Infrastructure… It’s a big word and a big opportunity.
Bruce Flatt, CEO of Brookfield Asset Management (NYSE: BAM), calls it “the backbone of the global economy.” It includes things such as transmission lines, dams, roads, bridges, etc. Often neglected, rarely appreciated, except when they fail; these things are vital.
As investments, infrastructure assets offer long-term and sustainable cash flows, like trees that never fail to bear fruit. Infrastructure assets possess a number of very attractive attributes: They usually (but not always) require minimal ongoing capital expenditure. They possess high barriers to entry, limiting potential competition. They often appreciate in value over time and provide a nice hedge against inflation. Infrastructure assets also last a long time, up to 100 years on some assets. So return on investment tends to increase over time.
Yet for all of these virtues, the big institutional money has only just started getting into this area. Today, institutional investors on average commit only 1% of their capital to infrastructure investments, versus about 6% to traditional real estate. Flatt, a talented investor with vision (and a great track record), says the opportunity in infrastructure is similar to that of real estate a couple of decades ago. In fact, he asserts that infrastructure is the “next real estate.” In other words, values for the assets will boom, at the same time that investment interest also booms.
For example, Flatt notes that the market value of publicly traded real estate securities was only about $20 billion in 1990. Today, real estate stocks worldwide boast a market capitalization above $700 billion.
Flatt believes the market for infrastructure stocks will expand in similarly dramatic fashion. At a Grant’s investment conference last May, Flatt told attendees, “We think there’s $35 trillion of new infrastructure to be funded in the next 25 years.” Of that, some $11 trillion is for the developed world, mainly America and Europe. The rest is in rapidly growing emerging markets such as India and China.
BAM has already been an outstanding performer since I recommended the stock in the pages of my investment letter, Capital & Crisis, in February 2005. But I believe a lot of good news lies ahead still. Sometime in October, BAM shareholders will receive new shares of a company called Brookfield Infrastructure Partners (BIP) – an entity dedicated to the operation of infrastructure assets. BAM shareholders will receive one unit in this new company for every 25 shares they own. BAM will retain a 40% interest in BIP and will manage the company under a long-term contract.Brookfield Infrastructure Partners will possess two main assets:
1) Transmission lines – Over 5,000 miles of transmission lines in Chile, serving 98% of the country’s population. Also, another 1,300 miles of transmission lines in Brazil and 340 miles in Canada. The Canadian lines are an important part of that country’s grid, because they connect generators in northern Ontario to electricity demand in southern Ontario
2) Timber – Approximately 634,000 acres of timberland located principally on Vancouver Island, mostly high-value Douglas fir, hemlock and cedar. BIP will also hold another 588,000 acres of similar timberland in Oregon and Washington. Though timber may not normally be thought of as an infrastructure asset, it has all the financial characteristics of an infrastructure asset.
For those keeping score at home, about 62% of BIP’s assets will be transmission lines, while 38% will be timberlands. It’s also a bit of a South America play, with about 48% of book value in South America and 52% in North America. The hydroelectric assets (i.e., the dams) stay with BAM. Going forward, BIP will be the vehicle Flatt will use for any new investment in infrastructure assets – such as highways, pipelines, ports, rail lines, airports, water utilities or other utilities.
Brookfield estimates that it would price BIP at 14 times its annual cash flow of $70 million – or about $25 per unit (there are 40 million units, all told). The partnership should provide about a 5% annual yield based on its expected payout of 65-75% of cash flow.
The idea behind this spinoff is to better showcase the company’s infrastructure assets and get a higher value for them in the stock market, rather than burying them in BAM’s vast empire. Overall, though, the spinoff should have little impact on BAM directly.
As for BAM, I peg its net asset value somewhere between $35-43 per share, compared to a current share price of $38.00. The effect of the BIP spinoff should knock around $1 off BAM’s share price.
More than one quarter of BAM’s NAV comes from its power assets. The company is the largest independent provider of hydropower in North America. One third of BAM’s NAV comes from its rapidly growing investment management business.
The company manages over $70 billion in assets. Bruce Flatt and his team have been growing the company’s NAV every year. So I’d urge existing shareholders to hang onto their shares, or consider buying more below $35 per share.
As for the new kid in town, Brookfield Infrastructure Partners, I like it as a long-term income play. That 5% yield will be nice with plenty of opportunities to grow… as infrastructure becomes the next real estate.
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