The middle-market 0pportunity

Looking ahead, to meet global climate targets, annual spending across energy, transport, and the built environment needs to increase fivefold through to 2030 (Figure 1). The required scale-up is even greater in areas like industrial processes where investment has yet to really get off the ground.

The trillions of dollars of investment both decarbonize and transform the system we know today. This results in a very different deal profile compared to earlier waves of infrastructure investment. For starters, the power system becomes central to our decarbonization efforts: widespread electrification results in a more efficient energy system and a much larger power system. In the US for instance, primary energy drops 20% by 2050 but required electric capacity increases 268% (Figure 2).

While gigawatt-scale nuclear facilities and interstate, as well as interregional, transmission capacity remain critical, the US power system is increasingly distributed. A scan of the 30,000 operating power projects across the country is illustrative here: the average size of a US coal facility is 404 MW, a natural gas project is 86 MW, and a solar project is just 17 MW (Orennia). Eighty percent of new capacity that came online last year was solar, wind, and storage, further entrenching this dynamic.

In terms of the capital environment, climate funds raised a total of $110 billion in 2023 (Pitchbook), 4.5 times what was raised a decade ago. While this marks progress, it falls far short of the scale of investment needed. Annual capital requirements across the six sectors shown in Figure 1 total $9 trillion through 2030, a stark contrast to recent records still counted in billions. We still have a long way to go.

Much of the new capital flowing into the market is going into large, billion-dollar-plus funds. Only 13% of funds raised from 2010 to 2023 in infrastructure were below $500 million, with an additional 15% being sub $1 billion. We need all kinds of investment into all sizes of assets, but we must also understand that the nature of the system we’re building is different. Alongside large funds focused on big projects, we need to invest real capital into the middle market.

Some 80% of US energy transition deals by count (Infralogic) and 40% by amount had a deal value below $400 million. Deals larger than this typically have high transaction costs, are focused on monolithic assets, and benefit from asset-size economies of scale. In the new paradigm, the minimum efficient scale to deliver compelling customer value shifts downwards. As large infrastructure funds have shifted their focus to mega-deals, these smaller deals risk being overlooked.

This creates a significant opportunity for specialized managers who understand and can create value from smaller, distributed assets. Alongside the healthy deal flow, this asset class is also remarkably attractive. Technology costs have fallen dramatically, driven by manufacturing rather than asset economies of scale. Smaller assets are also less likely to face cost overruns, a challenge often seen in mega-projects (Professor Bent Flyvbjerg, How Big Things Get Done). The cost of coordinating these distributed assets has also fallen considerably while the value they deliver both to customers and to the broader system is on the rise.

Investors who understand this opportunity are already taking advantage of these dynamics. Success requires a deep understanding of these types of assets and how the size, technology profiles, and customer dynamics are different from their large-scale predecessors. Done well, the rewards can be meaningful: middle-market funds relative to large-cap funds have delivered between 150 and 250 basis points of better return on a risk-adjusted basis (Patrizia, Investing in mid-market infrastructure).