Profiting from disaster

There is good money to be made when infrastructure concessionaires collapse – just look at how quickly hedge funds replaced the 24 lenders on the hook for Australia’s Clem7 toll road.

When RiverCity Motorway, the operator of Brisbane’s Clem Jones tunnel (known as Clem7), threw in the towel recently and opened its doors to the receivers, it was tempting to write it off as just another failed Australian toll road operator.

After all, that’s what happens to toll road developers Down Under, isn’t it? They collapse after a few years in operation. Why? Well, they just don’t seem to know how to forecast traffic in Australia. For some reason, they tend to come up with massively inflated traffic numbers that fail to materialise in the real world. When that happens, it’s game over – as it was for the operators of Lane Cove tunnel, Sydney’s Military Road e-ramps and the Cross City tunnel.

It all seems like a terrible waste of money. But is it really? That depends on what side of the default line you’re standing on. The hedge funds said to have already replaced half the 24-bank syndicate that was left on the hook with some A$1.3 billion (€954 million; $1.3 billion) in debt when Clem7 collapsed might beg to differ.

These funds have been snapping up Clem7 debt from banks at between 40 cents and 50 cents on the dollar for the last couple of months. And they are not doing it out of charity: they are expecting a return on their investment of between 20 percent and 25 percent, according to one industry insider.

Sound far-fetched? That depends on Clem7’s sale price. If you bought debt at 40 cents on the dollar and it ends up being sold for A$650 million, as has been touted in some Australian newspapers, you’ve just netted yourself a decent return.

Helping you to that decent return are firms like Korda Mentha, the appointed receivers to Clem7. For at least half of their paymasters, their job is not primarily to salvage as much as they can from the wreck, but to actually turn a profit. In fact, one the best deals on Clem7 debt – Unicredit’s alleged sale of its debt at 50 cents on the dollar – was said to have been clinched after Korda Mentha stepped in.

It’s not only hedge funds able to profit from such disasters. There are plenty of opportunities during these assets’ life-cycles to make money out of risky behaviour.

Looking on the bright side

Traffic forecasters, for example, are under enormous pressure from their clients to come up with the ‘right’ figures in order for them to win these bids. So it’s little wonder that forecasts end up focusing on the sunny side, especially since the forecasters themselves have no stake in these projects, and are not dependent on their success to get paid.

Procuring authorities should shoulder some of the blame, as they sometimes receive upfront payments from the winning consortia – as in Lane Cove – and as such are unlikely to discourage over-optimistic traffic predictions and the inflated asset valuations they create.

While not directly profiting from these risky structures, the buyers of distressed assets are nonetheless in an excellent position to make money from shipwrecks. When they acquire them, they are effectively buying a built asset (neatly sidestepping construction risk), maybe with synergies to some of their other assets, and, by the time they acquire a position, aided by more realistic traffic forecasts.

So, while there are undoubtedly many losers from these failed public-private partnerships, the infrastructure investment ecosystem also creates plenty of opportunities to profit. Until that ceases to be the case, it will be very hard to avoid future repeats of these collapses. As it stands, the system does not discourage risky behaviour. On the contrary, it actually creates plenty of opportunities to make a good living from it.