20 minute read
John Pickhaver | Co-Head, Australia and New Zealand, Macquarie Capital
Key points:
• The global economic outlook is improving. • Australia enjoys good fundamentals, but sees low consumption, growing living and utility costs, and other infrastructure and economic pressures. • The infrastructure market will be impacted by changes in technologies and demographics across all sectors – including the rise of the ‘millennial’.
I will provide an overview of the global economic outlook, and an overview of the Australian economy, before looking at how the Australian economy is providing opportunities to invest in infrastructure. We will look at market activity and draw together some themes from an infrastructure perspective.
Firstly, how are we feeling about the world? The world is feeling pretty good. The global volatility index is well below its long-term average, notwithstanding some recent small spikes due to the North Korea–Trump rhetoric, and the Barcelona terrorist attacks. This is reinforced by the fact that, over the last five years in particular, the global economy has continued to grow. We have had consistent global Gross Domestic Product (GDP) growth of 3.5 per cent, which is forecast to continue. This is in line with the long-term global GDP growth since 1980.
A growing economy is a good thing from an infrastructure perspective. As our economies grow, we need more infrastructure, and we are growing at a rate that supports continued infrastructure investment. One of the drivers is population growth. Australia has had consistent population growth of about 1.5 per cent, which is above the advanced economy average (about 0.5 per cent), and the emerging and developing economy average (about 1.3 per cent).
The other key driver is that globally, both the manufacturing and services sectors are expanding. This is true across the major economies, including the United States, China, the European Union and Australia.
Additionally, the cost of capital is at an all-time low. Although we are expecting a slight increase in the 10-year government bond yields, after having already witnessed a slight increase in the US Federal Funds Rate, the increases are minimal to date.
What about Australia’s key trading partners?
In the United States, unemployment is at a 16-year low. Employee confidence has returned to historic highs, indicating a tightening in the labour market. Although the United States’s housing market is still significantly below the long-term average, it has started to pick up.
In China, we are seeing growth slow down; increasingly, it is being maintained at much more sustainable levels because growth is driven by consumption, rather than government investment. The percentage of global trade out of China has overtaken the United States, Germany and Japan, which emphasises China’s importance on the global stage, both economically and geopolitically.
China is also moving to a more service-based economy. Using education as a proxy indicator, the percentage of college graduates as a proportion of the population is increasing significantly – a continuing trend since the 1980s and 1990s. This is also reflected in the manufacturing and construction components of GDP, which are coming down as services become the key drivers in China’s economy. Services now contribute more than 50 per cent towards China’s GDP. It is also worth noting that, while manufacturing has dropped off, China has maintained its infrastructure spend over the last five years.
The perception is that Europe is in a sluggish, slow-growth situation, but it is doing alright. Growth is around two per cent, which is in line with expectations from the European economy. Inflation is now tracking at about two per cent, having emerged from a deflationary period, and this means more consumption and more growth.
What does that mean from an infrastructure point of view globally?
This is a trend that we will explore as we move to examine Australia. Australia compares well globally in terms of the percentage of GDP spent on infrastructure. We spend about 3.5 per cent of GDP on infrastructure, which is well above the global average, as well as that of Germany, the United Kingdom and the United States.
Growth in the Australian economy is trending well, with the latest GDP figures quite positive. Forecasts from Macquarie research put GDP growth in the 2.5 to 3.5 per cent range going forward, with inflation safely in the two to three per cent band over the same period.
The key challenge facing the Australian economy is consumption, including household attitudes towards consumption. There are a number of reasons for this. Firstly, disposable income, and therefore expenditure, is tracking down. This is due to what people are feeling day to day, including an increased cost of living as a result of higher housing and energy prices. We all know that housing prices, particularly in Sydney and Melbourne, have increased dramatically. Energy prices have traditionally tracked the consumer price index, but have begun to diverge from this as a result of big investment in the networks businesses, increasing the cost of distribution, transmission and also recent increases in wholesale energy prices. The second reason for low consumption is that household debt remains historically high.
The big drivers of demand for increased investment in infrastructure still remain: 1.5 per cent population growth has been very consistent and will continue. There will be an additional 40 million people in Australia by 2060, with two-thirds of this increase to occur in capital cities. In terms of internal net migration, South East Queensland and Victoria are growing, largely at the expense of Western Australia, South Australia and the Northern Territory. We are the most urbanised nation on Earth, and that trend is expected to continue.
Moving now to what is happening in the markets. We have seen construction activity trending down since 2012 as the mining boom eased off. Urban projects in New South Wales and Victoria are now the drivers of construction activity. Following the resources boom, construction activity has been largely
driven by transport infrastructure and increasingly energy and utilities, and these areas are expected to remain the areas with the most investment opportunities over the forecast period.
How is infrastructure spending divided between public and private spending?
Private infrastructure spending was the key driver through the resources boom, and government spending has been flat over the last few years. This has started to increase now, mainly driven by the New South Wales and Victorian governments, both of which have forecast infrastructure expenditure of more than $70 billion over the next four years. At the same time, Federal Government infrastructure expenditure has been largely stable, and while there are a number of high-profile new national projects, spending declines if you look over the forward estimates.
In terms of the private sector, investment in capital expenditure is still running below long-term averages, which is a global trend. Looking at industrial companies’ ratio of capital expenditure (capex) to sales, it remains below long-term averages and continues to trend down. Companies do not have the same confidence levels to invest as they did in the early 2000s. This is despite the fact that capital is readily available. Our superannuation capital balance continues to grow, and unspent capital allocated to infrastructure continues to rise.
The recent reporting season has shown us that the performance of industrial, transport and utilities companies was a highlight, relative to telecommunications and finance. Energy and industrials companies (including transport) saw 5.0 per cent and 4.4 per cent increases in share prices, respectively, through the reporting period. Utilities share prices grew 2.1 per cent, while telecommunications and financials share prices declined by 10.8 per cent and 3.1 per cent, respectively. One of the big themes to come out of the reporting season was that the outlook for capex and infrastructure is very positive. Commodity companies are also starting to deliver. As noted earlier, consumer spending is, however, constraining growth at the retail level.
In mining, there has been an increase in profitability, but spending on capex has not yet increased; rather, profits are either being held, or returned to shareholders. The sentiment for infrastructure and resources-exposed companies has continued to be very positive over the past year and a half. It is worth noting that transport infrastructure and utilities have outperformed the ASX 200 over the past five years.
Infrastructure outlook
In terms of the infrastructure outlook, we have drawn out four key themes that Macquarie believes will drive infrastructure investment over the medium term. The four themes are: ► energy and renewables ► city building ► millennials ► government and private sector collaboration.
Energy and renewables
Energy is very topical at the moment, following an increase in energy prices and the resulting political debate. There is highlighted political discussion, and there is a lot of coverage in the media. Fundamentally, Macquarie is seeing a big investment opportunity in the energy space, resulting from the retirement of coal-fired generation and cost reductions in renewable generation, which means that the role of renewables in the market continues to increase. By 2036, renewables are estimated to provide 60 per cent of market capacity, with coal estimated to drop from its current 48 per cent share to 12 per cent. This means that there is a big investment opportunity in renewables and supporting infrastructure, such as firming capacity, storage and additional transmission. There is also
an opportunity for businesses to involve themselves in the regulatory reform process currently underway.
City building
City building continues to be the focus following the mining boom. Health expenditure is a key driver here, as annual healthcare expenditure is expected to double as a portion of GDP by 2060, with aged care expenditure expected to triple. Education investment is also critical to support the growing population, alongside housing. This presents a real opportunity to combine different types of infrastructure. In transport, we are seeing projects being combined with commercial and residential developments, and health precincts. In this type of environment, there is an increased role for planning in order to get each of the different infrastructure opportunities right.
Millennials
Millennials will make up 75 per cent of the population by 2025, and will earn and spend $2 out of every $3. The trends that we are seeing in their spending patterns will drive infrastructure investment. Millennials are much more focused on renewable and green generation, and are willing to pay more for it. They support increased public transport, and increasingly see transport as a service. Millennials are also happier to rent, as opposed to owning property. More importantly, the use of digital and technology applications has increased dramatically. In terms of infrastructure, this means that there needs to be more emphasis placed on technology-enabled service provisions as part of our infrastructure spend over the medium term.
Opportunities for businesses to become involved in the reform process
The fourth and fi nal theme is the relationship between business and government. Currently, we have some states facing big budget constraints, while others have ambitious infrastructure targets, such as those in New South Wales and Victoria. As reform and regulatory changes occur – as is happening in the energy market now – there is an increased need and opportunity for businesses to engage with government. As a sector, we should encourage partnerships where business is able to be involved in the regulatory process, participate in reviews, and provide ideas and solutions to government.
Businesses should be more engaged with the stakeholder side, as well. Businesses have a role in publicly advocating for projects, but also more broadly for reform. Unsolicited proposals are a key part of this, and they are becoming increasingly common. The key message resonating from this theme is that businesses should continue to engage with government and the public sphere in relation to infrastructure to initiate reform and to support muchneeded infrastructure projects.
John Pickhaver – Co-Head, Australia and New Zealand, Macquarie Capital
John Pickhaver is the Co-Head of Macquarie Capital for Australia and New Zealand, and has 17 years of experience in the fi nance and infrastructure sectors, both as a civil engineer and in infrastructure fi nance.
While at Macquarie, Mr Pickhaver has advised on corporate and project fi nancings, mergers and acquisitions, and arranging debt and equity for a variety of transactions. Mr Pickhaver has also provided strategic fi nancial advice to corporates in relation to capital structure reviews, and to governments in relation to projects, assets and fi nancing.
Previously, Mr Pickhaver worked for a number of years as a civil engineer in Australia on infrastructure projects, before completing his doctorate at Oxford University in civil engineering, and subsequently his Master of Applied Finance.
Are we harnessing the energy transition?
By Craig Shortus, Head of Utilities & Infrastructure Australia, ANZ; and Tsen Wong, Director, Utilities & Infrastructure, ANZ.
Among the consequences of the storm that cut power in Victoria late last year was Alcoa’s closure of one of two potlines at its vast Portland smelter. Although the disruption lasted just a few hours, it took months to get the line up and running again. The outage was a stark reminder that we need to act now to secure Australia’s energy future.
As reliability has declined, electricity prices have soared. Earlier this year, some businesses faced price hikes of around 20 per cent.
These two elements – cost and the reliability of supply – lie at the heart of the challenge. Also, there is sustainability, with corporates expected to consider their carbon footprint and how they source energy. The challenges in getting this right are significant; larger still are the costs of getting it wrong.
In transition
Australia’s ongoing energy transition will eventually see zero-carbon renewables, such as solar, wind and hydro, provide the bulk of its energy requirements.
Gas has a vital role to play as a bridge – but the rapid rise in gas prices coinciding with the shutting of nearly 15 per cent of Australia’s ageing coal-fired power stations recently has undermined that, with more to come (for example, the Liddell Power Station in New South Wales).
An inconsistent approach, and lack of consensus on the way forward between federal and state governments, has complicated efforts.
The recent Finkel review tackles these issues with a multi-decade blueprint focusing on four areas: increased security, future reliability, rewarding consumers and lower emissions.
The paper foresees a reduced role for coal by 2050, and a vast increase in the use of renewables – from 28 per cent in 2020 to either 73 per cent under a clean energy target (CET) policy, or 70 per cent under an emissions intensity scheme (EIS). As the paper points out, wind power is now cheaper than coal, and solar is closing fast.
Firmly mid table
When it comes to energy development, dozens of countries are ahead: Australia ranks in 53rd place in the World Economic Forum’s 2017 Global Energy Architecture Performance Index, just behind the United States and Israel.
Switzerland, Norway, Sweden, Denmark and France lead the way; Sweden’s investment in renewables is helping it to reach its target of 50 per cent of consumption from renewable energy ahead of schedule.
Source: AEMO, ANZ 1999 2002 2005 2008 2011 2014 2017 TAS VIC NSW QLD SA Some businesses faced price hikes of around 20% this year as reliability declines Source: AEMO The index assesses each country based on three factors: how well its energy architecture meshes with its economic growth; the impact of its energy supply and consumption on the environment; and the extent to which the energy supply is accessible and diversified. It is the second of these factors in which Australia fares particularly poorly. The Australian Government’s acceptance of 49 of the Finkel review’s 50 recommendations is a welcome step to building a more secure, reliable and lower-cost energy future. But without the 50th recommendation – the clean energy target – this will not provide the clear direction and investment certainty required to ensure an orderly transition.
Self-reliance
Improving Australia’s energy mix will require investment in new energy assets. Uncertainty has seen some companies implement their own solutions. The road to self-reliance is not straightforward, but the benefits – reduced volatility and operational
risk, and improved sustainability and reputation – are worth the effort.
There are three common solutions: embedded networks; commercial and industrial solar; and corporate powerpurchasing agreements (PPAs).
Among the first group are embedded networks that use a trigeneration plant: these take in gas, and simultaneously output power, heating and cooling. Melbourne Airport installed an eight-megawatt tri-generation facility in 2014, for example. Sydney Town Hall began running a 1.4-megawatt tri-generation system last year to manage peak demands, and will sell excess power to the grid.
Secondly, commercial or industrial solar allows a business to cut its operating expenditure and boost supply reliability, particularly when combined with storage and an energy-management system. Examples include Sydney’s International Convention Centre, which installed a 520-kilowatt solar array on its rooftop that will provide around five per cent of its energy requirements.
Thirdly, a number of larger energy users have explored using corporate PPAs to underwrite the supply of electricity. Corporate PPAs – in which a company either buys renewable energy from an independent generator, or invests in energy generation itself – have become increasingly popular. The trend is led by the United States, where Facebook, Amazon and Alphabet were among the first entrants.
It’s important to understand that corporate PPAs are complex agreements and require a far longerterm commitment, typically a decade and ideally longer, to underwrite a project. Yet, they are finding traction in Australia as organisations look to ensure that their infrastructure energy needs become more self-reliant. In May, for instance, Telstra signed a PPA with RES Australia to buy the output of the latter’s 70-megawatt solar farm that is being built in Queensland.
Also in May, Sun Metals began work on a 125-megawatt solar farm to supply energy to its zinc operation outside Townsville. And earlier this month, Newcrest Mining said rising electricity prices meant it was assessing whether to install a solar farm at its Cadia mine in New South Wales.
Universities are going down the selfreliance path, too: Monash University, which recently put out a request for a proposal for an annual 55-gigawatt-hours renewable project, expects all its energy needs will be met by renewables by 2030.
Corporate PPAs allow companies to access the power and green certificate without needing to own the asset. That has benefits for the balance sheet, and it takes advantage of the supply of competitive capital seeking exposure to renewable energy assets.
But what works for organisations like these might not work for all. Other factors to consider include: consumption levels and the shape of that consumption over a 24-hour period; whether the organisation has an investment-grade credit rating, which is key for obtaining financing; and whether it has the internal capability to manage the risks associated with a PPA on an ongoing basis, or is at least prepared to set up such a capability.
The complications don’t end there; for example, if a company is contracting with a renewable supplier, it also needs to consider issues around supply fluctuation – also known as ‘firming’ – that are inevitable in a variable energy generator.
Decentralising energy assets
These changes in organisational (and indeed in household) self-reliance fit a broader pattern in the energy sector: the decentralisation of energy assets. Take solar PVs: a decade ago Australia had just nine megawatts of installed capacity; today it stands at a little over 6,200 megawatts.
There is a movement towards sustainability in social infrastructure, too, as we’ve seen in hospitals, schools, prisons and low-cost housing. The best time to incorporate on-site generation assets is during the initial design and construction; this ensures lower costs and futureproofs the structures.
We expect self-reliance will become increasingly sophisticated, with declining battery costs and the ability to use energy-management software to trade surplus electricity from solar, creating localised trading markets. Peer-topeer trading, virtual grids and demand management will further disrupt the industry, bringing changes to the existing centralised energy model.
The journey towards self-reliance – distributed generation – is only going to accelerate.
We’re at a critical juncture of energy transition, and federal- and state-based policies must work and complement each other. Clearly, that’s a significant challenge, but it’s also a real opportunity for Australia. Our access to plenty of sun, wind and land should ensure that Australia plays a leading role in energy development for the foreseeable future. ♦
Effective use of data for making informed decisions
By Ben Calder, Bid Manager; and Amy Lezala, Section Lead – Through Life Engineering, Rail & Transit, Infrastructure, SNC-Lavalin
With new technology fuelling infrastructure innovation, the project pipeline of today creates exciting opportunities for us all. Looking across SNC-Lavalin’s (SNCL) sectors of infrastructure; power; oil and gas; and mining and metallurgy, it’s evident that in the digital infrastructure future, those who can smartly use their data will yield the most from these opportunities.
As part of the infrastructure sector, rail and transit is a real case in point.
Major rail infrastructure investment often headlines federal and state budgets. Rail ticks all the boxes: it stimulates the economy, creates jobs, improves livability and is environmentally friendly.
For these very reasons, it’s unsurprising that the Federal Government has committed heavily to rail infrastructure, including $10 billion for the National Rail Program to fund urban and regional rail projects; $500 million for Victorian regional passenger rail; $1.2 billion for the Metronet rail project in Perth; and $5.3 billion for the Western Sydney Airport project, for which SNCL has delivered the rail link feasibility design.
Australia’s thirst for rail is palpable, as shown by the pace of three major projects across the country: the Sydney Metro Project, the Cross River Rail project in Brisbane and the Melbourne Metro rail project. New projects provide the opportunity to implement new technology and new thinking, raising the bar in client demands and expectations.
The old adages of ‘sweating the asset’ and getting the best ‘bang for the buck’ take on a new meaning in a world driven by rapidly changing technology. So, how do we deliver the assets today and get the best out of them tomorrow? In today’s world, making informed decisions will always come down to one thing – data.
Data, especially big data, is an increasingly valued business commodity, and will undoubtedly be the backbone of future transport planning, delivery and utilisation around the world. Beyond the hype, we need to use data effectively in the context of major infrastructure development, and ensure that the asset is delivering on the investment.
In the rail sector, time and time again we talk with clients whose challenges revolve around how to make practical sense of it all. These are often clients who have invested in infrastructure and embedded the data collection systems, but do not yet have the means to use it.
SNCL is responding. We are helping clients around the world to interpret their data, identifying trends through analysis, and working side by side to develop meaningful business strategies and actions. We work with our clients to connect asset management and performance systems that have previously been isolated within the business.
One example is our widely used SNCL-Connected, a remote conditionmonitoring service, which provides near-real-time information and trend analysis of a railway asset’s health and performance. There is also our long-established IWT4 instrumented wheelset technology, which enables clients to collect vehicle and infrastructure performance data. Both examples drive engineering innovation, operational performance and reduce whole-of-life costing.
For SNCL, the delivery of world-class projects underpinned by data-driven strategy and action plans is key to helping our clients make the most of the digital infrastructure future. ♦
