Some frequently asked questions and answers
The following questions and answers are intended to be read alongside the investment statement and prospectus dated 12 March 2010 relating to the offer by New Zealand Social Infrastructure Limited (the Offer Document). You should read the Offer Document in its entirety before reading this document. Terms used in this document have the same meaning as they have in the Offer Document.
Investment opportunities
1. What happens if there is a change in Government, or Government change their thinking, such that they don't provide PPP opportunities?
This risk is of most relevance during the Investment Period (the initial 6 years of the PIP Fund term) when the PIP Fund is actively sourcing investment opportunities but has yet to invest Committed Capital of the fund. If there is a substantial change in law, or policy, of the Government during the Investment Period which, in the reasonable opinion of the Limited Partners, would materially diminish the investment opportunities for the PIP Fund under the investment criteria, Limited Partners can terminate the Investment Period by passing an ordinary resolution.
When the Investment Period is terminated, the PIP Fund is unable to enter into any new Investments, other than ‘follow-on’ Investments (Investments that preserve, protect or enhance an existing investment) and any uncalled capital commitments from investors would effectively lapse (other than to fund ‘follow-on’ Investments). Existing Investments of the PIP Fund would continue unchanged.
2. What if the Investment Manager fails to win opportunities and has not invested the capital committed by Limited Partners by the end of the Investment Period (the initial 6 years)?
In addition to the above there is also a risk that investment opportunities are slow to materialise from government due to the emerging nature of the market in New Zealand.
Under either scenario, the Investment Manager may not have invested all of the Committed Capital by the end of the Investment Period. Under the terms of the Limited Partnership Agreement, if less than 25% of the Committed Capital of the PIP Fund has been called or invested within three years of the final closing date (i.e. by 29 October 2013) the Limited Partners can terminate the Investment Period by passing an ordinary resolution. The PIP Fund will be unable to enter into any new Investments, other than ‘follow-on’ Investments (i.e. Investments that preserve, protect or enhance an existing investment) and any uncalled capital commitments would effectively lapse (other than to fund ‘follow-on’ Investments). Existing Investments of the PIP Fund would continue unchanged.
3. Why do PPPs make sense for Government considering Government can borrow funds at low interest rates relative to the private sector?
There are three principle reasons that governments in a number of countries have procured new infrastructure assets through the PPP model:
i. Value for money – under the PPP model the private sector has a financial incentive to optimise costs across both construction and on-going maintenance (i.e. to reduce the ‘whole-of-life’ costs of the project, rather than simply focusing on keeping initial build costs low). Also, the private sector brings expertise and innovation to the management of the infrastructure assets that are utilised to deliver social services. An Australian study showed that, on average, cost overruns in PPP projects are 1% of total project cost, compared to 15% of total project cost for non-PPP projects.
Infrastructure Minister Bill English estimated that building the Wiri prison using a PPP model offered savings of between 10 and 20% over conventional methods over the 25 to 35 year life of the proposed Concession.
ii. Risk management – under the PPP model, construction and operating risks are passed to the private sector. The private sector has an incentive to complete construction on time, as the availability-based payments from government do not typically commence until the asset has been built, and to manage the ongoing quality, cost and availability of the asset. An Australian study showed that, on average, PPP projects are delivered 3% ahead of schedule compared to 24% behind schedule for non-PPP projects.
iii. Delivery on Government priorities: compared to traditional procurement methods, PPPs allow the government to spread the cost of infrastructure over time and may allow high priority projects to be brought forward. This could be attractive for government in circumstances where there is a need to increase investment in infrastructure but there are fiscal constraints which make it difficult to fund the investment from additional borrowing or from current taxation. Also, since the responsibility for provision of the asset lies with the private sector, the public sector partner (such as a DHB, school or government department) can focus on the provision of frontline services rather than managing capital works and maintenance.
Fund term
4. What happens at the end of the PIP Fund's life if Limited Partners choose to wind up the fund but PPP projects still have time to run on their Concession?
At the conclusion of the PIP Fund term (i.e. at the end of the initial 15 year period or, if approved by Limited Partners, at the end of up to three five year extensions), no further business may be conducted by the PIP Fund except to complete any unfinished transactions at that time. Over a three year period the affairs of the PIP Fund would be ‘wound down’ and the assets distributed to the partners.
During the wind down phase, the Investment Manager will seek a buyer for existing projects or consider options such as an in specie distribution of interests to Limited Partners or a potential listing of specific assets or of the fund. Consideration received upon a sale of PPP projects will form part of the fund’s assets that are distributed to partners.
During this wind down phase, Operational PPP assets may have a number of years remaining under their Concession agreements. When such assets are sold, they are typically valued on the basis of their projected net cash flows for the remaining period of their Concession. There are a number of potential buyers for these assets. These include pension funds, specialist PPP investment funds and sovereign wealth funds.
Debt
5. What is the current term banks are willing to lend to PPP projects, and how can you manage interest rate risk when bank debt is due for renewal?
Indicatively, we are aware of banks offering debt funding to PPP projects in Australia with terms ranging from 5 years to 9 years. We would anticipate similar funding terms to be available on New Zealand PPP projects, however this will be dependent upon prevailing lending policies in force in New Zealand at the time these projects come to market.
For each project an interest rate hedging policy will be put in place. In the New Zealand market, ‘interest rate swap’ contracts are typically available to manage interest rate risks up to 10 years ahead of time. However this hedging policy may not entirely eliminate the impact of an unfavourable, or a favourable, movement in interest rates, nor address the impact of movements in interest rates (whether favourable or unfavourable) beyond the hedged period.
Projects would generally make assumptions around future interest rates and credit terms, and refinancing risks when acquiring or tendering for a project, thus ensuring these risks or opportunities are valued.
Returns
6. When are distributions to investors likely to start?
Distributions to investors are likely to start once NZSIF receives distributions from the PIP Fund. NZSIF expects to receive dividends and distributions from the PIP Fund once Investments have been made and the assets become ‘operational’. This may occur after a period of construction, or upon the PIP Fund making an investment in a PPP project that is already operating.
For ‘greenfield’ developments (new projects), the operational phase will typically follow an initial 1-3 year construction phase.
For secondary market acquisitions of operating assets, the asset will typically already be generating revenues and may generate distributable returns for investors from the date of acquisition.
In the early stages of the Fund it may be that the PIP Fund retains initial distributions from operating assets for working capital needs rather than passing these through to the Limited Partners. This alleviates the need to make calls on the Limited Partners and in turn NZSIF does not need to make calls on our shareholders to meet working capital needs.
7. Is the 11% target Internal Rate of Return after tax?
No, it is before tax. Information for New Zealand investors concerning taxation is provided on in the Offer Document.
8. Does the 11% target Internal Rate of Return take account of base management fees as well as performance fees?
Yes, the target Internal Rate of Return is post-base management and performance fees paid to the Investment Manager (as well as post-administration fees).
9. Does the 11% target Internal Rate of Return include any capital gains on investment or is it all taxable income?
The 11% target Internal Rate of Return is all taxable income. It does not include any capital gain on investment as it is calculated on the basis of the PIP Fund’s long-term hold strategy.
However, there is potential for investors to receive additional returns from capital gains. These typically occur:
If the PIP Fund’s independent valuer determines that a lower discount rate should be applied to operational PPP assets to recognize their reduced risk once construction has been completed (as is common practice internationally), resulting in an upward revaluation of the PIP Fund’s investment into that asset.
· If the PIP Fund was to sell an investment in a PPP asset at a value in excess of its book value.
· If the PIP Fund (or NZSIF) was to list some or all of its Investments and the market valued the listed investment higher than book value.
10. If the target Internal Rate of Return is 11% per annum can investors expect an annual dividend yield of 11%?
Not necessarily, this is an ‘internal rate of return’ and calculated on that basis.
Annual distributions to investors in NZSIF are expected to vary during the life of the Fund and could be higher or lower than the target Internal Rate of Return in any given year. This is due to the potentially staggered timing of Investments made by the PIP Fund and the nature of cash flows under the PPP model. Distributions will be determined by the PIP Fund for the Limited Partners and it is NZSIF’s intention, after allowing for our working capital requirements, to pass distributions through to our shareholders.
11. What amount of capital will be returned and what is the timing?
Equity investors in a PPP (for example, the Limited Partners in the PIP Fund) can receive periodic returns of capital over the term of the Concession. The capital returned to Limited Partners during that period would expect to total the amount of Invested Capital in the project.
Capital returns tend to increase during the term of the Concession as the balance of debt funding is repaid and more operating cash flow becomes available for distribution to Limited Partners.
12. How will capital be returned to investors in NZSIF?
Each Share held by investors in NZSIF consists of one ordinary voting share (with a nil issue price) and 100 non-voting redeemable preference shares (with an issue price of $0.01 per share). Any returns of capital in respect of assets from the PIP Fund will be returned to NZSIF investors via redemptions of the redeemable preference shares.
Liquidity
13. What if I wish to sell NZSIF Shares or buy additional NZSIF Shares after the offer closes?
Although an investment in NZSIF should be considered a long term investment within a portfolio, there may be a need for an individual investor to sell their holding or a desire by other investors to invest in NZSIF. To provide liquidity, Craigs Investment Partners will facilitate an informal market to match willing buyers and sellers of NZSIF Shares in the same manner it currently does with shares in its two private equity funds, Pohutukawa I and Pohutukawa II. In the future, NZSIF may seek to become a listed fund on the NZX or other stock exchange, however that will be a consideration for the NZSIF Board, with General Partner approval.
Investment Manager
14. Why did NZ Superannuation Fund choose Morrison & Co?
This is primarily a question for NZ Superannuation Fund to answer. Information concerning Morrison & Co is contained in the Offer Document. Potential reasons may include:
- Morrison & Co’s investment approach has been to focus on sectors that offer attractive long term growth opportunities, which presumably fits well with the long term nature of NZ Superannuation Fund
- Morrison & Co is already known to NZ Superannuation Fund by nature of its global investment mandate with the fund
- Part of Morrison & Co’s approach has been to foster community and stakeholder relationships (including relationships with local and central government) as an investment partner for infrastructure assets.
15. Can NZ Superannuation Fund invest in a fund that competes with the PIP Fund?
The NZ Superannuation Fund committed $100m to the PIP Fund to date.
Morrison & Co has advised the NZSIF Board that the NZ Superannuation Fund has appointed Morrison & Co as its sole and exclusive investment manager for opportunities that fall within the PIP Fund’s investment criteria for three years ending 29 October 2012 (or until 75% of the Committed Capital of the PIP Fund has been invested). In turn, Morrison & Co has committed that it will not establish a fund that competes with the PIP Fund prior to the completion of the PIP Fund’s Investment Period (or until 75% of the Committed Capital of the PIP Fund has been invested).
16. Can the Limited Partners terminate the Investment Management Agreement with Morrison & Co PIP Limited?
Yes, there are a number of provisions that provide Limited Partners with an ability to remove the Investment Manager. For example, Limited Partners may pass a special resolution directing the Investment Manager to retire. A special resolution requires the approval of Limited Partners holding at least 75% of the total Committed Capital of the PIP Fund.
In addition, the Investment Management Agreement can be terminated early as a consequence of an insolvency event, or an act of negligence, material breach or serious misconduct.
17. How will the NZSIF Board oversee the performance of the Investment Manager?
As a Limited Partner, NZSIF will receive information on a quarterly basis regarding the performance of the PIP Fund and the projects that the PIP Fund has invested in. Audited financial statements will be provided to Limited Partners within 90 days of the end of each Accounting Period and specific information on each project entity will be provided at least annually. In turn, NZSIF will produce audited annual accounts for its shareholders.
In addition, Kim Ellis, Independent Chairman of NZSIF, is on the Advisory Committee which, among other things, meets quarterly with the General Partner and Investment Manager to be updated on business affairs of the Limited Partnership and considers for approval any Investments outside the investment criteria of the PIP Fund.