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James Carthew: HICL paid high price for Affinity

James Carthew: HICL paid high price for Affinity

This week’s column was written before the announcement of HICL leading a consortium to buy the HS1 high-speed rail line between London and the Channel Tunnel.

My focus this week is on HICL Infrastructure (HICL), a stock that I hold. Briefly, around the beginning of July, its share price premium to net asset value (NAV) dipped to about 6%, a level that we haven’t really seen since 2013. It has already started to recover again.

I wrote about this fund back in November 2013 in an article in which I talked about the potential impacts of interest rate rises and inflation on the fund. Of course, in the UK at least, interest rates haven’t budged since then and, at the moment, they may not go up by much over the next few years either. HICL offers the prospect of a yield of 4.8%, at the time of writing, and the possibility of some modest capital growth if the premium gets back to its long-term, double-digit average.

Why did the premium fall? It might just be indigestion as HICL has been raising phenomenal amounts of money in recent months and so have other similar funds. In QuotedData’s quarterly roundup, two of the top three fund raisers in the second quarter of 2017 were International Public Partnerships (INPP) and HICL. HICL raised £268 million at a price of 165p at the beginning of June. The June issue came hot on the heels of a £260 million fundraise in March. In addition to the equity issues, in May HICL upped its credit facility to £400 million.

Some of this money has been used to fund HICL’s largest acquisition to date, Affinity Water, in which it has invested £269 million. HICL has bought a 36.6% stake in the company as part of a consortium also comprising DIF Instructure and Allianz Capital Partners. The size of the deal and the nature of the investment, which is a step away from HICL’s historic focus on PFI/PPP type deals, could have unnerved some investors.

HICL may also have paid a full price for this asset. I asked James Smith, manager of Premier Energy and Water (PEW), how the price paid for Affinity stacks up against quoted water companies. He reckons the purchase price equates to about a 40% premium to regulated asset value while quoted water companies are currently trading on premiums in the low teens.

Affinity Water is made up of Colne Valley, Lee Valley, North Surrey and Rickmansworth water companies. It is the largest water-only supplier in the UK, providing around 900 million litres of water to 3.6 million customers across London and the home counties. Everything it does is subject to scrutiny by a range of regulators but pricing is regulated by Ofwat. HICL say that this means its risk profile is a good fit with the rest of the portfolio. HICL flagged up its interest in acquiring regulated assets some time ago.

The Affinity deal does have one significant positive aspect to it, in that it increases HICL’s sensitivity to inflation. HICL say that, post the deal, as inflation rises by 1%, its total shareholder returns should rise by 0.8% - when I wrote in 2013 that figure was 0.6%. As we contemplate the possibility of an era of higher inflation in the UK, this could be good news.

One last thing though, this last issue by HICL wasn’t open to its retail investors. The company has been criticised for this and rightly so, in my view, even though HICL shares are trading below the offer price.

James Carthew is a director at Marten & Co. The views expressed in this article are his and do not constitute investment advice.

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