Friday Letter Structural shifts

Judging from the panoply of deals and fund closings announced during the last week of 2006, private equity real estate investors don’t seem to take many holidays. While many industry practitioners (journalists among them) hit the slopes, sipped eggnog or just sat on the couch and watched American football, some enterprising firms were busy capping off one of the most active years in the history of the asset class.  

On December 28th, down in Brazil, Sao Paulo-based private equity firm GP Investments signed an agreement with Lehman Brothers Real Estate Partners and several other investors to form a $400-million (€304 million) joint venture focused on the country’s property market. Back in the US, the Morgan Stanley Real Estate-led consortium that acquired Town and Country wrapped up 2006 by selling off 16 of the company’s multi-family communities in three separate transactions totaling $677 million. And just before the UK ushered in the new year, the Royal Bank of Scotland put the finishing touches on its sale of 47 Marriott hotels to a consortium of investors for £1.1 billion.

Yet the biggest story of last week had less to do with property and much more to do with ports and toll roads: the $6.5 billion closing of Goldman Sachs’ inaugural infrastructure vehicle, one of the largest pools of capital for the sector.

Over the past year, infrastructure has risen to the front of the financial pages as firms such as Goldman, Morgan Stanley and The Carlyle Group have focused their efforts on the burgeoning asset class. At the same time, prominent infrastructure assets from London Airport in the UK to the Indiana toll road in the US have been snapped up by a growing cadre of firms eager to follow in the footsteps of Macquarie Bank, the industry leader. Pension funds, enamored by the long-term nature of infrastructure investments, have been increasingly willing to buy and governments, hard pressed for cash, have been increasingly willing to sell. And while Europe and Australia have been fertile grounds for infrastructure privatization in the past, the US market has remained largely untapped. All of which is making firms such as Goldman eager to capitalize.

Yet, as in the broader real estate market, the flood of capital entering the infrastructure sector has led to skepticism and, occasionally, alarm. One infrastructure investor recently told PERE: “[Infrastructure] has become red-hot, almost too quickly, because it’s become fairly competitive pretty quickly.” Late last year, Standard & Poor’s went even farther, warning of an impending “bubble” in the sector due to cheap financing and private equity migration into the asset class.

Other challenges, particularly in the US, remain. The furor over the Dubai Ports deal highlighted one of those stumbling blocks. Yet another could be public reticence to part with trophy assets such as airports or pay higher rates for everyday items such as toll roads and utilities.

Nevertheless, such impediments don’t seem to be slowing down Goldman or its competitors. And there appear to be lots of investment opportunities coming down the pike: Ernst & Young has estimated that global infrastructure capital requirements could reach $20 trillion in the near term.
In 2006, firms were busy raising money for infrastructure investment. In 2007, it looks like they will be busy spending it.

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