In this paper drawn from the EDHEC/Meridiam/Campbell Lutyens Research Chair, and using the largest database of infrastructure cash flows available for research, we compare the revenues, profits and dividend payout behaviour of infrastructure and non-infrastructure firms in the UK.
- We test the difference in revenues, profits and dividend payouts of infrastructure firms and non-infrastructure firms.
- We compare three different families of infrastructure firms categorised by “business model”: contracted, regulated and merchant infrastructure.
- Several control groups of non-infrastructure firms include the private and public equity space with different degree of ownership concentration, proxying for different types of corporate governance and dividend payout behaviour.
- “Matched” control groups are built by size, leverage and profitability and age (years since incorporation) to control for the variables that usually explain revenue and dividend outcomes, including the firm’s lifecycle.
- Infrastructure firms have considerably lower revenue and profit volatility than non-infrastructure firms.
- They are also much more likely to pay dividends than any of the control groups.
- Dividend payout ratios are consistently higher than in comparable private or public firms.
- There is no statistically significant impact of the business cycle on the revenues and dividend payouts of infrastructure, whereas all control groups are strongly impact by changes in four different proxies of the general economy.
In this paper, we conduct the first large scale empirical analysis of the characteristics of cash flows in private infrastructure firms from the perspective of equity owners.
The paper addresses two main questions: do infrastructure firms correspond to a different business model than the rest of the firms active in the economy? and do infrastructure firms exhibit a different equity payout behaviour than other firms?
Are infrastructure firms different?
Our motivation springs from what we have called the “infrastructure investment narrative” (Blanc-Brude 2013), according to which investors in infrastructure can look forward to low return correlations with the business cycle (hence potentially better diversification), as well as lower sensitivity to economic shocks (implying better drawdown protection).
Empirical evidence for or against such hypotheses has so far been very limited. This study is a first iteration in a series of research papers using a new, global and growing database of infrastructure investment data, and aims to measure the relative financial performance of such investments through the creation of fully-fledged benchmarks or reference portfolios.
Here, we are interested in the volatility of revenues in infrastructure firms as well as their relative correlation with macro factors such as GDP growth, inflation or financial markets. We are also interested in the equity payout behaviour of infrastructure firms, relative to the business cycle as well as to other private and public firms.
A Unique New Database
This study makes use of the EDHECinfra database: a collection of cashflow, investment and balance sheet data collected from infrastructure investors and creditors, as well as manually from individual firm’s audited accounts. To date, the database covers more than 500 individual infrastructure assets over 10 different countries and a period of 15-20 years, making it the most comprehensive database of infrastructure cash flows available for research.
For this study, we focus on firms situated solely in the UK: firms identified as being either special purpose vehicle created in the context of the financing of a specific infrastructure project, or a firm conducting specific infrastructure-related activities (such as a port or an airport) or a regulated utility.
Thus, detailed accounts for each firm were obtained from infrastructure investors, lenders and/or from Companies House1 and analysed individually in order to classify each firm into one of three groups: Contracted, Merchant and Regulated infrastructure, which we describe next.
Contracted infrastructure firms are not exposed to end user demand. In the United Kingdom, the Private Finance Initiative (PFI) is the prime example of such projects. Under the PFI scheme, infrastructure investors have delivered a broad range of infrastructure, including schools, hospitals and prisons. Such projects spring from a long-term contract for the provision of an infrastructure asset or service between the public sector and private entity (the firm), by which the public sector commits to paying a regular income to the firm as long as the relevant infrastructure services are delivered according to a pre-agreed specification.
Merchant infrastructure firms in comparison are exposed to some degree of market risk. Such infrastructure projects can have long-term contracts supporting their revenue in the form of a Power Purchase Agreement (PPA) or take-or-pay contract, but as such contracts may cover only part of the project’s capacity or lifespan and the counter-party is typically not the Treasury. Other Merchant infrastructure firms are fully exposed to end user demand and market prices and include airports or toll roads. Finally, Regulated infrastructure firms are typically natural monopolies involved in the provision of essential services, such as sewage treatment, water distribution or power transmission. In the United Kingdom, such companies are regulated by independent agencies such as Ofwat or Ofgem.2
The data span information from the early 1990s to 2015, as illustrated in the figure above.
We focus on UK data because they represent the largest, longest and most coherent set of infrastructure cash flow data available at this time, with the added advantage of corresponding to a single currency and regulatory environment, thus limiting the need to control for these dimensions in the analysis.
Starting from UK infrastructure firms, we can also build several control groups of non-infrastructure firms, with which to compare the data.
Controlling for the different aspects of firm behaviour
Our sample of several hundred infrastructure firms is compared with a “matched sample” of non-infrastructure, UK firms, both private and listed.
Indeed, while public market data on infrastructure related firms has sometimes been used as a proxy of private infrastructure firms, recent research has shown that private firms exhibit significant differences in terms of size, capital structure and dividend policy: private firms tend to be smaller than listed firms, and to exhibit higher leverage, making their profits more sensitive to fluctuations in performance, to have different dividend payout policies than listed firms and to be less inclined to smooth their dividends in the presence of profit shocks.
Moreover, differences in ownership structure in private firms are also shown to explain differences in dividend payout policy between different types of firms (see Brav 2009; Michaely and Roberts 2012 for a detailed study).
To isolate the effect of ownership structure and corporate governance on the behaviour of infrastructure firms, we build three control groups for each one of our infrastructure firm type: private firms with concentrated ownership, private firms with dispersed ownership and public (listed) firms.
Each of these three control groups is then “matched” to each infrastructure firm-year observation of a given type using a “nearest neighbour” methodology for total asset size, leverage and profitability and an exact match for “investment year” i.e. the number of years since the creation of the firm.
Hence, we test the difference in revenue and profit volatility and in dividend payout ratio level and volatility between infrastructure and non-infrastructure firms using nine different tests: three types of infrastructure firms (contracted, merchant and utilities) each compared to three types of corporate governance (private concentrated, private dispersed, public), while controlling for individual firm characteristics (size, leverage, profitability) as best as available data allows.
Such tests go a long way in addressing the matter of the “uniqueness” of infrastructure investments. Indeed, if firm characteristics and corporate governance can be expected to explain in large part the business model and dividend payout behaviour of the firm, then for infrastructure to be unique and not easily replicable by combining other types of investments, it must correspond to a unique combination of firm characteristics and corporate governance.
Likewise, the revenues of infrastructure firms can only create a unique form of exposure to economic factors if their business model is not an easily replicable combination of the business models of other firms.
Infrastructure is unique
We find that, as far as UK data show over the past 15 years, infrastructure firms are indeed truly unique: that is, after controlling for size, leverage and profitability, as well as the impact of the investment “lifecycle”, infrastructure firms exhibit lower revenue volatility and higher payout ratios (dividends to revenue) than any other group of private or public firms.
Compared to their control groups, infrastructure firms have lower revenues and profits per dollar invested, highlighting the capital-intensive and long-term nature of their business;
They are also characterised by significantly lower volatility of revenues and profits compared to their matched control groups, both at the aggregate level (all periods) and at each point in investment and calendar time;
Infrastructure firms also exhibit a very dynamic lifecycle compared to control groups, with unit revenues and profits evolving by an order of magnitude over the investment cycle;
Regression analyses show that different proxies of the “business cycle” have a strong statistical effect on profits and revenues in non-infrastructure firms, but that this effect is absent in the different infrastructure firm test groups i.e. infrastructure firm revenues and profits are less or not linked to the business cycle. Instead, the effect of the “investment lifecycle” is what tends to explains the change in unit revenues and profits of infrastructure firms.
The probability of positive equity payouts in infrastructure firms is also significantly higher than in any of the control groups, reaching as high as 80% after investment year 10 in Contracted infrastructure and the 60-70% range in Merchant and Regulated infrastructure. Control groups never reach a (conditional) probability of payout higher than 40%. These results are illustrated in the adjacent figures.
Finally, equity payout ratios in infrastructure firms are considerably higher than in the relevant control groups, reaching expected values of between 10% and 15% of revenues when matched controls never payout more than 3-5% of revenues. Infrastructure firms payout more often and significantly higher proportions of their revenues than other firms once the lifecycle of the firm is taken into account, as shown in the figures on this page, which show the equity payout probability and payout ratio for each of our infrastructure test groups compared to the matched “private concentrated” group. Similar results for other control groups are presented in the rest of this paper.
Blanc-Brude, Frédéric. 2013. “Towards Efficient Benchmarks for Infrastructure Equity Investments.” EDHEC-Risk Institute Publications, Meridiam, Campbell-Lutyens and EDHEC Research Chair on Infrastructure Equity Investment Management and Benchmarking. Singapore: EDHEC-Risk Institute, 88.
Blanc-Brude, Frédéric, and Majid Hasan. 2015. “The Valuation of Privately-Held Infrastructure Equity Investments.” EDHEC-Risk Institute Publications, EDHEC, Meridiam and Campbell-Lutyens Research Chair on Infrastructure Equity Investment Management and Benchmarking January. Singapore: EDHEC-Risk Institute.
Brav, Omer. 2009. “Access to Capital, Capital Structure, and the Funding of the Firm.” The Journal of Finance 64 (1). Blackwell Publishing Inc: 263–308.
Michaely, Roni, and Michael R. Roberts. 2012. “Corporate Dividend Policies: Lessons from Private Firms.” Review of Financial Studies 25 (3): 711–46.