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Social Housing - A sector facing challenge
“The social housing sector has all the hallmarks of a sector that will see increasing challenge over the next few years. Recent industry debate has focussed on the need for, and means to deliver, accelerated levels of consolidation through M&A activity and this mirrors our view. The need for social housing stock has never been greater, but there will inevitably be winners and losers as the sector works through its issues.
Executive teams, boards and their lenders need to be proactive in assessing the impact of recent policy changes and their options and response to them. With the range of stakeholders and the clear public policy interest it is likely to take significant time and effort to deliver credible solutions for those providers with the most challenged business models”
Matt Smith, Restructuring Services Partner
Social Housing, in its various forms, has been an increasingly important part of the UK provision since the boom in house building following the end of the Second World War. There are a variety of private, public and charitable enterprises that build, manage and maintain housing stock, with standards and rent levels subject to a high degree of regulation. As of September 2015 there were 1,783 Registered Providers (RPs) of social housing who were registered with the Homes and Communities Agency (HCA), the sector regulator. The sector supplied some 2.7m homes in England, representing an increase of 1.5% on the previous year. Much of the growth in the sector was attributed to the increase in Affordable Rent Stock to a new high of 123,000 units (Source: BBC, April 2015).
The July 2015 budget and subsequent Government announcements have introduced a number of significant changes, which the sector and stakeholders are working hard to understand the implications of and the timescales over which the impacts will be felt.
A large part of the sector continues to rely heavily on the UK banking market for support and in the HCA’s June 2015 quarterly survey of the 245 PRPs who each manage more than 1,000 homes, the level of borrowing and availability stood as follows:
- The sector’s borrowing facilities total £76.9bn, of which £64.1bn was drawn;
- 73% of the facility amounts are provided via bank loans, with the majority of the lending secured on housing assets;
- Lending activity remained strong, with £1.2bn of new lending raised in the quarter ended 30 June 2015; and
- The sector holds cash balances of £4.9bn, with strong operating cash flows forecast offset by asset investment and debt service.
This June 2015 survey was based on estimates prepared before the July 2015 summer budget where George Osborne announced a number of changes to the social housing sector which took the industry by surprise. The most noticeable and impactful government change is in the new requirement for social housing enterprises to reduce rents by 1% per year over the course of the parliament. As this reverses the previous policy of rent increases, it is estimated to remove £3.9bn of income over the next four years from the sector (source: www.socialhousing.co.uk, July 2015). The other major announcement extending tenants’ ‘Right to Buy’ has prompted concerns over the potential loss of better assets across portfolios. In response to the announcements, the HCA has requested business plans be ‘remodelled’.
It is likely social housing providers will need to rethink the range of services they provide, the way services are delivered, the structure of their corporate groups and financing needs. The recent announcements have been compounded by the confirmation of the end of grant funding towards the building of new homes for affordable rent following the completion of the 2015-2018 Affordable Homes Programme.
The impact of the recent budget and policy changes on the social housing sector can be categorised into three key themes:
- Short Term: Assessing the impact of the income funding gap. A 1% year on year reduction in rents could equate to a circa 12% reduction in real terms over the course of the parliament. Government welfare reforms will also impact the ability of some tenants to afford rental payments, so increasing arrears may be a further risk.
- Medium Term: Incentives such as the Right to Buy may lead to cash surpluses, albeit offset by a depletion in the asset base (and potentially seeing the loss of some of the higher quality stock). One key question will be how any cash generated from Right to Buy will be deployed by the PRPs.
- Long Term: Fundamental changes to the operating model may be required to ensure longer term sustainability, which may come in the form of further strategic consolidation. Larger players will need to be realistic as to whether potential acquisitions are strategically important. Recent changes around the requirement for homebuilders to supply affordable housing may also impact the availability of future supply.
With high levels of debt built around trading assumptions that may no longer be valid, the sector and its funding partners need to develop a clear understandings of what the new ‘normal’ looks like. A sector that is driven by ongoing investment in existing and new stock needs to think hard about its investment plans. The HCA has requested all PRPs to resubmit their 30 year projections by the end of October 2015, incorporating these new assumptions, and the expectation is that some RPs will need to fundamentally reassess their business plans and models, which in some extreme cases may be rendered unviable. To add to these challenges, the sector is stratified, with a number of major players balanced against a long tail of smaller providers.
For executive teams and boards this will not be the first time they have encountered this level of challenge. The sector has to date very successfully addressed the financial challenges it has faced. However, given the work the sector has already undertaken in reducing costs and diversifying income, ‘quick wins’ may now be more difficult to find and we are likely to see the need for a real step change in the way the sector operates going forward.
We anticipate that many will seek guidance and support to assess their options and medium term strategies. The sector has typically seen “soft” restructurings delivered by the larger providers. However, political will, continuity of supply and the need to protect tenants may make this more challenging in the current environment.
The most noticeable and impactful government change is in the new requirement for social housing enterprises to reduce rents by 1% per year over the course of the parliament… estimated to remove £3.9bn of income from the sector.
Social Housing 15 July 2015