COVID-19 will trigger a new infrastructure boom in China

27 March 2020 - 12:00 am UTC

The world’s second largest economy is slowly starting to recover from the catastrophic COVID-19 outbreak. New government stimulus initiatives will open a rare window of opportunity for global private infrastructure investors, Celine Ge and Chenyu Liang report

China’s economy still has a long road ahead to full recovery following an unprecedented two-month lockdown and a 10-week halt of almost all business and social activities for the 1.4 billion population nation.

Last week the country’s National Bureau of Statistics recorded the slowest growth in industrial output in almost three decades. Goldman Sachs had already predicted China’s first-quarter GDP growth would experience a 9% contraction, from a previous forecast of 2.5% growth.

To revive an economy that has been stricken by the COVID-19 pandemic, the Chinese government has resorted to an old-fashioned approach of boosting infrastructure investment. But this time central government has made it clear that the private sector will likely play a much greater role.

It is against a backdrop of debt-ridden local government investment vehicles faced with tight fiscal budgets and an ambitious target to roll out new big-ticket projects.

New infra, old thinking
According to sources spoken to for this article, digital and social infrastructure assets recently promoted by the government are naturally more suitable for private-sector investment and operations.

“What’s special this year is the active involvement of the private sector, because many parts of new infrastructure can be well commercialised,” Su Yue, an economist with the Economist Intelligence Unit told Inframation.

His remarks were echoed by Morgan Stanley Chief China Economist Robin Xinjin, who predicted in a press briefing last week that more than half of the “new infrastructure” investment being promoted by the central government could come from the private sector.

What’s special this year is the active involvement of the private sector

Infrastructure owners, including data centres in major Chinese cities, could potentially benefit from targeted preferential policies such as tax waivers and electricity cuts, he said.

China’s latest push for the development of data centres, 5G telecom and other so-called “new infrastructure” assets was first officially revealed by the transcript of a Communist Party Politburo meeting chaired by President Xi Jinping earlier this month. The ‘new investment’ theme was later reiterated in multiple speeches and reports released by various government agencies including the country’s economic planner National Development and Reform Commission. The instructions, given by the Politburo – China’s highest decision-making body – include a special focus on motivating private sector investors.

The ‘infrastructure investment boom in the making’ involves dozens of provincial governments and a raft of infrastructure project plans that could total investment of more than CNY 25trn (USD 3.6trn) over the coming years. Projects singled out by the authorities include 5G infrastructure (particularly telecom towers), ultra-high-voltage transmission lines, smart city projects, high-speed inter-city railways and data centres. Social infrastructure, particularly healthcare, was highlighted as another focused sector for new projects.

“We see a phenomenal increase in the central government’s emphasis on digital infrastructure since the outbreak of Covid-19,” Ping An Securities analysts led by Yan Lei wrote in a note to investors. One of the main reasons behind the move, the note said, is that the “new infrastructure” will likely be backed mainly by private investors and therefore ease financial pressures on the government.

Data centres
Demand for data centres exploded after tens of millions of Chinese residents were asked to study and work at home as a result of the virus.

“In the longer term, this trend of digitalisation is irreversible,” Yan Lei wrote.

Driven by a favourable policy environment, there will be a rising number of large-scale and hyper-scale data centres including those powered by renewable resources, according to Ping An.

While large cities such as Beijing, Shanghai, Guangzhou and Shenzhen might have limited room for data centre market growth due to strengthening regulations, more projects could emerge in their neighbouring cities, as well as northwest and southwest China, where there are lower electricity tariffs and sufficient land supply, the note said.

We see a phenomenal increase in the central government’s emphasis on digital infrastructure since the outbreak 

China’s data centre market is set to reach 3.267 million racks in total capacity by the end of this year, up from 2.03 million in 2018, according to China Academy of ICT.

“Data centres are categorised by the central government as a type of new strategic infrastructure in China,” William Huang, chairman with the country’s largest private data centre developer by assets GDS says.

His company was invited by the government to discuss potential relaxation of regulations for data centre development in first-tier Chinese cities such as Beijing and Shanghai as part of the plan to cultivate the industry. The central government is also considering increasing the carbon emission quota and reducing electricity costs for the energy-intensive industry, he says.

“We also talked with the central government on how to close some inefficient, small and in-house data centres to promote larger scale and professional data centres,” Huang says, although noting that it is still too early to say what these new policies will be specifically.

In China, the data centre industry as an infrastructure asset class is often much easier to enter for private sector investors, particularly those outside mainland China, as compared with heavily regulated traditional infrastructure sectors such as roads and railways. China’s data centres have already attracted interest from overseas institutional investors including Hong Kong-based GAW Capital Partners and Albaman Capital Partners, as well as Warburg Pincus-backed PDG. Beijing-based Everbright Trust, which is an asset management arm of China Everbright, is the latest asset manager to show interest China’s “new infrastructure” such as data centres with the planned launch of new private equity funds.

With the Covid-19 virus outbreak, the asset manager now sees “strong infrastructure investment momentum” in China propelled by economic stimulus policies aimed at boosting fixed-asset investments, according to a company statement.

Relaxing regs
Following two years of market slowdown, the pandemic is also forcing the Chinese government to relax PPP regulations in order to channel more private capital.

The outbreak has also highlighted a need for greater social infrastructure investment as the hundreds of public hospitals overwhelmed by patients in January and February reflected an acute shortage of public healthcare resources amid a nationwide epidemic.

In February, the Ministry of Finance’s PPP Centre for the first time in two years explicitly urged regional authorities to fast-track registration and approval of PPP projects. A more streamlined PPP project approval and registration process will help stabilise infrastructure investment activity, the PPP Centre announced.

The news serves as a much-awaited boost to China’s lukewarm PPP market which has been hit hard by a series of stringent regulations from the central government since late 2017, according to independent PPP project consultant Yang Xiaoyi.

Special priority will now be given to projects that can contribute to the prevention and control of the spread of the disease. This includes hospitals, nursing homes, elderly care centres, schools and social housing rehabilitation projects.

Wu Jiaying, a senior manager with the government’s China PPP Fund, says the outbreak shows that there is a significant shortage in public health infrastructure all across China.

“In fact, healthcare and other social infrastructure are very well positioned to be implemented as PPPs,” he says.

The ICBC and CITIC-backed China PPP Fund was launched in 2016 by the State Council at USD 26bn in size and is being used to finance key PPP projects in China.

Healthy boost
Healthcare infrastructure accounted for less than 3% of the total number of PPPs in China last year, which means there is ample room for growth for this market with backing of new external capital, says Jiaying.

“While hospitals and schools will offer imminent help with the current battle with the epidemic, the new priority sectors – elderly care, environment and social housing rehabilitation – will also likely become the focus of infrastructure investment this year,” independent PPP consultant Yang says.

Using PPPs to procure healthcare projects in Wuhan, the epicentre of the virus outbreak, and other parts of Hubei province will support local governments in those regions to treat patients and boost their economic recovery over the longer-term, according to the PPP Centre, citing Meng Chun, an inspector with the Development Research Centre of the State Council.

Healthcare and other social infrastructure are very well positioned to be implemented as PPPs

Such an approach will also introduce competitive operation and technological know-how from private investors, Meng says.

Most of China’s current healthcare PPP projects are essentially real estate projects with the private-sector participants mainly engaging in cleaning, security, car park as well as waste management parts of the project operation, according to a report by Beijing-based Dayue Consulting, which specialises in PPP projects. This has resulted in unattractive project returns for the private sector and subsequently limited growth of in the sub-sector.

Over the longer term, policymakers will now need to turn to private investors for more value-add services such as medical treatment, financial management, information technology and supply chain management, says Dayue Consulting.

In the short to mid term, the government could opt for the Transfer-Operate-Transfer of a new hospital facility or Rehabilitate-Operate-Transfer of an existing facility when promoting healthcare PPPs, according to Yang Jie, a director with southwest Yunnan province’s PPP Centre. Projects could also involve the conversion of some vacant properties into emergency field hospitals for the treatment of the disease.

When the outbreak has finally passed, these emergency specialty hospitals could be converted into elderly care centres or other social infrastructure and could continue to be operated by the private-sector investors, Yang says.

Debt discussed
All this new or re-appropriated infrastructure will need debt financing.

China’s National Development and Reform Commission (formerly the State Planning Commission) has already begun to coordinate with major state lenders China Development Bank, ICBC and China Construction Bank requesting loan support for a group of 600 “high-quality” projects funded by the private sector. And more targets measures will be in place, the agency said last week.

But the development of new infrastructure with a high proportion of software and high technologies will require new financing approaches to traditional infrastructure such as railways and roads. Large deal tickets also mean projects do need not only commercial bank loans but also significant private sector capital via debt and equity facilities. Tang Chuan, an advisor to the Ministry of Finance’s PPP Centre, wrote in a note that the government could help promote the use of project bonds, asset-backed securities and real estate investment trusts for related financing.

Given the two-month lockdown wiped off tens of billions of dollars off China’s infrastructure market, infrastructure companies can now tap low-cost loans and anti-epidemic bonds (also part of the government economic stimulus package).

The Chinese government is taking several steps to bolster debt financing for infrastructure, particularly those that will help prevent the spread of the coronavirus. The minimum return requirement for related anti-epidemic bonds was relaxed while debt to repay or roll over project loans that will help contain the outbreak can also be issued.

Regulators have been supportive of these new type of bonds with a fast approval process and the anti-epidemic bonds have so far been “well received” by the market and priced at relatively low yields, according to credit agency S&P.

Equity interest
Private equity institutional and strategic investors have also been hunting for “new infrastructure” assets, especially those with lower valuation. A spokesperson with Ping An Asset Management says the company will start seeking “new infrastructure” investment targets. This compares to a traditional focus on asset classes such as roads, railways and energy.

China’s new infrastructure boom won’t be short of investors, old or new.

Hong Kong conglomerate NWS Holdings, which is an environment-to-transport company, says it is also looking at data centres among other infrastructure assets for potential purchases, says Executive Director Gilbert Ho. Even investors from outside infrastructure are considering investments in the sector: a spokesperson with Suning Holding, which is one of China’s largest online retailers, says the company is planning to increase its data related telecom infrastructure presence following the virus outbreak.

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