Key takeaway - spotlight on infrastructure sector
In its budget released on 8 May 2018, the Australian Federal Government reiterated its commitment to grow infrastructure spending as a way to boost the economy. In particular, the budget includes AUD24.5bn for new major transport projects and initiatives, which are part of the government’s AUD75bn transport infrastructure investment plan for the next ten years.
The additional funding is being directed primarily to projects that Infrastructure Australia has classified as High Priority[1] or Priority[2] Projects. They include:
- AUD5bn for the Melbourne Airport Rail Link
- AUD3.5bn for the Roads of Strategic Importance initiative
- AUD3.3bn for the Bruce Highway upgrades
- AUD1.05bn additional funding for the METRONET rail project
- AUD971m for the Pacific Highway Coffs Harbour Bypass
Source: www.budget.gov.au
This represents the Federal Government’s investment commitment and does not include any incremental investment from the States and Territories. In particular, NSW and Victoria are expected to increase their investment by at least AUD6.3bn collectively, representing the proceeds of the sale to the Federal Government of their share in Snowy Hydro, which they have committed to reinvesting in productive infrastructure.
In total for the next financial year, the government estimates that it will deploy about AUD32bn to support capital spending (which infrastructure represents a large part of). These will be either through grants to States, Territories or local government as well as investment in financial assets.
In total, the government estimates that the projects currently underway are supporting up to 50,000 jobs.
In addition to the clear benefit of these announced measures from an employment and economic growth perspective, it was interesting to note the growing share of the investment classified as “financial assets” and the likely benefit of increasing private investment to support the delivery of these projects. In recent years, the Federal Government has increasingly deployed cash to support infrastructure investment not through capital grants, but by way of equity or debt investment.
A high profile example is NBN (National Broadband Network) whose construction has been funded in part through loans advanced by the government to the company. These, together with the equity that the government owns, are classified as financial assets and are expected to provide a return over time. The NSW government followed the same model for the development of Westconnex.
We view this alternative funding mechanism as positive because it will stimulate private investment in many cases. Key typical challenges for private investment in infrastructure include long development period and uncertain future demand. These factors can inhibit private investment that requires a level of return commensurate with the risks. The addition of government financing solutions can then help bridge the gap and enhance returns. This structure has been extensively used in the US where TIFIA, a government agency focused on transport infrastructure, provides long term loans at concessional rates and with flexible terms. These loans, used to support the construction of many toll roads, reduce the overall project costs and temporarily reduce the burden of debt servicing in the early years when traffic can be volatile. Using these debt or equity instruments also provides the government more flexibility in attracting private investments in the future. For example, the government could refinance its NBN loan with private debt (repatriating some of the cash previously invested) while retaining its equity investment.
We view the government’s increased use of debt and equity instruments to finance infrastructure investment as a positive. We believe this will allow more infrastructure projects to be (at least partly) privately financed and ensure that risks, which are difficult to assess and price, are temporarily retained by government until they can be adequately managed by the private sector.
Given our cautious and defensive macro credit view, this budget reaffirms our Overweight recommendation on the Infrastructure sector given the essential nature of the assets, predictability of cash flows and continued positive government policies.
Read the infrastructure sector research compendium report available on the FIIG website.
[1] Considered to address a major problem or opportunity of national significance
[2] Considered to address a nationally-significant problem or opportunity