Banking on Finance
Innovation in infrastructure finance is happening on many fronts
When the new Liberal government made a commitment of $120 billion
over 10 years in new federal infrastructure funding commitments in the
2016 federal budget, you might have thought that would be a game changer
for infrastructure finance. You’d be wrong.
It’s a slate of
large transit projects right across Canada that is changing the way such
infrastructure developments are financed.
Projects like new
light rail transit lines in Greater Vancouver, Ottawa and Montréal among
others cost many billions of dollars each.
have never been interested in the long end of such big projects, which
require massive financing commitments, often for 25 or 30 years,
traditionally yielding to their Japanese and European counterparts.
But there are new players in town: Large public pension funds and broadly marketed and rated bonds.
“We’re seeing fewer and fewer bank deals and on larger projects almost exclusively bond financing,” says Ilan Dunsky, National Co-chair of the Infrastructure and PPP group at Dentons Canada in Montréal.
“Even the European and Japanese banks who were interested in these
kinds of Canadian projects are being squeezed out by bond financing
because the interest rates you can get on a bond are so attractive. So
the number of projects that are financed by bond issuances and also the
proportion of each project that is financed by bonds is rising.”
But that kind of structure may have clouds on the horizon.
Ian Bendell, a foreign legal consultant working with the global
projects, infrastructure and public-private partnerships group at DLA Piper (Canada) LLP,
says there are “points of contention” between the rating agencies that
rate the bonds and the way long-term investors view the same projects.
“That’s certainly something we’ve been seeing more of, and that could
be an interesting area to watch over the next year,” he says. “What
seems to be happening is rating agencies have looked at a structure and
taken a view that it should be rated at a particular level, and the
long-term investors are looking at the same structure and asking whether
that rating is not too harsh.
“I think we’re going to have to
be a little careful about the view long-term investors take as opposed
to the view the rating agencies are taking.”
How will the
market know if the issue flares up into more than a few small
skirmishes? One dead giveaway: investors will turn their backs on an
underwritten bond, he says.
“In those circumstances the
underwriters are left holding the bonds, which, in the Canadian market,
is not what the underwriters generally want to do,” says Bendell, who
works out of the firm’s Toronto office.
“What that will mean is
either the structuring will have to get tighter so the rating is agreed
by all three at the appropriate level or, alternatively, you’re going
to find the spreads the underwriters are creating are going to move out
because they don’t want to be left holding the baby.”
deal is in the $5-billion range; many infrastructure deals that involve
green energy, public housing or climate change are significantly
Carol Pennycook, a partner in the Toronto office of Davies Ward Phillips & Vineberg LLP,
says that, while the infrastructure bond market remains robust, the
Japanese banks in particular have begun to show up again on these kinds
of projects “in in a big way.
“Bank of Tokyo-Mitsubishi UFJ
have been very active in renewable energy like wind and solar, and are
becoming more active in Canada. I think they’re doing some P3 financing
as well. Sumitomo Mitsui has been active in both those areas. They were
one of the short-term lenders on the bank side on the Edmonton Valley
Line [light rail].”
Then there’s the China factor. “The Chinese
banks are certainly setting up a foothold here,” says Pennycook. “I
just haven’t seen them yet in the infrastructure arena, but I think
there are now some Chinese state-owned entities looking at trying their
hand on the design and construction side. They haven’t really hit the
market here yet, but I know that they’re looking at it.
would expect that if they do come in they’ll need to partner up with
local contractors first of all and secondly they would probably bring
banking relationships with them, and then maybe you’d see the Chinese
banks there. Once people started in that end, they’d be more likely to
Bendell says large US capital pools are also becoming
more interested in the bigger project sizes, and Canadian project
companies are increasingly seeing US investors as a way of widening the
pool of long-term funds, “and are designing instruments that adhere to
US securities regulations and allows them to sell into the United
“In some cases, people are not as familiar with the
infrastructure market in Canada, but I think it will only take a number
of deals where these types of investors are getting their cash in order
for it to be perceived as a relatively liquid market for investment in
In Canada, the long-term
debt component of financing large P3-type projects these days is
usually done by private placements to life insurance companies and other
large capital pools that use them to offset long-term liabilities.
Big pools of capital like big projects. It’s that simple.
They haven’t found projects under $1 billion interesting, with the due
diligence, legal and other professional work eating up too much of the
“The big pension funds in Canada, the big
pools of cash, the one complaint they’ve had up to now is that there are
few very large projects in Canada,” says Erik Richer La Flèche, who co-heads the Infrastructure Group at Stikeman Elliott LLP in Montréal.
While all the larger transit-related projects are attracting attention,
one in particular is seen as a serious potential game changer. It is
the Caisse de dépôt et placement du Q uébec effectively acting as the project developer and issuer on Montréal’s $5.5-billion light rail network.
Richer La Flèche calls it a new model of “public-public” partnership for a government-initiated project.
Normally, the role Q uébec’s
pension fund is taking would be assumed by the private entity that is
going to build and operate the highway or rail network.
The Caisse de dépôt – created by an Act of Q uébec’s
National Assembly – is effectively cutting out the middle man. “In
something like this, the Caisse provides a buffer for the government in
terms of political considerations — local content, tariffs, location,
lobbying and that kind of thing.”
The Caisse has said it is willing to assume $3 billion of the estimated total cost but was looking to Ottawa and Q uébec City to kick in the balance.
Richer La Flèche says having a behemoth like the Caisse put up the
money needed to become a preferred proponent (or bidder) – a process
that often requires private entities to get and hold hundreds of
millions of dollars in financing for six to eight weeks while the
government makes its choice – is a boon for the private sector because
it frees them up to work on more projects.
contractors would prefer to leave the financing to the owner. It impacts
their ability to borrow, so it restricts the number of projects they
can bid on and work on.”
Ehren Cory, Divisional
President, Project Delivery at Infrastructure Ontario, says agencies
like his across the country “will be watching [the Caisse] with
“We’re always looking at what other jurisdictions are doing, whether Q uébec
or British Columbia or other countries, because we have a shared
interest in continuing to innovate around these large transit projects.”
Dunsky says one of the more interesting trends in infrastructure
financing is coming from Australia. It’s called asset recycling and it’s
a form of privatization — with a catch.
“What the federal
government there has done is establish a program whereby they
essentially offer funds to the state government if the state governments
will sell, in whole or in part, infrastructure to the private sector.
If they use the money from the sale to develop new infrastructure as
opposed to just putting it into general revenues, then the federal
government makes a contribution towards the new infrastructure as well.
“I know the federal government of Canada is looking at that right now.
Obviously we don’t know whether they’re going to adopt it and, if they
do, how it would work but a program like that essentially unlocks tens
of billions of dollars of value to be used for infrastructure financing.
To an extent it’s not new because federal and provincial governments
have privatized infrastructure assets before but the idea of recycling
the money into other infrastructure projects instead of just putting it
into general revenue is interesting.”
The other thing everyone in the area has been waiting to see is the promised federal government infrastructure bank.
In his Mandate Letter to Amarjeet Sohi, the new Minister of
Infrastructure and Communities, setting out the new Liberal government’s
top priorities, Prime Minister Justin Trudeau wrote: “Work with the
Minister of Finance to establish the Canada Infrastructure Bank to
provide low-cost financing (including loan guarantees) for new municipal
infrastructure projects in our priority investment areas.
“This new institution will work in partnership with other orders of
governments and Canada’s financial community, so that the federal
government can use its strong credit rating and lending authority to
make it easier – and more affordable – for municipalities to finance the
broad range of infrastructure projects their communities need.
“This should include preparing for the launch of a new Canadian Green
Bond that can enable additional investments when a lack of capital
represents a barrier to projects.”
As for the government’s
$120-billion commitment to fund new federal infrastructure, none of the
lawyers or provincial infrastructure officials contacted said they had
yet been given any understanding of exactly how those numbers break