By now we are all aware of the measures in the budget which will impact on registered provider (RP) business plans. The rent decrease of 1% for the each of the next four years is clearly the most significant of these measures, but how will we deal with this? Can we continue to produce viable business plans through cost savings and re-profiling or is it time for a complete rethink of strategy?
This article summarises the key factors facing RPs and their impacts, before taking a look at some solutions to the challenges that lay ahead for the sector.
To summarise the key factors, we have:
- A decrease in rents of 1% for the next 4 years
- Pay to stay for tenants on higher incomes
- The introduction of the living wage
- The potential impact of the previously announced extended right to buy (RTB).
There has been wide speculation on the impacts of the policies. The rent policy is estimated to result in a 14% overall loss in rental income over the four years. In addition to the impact on the operating profit and cashflow, this will also impact on asset valuations. Although there is currently some degree of divided opinion amongst valuers, it is clear that this will have a significant impact on balance sheet valuations for those accounting at valuation and on security valuation (possibly to a lesser extent in the short term). Estimates have been made that the rent cut could wipe up to 30% off RP asset values and reduce interest cover across the sector by over 20%.
The reaction of investors into the sector and the impact on costs of funding is as yet unclear. Although HM Treasury has stated that there will be a return to the CPI +1% settlement agreed by the coalition government after the four year period, it is clear that the new majority government does not consider itself bound in any way by decisions made by the coalition and it is therefore not clear how long the revised formula will be in place.
The removal of certainty around the rental income stream is a negative factor and the breaking of the link between income and costs means that RP financial plans are open to much greater levels of risk. The credit rating agencies have not, as yet, issued any form of downgrade and we may not really know the impact of the changes until an RP goes out to the market for a sizeable chunk of funding, probably after the summer.
The impact of pay to stay is likely to be more limited, though monitoring of when households reach or fall below the pay to stay limits and the implementation of changes is likely to cause a considerable administrative burden, as well as potential bad debts. The policy will also be likely to increase the take-up of RTB – will a tenant faced with a large increase to market rent take up this option or exercise the RTB at a considerable discount?
Further pressure will be put upon the business plans of RPs providing care and support with the impact of the living wage increasing care costs in many cases. However this could also be a positive, in that where RPs are already paying on or near to the living wage then they may find themselves more competitive against private providers who will face cost increases.
Finally on RTB: although we still await confirmation that discounts will be fully funded it is clear that in many parts of the country one-for-one replacement will be impossible, leading to a reduction in social housing for rent across the country.
All of the above are designed to meet the government policy agendas of reducing the benefits bill and increasing home ownership which they see as the solution to the housing crisis. The government has also made it clear that it considers RPs to be inefficient and intends to achieve a saving of £12bn from the sector.
The regulator’s role
If you are a registered provider you may have already received a letter from the Homes and Communities Agency (HCA) seeking assurance around how the changes are being modelled through business plans, and what it means for the viability of businesses
RPs will have to re-visit those business plans they submitted to the HCA in June 2015 and it is highly likely that some form of resubmission will be required. Those that fully took on board previous advice regarding stress testing of plans may well be prepared for this and have carefully considered mitigating actions, whilst for others there may be a lot of work to do over the next couple of months.
Without doubt the HCA will expect to see that boards have a full understanding of the impacts of the budget measures and have taken a grip of the situation, putting in place measures to ensure on-going viability.
What are the solutions?
There are a number of quick fixes that will, in many cases, ensure that plans are able to cope with the changes. Solutions such as management and maintenance cost savings, re-phasing of planned maintenance and delaying or reducing the development programme will help. Some RPs, such as recent LSVTs where plans are already tight, will find viability under more pressure than others.
Considering the government agenda to increase home ownership this may be a time to think strategically beyond savings and re-phasing. What are RPs likely to look at in the future? Although bids for the AHP 2015-18 have been agreed, RPs may want to review development programmes to test if different mixes of tenure might enhance the business plan position and have early discussions with the HCA if this is the case.
Will it be possible to continue with care and support activities or community type schemes or do these need to be exited or delivered differently?
The starting point will be an updating of base business plans with savings assumptions and then robust stress testing as well as thorough modelling of strategic options.
As the leading sector provider of financial modelling services, with our wide experience of strategic finance and governance, we are well placed to help you and your board not only to understand the impacts of the changes on your business plans, but to help you to work through the strategic implications and how you plan to take these forward.