Written By: Syed Mohammed Ali Raza
In 1962, Pakistan established the National Investment Trust (NIT) with the express purpose of strengthening and supporting the stock exchange by broadening the long-term investor base and providing an investment vehicle to small investors for participation in the stock market. The step to establish NIT was taken to address two key predicaments, firstly to provide small investors an opportunity to invest in the stock exchange which was largely the domain of the rich and privileged and secondly, to attract long term investors. Small investors who participate in the stock market tend to be long-term investors (often saving for a purpose like wedding, home purchase, retirement etc.) and are less inclined towards speculation and unable to manipulate markets (due to their small investment size).
Interestingly, Pakistan took this step well in advance of India, which followed in 1963 with the establishment of the Unit Trust of India (UTI). Pakistan, during the 60’s, overtook the per capita income of India and demonstrated foresight in financial decisions and policy making. We did this by being “early adopters” and pioneers in banking and finance.
Fifty plus years later, unfortunately Pakistan is no longer the “early adopter” of investment vehicles and financial pioneer it once was. There is an unfortunate reliance on debt, and funding requirements for development are either unmet or arranged in simplistic ways.
With the signing of the China-Pak Economic Corridor (CPEC), there is an urgent and pressing need to undertake the development of Pakistan’s infrastructure. This is the first time in the history of our 70-year-old country, that a bankable opportunity has presented itself by virtue of our geographical location. Otherwise, for the longest part of recent history, we had all heard about just how strategically important Pakistan’s geographical location was, first as a base against the Soviet Union and later as a transit economy to connect Central Asia with India via Turkmenistan-Afghanistan-Pakistan-India (TAPI) Pipeline etc.
That was all talk, TAPI never could materialize and was a complex undertaking involving four states, two of which were hostile to Pakistan. But CPEC is different and it is very much real. A bilateral trade corridor between two staunch and time tested allies with both standing to gain from the corridor’s success.
Also real is the need to develop the infrastructure, not just for CPEC but also for the rest of Pakistan. Few countries in the world have ready resources and sufficient idle public funds at hand to undertake the development of infrastructure on the scale required here, and Pakistan is no different. The funding gap for developing the infrastructure required is clear, and we as a country need to take the right steps and make CPEC a success for Pakistan.
Borrowing to build infrastructure is not the solution, for the sheer quantum of funds required will burden our economy and place significant pressure on foreign reserves over the long-term. The solution lies in developing a combination for the financial mix, and this includes private equity and long-term debt financing.
Over the past twenty years, private equity based infrastructure funds have risen to global and regional prominence. Originally developed and utilized in Australia and Canada, private equity based Infrastructure Funds offer a transparent investment vehicle to long-term investors who desire stable returns. Private Equity (PE) based infrastructure funds are raised and managed by a professional fund management company, or a General Partner (GP), for a stated investment objective and mandate from investors, or Limited Partners (LP), who desire to participate in the investment opportunity.
The lifespan of the fund is limited to under 10 years, however for PE based infrastructure funds these can often span between 12-15 years. Fund management companies, or GP’s, will wind up the fund at the end of fund’s lifespan and return the proceeds to the investors, or LP’s. The fund management company charges a management fee to manage the fund (between 1.5 – 2%), and as per industry practice also has a share in the profits earned (usually around 20% of profits) after exceeding a benchmark rate of return.
Fund managers carefully plan the wind-up of the fund by exiting portfolio positions either by sale of portfolio company via private placement or by listing the portfolio company on the stock exchange. Throughout the lifespan of the fund, the investors have access to their fund managers, and are provided with regular portfolio updates, full performance reporting and financial disclosures.
Large pension funds, high net-worth individuals, insurance companies and sovereign wealth funds are prominent investors in PE based infrastructure funds because the infrastructure assets (e.g. toll road) are a long-term investment and provide inflation hedged and stable returns (e.g. the toll increases to keep pace with the inflation rate). Internationally, PE based infrastructure funds have raised USD 283 billion in 2016 alone.1
India has utilized PE based infrastructure funds with great success, and was an early adopter of this investment vehicle. It now has an ever increasing number of foreign and local fund managers. As of 2016, India had USD 9 billion in available funds from PE based infrastructure funds ready for investment deployment for suitable projects, this excludes the tens of billions of dollars already deployed across infrastructure projects in India over the previous years.2 Virtually every large fund manager either has a sizeable allocation for Indian infrastructure or an India specific fund.
Many notable sovereign wealth funds, including the Abu Dhabi Investment Authority (recent commitment of USD 1 billion made to India’s National Investment and Infrastructure Fund in October 20173), Kuwait Investment Authority, Qatar Investment Authority, Government Pension Fund (Norway), Brunei Investment Agency, GIC4 and Temasek to name a few are investors in Indian infrastructure. Multilateral Banks and agencies are also no strangers to the Indian infrastructure space, and the World Bank (WB), Asian Development Bank (ADB), Japan International Cooperation Agency (JICA) and the International Finance Corporation (IFC) all have invested. The newly created Asian Infrastructure Investment Bank (AIIB) also approved an investment of USD 150 million in June 2017 for a PE based Indian infrastructure fund.5
India now looks to export its services as an infrastructure fund manager, and Infrastructure Leasing & Financial Services (IL&FS) of India is collaborating with the Saudi based Islamic Development Bank (IDB) to launch and manage a USD 1 billion fund for 28 countries in Sub Saharan Africa.6
In line with the regional success stories of China, India and many South East Asian countries, Pakistan should urgently work towards launching PE based infrastructure funds. There are a multitude of entities who understand infrastructure and are active in the sector, including the Army Welfare Trust, Fauji Foundation and even several bilateral Development Finance Institutions (DFIs) conceived specifically for boosting investments and trade such as Pak-Kuwait Investment Company, Pak-Oman Investment Company, Pak-Iran Joint Investment Company (now PAIR), Pak-Libya Investment Company, Saudi-Pak Industrial & Agriculture Investment Company, Pak-China Investment Company and Pak-Brunei Investment Company.
Most of the mentioned DFIs represent countries with active sovereign wealth funds who intimately understand PE based infrastructure funds, and can very well be targeted for foreign investment in Pakistani infrastructure.
Even the State Bank of Pakistan, via its publication “The Pakistan Infrastructure Report”7 recommended the establishment of an infrastructure focused development finance institution in line with regional success stories. Pakistan had taken a few steps in the right direction by setting up the Infrastructure Project Development Finance (IPDF) and Infrastructure Project Finance Facility (IPFF) under the Ministry of Finance. The IPDF was conceived to facilitate investments across government departments and the IPFF to facilitate the financial close of qualified projects.
IPDF and IPFF can collectively remove many of the bureaucratic and legislative impediments often faced by sponsors and originators of infrastructure projects. However, both the IPDF and IPFF need to be geared up and strengthened to perform in their intended capacities so that the combination of PE based infrastructure funds and long-term debt can take effect.
In an increasingly competitive global environment, attracting foreign investments is no easy task, but it is very much possible. Pakistan’s economy and the investment opportunity it represents, has all the merit for making a solid investment case. All that is missing, is a transparent investment vehicle foreign investors are familiar with and comfortable investing in.
I’ve experienced this firsthand, in 2005, I was part of a team which raised close to USD 40 million from foreign investors for Pakistan’s first dollar denominated mutual fund. Our fund was domiciled in Cayman Islands and listed on the Irish Stock Exchange, and it provided foreign investors a professionally managed investment vehicle and a transparent structure they were familiar with.
Pakistan is blessed with competent and professional human capital (worth mentioning that some of the Gulf based Sovereign Wealth Funds were initially run by Pakistanis), vibrant capital markets and is close to several of the sovereign wealth funds currently active in infrastructure investment in our region.
In the past, Pakistan demonstrated its financial savviness by launching investment vehicles required for economic development along with policy making and planning. Through this we earned a reputation of being a regional leader, to the extent that aspiring “Asian Tigers” modelled their growth plans on Pakistani blueprints. It is now long overdue that we act in the same spirit, and utilize the platform(s) of our many entities (as named earlier) and launch Pakistan’s first PE based Infrastructure Fund to ensure the success of CPEC and Pakistan’s lasting prosperity.
The writer is a financial professional and has led Investment Banking and Asset Management teams for financial institutions in the United States and Pakistan.
4Published in the UAE publication The National, http://www.nishithdesai.com/fileadmin/user_upload/pdfs/India-s_allure_for_sovereign_wealth_funds.pdf