Finding directions in CEE
The need for infrastructure development in CEE is significant. Despite huge investment in the region since 1989, utilities, road, rail and air infrastructure as well as other public and social infrastructure continues to suffer from a legacy of historic underinvestment over many decades. Much ground still needs to be made up to raise the infrastructure fully to EU standards.
By Michael Dinham, Head of Infrastructure Finance ING
Partly because of this inherent demand, infrastructure spending in CEE has remained impressively consistent over the past five years despite the financial crisis and the economic downturn that followed. The commitment of CEE governments to infrastructure has stayed strong while bank interest in infrastructure projects has been steady – the underlying potential for growth of much of CEE has ensured that it is a priority for banks involved in infrastructure finance.
Moreover, while CEE has not escaped the turbulent conditions of the past five years, its economies have performed significantly better than southern Europe, for example. Generally, most CEE economies recovered quicker than those in southern Europe – indeed Poland was the only country in Europe not to suffer a recession – while banks in CEE did not require public bailouts. Investors are also reassured by CEE’s low public debt compared to much of the rest of Europe.
A diverse market
CEE is a diverse region that is often viewed as three distinct country groups rather than a single market. The first group includes EU members such as Poland, the Czech Republic, Hungary, Slovakia and the Baltics that are perceived to be broadly economically successful with functioning legal and financial systems. The second group comprises weaker EU member states such as Bulgaria and Romania that have experienced economic or political problems in recent years that have undermined investor confidence. The third group includes Turkey and Russia which are seen as being distinct from the rest of the region given their size, location and characteristics.
Accordingly, these three groups of countries attract different levels of bank interest in terms of infrastructure finance. Their relative attraction has changed little in the post-financial crisis period. The first group of EU member states has always received strong infrastructure investment while the weaker members have been less favoured. However, one notable change in recent years is that Russia and Turkey have become more attractive infrastructure investment destinations given their above-average growth potential.
The three groups of CEE countries – successful EU states, less-successful EU states and Turkey and Russia – have starkly different track records of involving private investors in infrastructure projects.
Predictably, the first group of EU countries has successfully adopted public private partnerships (PPP) as well as directly selling infrastructure assets to private entities, in line with EU guidelines. While attempts have been made by the second group of countries to use PPP and to even privatise assets, little progress has been made in both areas because of weak institutions, a lack of transparency and an insufficiently robust legal environment.
Turkey and Russia share some characteristics with Bulgaria and Romania in terms of uncertainty over some aspects of their legal and political environment. However, their scale – and the scale of funds available to spend on infrastructure within the countries – means they have attracted greater interest from international investors for PPP projects (although they have a patchy track record of privatising state-owned infrastructure assets).
Developments in financing
Financing structures for PPP have remained broadly similar in recent years: debt (provided primarily by banks) typically makes up 80%-90% of a project’s finance and the remaining 10-20% is equity (provided by construction companies, infrastructure funds or other investors).
One change is that debt costs have risen compared to the period before 2008. However, the change has been relatively slight (with the exception of Hungary where political risk has made funding expensive). Another change in the post-crisis period is that bank appetite for long-term risk (over 20 years) has diminished although there is still plenty of appetite to go to 15 years. To fill this gap, there have been increasing efforts by some banks to involve bond and other investors in long-term infrastructure debt financing. For example, Slovakia has a major PPP motorway project that is seeking to place bonds privately to investors, including pension funds and insurance funds, with a tenor of 25 years. Structures and terms for such deals are broadly similar to those that would have been achievable from the bank market in past years.
In the infrastructure finance market below 20 years, there has been some change in the composition of the banks involved in the market. Those international banks that invested in infrastructure before the crisis have continued their commitment to the region. However, there is increasing domestic bank involvement in many markets, especially in Russia and Turkey. As a result, competition has kept pricing lower than it otherwise might have been.
Strong bank appetite for CEE infrastructure risk has also meant that the role of multilateral institutions in most of the region is limited. Although the European Bank for Reconstruction and Development (EBRD) seeks to play an active role in the development of CEE infrastructure, its involvement in deals has decreased in recent years (even before the crisis) with investors even resisting deals with EBRD cover in some instances because it limits their upside. However, multilateral involvement remains helpful to provide political risk insurance and ensure the success of long-term infrastructure finance deals in Russia and Turkey.
On the equity side of infrastructure finance, there has historically been a reluctance from most infrastructure funds to invest outside Poland and the Czech Republic, as these are perceived to be the most mature and stable markets in CEE. Most equity investors seek a low risk proposition and are unwilling to accept political and currency risks. However, there have been exceptions such as the involvement of Singapore’s sovereign wealth fund GIC in a consortium that owns Budapest Airport.
ING’s strength in infrastructure finance
ING’s long history in CEE, broad regional footprint, strong track record and proven strategy in infrastructure finance has resulted in a reputation for consistency and commitment to the region. ING combines a nucleus of world-class expertise in London and Amsterdam with regional and local insight delivered by teams across the region. As a result, ING is able to provide a powerful infrastructure finance offering.
ING infrastructure finance operates mainly as a lending business and has more than doubled in size in Europe over the past five years. Within CEE, ING has financed airports, motorways and various utilities across the region, including in Bulgaria, Czech Republic, Hungary, Poland, Slovakia and Turkey. In recent years, the bank has shortened its average portfolio maturity to around six years as part of a broad emphasis on discipline and risk management (and also in response to Basel III). However, ING retains an appetite to commit to longer-term infrastructure projects where appropriate.
While ING infrastructure finance is heavily focused on managing the bank’s infrastructure portfolio, it seeks to cover the full spectrum of infrastructure financing activity, from greenfield project financing to acquisitions, refinancing, whole business securitisation, restructuring and advisory work. ING continues to seek new ways to finance infrastructure and has recently set up a joint venture between structured finance and debt capital markets to promote project bonds. Across the bank, ING works with a variety of clients including utilities, construction companies, specialist operators and funds and the bank’s specialist industry knowledge serves as a valuable risk mitigation and marketing tool.