Tuesday, March 28, 2006

How to Solve the New Jersey Budget Crisis

Until last year…few had heard of [Allan Moss] or his investment bank, Macquarie Bank Ltd. That’s when Moss, 56, decided to go on a $14 billion acquisition spree.—

Bloomberg LP.

Every cycle has a financial star—the “It” guy whose name is sprinkled throughout serious Wall Street Journal articles and whose picture graces breathless Fortune Magazine cover stories about whatever current finance craze is fattening the bonuses of Wall Street bankers.

Now, Macquarie seems to engineer a new international deal every month—most of them purchases of public utilities…. The plan has helped the bank deliver 14 successive years of record profits….

Frank Quattrone was the “It” guy during the Internet Bubble of the late 1990’s—the most powerful investment banker in Silicon Valley—and only recently made the news for getting both a guilty verdict and a lifetime ban from the securities industry overturned.

Michael Milken was the “It” guy during the Leveraged Buyout Bubble of the late 1980’s—the most powerful junk bond financier of hostile takeovers in history—and has successfully resurrected his reputation through smart business deals and aggressive funding of results-oriented cancer research.

Both Quattrone and Milken had unique insights which they used to exploit market inefficiencies on a scale nobody else had dreamed of doing before. Eventually, of course, everybody else woke up from their nap and decided they wanted a piece of the action—and pretty soon everybody was doing it—sparking asset inflation, irrational behavior and collapse.

Macquarie’s success has also lured much bigger investment banks, including Goldman Sachs Group Inc. and JPMorgan Chase & Co., into planning their own multibillion-dollar “infrastructure” funds.

What Macquarie figured out was this: it could buy public utilities such as airports, bridges and toll roads, package and resell those assets to Australian asset managers looking to redeploy the cash being accumulated by that country’s far-sighted and highly successful public pension plan, and take out fees along the way.

Most Americans first heard of Macquarie last year, when they led a group which paid $1.83 billion—approximately 40-times revenue—for the 7.8 mile Chicago Skyworks. As Bloomberg quotes an admiring fan of Macquarie:

“Macquarie is usually able to bid more aggressively for assets because they have more sophisticated financing capability.”

More recently, Macquarie won the bidding for a 157-mile toll road in Indiana, paying $3.85 billion for an asset that generated $95.6 million in revenues in the 2005 fiscal year. That’s also 40-times revenue. As Bloomberg’s admiring fan says:

“They finance with debt. I don’t know how they do it, but they’re able to finance at lower cost of capital than other people.”

The impetus behind Macquarie’s willingness to pay 40-times revenue for an asset that could be rendered obsolete by any variety of means—acts of God, acts of State Legislatures, or drivers’ unwillingness to pay tolls when they can drive for free elsewhere—comes from the very brilliant notion that such long-lived assets neatly match the long-lived nature of Australia’s pension liability.

As insights go, that’s a powerful one—and ranks right up there with Mike Milken’s discovery that, contrary to popular perception, junk bonds provided better returns, on average, than non-junk bonds, because the default rate on junk was, on average, lower than generally assumed by bond investors at that time.

Like Milken, Maquarie has revolutionized a source of financing which others now seek to emulate and exploit.

And, like junk bonds, internet stocks, and all financial fads that start off from a logical premise, it will get out of hand.

I am sure the Maquarie folks are as brilliant as their reputation, and that they know what they’re doing. But I’m not convinced that everybody else who wants to get in on the action now, by buying toll roads or airports or bridges or whatever else bankers decide to monetize, knows much more than the simple fact that it is, for the moment, a highly profitable way to leverage up the public infrastructure.

If I had a bridge to sell, I’d sell it right now.

And if I were John Corzine, the ex-banker and new governor of New Jersey dealing with a massive budget problem, I'd be getting the Goldman Sachs bankers working on a deal book for every road in the state.

Suddenly that New Jersey Turnpike is looking mighty valuable.

Jeff Matthews
I Am Not Making This Up

© 2005 Jeff Matthews

The content contained in this blog represents the opinions of Mr. Matthews. Mr. Matthews also acts as an advisor and clients advised by Mr. Matthews may hold either long or short positions in securities of various companies discussed in the blog based upon Mr. Matthews' recommendations.


Neil said...

What Mac really do is pay far to much for an asset, bundle it into a fund which they have a fleet of savy marketers selling to mum & pops who know no better. They offer introductory very high yields and Mac Bank offloads to the fund at even more than they paid. They guarantee a profit and then Australian's who don't know better are lumped with over priced assets.

I know people who've bought this stuff and none of them have bought it to match liabilities, just for the juicy intro yields and because they don't know any better!

It's worth noting that Australians all have to contribute about 9% of their income to a PRIVATE pension plan that they can either control themselves or place it with a fund. The funds and individual plans buy Mac Banks wares. Individuals outside of retirement accounts also buy their funds. There are no public retirement accounts that eat up Mac's funds, just lots of individuals and some funds.

csdorotoc said...

GS is just the crowd he wants to get involved. Just what NJ needs: more cronyism.

WillisnClyde said...

Hmm, interesting angle on the potential sale of the NJ Turnpike. My thoughts on reading about it in the NY Times was that it allowed the state to wangle it's way out of it's current deficit problems by selling long term assets, thereby forestalling the problem to future generations. Similar in manner to selling federal lands for rural school-building. It's what politicians and bankers call "creative" financing.

AllenCap said...

"Bill Would Sell Part of New Jersey Turnpike, Garden State Parkway to Investors"

- Guess you didn't hear about this one.

I almost thought i was still dreaming when bloomberg radio (on my alarm clock at 5:30) announced a story regarding partial privatization of NJ highways.

The article is from 3/24/06

AllenCap said...

I forgot to mention what i thought is the real kicker....the article mentions that the money would go towards helping reduce its pension liabilities.

Now THAT'S interesting.

the management said...

The Milken analogy is spot on. It later turned out that Milken's results on junk bond total return were heavily influenced by "fallen angels" and it was not really possible to extrapolate them to bonds which were junk from day one. I suspect that some similar inconvenient fact is going to upset the private finance utilities business; probably that the match-up between utility revenues and pension liabilities is a lot better in the regulatory actuaries' models than it is in real life.

tahoe kid said...

“Macquarie is usually able to bid more aggressively for assets because they have more sophisticated financing capability.” Am I the only one who remembers that type of reference to the folks at Long Term Capital Management? Or maybe the people at Mac Bank are the 'smartest guys in the room?'

Aaron Koral said...

Why is it that no one is asking how this new "asset monetization" technique from firms like Macquarie Bank Ltd. will affect the value of municipal bonds derived from the same assets? This period in financial history will also be looked back upon as "Strange Days" indeed, just like the title from that old Doors album, I guess (but I could be wrong).

RichL said...

An easier way to put the NJ budget in balance is to enact a wealth tax at a 100% rate on the Governor!