Materials matter: Why investors need to put the ‘green’ in greenfield

Reducing carbon emissions has become a top priority for governments,businesses and investors as the world tries to limit global warming yet fails to get on the right track.

The lowest-hanging fruit is reducing emissions of existing assets. A large number of investors and asset managers are seeking to do just that, having adopted net-zero commitments, either at the portfolio level, the firm level or both.

But there is an earlier stage worth considering, too: the construction phase.The United Nations Environment Programme (UNEP) found in its 2022 Global Status Report for Buildings and Construction that the production of concrete, steel and aluminium accounted for 4 percent of global energy use and 6 percent of global emissions in 2021, with the production of glass and bricks responsible for another 2-4 percent of global emissions.

That’s in addition to the roughly 30 percent of global energy the buildings sector consumed during that same year and around 27 percent of operational-related CO2 emissions it accounted for.

Combined, this makes buildings and infrastructure directly responsible for almost 40 percent of global energy and process-related emissions – with asset types like road surfaces and airport runways contributing further, not to mention the question of Scope 3 emissions.

Therefore, an increased focus on greener construction practices can have the double whammy of reducing emissions at the construction stage while setting an asset up to emit less during its operational life.

Get to the source

While a wind or solar farm, say, may appear to have relatively low operational emissions, the construction process – from panels and turbines down to the fencing around the facility – is extremely carbon-intensive. It all comes down to the materials used.

“I think a lot of it is in the hands of the construction companies and the design companies, who I think have done a very good job of taking all that into account,” says Sadek Wahba, founder and managing partner of I Squared Capital.

At least, that is, for greenfield projects, though not all are created equal. InEight, a construction management software provider, sees a wide variation in the types of projects that prioritise sustainability in design and construction. “Publicly funded infrastructure such as roads and bridges lagbehind privately funded, alternative energy projects such as solar and wind farms, for which ‘green’ is a key part of securing public acceptance of the project,” explains Brad Barth, the company’s chief product officer.

Ryan Harter, a principal in the development group at CIM Group, says his firm takes a “project-specific approach” when it comes to sustainability inits construction practices. “What makes sense in Atlanta, where we’redeveloping a massive 50-acre project, doesn’t make sense in, say,Manhattan,” he comments.

Brownfield projects have an understandably tougher time. “Certainly,greenfield projects are easier to achieve sustainability goals,” says Barth.“Retrofitting existing assets not only brings engineering challenges – as the asset may be too old or incompatible with new technologies to achieve sustainability targets – but also invariably leads to difficult funding decisions.”

Those decisions require answers to the following questions: do asset managers invest millions of dollars in capital to ‘green’ an existing building,or do they deploy said capital towards new assets? Is that money better spent building the infrastructure of tomorrow? Should environmentally unfriendly brownfield assets be considered a sunk cost?

Wahba seems to think so – for certain assets, at least. “Unfortunately, the sunk cost is already there and there’s not much you can do about it,” he says. “If you look at a power plant, a power plant is a power plant. If it’s a gas-fired power plant, you can improve its efficiency here and there, its use of water, its own use of electricity, but the fundamental business is what it is.”

His outlook on existing roads and bridges is a bit sunnier. He notes that lighting can be improved by making it solar based, and maintenance and upgrades can be done with more sustainable materials. Similarly, buildings can be ‘greened’ by handling their electricity consumption.

“The main source of emissions in buildings is from operations, largely from electricity and energy use,” Harter says. “And there are often readily available wins to improve the sustainability and performance of buildings.”

Gains can be made through, for example, AI-adapted heating and coolingsystems and carbon capture systems, as long as the incentives are there forcompanies to invest in them.

Materials as infrastructure?

Investors are pursuing a variety of methods to push these technologies forward. The option that is probably being pursued least, for now, is direct investment in technology businesses from a GP’s balance sheet.

“That’s not something we are actively thinking about,” says Foresight Group partner Dan Wells – a response common among most GPs we spoke to for this story.

“We’re not looking to own upstream construction materials assets, but I couldsee the logic of investing if you want to control that upstream resource oneday”
Dan Wells
Foresight Group

A more realistic approach now is for GPs to invest in these types of businesses through the traditional infrastructure funds they manage – as long as they fit the definition of infrastructure, which usually means they must be larger-scale production assets, usually with off take agreements in place or some other sort of competitive advantage.

“As Foresight Energy Infrastructure Partners grows, for example, and we raise more capital in that series of funds, we would take a broader look at what the definition of energy infrastructure is, because it is increasingly becoming intertwined with other sectors,” Wells says. “We’re not looking to own upstream construction materials assets, but I could see the logic of investing if you want to control that upstream resource one day. The closest analogue now for us would be if we ended up investing in a green steel plant.”

One example of this approach in action is Blue Phoenix Group, a business that recycles incinerator ash to extract metals and produce aggregates for use in the construction sector. BPG is 70 percent owned by funds managed by InfraVia Capital Partners and 30 percent by Daiwa International Capital Partners.

“It’s an established infrastructure business,” says Vincent Menager,investment director at InfraVia, citing the knowledge and expertise required to efficiently manage the processing recycling of incinerator ash, as well as its off take networks, as differentiating factors.

Daiwa chief executive Gregor Jackson says that BPG “ticked all the boxes” as a market leader with strong thematic tailwinds and a good management team. “It makes a real impact in terms of carbon negativity and maximising the efficient use of finite resources, particularly metals which are required for energy transition,” he says. “You have to be very disciplined here. There are a lot of very exciting technologies on the horizon, but unless it has been proven at scale to be technically and commercially viable then it’s not infrastructure in our view.”

“There are a lot of very exciting technologies on the horizon, but unless it has been proven at scale to be technically and commercially viable then it’s not infrastructure in
our view”
Gregor Jackson
Daiwa

BPG is an example, then, of where the traditional infrastructure investment thesis can dovetail neatly with the question of how to decarbonise construction.

But for the riskier, emerging technologies – those that are less developed,have a smaller initial customer base, or require significant investment before achieving economies of scale – a different approach is needed.

Venturing out

I Squared Capital has decided to take matters into its own hands, launching a standalone Global InfraTech Fund that is “looking very hard” at new materials and construction techniques, explains Wahba. The fund explicitly targets growth-stage companies that are using technology to transform sectors such as transport, energy and digital infrastructure.

“Venture capital is doing this already, but it is looking at it from a purely VC perspective without necessarily having a focus on infrastructure,” Wahba says. “The advantage of someone with an infrastructure focus doing this is that they can test right away whether these [technologies] are applicable or not [to our sector].”

The fund targets traditional venture-style returns, meaning that it is a different beast entirely from a traditional infrastructure vehicle. It is led by Peter Corsell, who joined I Squared in 2019 after it acquired his business,Twenty First Century Utilities, a private investment firm focused on sustainable technology in the power sector.

Sustainability-focused asset manager and consultant Pollination is taking a similar approach, with managing director and head of global investments Diana Callebaut describing it as an “enormous opportunity” for investors.The firm is set to soon launch a climate-focused venture capital fund focused on Australia that will have building materials as a key investment thematic.

“There are still two constraints: one is the effectiveness [of these technologies], making sure they are sufficiently proven for building companies to adopt them, and the other is the unit costs of some of these solutions,” Callebaut says. “There’s still quite a bit of work to be done on that front until the floodgates open.

“We see the investment opportunity as being in that venture space, or the growth equity space.”

Sydney-based Taronga Ventures provides a different take on this model.Seemingly a typical venture capital firm, Taronga Ventures specialises in businesses and technology related to the built environment – what it calls RealTech, short for real assets technology.

Unusually, too, the LPs in its RealTech Ventures Fund series are drawn from the asset manager universe. It counts the likes of Dexus (the soon-to-be-owner of AMP Capital’s Australian infrastructure business), Patrizia, PGIM,CBRE and Grosvenor among its investors.

“It’s a win-win – our investors get access to our investments, which can help them to reduce cost, increase safety and improve the sustainability of their assets. And for our portfolio companies, we can make connections between them and the customers that would be most interested in their products,”says Avi Naidu, co-founder and managing partner of Taronga Ventures.

Here, the asset managers are investing from their own balance sheets, but they don’t have to go direct – they are using a specialist VC manager, which subsequently allows them early access to innovative technology.

It also depends on the type of technology that a GP wants to invest in, says Joanna Parent, investment director at Mirova’s Private Equity Impact Fund:“In terms of materials, as the process is much longer to develop the product,then gain certification and regulatory approvals, it may be too long for a private equity investor and the risk may be too high. So we think that is[better suited] to public funding or deep tech funds.

“But for innovation on the process or digitalisation side, we think there is space for private equity funds to accelerate [change], because construction today is a market with several major companies who take the same historical approaches [to building], as it is complicated for them to change culture and their way of doing business. It is more for PE to help these businesses grow to a significant size where they might then be acquired by the major construction companies, to help them change the way they work.”

The policy play

The role of the public sector is also important beyond providing funding.Governments have a huge influence on the direction of travel with the policies they enact and the regulations they enforce.

In the US, the passage of the Inflation Reduction Act and the Bipartisan Infrastructure Law each made a splash. The latter, enacted at the end of 2021, set national standards for carbon emissions in concrete production.Those standards include a 20 percent reduction in greenhouse gas emissions compared with previous standards and require third-party licensing in the form of an “environmental product declaration”. Enforced through the General Services Administration, any project that seeks BIL funds will be required to comply. The IRA, however, works not through mandate, but through incentive.

“Outside of the voluntary market – which does exist – the IRA has made many green construction projects economically viable when they previously weren’t. Those types of projects get direct subsidies through tax breaks,” explains Dan Sinaiko, a partner in the global projects, energy,natural resources and infrastructure practice at law firm Allen & Overy.

CIM Group’s Harter agrees. “The Inflation Reduction Act is phenomenal for[CIM] because it provides a massive amount of financial incentive both on the industry and production side, but also on the technology deployment side. It just gets people excited about using technologies that until now might have been challenging because of their higher cost basis,” he says.

“The IRA has made many green construction projects economically viablewhen they previously weren’t… through
tax breaks”
Dan Sinaiko
Allen & Overy

Said technology incentives include investment tax credits for heat pumps,the extension of the 179D deduction for energy efficiency upgrades in commercial buildings, and clean manufacturing tax credits for decomposition retrofits at cement and steel production facilities.

What more can be done?

While there are many things to celebrate in US construction policy right now, Wahba – currently a member of President Biden’s national infrastructure advisory council – leaves room for criticism. “What we need is research and development from universities, from federal grants that focus on finding these things. Most companies that I talk to are getting support from the Israeli government. Why is the US government not providing that kind of encouragement?” he asks.

On the international level, there are associations and organisations that encourage new sustainable construction technologies, such as the UNEP’s sustainable buildings and climate initiative, but they’re relatively small.

“Not enough is currently being done through government bodies to promote [sustainable construction’s] use in a sensible and increasing manner,” remarks Paul Knight, chief executive of Blue Phoenix Group.“That is not to say nothing happens today. However, we do not see enough incentivisation to ensure that the end users or construction companies seethe enhanced benefit.

“This should be done through a more focused project scoring for recycled use as well as higher taxations on the use of virgin materials. We still see countries and regions that have approved the use of energy-from-waste operations but inhibit the use of recycled material for their construction projects and redevelopments. This needs to change.”

There is a sense among many that the tide is turning, with operators and owners of infrastructure assets taking an increasing interest in how their assets are built and maintained, and in the materials used to do so.
“Investors are definitely more engaged now and their expectations are higher,” Callebaut says. “There is a much bigger desire to have tangible facts that can evidence action.

Perhaps not always at the granular level of digging into what material is used, but at the more holistic, total-project level, that line of inquiry is stronger than it has ever been.”

Taronga’s Naidu echoes this, saying: “We see this every single day now.Capital is the biggest driver of this, and many asset managers have begun to realise that doors of capital are beginning to close if you are not thinking about this.”

To achieve the International Energy Agency’s Net Zero Emissions by 2050 Scenario, emissions from the buildings and construction sector need to fall by more than 98 percent from 2020 levels. But the sector is set to fall well short of this target on current trends, with the IEA describing it as “not ontrack” in 2022.

Financing energy efficiency and decarbonisation of both operational assets and the construction process for greenfield assets is a vital piece of the puzzle, with investors increasingly aware of the scale of the opportunities on offer to them should they find a model that makes it work.

Daiwa International Capital Partners (Daiwa ICP) is preparing to launch its second European infrastructure fund, less than a year after formally launching its inaugural fund that has just sold an LP stake to Partners Group.

The London-based manager is due to launch London-registered Daiwa ICP European Infrastructure 2 at the start of next year with a EUR 600m target, according to a source close.  

The fund will invest in core-plus infrastructure in Europe with a return target of 13%-15%, targeting investment of  EUR 10m-EUR 100m per deal. 

The manager’s previous fund, Daiwa ICP European Infrastructure 1, was launched last year with a EUR 600m target and EUR 120m of seed capital from Japanese investment bank Daiwa Securities, which jointly owns Daiwa ICP alongside Sergio Ronga and Gregor Jackson. 

The inaugural fund acquired a 30% stake in Blue Phoenix Group, a global ash processing company operating in the energy-from-waste sector, in July 2021 from Waterland Private Equity. 

However, Daiwa ICP announced on Friday (11 November), that Partners Group acquired a stake in Daiwa ICP European Infrastructure 1.

According to the source, Partners Group acquired Daiwa’s stake in Daiwa ICP European Infrastructure 1. That fund will now serve as a single-asset vehicle, managing the investment in Blue Phoenix Group on behalf of Partners Group. 

Partners Group received legal advice from Ropes and Gray on the stake sale. Daiwa ICP was advised by its placement agent Astrid Advisors and its legal adviser Shearman & Sterling. 

Daiwa will use the proceeds from the stake sale to make a seed investment in Daiwa ICP European Infrastructure Fund 2, the source said.

In June this year, InfraVia announced that it was acquiring Waterland Private Equity’s 70% stake in Blue Phoenix Group.  

Daiwa ICP declined to comment.

Japanese bank Daiwa is pushing further into infrastructure investing, hiring ex-Dalmore Capital investment manager Gregor Jackson to establish a new fund. 

Jackson announced on LinkedIn on Thursday (1 October) that he left Dalmore on 30 September to establish Daiwa International Capital Partners (DICP) with Daiwa. 

DICP will manage an infrastructure fund and is at a “very early stage” of raising funds, according to a source. Jackson will continue to be based in London. Daiwa and Dalmore did not respond to requests for comment. 

Daiwa last year was part of a consortium led by infrastructure investor Equitix that bought a 50% stake in the Electricity North West UK regional electricity grid operator. 

Jackson’s move from Dalmore Capital comes after nearly five years at Dalmore, where he sat on the boards of portfolio companies including the rolling stock provider Intercity Express Project West and energy from waste provider Cory Riverside. 

Prior to Dalmore, Jackson worked at Australian construction and infrastructure specialist Lendlease and Macquarie Group. 

Gregor Jackson has left Dalmore Capital to set up a new independent fund manager.

Jackson, previously an investment director with Dalmore, is now a founding partner of the newly-launched Daiwa International Capital Partners.

The new company is being set up in partnership with Daiwa, the Japanese financial firm.

Jackson was at Dalmore for 4 years, having previously worked for Lend Lease Infrastructure Fund, Macquarie and ABN Amro. Prior to that, he began his career as a lawyer with HSF and Allen & Overy.