As infrastructure and climate have become more and more entangled, the natural world feels like a natural next step. If carbon capture and sequestration can be considered infrastructure, then why not farmland that acts as a carbon sink? To some, this link is obvious.
“Natural capital is coming on the radar for GPs focused on sustainability. Perhaps they have built an infrastructure or renewable energy platform and are now looking at this part of the market as their next step to build out,” says Louisa Yeoman, a founding partner of placement agent Astrid Advisors. “Over the next two to three years, we believe this will start being more important in people’s portfolios as they continue to build [them] out to target their climate commitments.”
Which portfolios these assets will sit in, however, is less clear.
Martin Berg, chief executive of Climate Asset Management – a GP that has been investing solely in the natural capital space since it was established three years ago by HSBC Asset Management and climate change advisory Pollination – doesn’t always see natural capital as infrastructure, though he does make some exceptions. “Most natural capital investments are currently related to forestry or agriculture. There could be much clearer links to real estate and infrastructure strategies, depending on a strategy’s plan. You can integrate a lot of natural capital within infrastructure or real estate investment strategies.”
Irina Frolova, former head of infrastructure asset management at Dutch pension group PGGM and current chair and independent member of the investment committee of CAM’s Natural Capital Fund, agrees.
“Investing in natural capital is just different from what we see in normal infrastructure. For example, the weather is a significant driver. It is arguably also much less suitable for direct investment as it is geographically dispersed, hard to do at scale and requires longer fund tenors,” she says.
“I don’t know how GPs will organize it internally but lumping it in with their infrastructure practices is not an answer. Different skills for risk and impact assessment are needed, and infrastructure players aren’t specialized enough. I think separate, specialised teams will be more effective.”
Yeoman doesn’t take infrastructure off the table – if the strategy is right. At the very least, she sees natural capital as fitting under the wide umbrella of real assets, with some of it falling into the infrastructure space.
“The risk-return profile of natural capital is yet to be determined and I think it will be quite strategy-specific in terms of what they are looking to do and how they are looking to do it. There’s definitely going to be strategies that span the risk spectrum within natural capital. I think one of the key parts to our work and the investors is to establish if GPs are backing businesses for growth or backing operational, more secure, downside-protected assets and projects,” Yeoman says.
It is a perspective that asset managers such as Ardian and Morrison & Co have adopted, the former launching a new nature-based strategy, the latter deploying capital in carbon farming – both via their infrastructure platforms.
For Morrison & Co carbon farming is infrastructure
New Zealand-based Morrison & Co has been building its carbon farming portfolio of eight properties in Queensland covering around 100,000 hectares, with plans to generate significant amounts of Australian Carbon Credit Units through revegetation and reforestation efforts.
The firm is comfortable with classifying carbon farming as an infrastructure investment because it believes carbon credits will be a highly valued, in-demand product that can be reliably produced for many years to come, Morrison & Co partner and head of asset management Steven Fitzgerald tells affiliate title Infrastructure Investor.
“Stepping back and looking at the fundamentals, we are investing in large-scale assets that will be absorbing carbon from the atmosphere for 25 years and beyond, and reliably generating tradable instruments that are needed by third parties to meet net-zero emission targets. That’s fundamentally why we consider this has the characteristics of infrastructure.
“The Australian government is a buyer of ACCUs through regular auctions and has committed to purchasing A$2.7 billion ($1.7 billion; €1.6 billion) of ACCUs to date. This helps underpin the market. Some of the seed properties have an offtake agreement with government, so there is a contracted revenue stream there,” he says.
Square peg, round hole
How GPs decide to categorize these strategies will have a direct impact on fundraising – namely, in how LPs allocate to the strategies. At the moment, none have mandates for strict natural capital investing. But there is considerable appetite for it via climate mandates, timber/agricultural mandates, infrastructure mandates and more.
Frolova foresees different types of LPs getting involved in the space – from big businesses looking to decarbonize their operations to institutional investors looking to integrate climate mitigation into their portfolios.
Yeoman agrees. “We see potential investor demand from typically larger, experienced LPs who have been investing in infrastructure and real assets for many years. They often have very climate-focused investment objectives and natural capital or nature-based investments are the next phase of their investment programme.
“Often the strategies that we’re seeing launched are fairly niche… and that’s quite challenging for LPs. They need funds that will create more diversification across these areas. That’s something we’ll see – how the LP appetite goes. Will they back just a few areas? Will they build out a diversified natural capital portfolio or will they sort of go with a fund-by-fund model that will build that diversification for them?”
Berg is in favor of the second option: building out a diversified natural capital portfolio. “That’s exactly the issue – what is natural capital? It depends on the underlying strategy but from an institutional perspective, the asset allocation needs to be defined,” he says.
Ardian seeks €500m for new nature-based fund
Ardian has partnered with aDryada, a French developer of nature-based projects, to launch a new fund and strategy.
Averrhoa Nature-Based Solutions “aims to finance projects to restore forests, wetlands and mangroves in order to sequester large quantities of carbon,” according to a statement.
Ardian will manage the Article 9 fund, while aDryada will serve as adviser. “We will have the support of aDryada in terms of expertise, sourcing of deals and expertise on a theme, which is highly technical,” Mathias Burghardt, Ardian’s head of infrastructure, tells Infrastructure Investor.
However, the French fund manager is also building a team in-house to manage the strategy. The firm is recruiting a CEO, whose “job will be to do the project selection and make decisions related to asset management,” Burghardt says. “But he or she will benefit from the support of aDryada, which will act as a super operating partner and source deals.”
According to the statement, the aim is to invest €1.5 billion in sequestration projects. The firm did not disclose the fund’s final target, but according to one source, it is believed to be €500 million.
Asked how this strategy can be classified as infrastructure, Burghardt says: “The risk-return profile will be no different than an infrastructure greenfield project in the same location.”
The sequestered carbon “will be used to generate high-quality carbon credits verified by third-party experts,” according to the statement, and revenue will be generated through the sale of those carbon credits.
The terrain ahead
Interestingly, while LPs may have the hardest time conceptualizing the burgeoning asset class, Berg sees them as a driver of its development.
“You see more and more players coming into the space, chasing the big opportunities around more sustainable food production, technology ventures and timber. I think infrastructure GPs are reacting to LP demand. It has become a difficult investing environment with high interest rates, so everybody is looking for some new opportunities.
“With new markets around the environment, biodiversity, you actually have some additional upside potential there; infrastructure GPs are asking themselves, ‘How can I differentiate myself to LPs?’”
It’s something Yeoman has noticed too: “LPs have made large investments in the energy transition and renewable energy in the last five years. Now they’re looking to diversify their portfolio away from just energy price risk.”
And while this rapid development has its upsides in terms of raising the capital needed for the sector to fund the energy transition, Berg still heeds caution. “We need to see how quickly these growing demands for allocations on the GP side can be picked up and a lot of GPs are promising many things that the budding natural capital asset class may not be able to deliver.
“I find that a lot of infrastructure players are still quite far away from investing in natural capital. Natural capital requires a different expertise than infrastructure and investors probably will have to use different types of service providers.”
Frolova agrees: “Natural capital isn’t just an extension of infrastructure – the two asset classes require different approaches to investing. I wonder if infrastructure funds getting involved in the natural capital space are doing the work to understand that difference.”
She says that infrastructure GPs getting imoving into the natural capital space will either be motivated by LP demand and returns, or the potential to make real impact.
“Investors who recognize the need for regeneration, restoration and enhancement of natural capital and can mobilize ecosystem services to remove carbon – that kind of motivation, purpose-driven, demand-oriented motivation, will be more impactful and thus successful. Those GPs who are simply tagging along because this is becoming a popular space will be flushed out.”