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Way Up Down Under


From its inception, the Chicago Skyway has been a financial sinkhole. The elevated six-lane toll road, which connects the city's South Side with the Indiana border 12.5 kilometers away, was built by the city in 1959 but never lived up to expectations. Most drivers prefer the highways nearby that charge no toll. So 10 months ago, when Mayor Richard M. Daley announced that the cash-strapped city was selling the Skyway to a pair of little-known foreign buyers, one from Australia and the other from Spain, commentators congratulated the clever Chicago pols for getting the foreigners to fork over $1.83 billion for a worthless asset. The Chicago Sun-Times' veteran City Hall reporter called it "the biggest steal since the Dutch bought Manhattan."

Not so fast. The new owners of the Skyway are Macquarie Infrastructure Group (MIG) -- an associate of Australia's Macquarie Bank Ltd., the premier investment bank Down Under -- and Spain's Cintra Concesiones de Infraestructura del Transporte, a highway specialist that Macquarie helped launch. Turns out they may not be so clueless. With stakes in toll roads from New South Wales to the English Midlands, Macquarie knows how to squeeze profits out of such public projects.

GENIUS OR FOLLY?

Indeed, MIG claims the new partnership has already turned the Skyway around by raising the toll by 50 cents, to $2.50, and cutting toll-takers' pay, among other money-saving moves. Did Macquarie overpay? Executives say they're used to hearing that. "When you win something, you obviously pay more than anyone else," says Nicholas Moore, head of investment banking in Sydney for Macquarie.

Whether the Skyway buy was genius or folly, it is just one of a string of big-ticket deals in the U.S. and elsewhere that have put the Australian investment bank on the map. At the end of the bank's March, 2005, fiscal year, Macquarie and its many affiliates had $67 billion in assets under management, up 42% from the previous year -- and up from less than $20 billion in 2001. The deals keep coming. Recent acquisitions by Macquarie include a 22.5-kilometer toll road in Virginia near Washington Dulles International Airport for $533 million; Hawaii's biggest gas utility, Gas Co., which it bought in September for $238 million; and, in May, a 36% share in Amsterdam-based business directory publisher YBR Group for $240 million.

The Australian bank and its affiliates have stakes in everything from wind farms in France and high-voltage power lines in Michigan to shopping centers in China. Macquarie wants to make bids for assets as varied as the London Stock Exchange, highways in France, and airports in India. There's even talk it might make an offer for pieces of Interstate 95 in Delaware and New Jersey.

If all this sounds a bit unorthodox for an investment bank, Macquarie CEO Allan Moss isn't about to argue with you. To be sure, Macquarie does its share of traditional investment banking. It's one of the biggest advisers and underwriters in Australia, for instance, and is expanding in Asia, having last year purchased the old Baring Securities Ltd. network from ING. Yet it is still a minor player globally. According to Thomson Financial, Macquarie ranks 28th in completed mergers and acquisitions -- just ahead of PricewaterhouseCoopers -- and No. 56 in underwriting bond issues.

So Moss and his team have decided that the most effective way for the obscure Australian bank to push its way into the ranks of the global financial elite is to turn itself into an investment firm and put together a portfolio of global properties. "If I were running one of the major Wall Street firms, I wouldn't be toiling for difficult transactions in challenging industries in every corner of the globe," says Moss. "We have," he adds with a chuckle, "the advantage of desperation."

As unconventional as it may be, the formula seems to be working. Macquarie's profits rose 67% for the year ended in March, to $634 million. And on Sept. 26 the bank announced earnings for this year were on track to match or exceed that. Strong profits have sent Macquarie's share price skyward; the Sydney-traded stock is up 60% this year. "It's hard not to admire their savvy," says Craig Williams, research head at Citigroup () in Sydney.

Macquarie is a relatively new player on the banking scene -- not just globally but also at home, where it first publicly listed shares in 1996. Initially set up in 1969 as a branch office of British merchant bank Hill Samuel & Co., it was spun off in 1985 and renamed after an early 19th century governor of New South Wales, Lachlan Macquarie. Moss witnessed that transformation from the inside: He has been at the bank for 28 years, and CEO for the past 12. The bank has expanded by honing a business model built around bets in infrastructure projects and real estate investment trusts (REITs). These specialist funds account for about 27% of Macquarie Bank's profits, compared with 34% from more traditional investment banking like M&A and underwriting.

Here's how it works: Macquarie buys an asset such as a toll road, utility, or shopping mall. Unlike private-equity funds, which typically try to exit a deal within three to five years, Macquarie tries to recoup its investment within a few years by offering shares to the public. So it then often bundles several of these into a trust, which is taken public with a listing in Sydney, Singapore, or New York. These are popular with institutional investors. For example, investors in Macquarie Airports include French insurer AXA (), Capital Group in Los Angeles, and Toronto-based Oppenheimer Holdings (), as well as Macquarie Bank itself.

HEFTY FEES

By retaining equity stakes and management relationships with the funds, the bank can leverage more acquisitions through the trusts, including heavyweights like MIG, with a market cap of $7.2 billion, and Macquarie Airports, worth $4 billion. Better yet, the bank also earns management fees from the funds, which average 1.5%, and performance fees of up to 20% of returns.

Yet therein lies the risk. The bank's business model is built not only on the expectation of price appreciation in the assets it buys but also on robust demand for the trusts it spins off in equity markets. A drop in commercial property values or a souring of the stock market could put a dent in Macquarie's earnings. What's more, critics say the fees levied on trust investors are uncompetitive and potentially a conflict of interest. Investors may be willing to put up with the charges now when times are good, but they may be less forgiving if markets head south.

For its part, the bank says its fees are competitive and that it has done its homework to figure out how to mitigate risks. "I spend the largest part of my day, every day, on risk management. It's the top priority for everyone in the organization," says Moss. "Every day we run scenarios that show what would happen to Macquarie Bank if today a once-in-a-lifetime event happened."

COMPETITORS LOOMING

MacQuarie's success has also attracted competition. Sydney investment and advisory firm Babcock & Brown Ltd., for example, is following Macquarie's model through its stake in Babcock & Brown Infrastructure. Well-established regional players such as Cheung Kong Infrastructure Holdings Ltd., controlled by Hong Kong billionaire Li Ka-shing, are also looming large as Macquarie expands. And U.S.-based private-equity funds such as Carlyle Group and Kohlberg Kravis Roberts & Co. are either already active in Australia's backyard or looking to get in.

Still, the bank's management team thinks it has an early-mover advantage. While the U.S. has also been a leader in REITs, it has lagged behind Australia and Europe in privatization of roads and other public infrastructure. The U.S. market is looking more promising, though. Macquarie is building a toll road in San Diego due to open next year and is also bidding for State Highway 121 in Texas. Privatization boosters say Macquarie will have more chances soon. "The Chicago Skyway is a sign of things to come," says Kevin Soucie, a former Wisconsin state legislator from Milwaukee who runs transportation consultancy Soucie & Associates. "The infrastructure built in the 1950s and '60s is reaching the end of its life."

Bank officials say they don't have much choice but to keep looking for more deals -- often in out-of-the-way places. The infrastructure the bank invests in makes for a "long-dated, labor-intensive, low-margin business," says investment-banking head Moore. So watch out -- the Australians are looking to snap up a highway, airport, or shopping mall near you.

By Bruce Einhorn, with Brad Howarth, in Sydney and with Michael Arndt in Chicago


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