After the original unbundling of the utilities, the private sector made a number of investments in a variety of non-regulated assets (from interconnection to LNG regasification terminals and generation) with no government support. The lesson is that once clear, stable and understandable market mechanisms are established, the private sector will invest in attractive opportunities.
But over the past 30 years there has been a major change in the investor landscape. The vertically integrated energy utilities have now largely divested their network assets. Many of these still have balance sheets under pressure and are more likely to divest than invest. A new class of investors has stepped in, with investment capital from increasingly diverse sources and targeting a broader range of assets – from low-risk regulated assets to merchant assets that are completely exposed to the market.
These points are important when considering the future and the next phase of investment. The strategic challenge for the government and the regulators is how best to meet the policy goals, incentivising the necessary private sector investment while retaining competition and getting a good deal for consumers.
There is no shortage of investment capital – infrastructure funds from around the world continue to seek major opportunities, private equity is increasingly willing to take merchant risk provided there is a return commensurate with the risk, and the UK continues to be seen as a stable and attractive investment climate.
So, what is the enduring challenge for policy makers? To set simple, sustainable market structures to ensure there is an appropriate balance of risk and return for the different types of asset – infrastructure assets should be made low risk to attract the lowest cost of capital, and merchant assets should have the potential to earn a market return without the need to protect investors from the commercial risks.
Jayesh Parmar, partner, Baringa Partners