The public sector must understand the virus-like nature of money if construction projects are to be properly funded. Getting cross about 'callous and self-serving' private finance is as futile as shouting at the rain
My baby son Henry has a cold. Not the most attention-grabbing opening sentence you will ever read, but it had me reflecting on the nature of viruses. My man-in-the-street understanding is that these are chopped segments of DNA that have entered Henry’s cells and turned them into virus-producing factories. His immune system cannot cope because the virus has mutated from last month’s version, so we end up with a snotty, grumpy toddler and the virus lives to fight another day.
Now you may wonder why you are reading this in Public Finance instead of Virology for Dummies, but there are several parallels between viruses and project finance. Firstly, Henry’s didn’t pick him by design, it was indifferent to who he was and will be equally happy invading the rest of his playgroup. Similarly, money doesn’t care who you are or what you are doing. The virus just wants to use the host to make copies, while money just wants to use your organisation to make more money. This is good news and bad news depending on your project.
The good news is that if your project is fundable then it’s fundable and, provided your chief executive is not Kim Jong-un, then somebody will fund you. The bad news is the blind indifference of money means, however laudable your project may be, if it does not provide the money virus a chance to make more money then nobody will go near it. This is why billions of pounds are spent every day on what is effectively a zero-sum game of foreign currency trading but your local library service is facing cutbacks.
Secondly, viruses mutate as little Henry’s body tries to combat them and money mutates as it constantly tries to find ways of making more money. This is very starkly illustrated by the changes in project finance since the crash.
At the height of the boom, banks were lending money to pretty much anyone who asked, and lots of schools and hospitals got built. Then, post Lehman Brothers, everybody got cold feet and the sea of cheap debt receded faster than my middle-aged hairline. Spotting a gap in the market, new sources of finance emerged in the form of infrastructure funds, venture capital trusts (VCTs) and pension funds. The host of fundable deals remained the same, just one form of money, highly geared cheap debt, died off and another form evolved to take its place.
Thirdly, as well as quickly moving into vacuums, money evolves to take advantage of opportunities thrown up by legislation. This can lead to some strange mutations as the money bug twists and turns to try to find a way of thriving in spaces never dreamt of by the original legislators.
A good example of this is how UK solar farms are now being bankrolled by funds that were set up to avoid inheritance tax (IHT). Basically this works as follows: because your investment in your business is exempt from IHT, it makes sense before you die to take out a loan against everything you own and use this to buy shares in a solar farm. You pick solar because it is government-backed and hence a pretty risk-free investment with a liquid market of buyers and sellers. You then die, your grateful beneficiaries gleefully sell the shares to the next rich, forward-thinking pensioner, redeem the loan and, hey presto, they have avoided 40% IHT.
It’s all perfectly legitimate and above board but I am pretty sure that when the Department of Energy and Climate change (DECC) dreamt up the solar subsidy, it never occurred to them or their friends in the Treasury that they were creating a way of bypassing death duties. To be fair to DECC, it probably didn’t occur to anybody but the blind selfish money gene. This is just one example of many where somebody spotted that money could evolve to make more money in the friction between two disparate pieces of legislation.
So what does this mean for the cash-strapped public sector? Firstly, everybody regards you as a good place to invest. You are the two-year-old toddler with an immature immune system. Despite the occasional hiccup, public sector entities rarely die so investors are confident that you will be around long enough for them to make money. Whenever we have a project where the counterparty is state-backed, there is a queue of VCTs and pension funds keen to write a cheque and get involved.
Secondly, in the same way that there are millions of viruses in the world there is always money available. Although commentators gloomily talk about a credit crunch, there has never been a shortage of money for deals that will generate more money. Good projects can always get funded provided investors can make a return. Bad projects that were unlikely to survive very long used to get funded back in 2007 but this is partly why we are in the mess we are in. That particular strain of the money virus has unfortunately died out and taken quite a few of its hosts with it.
Finally you cannot afford to be all high and mighty about this stuff. Getting cross about the cold and callous nature of finance is as futile as shouting at the rain. It is impossible to legislate ruthlessness and indifference out of the system and, unfortunately, it is pretty hard to legislate social consciousness and public sector values in. Henry’s cold virus doesn’t care about him as long as it can copy itself and, in the same vein, money doesn’t care about you, your project or your community. It just wants to make money out of you.
The best response to this is not a diatribe in the comment section at the bottom of this piece about unacceptable faces of capitalism, it is to recognise this and be the most accommodating host you can. Play to your public sector credit strength, be clear about how your investors can make money and take advantage of the opportunities thrown up by the gaps in the legislation.
Do all of these things and money will invest in your projects, things will get built and your local community will benefit. Take the lonely moral high ground, the money will go elsewhere and you will continue to cut services and close down projects.
You may snort and splutter at this point, but get over yourself. This is how life is. Toddlers catch colds, the Pope is not a Protestant and investors want to make money out of the public sector. So recognise this and take advantage of it.
Michael Ware is corporate finance partner at BDO
