Too much of a good thing?

GPs springing fund extensions on their investors should beware a cool reception, writes Andy Thomson.

Readers of this publication know very well that there has been considerable debate whether the appropriate fund model for infrastructure is closed-ended, open-ended, or something in between.

Making a pitch for the “in between” vote, Australian fund manager First State Investments recently adapted the open-ended structure of its European fund to a 15-year life with the option of extending the life in five-year blocks. Extensions will be green-lighted where they have received at least a two-thirds majority of investor votes at a strategic review.

The move is First State’s attempt at reconciling two apparently contradictory forces: one, limited partners’ call for greater liquidity and evidence that infrastructure funds can deliver exits; and, two, the long-duration cash flows that investors say they want from the core infrastructure space.

Whether or not this is the definitive solution, it at least avoids taking investors by surprise. One limited partner recently told us of his displeasure at a trend he was noting for closed-end fund managers to unexpectedly request fund extensions.

One reason for the unease is simply that it is contrary to the original agreement between fund manager and fund investor. But there is a second, less obvious objection – and this applies even where a perfectly coherent justification for the extension has been put forward. Namely, infrastructure is still such a young asset class that the funds just coming to maturity now are first generation. Institutional investors have been eagerly awaiting these funds reaching the finish line so that their performance can be judged, and benchmarked against other asset classes – and managers.

In private equity, for instance, the asset class has a long-enough track record of finished funds that it is easy to see who has delivered and who has not (and for GPs to take credit for being a ‘top decile’ manager, for instance). No such luck in infrastructure, where the only unlisted performance figures the market has is still the occasional IRR that trickles out from a pension document or a conference podium. The LP we spoke with expressed frustration that this much-needed benchmarking process will be delayed if the fund extensions becomes common practice.

It is often noted that the amount of capital being sought by infrastructure funds in the market is a lofty number – 95 funds seeking $75 billion according to recent estimates by placement agent Probitas Partners – and also that very few limited partners speak of a desire to reduce their infrastructure allocations.

Why then is fundraising still such a tough slog for many? One of the reasons is that limited partners just don’t yet have enough confidence in infrastructure’s track record. With that in mind, fund extensions may be an unwelcome diversion for investors keen to judge the merits of the asset class.

*Fundraising will be the cover story of the April 2011 edition of Infrastructure Investor. It will also be a major talking point at our annual Europe 2011 event in Berlin next week (see here for details).