Council borrowing so high, government intervention may be needed

EDDC is borrowing to fund the building of its new HQ and to fund its “Growth Point” and is also considering going into the housing construction market.

“Local authorities could face further intervention by central government if new changes to investment and treasury codes fail to dampen council borrowing levels, according to a senior Whitehall official. …

[A conference speaker said] … “said: “When last year local authorities borrowed an additional £3.8bn, that was a £3.8bn increase in net debt. “That was £3.8bn less that the chancellor had available to distribute as funding across the board at the last budget. “So, local authority borrowing does have a real world impact in the overall quantum of funding that is available to government.”

In addition, he said that concerns have been raised that councils investing in particular asset classes can drive prices up, creating a bubble.

New principles on proportionality included in the code were triggered by some smaller authorities taking on huge sums of debt relative to their size, Caller [the speaker] added.

“We had concerns that those authorities who were doing that were effectively assuming that government stood behind their risk. “That is not the statutory position, and it is not a position we want to encourage. “What the legislation says is that effectively it is council tax payers that have to make good any deficit in those assumptions, not central government. We want people to remember that.” …

http://www.room151.co.uk/treasury/councils-could-face-additional-intervention-if-borrowing-rates-continue/

“Councils embracing commercialisation, says survey”

Do you agree that your council tax should fund EDDC as a “commercial enterprise”?

Bear in mind as you think about this and read below, its HQ move has gone up from “cost neutral” to the most recent estimate of around £10 million.

And ask yourself: how many of our councillors (town, district and county) would you trust to run your local sweet shop? And is this all academic anyway when increasingly the purse strings are being controlled by our Local Enterprise Partnership?

“Commercialisation has become the most talked about topic in councils this year, with some seeing turnover equivalent to a FTSE 250 company, according to research gathered by Zurich Municipal.

The insurer conducted in-depth interviews with 22 council chiefs across England and Scotland gathering findings into the Why are we here? The 2017 Senior Managers’ Risk Report (link below).

This revealed that many councils are embracing the opportunity to become commercial entities with one council chief interviewed by Zurich admitted to turnover of £1.5bn.

“Commercial income generating projects are the new norm for local government, with some competing against one another to buy and build hotels, harbours, piers, cinemas, university campuses, and science and research parks,” the report – released at the Solace Summit in Manchester yesterday – stated.

Many see the potential for commercially generated revenue to be re-invested in local communities, however, some spoke of the need not to stray to much into private sector disciplines, while others said it should not be pursued at any cost.

However, austerity is still seen as an ongoing challenge, with some councils saying that services cannot be cut any further.

Funding issues are also harming relations with central government, the research revealed.

One council chief executive said: “We need a frank discussion with government. We can’t carry on doing everything we do.”

Rod Penman, head of public services at Zurich Municipal said: “Councils are facing challenges from all sides, and many are employing commercial ventures to mitigate some of the lasting effects of austerity.

“This approach is not without its challenges, however. There is the growing potential for moral and commercial dilemmas at almost every turn, and it is clear that council chiefs are concerned about the long-term relationship between national and local government.”

Another theme to emerge from the study is the perception of councils following the Grenfell fire.

Council chiefs said they felt the tragedy marked a watershed in how local government’s purpose and remit is viewed.

One commented: “The Grenfell Tower disaster means we will take more consideration of community discussions.”

Penman added that councils needed to “improve the narrative” about the choices they take, especially in a more commercial environment.

“Framing decisions in a purely commercial light simply isn’t an option when the social value of public bodies and services has to be factored in,” he said.”

The full report is here:
http://newsandviews.zurich.co.uk/expert-lab/balancing-priorities-are-councils-facing-an-identity-crisis/

Council’s £1 million overspend investigated; our council’s multimillion overspend on new HQ not investigated!

OUR council has already spent nearly that much on its satellite HQ in Exmouth. The Honiton HQ was supposed to be cost neutral with the proceeds of the £7 Knowle sale to PegasusLife but latest estimates (some while ago and not adjusted for post-Brexit soaring costs) was around £10 million.

How come SWAP could do this in Herefordshire but not in East Devon. Or why KPMG – its new auditors – are not doing it now?

A special investigation into how the costs of establishing a joint customer services hub in a refurbished building soared from £950,000 to more than £1.9m has found evidence that officers “knowingly disregarded council process and procedures”.

The investigation into the Blueschool House refurbishment was carried out by the South West Audit Partnership for Herefordshire Council. The local authority has been working with the Department of Work and Pensions on the project. Have we ever seen the (updated) business case for the new HQ?

The business case for the hub was approved by the council’s Director of Resources on 13 May 2016 and the key decision taken on 2 June 2016 was approved by the Cabinet Member Contracts and Assets.

The SWAP report said: “Overall the council’s normal governance processes have not been followed by key officers involved in the Blueschool House refurbishment.

The key decision did follow the correct governance process however the business case to support the key decision lacked clarity over what works would be included in the £950K agreed financial envelope.

“It would appear that key staff including senior officers at Director level were aware of the council processes and procedures but these have not been applied during this project and there is evidence that officers have knowingly disregarded council process and procedure.”

The investigation found that although there were early indications from the framework provider that the project could not be delivered within the financial envelope even with value engineering, key officers failed to report this to Cabinet.

The report also said:

The rationale for the selection of the contractor could not be demonstrated as there were no records to support this. The property services team had responded to client requests without providing robust challenge, and had not followed the council procedure rules in relation to procurement.

The relationship between the property services team and contractors appeared to be informal for a capital project of this value and throughout the project there was little evidence that value for money could be demonstrated.

In line with the capital guidance, major projects should be overseen by a project board. The Accommodation Programme Board had oversight of the overall accommodation strategy until November 2016 however, there was no project board for the Blueschool House refurbishment project.

The timescale of the project was identified as a major risk in the business case as the project was subject to a time constraint pressure due to the DWP serving notice on their current property. This was a key factor in ensuring the project was progressed and had contributed to the overall poor governance.

The SWAP report said it was “for management to consider and determine whether any further action such as disciplinary action, should be taken against individual officers as it is clear there has been disregard for processes and procedures which has resulted in a significant overspend on the project”.

The report was due to be considered by the council’s audit and governance committee at a meeting this week (20 September).”

http://localgovernmentlawyer.co.uk/index.php

Vanity projects, speculation and unwise development could lead councils to bankruptcy

“Desperate councils risk being plunged into an Icelandic-style financial crisis after investing £1.5bn in the commercial property market, according to Sir Vince Cable, former business secretary.

Heavy cuts in central government funding have left the authorities having to consider increasingly exotic solutions to ease their financial constraints.

Between 2010 and 2015, there was a 37% cut in real terms in central government funding to local authorities. One option – popular in the last couple of years – has been to borrow from the Treasury-run Public Works Loan Board (PWLB) at very low rates of interest and then use the money to invest in commercial property ventures that offer returns of as much as 8%.

But there are fears that the strategy is creating a bubble that could bankrupt some local authorities. “This is not a wise and sensible thing to do,” said Cable, who was business secretary in the Tory-Lib Dem coalition and is standing as Lib Dem candidate in his former seat in Twickenham, south-west London.

“Local authorities have a long and inglorious history of gambling in financial and property markets,” he said. In the 1980s, Hammersmith and Fulham council was one of several local authorities that got into financial difficulties after becoming involved in complex bets on interest rates.

Cable said he could understand why councils were considering such strategies. “When they are massively constrained in what they can do around council tax – and indeed commercial rates – they are trying to prevent even deeper and more damaging cuts by taking these unorthodox measures. In some cases they may succeed, but there is a very high risk of bankrupting their local authorities. It does suggest a certain degree of desperation.”

Local government sources have defended the councils, saying that much of the money is invested in helping regenerate their local areas. But not in all cases. “What is so bizarre, so shocking, is that they are investing in property in other parts of the country,” Cable said. “It makes no sense whatsoever.”

Matthew Oakeshott, an investment manager at Olim Property, said councils were “playing a gigantic game of Monopoly with taxpayers’ cash”.

But authorities badly need returns at a time when interest rates remain low and demands on councils are rising. It is estimated that, by 2020, England’s councils will face a near £6bn funding gap between what they need to spend and what they receive. Most of this shortfall is due to rising costs linked to social care.

Two years ago, the Local Government Association warned that a dozen councils were on the brink of financial failure. Since then, the councils have had to be inventive in seeking to balance their books. Several – such as Eastleigh, Kettering and Maidstone – have successfully exploited loans from the PWLB to invest in commercial property. This, in turn, has attracted interest from other councils.

But such copycat behaviour is a concern, according to Cable, who drew comparisons with 2008, when many councils were left exposed after depositing millions of pounds in high-interest rate accounts offered by Icelandic banks, which then went bust.

“It did very serious damage to some councils,” Cable said. “It should have been a warning to all corporate treasurers in local government to not go anywhere near this.”

The extent to which councils are exposed to a downturn in the commercial property sector is unclear.

Last month, Lord Myners tabled a parliamentary question asking the government to confirm how much money the PWLB had lent to local authorities to invest in commercial real estate between 2011 and 2016, and what it was doing to monitor the risk from such investments.

Responding for the government, Baroness Neville-Rolfe said it was up to the councils to assess risk. She said: “The Public Works Loan Board is not required to collect information on the specific reasons that local authorities borrow from it, and so it does not hold information about the amount of lending that has been used for acquisition of commercial real estate.”

However, estate agent Savills told the Financial Times that councils had invested £1.2bn in commercial property last year and a further £221m so far this year.

An economic downturn could see commercial property yields drop, leaving councils exposed, say analysts. This fear has led some councils to resist investing, but others have developed considerable appetites. The Financial Times reported that Spelthorne borough council – which has assets of just £88m – bought a business park in Sunbury-on-Thames for £360m, having taken out 50 separate loans from the PWLB.

Local government sources played down fears of a bubble, pointing out that every council investment was made on a case-by-case basis and had to meet strict borrowing criteria.

Under the Prudential Code, councils must show that their investment plans are affordable, prudent and sustainable.

A Treasury spokesman said: “Responsibility for local authority spending and borrowing decisions lies with locally elected councillors, who are democratically accountable to their electorates.”

https://www.theguardian.com/society/2017/apr/29/vince-cable-cash-strapped-councils-at-risk-credit-bubble

“The great town hall property buying spree” full text

“After a career as an investment manager at HBOS, the bank that had to be bailed out by Lloyds during the financial crisis, Donna Jones became leader of Portsmouth city council in 2014. It was a time of belt-tightening, with the prospect of government funding for local authorities drying up altogether by 2020.

“It was clear to me we had to start running councils like businesses,” said the 39-year-old Conservative councillor. “To survive during the austerity programme, the only way to protect high-quality public services was to go out and generate income. We’re not moving to fortnightly bin collections or closing any libraries, swimming pools or museums.”

She has been true to her word. The council is now selling back-office facilities, such as human resources and IT support, to charities and smaller councils. It has leased the naming rights to the Spinnaker Tower, the city’s 560ft-high landmark, to Emirates airline.

Portsmouth’s local authority has also amassed a commercial property portfolio — most of it many miles away from Fratton Park football stadium, HMS Victory and Southsea Castle.

Using £110m of debt, Portsmouth has so far bought properties including a DHL distribution centre near Birmingham, a Waitrose store in Somerset and a Matalan warehouse in Swindon. In December, it sold a long lease on the Wightlink ferry terminal to the insurer Canada Life for £73m. The proceeds will be used to raise the portfolio’s size to more than £180m.

Jones said the deals were already producing £4.9m of annual income after interest. Combined with other measures, that means only £900,000 of the £9m budget cuts that Portsmouth must implement in the coming year will have to be passed on to residents through service reductions, she said.

Across England, other councils are doing the same. Empowered by the 2011 Localism Act and funded by cheap loans from an obscure subsidiary of the Treasury, 49 local authorities went on a £1.3bn property buying spree last year — spending far more than the £142m recorded in 2015.

However, there are growing concerns in the private sector and parts of Westminster that government grant cuts, coupled with generous lending by the Public Works Loan Board (PWLB), are encouraging councils to take risks they do not properly understand — in an asset class that is more volatile than many realise. Most of the property deals have been 100% funded with debt, leaving both councils and the Treasury exposed to immediate losses if values fall.

William Hill, the former head of property at the fund manager Schroders, warned in January that councils were “behaving like hedge funds exploiting a financial arbitrage”. He questioned why the government was lending to local authorities “to buy real estate on terms that make bank lending to the property sector before the [great financial crisis] look positively conservative”.

Sam Resouly, a partner at the investment firm Trinova Real Estate, said the trend had caused “distortion” in the market, with the PWLB giving councils an advantage over other bidders. He added: “If they buy 10 years’ income, they have to accept that as 10 years goes to zero, they’re going to get a rapid deterioration in the value of that asset. At some point they’re going to have to spend money to get it up to standard, and what happens to councils’ accounts then?”

One management consultant, who did not want to be named, said: “It’s hard to see why councils aren’t just the dumb money in the property market.”

The borough council of Spelthorne, a patch of the Surrey commuter belt that is home to 95,000 people, had the dubious honour of doing Britain’s biggest local authority property deal last year. It boasted of outbidding “national and international” investors to buy BP’s Sunbury office campus for £360m. The complex has been leased back to the oil major for 20 years, yet Spelthorne financed its purchase with a 50-year fixed-rate loan from the PWLB.

Although the council is paying down the loan year-by-year — unlike most other PWLB borrowers, which pay interest only — the mismatch raises the possibility that Spelthorne will be on the hook for repayments on an empty building in 20 years, when BP’s lease runs out.

Terry Collier, deputy chief executive of the authority, said it had taken out a 50-year loan because “it was just the way the financing worked best for us”.

He said BP had been on the site for 100 years, and was an important local employer, but added: “We wanted to secure a key site within the borough which was 3½ miles from [Heathrow] Terminal 5. Regardless of what BP do long term, that’s a valuable site, and we obviously did our options analysis around various scenarios.”

Spelthorne took confidence from the fact it was advised by Cushman & Wakefield, a well-known property agent. Cushman, however, is likely to have received a seven-figure fee, based on typical industry contracts, meaning it was hardly incentivised to advise against the deal.

Of the 76 council property transactions last year, 58 involved authorities buying within their own geographic area, according to a report by the consultancy CBRE. Spelthorne’s purchase added £3m a year to its annual £13m income after interest costs, but also gave the council control of what it called a “strategic” local site. Similarly, Canterbury council in Kent spent £79m on 50% of the city’s Whitefriars shopping centre, with the dual aim of generating income and improving the mall, and Surrey Heath bought up a chunk of Camberley town centre for regeneration.

There were 18 instances of councils venturing beyond their boundaries for deals, apparently driven entirely by the hunt for investment yield. Tony Martin, a director at CBRE, played down the significance of this, saying there was “only a very small number who will do it”, but the trend among the likes of Portsmouth seems to be accelerating. Some are even considering going overseas.

East Hampshire is one. It was the only authority in England to announce a council tax cut this month. The council leader, Ferris Cowper, a former director of the confectionery giant Mars, believes the authority could scrap the tax altogether within five years despite the loss of central government grants.

As well as making money selling services such as planning and regeneration advice, Cowper has built a £24m property portfolio that produces more than £2m a year after costs.

He is in the process of negotiating £200m of new loans, at least half of them from the PWLB, to ramp up East Hampshire’s activities. Those borrowings would amount to eight times East Hampshire’s annual budget of £25m. “That will be for opportunities nationally and, depending on the yield and risk profile, internationally too,” said Cowper, who plans to remain a cabinet member to oversee the strategy.

At the heart of this property boom is the PWLB, a body set up in 1793 to lend councils money for sanitation works. It now gives them access to cash from the National Loans Fund for “capital projects” — in theory, building and infrastructure — and has a balance sheet of more than £65bn.

The PWLB allows authorities to raise finance at sovereign prices: according to its website last week, £100m from the PWLB over 20 years would cost a council just 2.2% annually. The equivalent private sector rate would be 4% to 5%.

The process is surprisingly simple. Since Sir Eric Pickles, the former communities secretary, abolished the Audit Commission, councils have set their own borrowing levels based on the Chartered Institute of Public Finance’s prudential code for capital finance without close supervision by the government.

Provided a council can assure the PWLB it is operating within its limit, which is agreed every year by the cabinet and signed off by its finance director, it can borrow as much as it likes without telling the PWLB the purpose of the loan. The PWLB lends to the council without taking security over the asset.

Councils’ interest payments must be paid ahead of their other commitments, such as spending on services, although the current spread between the PWLB’s rates and property yields means they can service the debt and keep a profit.
A parliamentary report last year noted that changes to the PWLB’s early repayment charges meant that fewer councils were paying off loans early.
Henry Stannard, an associate partner at the strategy consultancy OC&C, said councils were exploiting a loophole. He suggested they were using a legal but circuitous route to “launder” money ring-fenced for capital projects into the separate part of their budgets set aside for spending on services such as adult care.

“This is not what the PWLB was set up for, and it’s not what it’s been funding for the past 200 years,” he said. “There has to be a better way of funding local government than these sorts of cheats.”

The Treasury is absorbing the PWLB and taking over its functions, although it said local authorities would “continue to be able to access loans as before”, and that interest rates would “continue to be the responsibility of the Treasury”.

For now, the multibillion- pound property gamble is set to roll on. In the words of Tony Travers, local government expert at the London School of Economics, councils’ attempts to make profits are an “intended consequence” of Downing Street’s plan to cut local authority grants by 2020 while protecting spending on defence, the NHS and pensions.

The next property market crash will test the wisdom of that policy.

Are you being served?

Councils spent £1.3bn on commercial property last year as they sought ways of generating income to make up for central government grant cuts. They are doing this with cheap loans from an arcane branch of the Treasury that is supposed to help pay for infrastructure investment.

MPs raised the alarm over the trend in November. The public accounts committee, chaired by Labour’s Meg Hillier, said the Department for Communities and Local Government appeared complacent about the risks from councils “increasingly acting as property developers and commercial landlords with the primary aim of generating income”.

The report noted that:

• councils’ spending power on services, based on government grants and council tax, fell by more than a quarter from 2010-11 to 2015-16, and is set to drop another 7.8% by 2019-20;
• councils’ spending on capital projects ­— building and infrastructure, but also property investment — rose by 13.6% from 2010-11 to 2015-16; and
• a “significant” number were already having to use more than 10% of the money meant for services to meet interest payments on debts.

The MPs said the department did “not have good enough information” on the pattern of property investment. They pointed out that three-quarters of councils’ capital spending was grouped under one category — hiding the shift from building libraries and museums to investing in office blocks and supermarkets for yield.

The Tory MP Richard Bacon questioned councils’ ability to build portfolios. “We all know plenty of examples of local authorities that could not run a bath or organise their way out of a paper bag,” he said, referring to the early 1990s interest-rate swaps fiasco in Hammersmith & Fulham, west London. The council amassed £6.2bn of risky derivatives bets and was saved only when the House of Lords ruled them void.

Last week, Moira Gibson, leader of Surrey Heath council, accused critics of “underestimating councils”. She said her authority used outside advisers, including Montagu Evans, to help run its £130m portfolio.”

Times Newspapers (paywall)

“The Great Town Hall Property Buying Spree”

Full page article in today’s Sunday Times main section, page 5.

The article relates to borrowing from the Public Works Loan Board (PWLB – a Treasury outpost) from which East Devon District Council expects to borrow to pay for its new Honiton HQ, and which the article warns:

… there are growing concerns in the private sector and parts of Westminster that government grant cuts, coupled with generous lending by the
PWLB are encouraging councils to take risks they do not properly understand- in an asset class that is more volatile than many realise. Most of the property deals have been 100% funded with debt, leaving both the councils and the Treasury exposed to immediate losses if values fall. …

… Sam Resouly, a partner in an investment firm … said the trend had caused a distortion in the market … If they buy 10 years’ income, they have to accept that as 10 years goes to zero, they’re going to get a rapid deterioration in the value of that asset. At some point they’re going to have to spend money to get it up to standard, and what happens to council’s accounts then? …

… Councils’ interest payments must be paid ahead of their other commitments, such as spending on services …

… an associate partner of a strategy consultancy said” … councils were exploiting a loophole. He suggested they were using a legal but circuitous route to “launder” money ringfenced for capital projects into the separate part of their budget set aside for spending on services such as adult care. …

Is Mr Cohen up to his job?

Richard Cohen has not had a good year (well, actually he has, as he remains Deputy CEO and Relocation Manager for EDDC).

He came under fire last week for saying (twice) that the DMC had “stymied” relocation plans – though actually if anyone stymied anything it was PegasusLife putting in a planning application that was unfit for purpose.

Just so show this wasn’t a one-off, let us remind ourselves of this is transcript of part of a speech by a well-known Sidmouth businessman with experience of property development, made at a Sid Vale Association Meeting at the Unitarian Church, Sidmouth, 9th December 2014.

The speech begins with a discussion of Cohen’s estimate of total relocation costs at about £10 million.

“The numbers are completely, hopelessly and scandalously wrong. They are useless, they are terrible and have to be challenged vigorously and strenuously. These numbers are rubbish. They don’t include the green travel plan, they don’t include compensation for the staff, they don’t include the cost of the move itself, they don’t include the costs of hubs the other towns and, most importantly, they don’t include the cost of officer time and members time that is involved in all of this.

The expert, Mr Steve Pratten from Davis Langdon, he is going to cost £1million or more on his own. It doesn’t include the legal costs in all this. I say to the District Council that I have estimated the real costs to be £20million. That figure was not disputed – Richard Cohen did not say it was exaggerated – he said he didn’t recognize the number. What that means is that I was bang on the money.

Ladies and gentlemen, we are trusting Richard Cohen to mastermind this whole process and we are assuming that he’s accurate in the mathematical calculations. This is the same man who measured the Knowle 40% smaller than it turned out to be! He got it wrong by 40%. Robin Fuller had to write a paper, he was rubbished in the press and it turned out that he was correct. The Knowle is 40% bigger than Richard Cohen thought it was.

This is the same man who was responsible for four attempts to compose the economic impact assessments rejected by his own planning committee. He can’t get simple mathematics right. This same man tells us that energy prices are going to go ahead for the next 20 years at 10% over inflation. He is alone in the entire world in thinking this. Nobody else believes that including your energy companies who will fix your energy costs for the next four years. That instantly takes £1.5million out of all the savings that are supposed to be made by moving, so he hasn’t even bothered to explore that possibility.

He is also the man who shifted the southern boundary of the Knowle to include the second tier of parkland without telling anybody and in contradiction to the specific instructions of the Development Management Committee. I was told this would not be investigated because the Inspector would look at it, which he would not do because it was not in his remit. So that has never been investigated by anybody at the Knowle.

He did it without managing to record that process; without managing to record any conversation with any individual, without writing a single email, or keeping a single note or sending any kind of correspondence to any third party. Because I made a freedom of information request, and there was nothing there.

He did it unilaterally, on his own, secretly, and he didn’t tell a single soul, and I only found out by accident.

This is not the kind of person I would trust to do these calculations. Now when he says it is going to cost £15.9million to refurbish the Knowle, I would tell him that that’s a load of bunkum. This relates to the entire building, which nobody advocates retaining. Why is anybody working in a bathroom when the Knowle is two and a half times the size of the building EDDC says it needs? How can that be possible? Mr Cohen in his calculations also asserts that there is nil chance, not 1% chance of local government reform in the next 20 years.”