As reported in the Financial Times (registration required), business analytics firm Dealogic said that worldwide project finance lending in the first quarter of the year had fallen to $64.6 billion - one third less than over the same period last year. The figures came in the same week as data from the Bank of England showed that lending to UK businesses fell still further in March, to £1.7 billion.
"Project funding is by far the most critical issue for the infrastructure sector in the UK," said Graham Robinson of Pinsent Masons, the law firm behind Out-Law.com. "The Government cannot increase spending on infrastructure, including affordable housing, as this would only widen fiscal debt. The PFI/PPP process has now almost completely stalled. Pension funding of infrastructure may take some years to get off the ground as pension funds are averse to risk and want predictable and steady returns. Infrastructure is an asset class that pension funds tend to classify as 'alternative investments'."
He added that although it could be argued that much of the UK's investment in infrastructure was already privately financed, the private sector was becoming less willing to invest due to stretched balance sheets and an increasing focus on capital discipline. "Certainly, there is a big push on improving the efficiency of capital infrastructure projects, including from the Government," he added.
However, he suggested that sovereign wealth funds in emerging and developing markets such as China could become an increasing source of potential funding. With infrastructure a "key enabler" for economic growth, many of those markets would be encouraged to invest as opportunities in their own areas become scarcer.
"Funding from China will inevitably come with strings attached and may also mean sourcing building products, materials and equipment - as well as other skills - directly from China as the construction sector there continues to slow in the next decade and China invests outside of its domestic market," Robinson explained. "However if managed carefully, this may play into the hands of governments that have become too stretched themselves to fund investment in infrastructure, and lower costs of projects if realised may help."
The Financial Times has indicated that two Chinese energy groups backed by the country's government are currently involved in talks to take over the Horizon Nuclear Power joint venture project. Energy companies E.ON and RWE npower, which jointly own the development options for 6,000MW of new UK nuclear capacity under the project, announced in March that they were seeking alternative investors on "strategic grounds".
Singapore-based infrastructure law expert David Platt of Pinsent Masons said that Asian sovereign wealth funds were unlikely to be much of a cure, "at least in the short term", as "they are fundamentally equity players".
"It's a very mixed situation round Asia but it seems certain that the traditional model – relying heavily on long-term commercial bank debt – is, whilst not dead, severely weakened and the capital adequacy restrictions on banks will only make things more difficult," he said. "Pension funds are a possibility, but they are not yet happy with construction risk and given their own obligations to governments and beneficiaries will often be shy of going abroad."
Platt said that a potential solution could be a change to a "mini-perm" structure of project financing, which could see projects financed short-term by banks and refinanced on the capital markets post-construction. "There is no shortage of capital market liquidity and infrastructure assets could be a popular class," he said.
"My personal view is that this hasn't happened yet because the situation with the commercial banks is not yet desperate," he said. "Tough sponsors with good projects are able to get things done on the 'old' model and the risk, uncertainty and expense of the structure above is still not insignificant. It all depends on whether the banking market degenerates further."