Tapping equity in the London market
London listings are being used by some investment managers to raise capital to invest in US renewable energy assets.
US manager, NextEnergy Capital, announced a planned £300 million raise in early February for a renewables investment trust that will invest in private funds run by both its investment manager and third-party firms as well as make co-investments and direct acquisitions of infrastructure projects.
Tortoise Ecofin launched the Ecofin US Renewables Infrastructure Trust PLC in December 2020 raising $125 million. This fund acquired a seed portfolio of solar projects serving utility and commercial offtakers in three US states shortly after its listing.
Both listings follow a pattern set by US Solar Fund PLC, which launched in 2019 with an Australian manager, New Energy Solar, and raised £200 million to invest primarily in North American solar assets.
London has become popular for such listings because of the relative efficiency of raising capital and the access to a wide pool of knowledgeable investors with an appetite for renewable energy assets.
Investors in these types of funds typically expect a progressive annual dividend yield of more than 5%, and such funds usually target a net total return (once fully invested) of 7% or more.
Assets such as solar and wind provide certain contracted revenue flows affording closed-end funds the ability to pay regular targeted dividend payments to investors. At a time of historic low interest rates, such vehicles are attractive to a range of institutional investors including pension funds, insurance companies, sovereign funds and wealth managers as well as retail investors.
The asset class has also benefited from an increased focus on responsible and sustainable investing against a background of increased awareness of environmental issues and changes in government policy, not least resulting from the recent change in the US administration.
The London Stock Exchange is home to over 450 listed investment funds, which in aggregate, represent more than $200 billion in market capitalization. It is considered to be the world’s leading market destination for listing funds.
The market provides a platform for a wide range of investment funds and strategies to access pools of capital from both institutional and retail investors and has been at the forefront of admitting funds investing in alternative asset classes such as renewable energy infrastructure and private equity.
Initially, many of these funds targeted European assets. Interest from managers of US-based (as well as other international) assets has been growing.
London provides managers with a number of potential comparative advantages over other listing venues, including a well-established and knowledgeable investor base with a large pool of investable capital and a strong understanding of the fund market, key asset classes and investment strategies.
The market allows an efficient mechanism from a both a cost and logistical perspective for growing a fund through further equity issuances, including placing or share issuance programs. This allows funds to expand and broaden their investments as their strategies evolve and as they build an investment track record.
In the secondary market, London affords multiple trading channels offering intra-day liquidity for funds.
It has a well-developed network of experienced advisers, including banks and brokers, law firms, accounting firms and fund administrators that provide the necessary support for initial public offerings and during the life of the fund, as well as access to a wide base of experienced independent directors for fund boards.
The market for new fund listings has not been materially affected by the global pandemic, and there was significant activity in the fourth quarter of 2020 and in the first month of the new year. Investor IPO roadshows have been run effectively on an entirely virtual basis.
London-listed closed-end funds are typically structured as UK investment trust companies or Channel Island companies (Guernsey in particular).
Such funds may invest into US assets through the establishment of a US holding company designed to mitigate tax leakage between the UK and the US.
A listing will typically be sought on the “Main Market” in London, either through a premium listing or a listing on the “Specialist Fund Segment,” which has more flexible eligibility criteria for a closed-end fund and less onerous post-listing continuing obligations. A premium listing means the listing is, in broad terms, subject to the highest listing standards and more extensive continuing obligations. Fund listings by renewables fund managers are less common on the AIM market.
For a premium listing, a closed-end fund will need to satisfy certain asset diversification requirements to ensure that there is prudent risk spreading within its portfolio. As with other fund listing venues, including New York, the usual historical financial track record requirements for new applicants will not apply to newly established funds. The London market also allows the listing of special-purpose acquisition companies (SPACs), a structure familiar in the United States.
Typically, a closed-end fund whose objective is to invest in renewable infrastructure will hold its investments in projects through special-purpose vehicles that are ring-fenced from other investments to mitigate portfolio cross-contagion.
Funds acquiring US assets often seek to introduce bank leverage and tax equity into the investment structure, usually with the fund having a controlling equity stake. However, such funds can enable minority investments to be taken, including through a range of joint venture and co-investment arrangements with third parties.
Funds target assets at the different stages of development, although given the objective of providing regular income returns to investors, funds targeting projects that are already operational or operational in the near term will have certain advantages over portfolios comprising development- and construction-phase projects where contractual income through offtake agreements will be delayed and where the fund may bear some development or construction risk (although these will often by mitigated through development or construction contracts).
Closed-end listed funds usually issue a single class of ordinary share with full voting rights and have a separate board independent of the investment manager. The strength of the board, and the corporate governance arrangements more generally, are becoming increasingly important within the institutional investor community.
The investment manager will have an investment management agreement in place with the fund and will usually be afforded a high degree of investment discretion within the parameters of the fund’s investment policies and restrictions. Management agreements will often be terminable on between six and 12 months’ notice, usually after an initial post IPO fixed period of, typically, between two and four years or so. Management fees on these funds vary, but are often between 0.5 and 1% of net asset value. Some funds also include an additional performance-based fee based on investment outperformance of hurdle returns.
The total costs of a London IPO for a closed-end company (including commissions on sales of shares) are usually limited to 2% of the initial fund net asset value.
The impact of the UK leaving the European Union at the beginning of this year does not seem to have diminished investor interest in these types of vehicles, although accessing non-UK European investors remains a little complicated given the requirement to comply with a range of local private placement regimes.
These types of closed-end fund may also be of interest to US and other international investors, although navigating regulatory requirements, securities law and differing tax considerations is not without some challenges.