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Establishing the right infrastructure for income

Amber's Giles Frost explains how infrastructure can keep delivering dividends
June 8, 2017

Infrastructure investment trusts have been very popular with investors due to their attractive dividends and relatively high yields. These include International Public Partnerships (INPP), which invests in areas such as energy transmission, education, transport and gas distribution. Its dividend for the year ended 31 December 2016 was 6.65p per share, an increase of 2.5 per cent on its 6.45p 2015 dividend, and it has a yield of over 4 per cent.

A key issue with what looks like an attractive income investment is whether its dividends can keep growing. But Giles Frost, chief executive of Amber Infrastructure, which runs INPP, is in no doubt that it can keep delivering and growing its income.

"The average life of the assets we invest in is well over 30 years, so the income we're expecting from them is going to endure for a very long period," he says. "We are very confident on the sustainability of our dividend - we've increased it every year since we started over 10 years ago, by an average of 2.5 per cent a year. And we should be able to continue to increase our dividend at that rate from our existing portfolio, so we don't even need to acquire new assets to deliver that sort of revenue growth."

INPP has set minimum target dividends for 2017 and 2018 of 6.82p and 7p, respectively.

Despite the assertion that it doesn't need new assets, INPP invested in or committed to seven new and 11 follow-on investments in 2016 worth about £489m. However, because of the growing popularity of infrastructure it has become harder to source investments at a reasonable price.

But Mr Frost says: "There are ways to access assets that diminish the competition you'd otherwise see. For example, we do not only buy what you might call second-hand assets - we bid to government to be the first investor in assets. So, for instance, one of our largest holdings is the Thames Tideway Tunnel - a super sewer. We were bidders to become the owners of that tunnel and finance it. There was a 12-month-plus bid period and because it was quite a complicated process it put off a lot of other investors who perhaps didn't have the human resources to go through that."

That said, he doesn't expect INPP to invest the bumper amount it did last year. "What we're trying to do is improve the amount of return we're giving to investors and the quality of the cash flows, so we'll only invest where we see real value," he says.

And the real value is in assets that are harder for people to access - such as the Thames Tideway Tunnel. "We are also part of a consortium that bought a 61 per cent interest in four National Grid (NG) distribution networks," adds Mr Frost. "Again, because that was such a big transaction many people couldn't really organise themselves to bid for it."

INPP invested £274m into this project, known as Cadent, for a 4.4 per cent stake, which accounts for 15 per cent of the trust's assets and is its largest holding. The consortium is now looking to buy a further 14 per cent interest in the networks.

 

Giles Frost CV

Giles Frost is chief executive and founder of Amber Infrastructure, and leads INPP's investment advisory team. Before Amber's management buyout he was joint head of the European public infrastructure business unit at Babcock & Brown.

Mr Frost has worked on project finance and infrastructure transactions since 1992, and has a degree in Law from Oxford university.

 

Three-quarters of INPP's assets by investment value are located in the UK. "We like the UK because the rule of law is very strong and there's lots of confidence in the income we're going to receive," explains Mr Frost. "Sterling has also weakened against most foreign currencies, which means buying into assets overseas looks relatively expensive. So over the past year our focus has been on UK opportunities, but that may change depending on where sterling goes."

The trust's overseas investments are largely in Australia, Canada, the US and Northern Europe.

"We only invest in countries where there is a very settled rule of law," explains Mr Frost. "Most of our projects depend on governments abiding by their obligations, so we don't want to go into countries where there is deemed political risk. And where we invest overseas we deal with public sector bodies so minimise the credit risk on our assets."

One of President Donald Trump's proposed policies is to spend a trillion dollars on infrastructure, but Mr Frost is not banking on a bonanza of US opportunities.

"It's got to be remembered that the Federal government in the US has reasonably limited infrastructure responsibilities," he says. "A lot of infrastructure is the responsibility of states, or individual cities and counties. So Trump's influence is more likely to be one of changing the mood in the US towards infrastructure investment, where there has historically been significant under-investment compared with other developed countries. We are optimistic on the US, but see it as a long-term fairly slow growth opportunity."

A less attractive attribute of infrastructure investment trusts is the high premiums to net asset value (NAV) they typically trade at, which is partly due to their popularity with yield-seeking investors. So INPP's current premium of about 12 per cent is by no means its highest rating, with the trust at times having topped 17 per cent.

Some analysts and advisers say that you should avoid buying investment trusts trading on at a premium. But Mr Frost argues: "If someone wants to acquire our portfolio there's a premium to be paid over the sum-of-the-parts valuation, to reflect the size and scale [it has assets of about £1.9bn], and diversification of risk within it. So I think you are always going to find premiums in this sub-sector. And infrastructure trusts hold assets that are a lot less liquid and accessible to individual shareholders [than equities] so you can't go off and simply buy into the underlying assets."