Greenfield and Brownfield Infrastructure: Building or Buying

Greenfield means the asset still has to be built. Brownfield means it was already running when it was bought. Nilgiri Real Assets Fund I, invented, holds one of each: a road under construction with Rs 45,00,00,000 drawn against Rs 70,00,00,000 committed and no income at all, and a solar asset that produced Rs 9,90,00,000 for that same fund over the year to its record date. The difference between them is stage, not sector.

Think about two houses on the same street. One has people living in it and a tenant on the upper floor who paid rent last month. The other is a plot with foundations poured, a half-built frame and a contractor on site. Ask anybody on that street which of the two is a house and they will point at the first one. Ask which of the two is worth money and they will hesitate. The second one has already had a great deal of money put into it and has not produced a single rupee of anything.

The hesitation is the right instinct. The unfinished house is not a bad house and nothing has gone wrong on that site. The house is simply at a stage before the stage where houses earn. Everything a careful reader has to do differently with it follows from that one fact, and nothing follows from the fact that it is a house rather than a shop or a warehouse.

At institutional scale the two words for those two situations are greenfieldAn asset that has to be built before it can produce anything. and brownfieldAn asset that was already built and already producing when it was bought.. Nilgiri Real Assets Fund I, invented, a closed-end property and infrastructure fund managed by Nilgiri Alternatives Advisors Private Limited, invented, holds one of each among its assets. Asset 4 is a road under construction. Asset 3 is a solar generation asset that was already running on the day the fund bought it. An asset that was already running when it was bought is covered separately, under brownfield investing. The solar asset is the fixed point the road under construction gets measured against.

Is greenfield a kind of asset, or a stage of one?

A stage, and the distinction is not pedantry. If greenfield were a kind of asset, a schedule could be sorted into greenfield things and brownfield things the way it is sorted into offices and warehouses, and the label would stay attached for as long as the asset existed. The label does not stay attached. A greenfield label describes where the asset stood at one moment, and the stage changes.

Here is the whole test, and it fits in one question. Was the asset producing on the day somebody bought it? If the answer is no, because it did not exist yet in a usable form, the purchase was a greenfield purchase. If the answer is yes, because output was already flowing and a payer was already paying, the purchase was a brownfield one. Nothing else enters the test. Not the sector, not the size, not the counterparty, not the country.

Run the test on asset 4 twice, at two different moments, and watch it give two different answers about the same physical road. Today the road is being built, nobody is driving on it, and the answer is no. Suppose the road is finished and running some years later and another buyer looks at it: the answer to the same question is now yes, and to that buyer the road is a brownfield purchase. The tarmac did not change. The question was asked at a different moment. A road, a port, a generating station or a pipeline can each be greenfield or brownfield, and which one it is depends on when the buyer arrived rather than on what it is.

What actually happens during a construction phase?

Capital leaves, on a schedule somebody signed. Nothing comes back, on any schedule at all. Capital going out with nothing coming back is the whole of the construction phase, and every difficulty that follows comes from holding those two facts together.

The construction phaseThe period between the first rupee spent on an asset and the first rupee earned by it. is the period between the first rupee spent on an asset and the first rupee earned by it. The going-out side of it is highly organised: there is a contract, there are stages of work, and money is called and paid against those stages. The going-out side has dates on it. There is nothing yet to schedule, so the coming-back side has no dates, no amounts and no schedule. The asymmetry is not a reporting problem. The asymmetry is the situation itself.

Notice that the period ends at an event rather than fading out. A building either can be occupied or it cannot. A road either can carry traffic or it cannot. There is a day on which the thing becomes usable and the answer to the one question in the previous section flips from no to yes, and the ordinary word for reaching that day is commissioningThe stage at which a finished asset is tested and allowed to start producing.. The record this worked case runs on fixes no date for that event on asset 4, and that date is the most important number in the picture.

Why is the income line blank rather than small?

The blank income line is where most first readings go wrong, and the error is quiet. A reader who sees Rs 45,00,00,000 spent on something naturally expects that something to be doing a proportionate amount of work. Forty-five crore of a seventy crore road is most of a road. Surely most of a road produces something.

Most of a road produces nothing at all. Capital spent is not the same thing as capital earning, and a partly built road has nothing whatsoever to sell. There is no half-open road on which a partial toll is collected and no partly commissioned generating station selling a fraction of its output. Either the road can carry traffic and somebody is contracted to pay for that, or it cannot and nobody is. The line in the schedule against asset 4 is not a small number rounded down. The line is a blank.

An ordinary household knows this shape already. Nine months and a large amount of money spent adding a floor to a house so that it can be let does not produce nine twelfths of a rent while the work runs. The extension produces nothing at all, every month, until the day the floor is finished and somebody moves in. Nothing about the money spent changes that, and nothing about how far along the work is changes it either.

Which four risks does construction add that an operating asset does not carry?

Four, and the useful thing about them is that each one belongs to a different party. Separate parties make these four separate risks, not four names for one worry. Work through them one at a time and notice, each time, who has to fail for the road to produce nothing.

Risk one, construction risk: the asset is not finished on time or to specification

The work itself may not come out as the contract describes. The work may take longer, it may cost more than the amount committed to it, or it may be finished in a state that does not meet the specification the eventual payer will test it against. Notice that this is a risk about the physical work, and it can be present even when everybody involved is competent and solvent and doing their best.

Risk two, contractor risk: the party doing the building may not be there to finish it

Contractor riskThe chance that the party doing the building does not finish it, whether through failure, dispute or withdrawal. is a different question from whether the work is going well. Contractor risk asks whether the business doing the work will still exist, and still be able to work, until the end. A builder halfway through a competent job can stop over its own finances, a dispute or a withdrawal. The half-built thing left behind is not worth half of a finished thing. Somebody else now has to be found, has to price work another party started, and has to take on the finished result.

Risk three, land and clearance risk: the right to build is not the same as the ability to build

A road needs land under all of it, not most of it, and it needs every permission that has to exist before work can lawfully proceed. A clearanceA permission that has to exist before construction can lawfully proceed on a site. that has not arrived stops the work as completely as a missing contractor does, and a single stretch of land that is not free stops a road as completely as a missing hundred kilometres. Land and clearance risk has nothing to do with money or with skill. The question is whether the asset is allowed to come into existence on the ground it needs.

Risk four, the contracted payments never begin at all

The whole point of finishing is that somebody starts paying. On this invented road, as on the invented solar asset, the eventual income is meant to arrive under a contract with a counterparty. A contract is a promise by somebody, not a certainty, and until the first payment under it has actually been made there is no evidence at all that it will be. The counterparty may dispute that the asset meets its specification. The contract may be renegotiated. The payer still has to be able to pay. An operating asset has already watched money arrive under its contract; a construction asset has watched nothing arrive under anything.

How many of those four sit on an asset that was already running?

None of them, and that is the whole comparison. Set the two side by side. Asset 3, the solar generation asset, cost Nilgiri Real Assets Fund I, invented, Rs 90,00,00,000. The solar asset sells its output under a twenty-five year contract of its own with fifteen years still to run at that fund's record date. Over the year to that record date it produced net operating income of Rs 9,90,00,000. The Rs 9,90,00,000 is 11.0 per cent on the Rs 90,00,00,000 that same fund paid for it, and the division is one year of one invented fund's own income over one price it fixed on one day.

Now run the four risks against it. Was it finished on time and to specification? The solar asset was already producing, so the answer was settled before the fund bought it. Will the contractor still be there? There is no contractor. Will the clearances arrive and the land be free? The solar asset is standing there and working, so the clearances arrived and the land is free. Will the contracted payments ever begin? The payments began before the purchase, and the fund has watched them arrive.

A brownfield asset was bought with that uncertainty already resolved, and a greenfield one is bought with the uncertainty still ahead of it. Resolved uncertainty is easy to mistake for a ranking, and no ranking follows. The four risks are gone from asset 3 because somebody already carried them and the price the fund paid reflected that they had been carried. Neither state is safer, better or more suitable than the other for anybody. The two assets carry different risks. Naming which ones is the whole task.

What does committed capital mean when only part of it has been drawn?

Two numbers describe asset 4 and they describe different things. Committed capitalMoney promised to an asset under a signed agreement, whether or not it has been paid over yet. is money promised under a signed agreement, whether or not it has moved. Drawn capitalThe part of a promise that has actually been paid over. is the part of that promise that has actually left somebody's account. Nilgiri Real Assets Fund I, invented, has committed Rs 70,00,00,000 to the road and has drawn Rs 45,00,00,000 of it at that fund's record date. Rs 25,00,00,000 is promised and has not gone.

The distinction between a promise and a payment is an ordinary one. Where a builder agrees a job will cost Rs 8,00,000 and Rs 5,00,000 of it has been paid in stages, there are two entirely different facts about the household's position. Rs 5,00,000 has left the account, and Rs 8,00,000 is the size of the hole in the household's finances that this job represents. Somebody who knows only the Rs 5,00,000 will think the job is smaller than it is. Somebody who knows only the Rs 8,00,000 will think there is less money in the bank than there is.

A schedule that reports only the drawn figure has described half the position, and a schedule that reports only the commitment has described the other half. Both belong on the line. The drawn figure states what has been spent and what is now at stake in the four risks above. The committed figure states what this asset will still absorb before it is finished. The Rs 45,00,00,000 drawn is exactly 12.0 per cent of the Rs 3,75,00,00,000 that this invented fund has deployed across its assets at the same record date.

What does one asset earning nothing do to a portfolio figure?

The Rs 45,00,00,000 in the road moves the portfolio figure, and it moves it by more than most readers expect. Nilgiri Real Assets Fund I, invented, produced Rs 34,90,00,000 of net operating income across its assets over the year to its record date. Dividing that by the Rs 3,75,00,00,000 it has deployed gives 9.3 per cent. Dividing the very same Rs 34,90,00,000 by the Rs 3,30,00,00,000 that is actually producing income gives 10.6 per cent. Both divisions are correct arithmetic on that one invented fund's own figures over that one stated year.

A schedule that quotes one of those two without saying which capital it sits on has stated something false without writing a single wrong number. The trap is exactly that, and asset 4 is the entire reason the trap exists. The road contributes Rs 45,00,00,000 of cost to the denominator and nothing at all to the numerator, and that single fact is the difference between the two figures: 1.3 points, produced by one row of a schedule being blank.

Two sentences that both sound careful therefore say different things. "This invented fund's assets produced 9.3 per cent on everything it has deployed over the year to its record date" is true. "This invented fund's assets produced 10.6 per cent on the capital that is producing income over the year to its record date" is also true. Drop the phrase after the word "on" from either one and what remains is a sentence a reader cannot check. Neither figure is a return to any investor, neither says anything about what happens next, and neither is offered to anybody.

What has to be true before a greenfield asset becomes a brownfield one?

Construction has to end and the asset has to be able to produce. Ending construction and being able to produce are the whole of the condition, and nothing else a reader might reach for does it.

More capital being drawn does not do it. If the remaining Rs 25,00,00,000 were drawn tomorrow, the road would be a road with Rs 70,00,00,000 in it and still no income, and every one of the four risks would still be live. Time passing does not do it either: a road that has been under construction for longer is still under construction. A revaluation does not do it. A view of what the asset is worth is a different kind of number entirely from whether it can operate, and that distinction is covered separately.

The transition happens at an event, not on a trend. On one side of it the four risks are live and the income line is blank. On the other side the four are answered, output exists, a payer starts paying, and the asset joins the group that a later buyer would call a brownfield purchase. For asset 4, the date of that event is not known: the record this worked case runs on fixes none.

How does anybody actually use this difference in practice?

Four readers pick up the same two rows and take four different things from them, and watching how each moves is the fastest way to see why the distinction earns its place.

A lender reads for the first day on which the asset can service anything. A lender is not comparing the two assets by size or by sector. A lender is asking, of each rupee of interest that falls due on a date, whether there is cash arriving to meet it. Asset 3 has been paying out of contracted output for years and has fifteen years of its own contract still to run. The Rs 45,00,00,000 in the road services nothing at all until construction ends, whenever that is. Lending against a construction asset is a different conversation with different documents and a different set of questions about who bears which of the four risks.

An analyst inside the manager reads for the denominator. The analyst is the person who will be asked for a single headline figure by somebody who will not read the schedule, and asset 4 is the reason that single figure is dangerous. If the analyst says 9.3 per cent they have to be ready to say on what, and if they say 10.6 per cent they have to be ready to say on what, and the habit of naming the denominator before quoting the figure is the whole of the defence.

An investor in the fund reads for what has and has not happened. Rs 45,00,00,000 has gone into the road and nothing has come back, and there is a further Rs 25,00,00,000 promised. The shape of the position is a fact, not a complaint: the Rs 70,00,00,000 committed to the road is 17.5 per cent of the Rs 4,00,00,00,000 of commitments investors made to Nilgiri Real Assets Fund I, invented, so a meaningful share of the vehicle is sitting in something that will produce nothing until it is finished. A fund that has said it will hold assets under construction will always show a row like that.

And an ordinary household reads a two-line version of the same schedule without calling it one. The room let out is the brownfield line. The extension half way through being built is the greenfield line. Adding last year's rent, dividing it by everything spent on the house including the extension, and quoting the answer as what the property earns is the denominator error made at home, on the household's own money, with no schedule involved at all.