper end of the portfolio range. The SRL transaction is expected to complete in the next couple of weeks, with completion of the ESVAGT transaction expected in Q1 2022, whilst Global Cloud Exchange is not expected to complete until mid-2022. Given the significant deployment of capital, we believe an equity raise is likely in the short-term, in the absence of any major portfolio realisations. 3iN trades on a material premium to NAV and therefore any forthcoming equity raise may represent a more attractive entry point for the more tactical investor. We remain comfortable with our Buy recommendation.
Background: Yesterday, 3i Infrastructure (3iN) announced that it had agreed to invest $512m (c.£380m at current FX rates) to acquire a 100% stake in Global Cloud Xchange (GCX). GCX is a leading global data communications service provider and owns one of the world's largest private subsea fibre optic networks (see overleaf). Completion is conditional upon certain regulatory approvals and is expected in mid-2022. Investec view: We think this is an interesting investment into a sector with strong underlying growth drivers. Global data traffic is increasing rapidly, with management expecting data usage to grow in excess of 25% per annum. The transfer of data relies on data carrier infrastructure such as GCX’s extensive network in order to move data between hubs across the globe. 3iN already has made significant investments into digital infrastructure in recent years, having acquired 50% of Tampnet in 2019, and earlier this year the company acquired a 60% stake in DNS:NET. Tampnet provides data connectivity in the North Sea and the Gulf of Mexico through a comprehensive network of fibre optic cables, 4G base stations and microwave links. DNS:NET is an independent telecommunications provider in Germany. On a pro-forma basis, following completion of the acquisition, GCX will be 3iN’s largest investment at c.14.6% of NAV. In our recent note following the interim results (here), we estimated 3iN’s cash balance to be c.£362m and therefore this investment effectively fully deploys all available cash, although we note that completion of the deal is not expected until mid-2022. The company has a strong pipeline of potential investment opportunities and, importantly, has access to a £400m RCF, with a £200m accordion facility. 3iN also outlined that it is considering the sale of ESVAGT, valued at £226m (8.7% of NAV). Management has outlined that GCX will provide an attractive yield to the company. Whilst 3iN do not disclose discount rates for individual assets, we expect this investment to be accretive to portfolio returns and the discount rate to be in excess of the weighted average portfolio discount rate of 10.8%. We remain comfortable with our Buy recommendation.
Investec view: 3i Infrastructure (3iN) delivered an impressive set of results for the six-month period. Strong underlying asset performance, particularly at Oystercatcher (+73.9%), was principally driven by the agreed realisation of the European storage terminals held by the business for a price above their opening valuation. All portfolio companies generated positive returns and there was also material outperformance at TCR (+34.2%) and ESVAGT (+13.0%). The most recent acquisition, DNS:NET, which was acquired in June, delivered a 5.7% return from acquisition to 30 September 2021. The total portfolio return was 14.4%, although this was diluted at the NAV level by the significant cash balance held during the period. The NAV of 291.2p/share represented a NAV total return of 10.6%, materially ahead of its target return range of 8% to 10% per annum. The total shareholder return over the period was more muted at 4.2%, although we note that the share price has performed strongly post period end and has increased a further 8.7% since 30 September. As we have noted previously, the company still has a significant cash balance to deploy in order to reach full investment. Following the sale of Oystercatcher’s European terminals and payment of the interim dividend, cash on hand, including the deferred proceeds from the WIG sale, is c.£362m (14% of NAV). As seen in recent years, cash drag continues to impact returns at the NAV level and whilst the portfolio continues to perform well, a key challenge for the company is to reach full investment again. Management confirmed that a strategic review was underway regarding its investment in ESVAGT and it is considering a sale of the business. At 30 September, ESVAGT was valued at £226m (10% of portfolio). 3iN owns 50% of the business, alongside AMP Capital. We note that any imminent sale, which we would expect to be above the current carrying value given historic realisations, would significantly increase the already sizeable cash balance held by the company. 3iN has a progressive dividend policy and is targeting a dividend of 10.45p/share for this financial year, which equates to a dividend yield of 3.2%. In our view, an interesting portfolio of economic infrastructure investments that provides a solid yield and attractive total returns represents a compelling investment case. We remain comfortable with our Buy recommendation.
Investec view: 3iN’s portfolio performed strongly and delivered a return of 13.7% over the year. All assets delivered positive returns, notably Infinis (+14.7%), Joulz (+23.0%) and Valorem (+30.7%). However, this return was diluted by the material cash balance held throughout the year and the NAV total return was 9.2%, although in line with its target return of 8% to 10% over the medium-term. The total shareholder return over the year was 23.8%. This time last year, the investment manager applied higher discount rates (up to 1%) to almost all portfolio companies to reflect the general uncertainty around the economic impact of the pandemic, inflation, power prices and oil prices. Encouragingly, given the greater visibility on cashflows, these discount rate premia have now been fully or partially removed in this valuation (the highest remaining premium is 0.5%) and the overall discount rate has reduced to 10.8% from 11.2%. Following the year end, the company deployed c.€182m to acquire a 60% stake in DNS:NET, an independent telecommunications provider in Germany. We think this is an exciting investment, given the growth potential of the digital infrastructure sector and we note that the management team have had previous success in this sector with the Wireless Infrastructure Group (WIG) which generated an IRR of 27% following its sale in 2019. This acquisition also represents 3iN’s first sizable transaction in Germany. We note that the company still has excess cash to deploy. Following the acquisition of DNS:NET and payment of the final dividend, current cash on hand, including the deferred proceeds from the WIG sale, due in December 2021 will amount to c.£358m (15% of NAV). Cash drag impacted returns during the financial year and the challenge now for the company is to again reach full investment. The company has continued with its progressive dividend policy and has increased its target by 6.6% to 10.45p/share, and this equates to a current yield of 3.5%. We think that the combination of an attractive yield, a strong balance sheet, and an interesting portfolio of economic infrastructure assets providing attractive absolute and relative returns represents a compelling investment proposition. We remain comfortable with our Buy recommendation. Continued overleaf
Investec view: 3iN extended its long track record of strong returns with a NAV total return of 11.4% for the year, ahead of its 8-10% target over the medium-term. This is despite Covid-19 impacting on year-end valuations. The Covid-19 crisis is unprecedented and there is inherent uncertainty around the valuation of assets given the need to assess the projected short-term impact on portfolio company cashflows, but also the longer-term impact on companies and the timing and extent of any potential recovery. This heightened uncertainty is reflected by the increase in the portfolio discount rate which has increased by 50bps over the year to 11.3%. The investment manager has also adjusted the growth of its cashflow forecasts to reflect its current expectations around Covid-19. Whilst we are cognisant that the duration and severity of the impact of Covid-19 is uncertain and may not be known for some time, we believe the portfolio to be relatively defensive given the essential services provided by the investee businesses and are encouraged by the resilient performance of the portfolio companies to date. The company is in a strong liquidity position with cash (including receivables) representing c27% of NAV. Not only does this enhance defensive characteristics but also provides it with a significant war chest to acquire assets at potentially distressed valuations when and if opportunities arise. The company has adjusted its cashflow forecasts as a result of the pandemic; however we are encouraged by the board’s decision to increase the dividend target for FY21 by 6.5% to 9.8p/share. This equates to a current yield of 3.7%, which is attractive, particularly so in an environment where dividends are under pressure. In our initiation in July 2019, we highlighted that the company traded on a material premium (c. 20%), which was primarily a function of an exceptional long-term performance record. Following the sell-off in markets, the premium to the 31 March NAV is just 3.9% and we believe this represents an attractive entry point for potential investors. Now, we believe that a combination of a defensive portfolio, an attractive yield and a strong balance sheet represent solid foundations and on balance, we upgrade to Buy (from Hold).
Removal of nationalisation risk: The UK election result, which in effect removed the nationalisation risk to UK PFI and certain utilities, has had a notable effect on the share prices of the listed infrastructure sector – especially for HICL and INPP, which are up 11.3% and 3.3% respectively since 12th December. The BBGI share price is broadly flat over the period, primarily due to its overseas portfolio (68% of portfolio) which was not exposed to the same nationalisation risk and the fact that it was already trading at a material premium to NAV. 3iN has performed strongly (7.0%) following the successful realisations of its stakes in WIG and the UK Projects portfolio. Portfolio valuations underpinned by a significant supply/demand imbalance: This has been a key feature for a number of years and we see little to change this dynamic in the short to medium-term. Preqin estimates that fundraising in 2019 pushed ‘dry powder’ to $212bn, which is double the amount at the end of 2015. We believe portfolios in the sector remain conservatively valued, evidenced by the recent sales from the 3iN portfolio. The Projects portfolio was valued at c.£160m at 30 September 2019, and therefore the sale price of £194m will generate an uplift of c.£34m before carry, amounting to a gross IRR of 15% for 3iN. Whilst individual discount rates are not disclosed, we assume that these could be towards 5%. The sale of Wireless Infrastructure Group for proceeds of c.£387m, compared to a valuation of £291m at 30 September 2019, realised a gross IRR of 27% and a 1.7x money multiple. Lower for much longer: In its Global Financial Stability report, published in October, the IMF stated that ‘market pricing now suggests that rates will remain lower for longer than anticipated’, and last week, the Bank of England’s Monetary Policy Committee decided to keep interest rates on hold at 0.75%. For investors, the search for yield is well entrenched, although we are mindful of the increasing polarisation of investor experiences in the alternative investment company sub-sectors. We have reservations over many alternative investment companies, particularly in the specialist debt sector where a number of companies have over-promised and under-delivered. Attractive and sustainable yields: Whilst we are mindful of the significant re-rating of the listed infrastructure sector in the last two months, we believe the dividend yields available (2.9% to 4.6%) remain attractive, particularly when compared with gilts – 10 and 20-year gilts are currently yielding 0.55% and 0.97% respectively. Importantly, the sustainable and growing dividends on offer are underpinned by long-term and predictable cashflows. Recommendations: We remain positive on the sector. In terms of stock recommendations, we maintain our Buy ratings on BBGI, HICL and INPP and our Hold on 3i Infrastructure.
3IN BBGI HICL INPP
3i Infrastructure – Finals to 31 March 2019 | Civitas Social Housing – Response to BeST regulatory announcement |
3i Infrastructure PLC Civitas Social Housing Plc
3IN – 3i Infrastructure – Pre-close update | WHR – Warehouse – Results of fundraising
3i Infrastructure PLC Warehouse REIT PLC
3i Infrastructure – New investment | Fair Oaks Income – Final redemption of 2014 shares | Tetragon – Final close of TCI III
3IN FA17 TFG
3IN – 3i Infrastructure – Sale of stake in Cross London Trains | YEW – Yew Grove – Results
3i Infrastructure PLC Yew Grove REIT plc
3i Infrastructure – Q4 2018 update | Gresham House Energy Storage – Q4 2018 NAV | CEIBA Investments – Trading statement
3i Infrastructure – Interims to 30 September 2018 | Target Healthcare – Results of fundraising | International Public Partnerships – Financial close on Dudgeon OFTO
3IN INPP THRL
3IN – 3i Infrastructure – Pre-close update 1 April to 27 September 2018 | GRI – Grainger – Trading update to 30 September 2018 | GABI - GCP Asset Backed Income – Results of fundraising
3IN GRI GABI
Grit Real Estate Income – Results of IPO | 3i Infrastructure – New investment | Starwood European Real Estate Finance - Q2 2018
3i Infrastructure PLC Starwood European Real Estate Finance Ltd
3IN has continued to maintain a healthy rate of investment into the second half of 2016, helped by operating higher up the risk curve than the pure PPP funds and following a moderation of the target return (net 8-9%) introduced last year (not unique in the peer group). Fiscal 2017 will be another year of transition for the portfolio as recent purchases bed-in and contribute to the revenue account in H2 (especially Infinis). The decision about the possible sale of Elenia (£396m) remains outstanding pending the outcome of a strategic review.
3IN has announced a monster £350m capital raise (with the potential for a further £130m) and a temporary £200m increase in the size of its accordion debt facility to £500m. Assuming the offer is fully subscribed and following completion of the three post balance sheet acquisitions and payment of the performance fee & dividend, the company will have dry powder of at least c£390m, including £115m of cash – a sizeable war chest. This is before considering the possible sale of Elenia (£362m) later this year which remains on the table.
3IN had become a hostage to its dividend policy; exceptional infrastructure deal pricing and NAV performance has forced the board to adopt a progressive dividend policy (migrating from a fixed percentage of opening NAV) and rebase the fund’s total return target to 8-10% over the medium term (from 10%pa). We welcome the revised policy; the existing dividend target could have seen the manager investing to chase income and overpaying in the process. The board put new emphasis on balance sheet management (cash drag), proposing to return £150m to shareholders via a special dividend (17p) while increasing the fund’s debt facility to £300m. This should help narrow the gap between the portfolio and NAV return (17% and 10.6% respectively since IPO in 2007).
Unusually, 3IN’s dividend is based on a fixed percentage (5.5%) of opening NAV i.e. no independent dividend growth. The flip-side of the funds recent stellar NAV performance is that the rebased fiscal 2016 dividend could put the revenue account under pressure. We expect this to be on the board’s mind at the annual strategy review in January and could require a change in policy. We believe 3IN requires material revenue growth over the next eighteen months to pay covered dividends. To achieve a covered dividend for FY 2015, revenue needs to increase c20% in H2. If the current XD NAV (133pps) was used to rebase the fiscal 2016 dividend target, it would equate to c7.3pps, dividend growth of 8.1%.
Being different isn’t always a bad thing. 3IN has been recast since IPO and offers additional spice compared to a more conventional PFI/PPP peer funds. The core portfolio of utility infrastructure investments generated higher inflation linkage than peers and although paying a lower dividend than the pure PFI/PPP funds, 3IN offers the potential for meaningful capital growth.
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