Could associations borrow £10.3bn to build homes?

Housing associations looking to ramp up development could collectively borrow up to £10.3bn based on their existing assets and cashflow, according to research by Savills. The borrowing spree could be a boon to private sector lenders struggling to find secure lending opportunities. Savills looked at the accounts of 175 associations and calculated their capacity for additional borrowing if they moved more in line with norms seen in the private sector (see box). Its research looked only at associations’ potential to borrow through existing assets and their capacity to repay loans from their cashflow. To finance building amid cuts to grants and government rent controls, associations have been exploring a range of alternative private sector measures to finance development. Alongside the increasing use of private sales to fund social building, the likes of Places for People, Hyde and Peabody have issued bonds, while L&Q announced a £2.6bn refinancing last year. The £10.3bn that Savills identified could lead to more than 50,000 additional new homes a year, more than the 40,000 delivered in 2015-16 and putting the sector well on the way to its 130,000 pa target by 2035. The theory of gearing The research says that all the UK’s housing association assets combined could theoretically support an incredible £41bn of borrowing against them, while capacity to lend against cashflow is £12.3bn. It then identifies where the two overlap: where associations have the assets to secure a loan, and the cash flow to service it, and identifies £10.3bn of possible borrowing. However, limitations and restrictions to borrowing remain. Savills residential research director Chris Buckle says one of the difficulties in gaining access to the money will be existing loans. He says: “Some [associations] may have the ambition but they still have their existing debt and charges to get out of.” Previous lending arrangements for many housing associations have a specified level of interest cover and loan-to-value ratios. Changing these arrangements is not cheap. L&Q is one of the few housing associations to renegotiate its lending arrangements with new terms, which it did on a £2.6bn facility after completing its £22bn merger with East Thames Housing. At the time, chief executive David Montague said the renegotiations were worth doing, owing to the scale of the new housing association’s ambitions. Those with a facility of less than £2.6bn might not see the need. Hyde Housing’s Peter Denton sees an opportunity for the expansion of housing association debt and investment to fund development. However, he does say that while the existing clearing banks have been supportive, there is a limit to their lending capacity to housing associations. He says this is already leading to new lenders emerging, but added that it also means there is not the immediate capacity for expansion that the report suggests. Denton says limited bank lending capacity is one of the main reasons for the bond issuances seen over the past year, and for further issuances that are expected before the year end. The limit, however, will be that only the larger associations can tap the bond market, where capitalisation needs to be upwards of £200m. The more private, the more risk The other obstruction to more lending will be the increasingly private nature of housing associations, which Buckle says is prompting lenders to be more cautious. “Previous terms for housing associations were very safe, with rent going up every year,” he says. “But the more associations that are not grant funded, the more they change their risk profile to non-social activities. So lenders will think, ‘why am I not treating you the same as a housebuilder?’” As they move beyond their social remit, their risk grows. “Just because you can borrow does not mean you should,” says Denton. “You have to remember your charitable status. More fundamental is the ability to service the debt. Generally, housing associations do not have the strongest income. Serviceability of debt is key.” On the one hand, there is encouragement for increased housing association development, from the government, HBF, and the mayor of London. On the other is a cautious sector that is still flexing its muscles. Housing associations will still need to borrow with caution. Untapped potential The Savills research has uncovered three main ways to increase the financial capacity of housing associations: ■ servicing more debt through existing cashflow; ■ increasing cashflow by increasing operating margins through improved efficiency; and ■ gearing more against current balance sheet assets. It has then made an estimate of additional financial capacity: Cashflow capacity = £6.4bn – down from £12.9bn in 2014-15. This is the borrowing potential determined by operating income. The decline is related directly to previous government announcements that rents must fall by 1% each year. Operating margin increased efficiency = £6bn – down from £9bn in 2016. The potential to borrow against higher cashflows from improved operational efficiency has fallen, owing to the already-improving efficiency of the sector. Total cashflow capacity = £12.4bn – down from £21.9bn in 2014-15 This is the sum of cashflow-backed borrowing and increased efficiency of management. The decline reflects the cut to social rents and reductions in operating costs. Total potential gearing capacity = £41.1bn – up from £10.2bn in 2014-15 This is the total amount that could be raised by 75% gearing against all assets. Savills says this number has increased owing to accountancy changes through FRS102, which changed how some assets were held and recorded financially, bolstering balance sheets. This is a theoretical percentage and impossible to unlock because underlying covenant calculations are still being based on pre-FRS102 figures, or because of legacy valuation issues or an inability to release assets from existing borrowing arrangements. Overlapping cashflow and balance sheet capacity = £10.3bn, up from £7.4bn in 2016 This is the realistic estimate by Savills of the total additional borrowing potential of housing associations, based on the overlap between borrowing on existing assets, and borrowing against existing cash flow. Essentially, there is £10.3bn worth of stock that can be used to secure loans, where cashflows are also strong enough to service the loans. Savills found that £7.4bn accounted for around 44,000 extra homes a year, so extrapolating proportionally, £10.3bn could trigger the development of more than 50,000 extra homes a year. To send feedback, e-mail alex.peace@egi.co.uk or tweet @egalexpeace or @estatesgazette