IN FOCUS6-8 min read

Exploring sustainability in infrastructure

While investors are often attracted to the sustainable nature of infrastructure returns, how much do they know about the sector’s alignment with environmental and social goals?

22/03/2023
Solar panels and trees

Authors

Ashwin West
Head of Sustainable Infrastructure Investments, BlueOrchard
Duncan Hale
Private Markets Group
Emaad Sami
Portfolio and Solutions Director, Infrastructure Debt

Investor perception of infrastructure has long been one of stability; the sustainability of returns inextricable from the tangible and often essential nature of the underlying assets. This intuitive understanding of infrastructure’s characteristics is consistent with the return history. Even so, it risks overlooking some qualities of the asset class, never more important than now.

From shifting the energy mix to greater use of renewables, to the efficiency and safety of roads and bridges, infrastructure touches almost every part of daily life.

Few asset classes have the capacity to more meaningfully impact our environment than infrastructure. None will play a more important role in delivering the changes required in the global fight against climate change.

In this article, we explore how infrastructure can contribute to a more sustainable future, and why so many of the best opportunities are heavily linked to sustainability goals.

How is infrastructure delivering on sustainability targets?

Renewable energy infrastructure offers arguably the straightest line between investment and an explicit intention to work towards sustainability goals. To say the investment opportunity is significant here would be an understatement.

The following is from the International Renewable Energy Agency (IRENA), describing the investment required to keep global temperature rises below 2°C.

“…total investment in the energy system…would need to reach $110 trillion by 2050, or around 2% of average annual GDP over the period. Of that total, over 80% needs to be invested in renewables, energy efficiency, end-use electrification, and power grids and flexibility.”

With the perilous state of public finances globally, much of this investment will need to come from the private sector, with returns appropriate to encourage the level of investment required.

This offers two opportunities for those investing into renewable energy. The first is to be involved in the development and construction of renewable energy, to either monetise or hold over longer periods. The second is to purchase assets that are already constructed to hold over longer periods.

This is critically important to the delivery of the level of investment required. It allows for lower cost of capital to flow into the sector and for those earlier investors to recognise profits to either a) be reinvested into new renewable energy assets or b) be returned to investors, encouraging further short-term investors into the renewable energy space.

However, while renewable energy is a sizeable piece of the energy transition puzzle, it is not the only piece. Another key part will involve at-scale decarbonisation through the so-called “up-greening” of pre-existing, core brownfield operational assets.

Here, debt financing in traditional infrastructure sectors will play an especially important role, given that traditional sources of capital face continued headwinds. Our debt team have financed projects in telecommunication and transportation-related sectors for example, supporting the move towards more sustainable economies alongside a greener future. Europe is at the forefront of these trends.

Sustainability’s components – 17 and counting

Infrastructure’s contributions to net zero will be – if we are successful – a major factor in successfully averting catastrophic climate change. And yet infrastructure’s sustainability credentials extend beyond reducing our carbon footprint.

Climate action is UN sustainable development goal (SDG) #13. There are a further 16 SDGs, designed to be interconnected so that progress on one contributes to one or more of the others.

Rail projects are a good example of this - contributing to various elements of genuine sustainability simultaneously.

One of the most energy-efficient modes of transport, rail comprises around 10% of global traffic but only 3% of total transport energy use. Our infra debt team has financed a railway infrastructure project in France that embodies several sustainability and impact goals; aligning with SDGs 8 (Decent Work and Economic Growth), 11 (Sustainable Cities & Communities), and 15 (Life on Land). The company in question is a signatory to a charter of biodiversity principals set by a French government agency.

The firm is, therefore, committed to defining and communicating biodiversity action plans across their whole value chain. This involved establishing specific taskforces to take into account carbon and biodiversity considerations, ensuring natural habitat and biodiversity were protected.

It also involved the creation of a public awareness campaign to disseminate this knowledge locally. Additional initiatives dedicated to mobility, social inclusion, access to housing and improving literacy rates in its footprint region were also implemented, translating into a total of 18 new local projects.

We have also financed a rolling stock company in Germany with a 100% electric fleet, which contributes to SDGs 9 (Industry, Innovation and Infrastructure) and 13 (Climate Action). This investment case is the first within the rail industry with approved science-based targets in line with the Paris Agreement. The company aims to reduce its own emissions by more than 40% by 2030. It not only leads on ESG standards but also on fleet maintenance, having achieved high grade ISO (International Organization for Standardization) certifications.

Both projects achieved “green bond accreditation”.

Aligning with SDG 12, Schroders Greencoat as the owners and operators of equity investments in biomass projects source raw materials from by-products of other industries, such as waste wood in its Templeborough plant. However, the projects also diverts its own waste materials at the end of the cycle.

In the process of generating energy from biomass, 5% of the fuel is composed of a non-combustible material left over from the combustion process, known as “bottom ash”. After its use, we send this non-hazardous waste material to a site where it can be used for creating breeze blocks. These can be used for constructing houses and buildings, and for road repair materials.

We feel that it is not only economically responsible, but environmentally just, to divert this waste from landfill.

A number of Schroders Greencoat’s solar plants have also taken steps to addressing SDG 15; “life on the land”. Bees perform about 80% of all pollination worldwide and keep our planet’s precious ecosystems growing and thriving.

Bees boost biodiversity and supporting local bee populations is an opportunity to engage with local communities and educational institutions. The team have built apiaries at a number of solar plants. This involves following necessary planning permissions with the Local Planning Authority and ensuring that the construction and maintenance of the apiaries is completed with appropriate health and safety measures in place. The project aims to involve local communities by partnering with local beekeeping groups. A number of school visits occurred in 2022 so that students could learn more about bees, biodiversity and how it can be combined with renewable energy.

In 2022, BlueOrchard backed a company – via debt funding - constructing, owning and operating a portfolio of telecom towers in the Philippines. This addresses four core SDGs. It reaches SDG 8 through the creation of permanent and construction-related jobs.SDG 9 - industry, innovation and infrastructure - is addressed through the contribution of improved digital infrastructure in rural and peri-urban areas.

The new telecoms towers also contribute to better access to affordable and high-quality digital infrastructure in rural and peri-urban areas, thereby addressing SDG 10 (reduced inequalities). Lastly, our loan acted as a signal to other potential investors in the Philippines, which ultimately facilitated the mobilisation of additional international capital into the business, contributing towards SDG 10 (global partnerships for goals).

These are just a few examples of how infrastructure can and does contribute to improved sustainability in the communities and ecosystems in which it operates.

Infrastructure’s new paradigm: what it means, and how managers are engaging

It is a common misconception in infrastructure that investing in ‘new’ parts of the market is substantially more hazardous than investing in tried and tested areas. While this can indeed be true, within infrastructure many ‘new’ areas of investment involve the unfamiliar, rather than risky. In many cases the undertakings are in proven technologies either delivered in slightly new ways or at a scale that hasn’t been commercialised before.

For longer-term investors it can be a profitable misconception. Newer technology might mean new risks and contractual/regulatory structures. And for many investors, that’s enough for them to steer clear. For those with the right technical skills though, those able to take an informed view of the risks associated with the technology and the contractual/regulatory structures, the ‘first mover advantage’ is very real.

Being forward looking in this way and considering both debt and equity as complementary components of an overall infrastructure investment program perpetuates the virtuous cycle of investment-progress-investment. Infrastructure’s secure income returns, in both infra debt and equity, are paramount in our overall investment focus. Delivering sustainable returns plays an anchor role in many investors’ overall infrastructure and private debt programs. Crucially, this allows investors to further support next generation assets in earlier phases of projects or technology roll-outs through both debt and equity investments.

We are supportive of financing emerging areas of infrastructure with existing or clear line of sight towards sufficient commercialization scale. Supported by appropriate contractual or regulatory frameworks, business or technological risks can be mitigated. This is crucial to long-term sustainable investment; investors are actively able to develop even greater efficiencies.

Tilting long-term portfolios positively towards sustainability considerations isn’t just good for the planet but feels like the only prudent thing to do given the direction of travel we are seeing in the market and economy.

Indeed, there is a strong argument that sustainability factors are inclusive and additive to traditional risk analysis. Traditional risk management is not being disrupted due to sustainability targets and considerations, but enhanced. The shift to a low-carbon and more climate friendly future calls for a proactive approach to monitoring appropriate key performance indicators (KPIs). Sustainability factors not only offer opportunities but need to be embedded into ongoing risk management.

Who is likely to be most affected by the transition to a low carbon energy system?

There is a real opportunity in technologies that can deliver predictability to the grid. Large amounts of low-carbon electricity is generated through renewables, but it is largely intermittent.

From a decarbonisation perspective, there are three large umbrellas where fossil fuels have historically been used and solutions have needed to be found; these are electricity, heat and transport. The decarbonisation of electricity has without a doubt been the most successful of the three areas (it is also the easiest) but even it has challenges; how do you keep the lights on when it isn’t windy or sunny?

Storage is one answer, and we are seeing more batteries being developed and looking to be built over the coming decade. Nuclear, which provides a steadier and less-weather dependant streams of electricity - known as base-load - at huge scale is another area where investment is required.In the other two areas of heat and transport, there has been less success. This is where looking to leverage the success in de-carbonising electricity offers opportunities. If we can find a way to convert and use green electricity efficiently into different power sources, that is an integral part of decarbonisation.

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Authors

Ashwin West
Head of Sustainable Infrastructure Investments, BlueOrchard
Duncan Hale
Private Markets Group
Emaad Sami
Portfolio and Solutions Director, Infrastructure Debt

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