Private Credit Can Unlock Asia’s Cities

Private Credit Can Unlock Asia’s Cities

Emerging Asian countries face a complex and interlinked challenge – how can they sustain economic development whilst managing skyrocketing urban population growth and at the same time, decarbonise their economies in alignment with ambitious net zero targets? Private capital providers will be a key part of the solution.

Macroeconomic Conditions

By 2050, Asia is expected to account for 52% of global GDP. The short-term outlook is also positive, with progress on disinflation ahead of other regions and emerging Asia reporting 4.5% year-on-year GDP growth in 2023 (contributing two-thirds’ of global growth). Growth is projected to increase to 4.8% this year, 1.3% above the global mean[1]. With only two economies in Southeast Asia – Brunei and Singapore – considered high-income, governments are focussed on avoiding the ‘middle-income trap’, reducing carbon intensity and social inequality.

We see four key areas that are shaping Asia markets:

  • Asian Cities are Growing: Urbanisation is known to occur alongside economic development. Asia Pacific is home to nearly two thirds of the world’s population, with over 2.2 billion citizens residing in major cities. By 2040, research suggests that urban households will experience growth of 21%, resulting in six out of 10 homes being situated in urban areas[2]. By 2050, Asia’s urban population is expected to increase by ~50%, an additional 1.2 billion people[3].
  • Social Challenges: Although Asia is expected to underpin global growth, challenges are inevitable. Other demographic factors – an aging population in some countries (for example, China, Thailand and Vietnam) and a rising middle class, will have vast implications for consumer behaviour and infrastructure and service demand. Asia’s middle class is expected to increase from 2 billion to 3.5 billion by 2030 – an increase of 73%, and will aggressively drive demand for investment in education, healthcare, housing, logistics and technology.
  • Pressure to Decarbonise: Governments across the region are feeling pressure to meet a 17.2% annual decarbonisation rate to limit global warming to 1.5°C by 2050[4]. Almost 40% of worldwide climate disasters between 2000 – 2021 occurred in Asia Pacific, and Asia is known to be more vulnerable to the impacts of climate change. The region is warming faster than the global average and in 2022, extreme weather events caused an estimated USD57bn in economic damage[5]. Globally, cities consume 78% of the world’s energy and produce 60% of the world’s greenhouse gases[6].
  • Inefficient Markets: Asia’s capital markets are evolving, however, they lack the depth and efficiency to ensure capital allocations are diversified across sectors that address the issues outlined above. Western economies have 2.5x the financial depth (value of equity and bonds as a percentage of GDP) of most Asian economies[7] and the region is heavily dependent on bank finance. Sixty-one percent of corporate lending in Asia is provided by banks. Over the last 25 years, ADM Capital has observed the banking system prioritise larger, higher-quality credit names, avoiding complicated lending situations in the face of more stringent regulatory requirements.

 

Direct Lending Solutions

Small and medium enterprises play an outsized role with regards to employment and output across emerging Asia, however, many have difficulties accessing corporate finance.

Private debt funds are an increasingly important source of funding for performing small and midsized corporates who require bespoke, complex financing arrangements. Companies may be highly innovative but less established, lacking adequate cash flows/ historic performance to secure bank finance, and will benefit from institutional participation in their capital structure. ADM Capital acts as an advisor to our portfolio companies, working with management teams in a private equity-like manner to unlock growth. Similarly, more experienced businesses may need specialist financing – hybrid capital/ preferred equity, refinancing solutions or longer-date funds for capital expenditure into cutting-edge industry.

ADM Capital typically underwrites USD20 million – USD75 million loans, a niche lacking competition or pressure on pricing, collateral or covenants. On a risk-adjusted basis, we believe mid-teen gross performance given over-collateralisation and a host of downside protections through board participation, cash monitoring and restrictive loan documentation, offers a compelling opportunity for investors.

 

Supporting the Development of ‘Smart-Cities’

By 2025, Asia is expected to account for 66% of the world’s megacities[8] and urban migration is expected to be a persistent megatrend. In response to the acute demand for smart-city investment, ADM Capital is targeting a broad range of sectors that facilitate more efficient, sustainable and competitive economic hubs.

Looking ahead, we are excited by key thematics that we believe will be crucial in responding to the aforementioned macroeconomic issues.

  • Sustainable Energy (renewable energy, EV’s, battery and fuel cell technology)
  • Smart Mobility & Transport (digital and sustainable transport solutions and logistics)
  • Social Infrastructure (healthcare, education and financial inclusion)
  • Urban Infrastructure (senior living, affordable housing and co-living/ co-working)
  • Tech-Enabled Infrastructure (digital payments and disruption of traditional industries)
  • Circular Economy (recycling, carbon reduction and green economy)
  • Climate & Disaster Mitigation & Adaptation (technology expected to measure and mitigate climate disaster)

We have invested nearly USD500 million in these verticals over the last 24 months and expect to continue allocating prominently in these areas.

Whilst renewable energy, electric vehicles and affordable housing tend to dominate smart-city discussions, the below loans that ADM Capital provided are good examples of how private credit can overcome the limitations of traditional financing channels to support more emergent industries:

  • Smart Electricity Meters (India)
    Secured financing to a Bangalore based, globally focused, consulting services company specialising in utilities and renewable power management. The Borrower sought funds from ADM Capital to finance the rollout of a smart metering contract for Bangalore’s electric distribution utility. The Company’s operations directly contribute to reduced energy, gas, and water waste and are actively catalytic to increasing renewable power supply and viability.
  • Modular Housing (Vietnam)
    The Borrower has a 29-year track record in Southeast Asia within the construction, building and structural steel fabrication industry and is an industry leader that delivers best-in-class modular structures to residential, commercial, industrial, retail, and hospitality developers in developed markets. The Company’s operations directly support safe and affordable housing, by manufacturing low cost, and highly scalable modular housing units with short production lead-time.
  • Logistics & Cargo (Malaysia)
    Senior secured financing to a logistic business operating across Southeast Asia. The Borrower has the unique advantage of having exclusive access to spare belly cargo space across an airline fleet’s network. The Borrower intends to serve B2B customers with fast, affordable logistics solutions, allowing consumers to benefit from more effective e-commerce infrastructure and marketplace access.

 

Sustainability Expertise

ADM Capital observes an increasing appetite from Asia corporates, and particularly the younger generation of family-owned businesses, to engage with lenders that prioritise sustainability. We believe it is our fiduciary duty to support our portfolio companies’ social and climate outcomes and our eligible[9] loans have undergone third-party ESG due diligence, concluding in the development of an Environmental and Social Action Plan. We continue to develop our in-house ESG capability and our ability to identify environmental or social risk and opportunities, and we are very proud of this competitive advantage.

As private debt managers slowly begin to adopt sustainability frameworks, fuelled by materiality and a recognition that ESG factors can impact performance, regulatory developments and increasing LP demand for transparency and underlying emissions data, General Partners will play an important role in educating and supporting portfolio companies on decarbonisation.

 

[1] IMF

[2] Euromonitor – Asia Pacific Households in Charts

[3] UN Habitat

[4] PWC

[5] UNDP

[6] United Nations

[7] Mckinsey

[8] Asian Development Bank

[9] ADM Capital’s Environmental & Social Management System clarifies eligible loans in more detail. These are typically bi-lateral, direct lending transactions where ADM Capital is the lead lender, comprising the majority of our underwriting.