Transition finance: an open-source approach to retrofitting social housing stock?

Traditional debt financing tools are not up to the retrofit funding task

 

Leveraging up housing associations’ balance sheets with new debt to deliver new asset growth and earnings would be one thing; we know how that investment appraisal works.

 

But borrowing money to fix a series of legacy stock issues that are systemic and structural to the sector is another challenge completely.

 

Corporate finance investment discipline requires a linkage between costs incurred and gains made in order to underpin financially sustainable investment decisions.

 

However retrofit expenditure goes through the housing association’s accounts whereas the associated financial reward comes into the resident’s account, so our traditional debt-based investment appraisal models fail without a bridge linking the two.

 

Without the cost-benefit linkage, taking on new debt with no increase in asset values or income would inevitably dilute sector financial capacity and weaken sector viability.

 

A number of initiatives are under way and every little helps

 

The costs are too large to ignore.

 

A 2020 sector-wide study estimated the cost of social housing stock decarbonisation at £104bn.

 

As supply chain inflation bites, in future years it shouldn’t surprise us if the eventual bill is even greater. Some sector experts think the eventual figure will rise well above £200bn.

 

The Social Housing Decarbonisation Fund is a welcome enabler. It provides enough grant to prove a concept, that decarbonisation is feasible, and it gets the ball rolling.

 

But it is necessarily limited in size by the taxpayer’s funding capacity and the fortunes of the wider economy.

 

Extending the use of government guarantees through a variety of funding channels is welcome, too.

 

Any additional show of government confidence in the sector helps, of course. So too do sustainability-linked loans and green loans that are already commercially available in the market.

 

But these still weigh down a housing association’s balance sheet with debt and incur interest expenses that affect credit metrics and ratings.

What we really need 

 

What we’re really looking for now is a retrofit funding unicorn that:

 

• Links the benefits of future energy savings with the upfront costs of retrofit
• Is agnostic to technology, embracing fabric first as well as other solutions
• Alleviates sector-wide credit ratings pressures, especially interest cover
• Is widely available to all housing associations, in enough scale

 

Perhaps the solution is a new special purpose vehicle. One that:

 

• Is sector owned and run – a retrofit super aggregator backed by the sector
• Invests in retrofit directly for all housing associations that are its ‘members’
• Charges a ‘subscription’ fee over an extended period to recoup upfront costs
• Gives enough payment flexibility to avoid subscriptions being treated as ‘debt-like’ as far as accounting interpretation and credit metrics are concerned
• Is a robust investment notwithstanding the subscription flexibility feature, perhaps by using institutional guarantees as a backstop to give investors comfort that flexibility is still financeable

 

Past collaboration is a model for future collaboration

 

The early 20th century saw social housing delivered in scale through the combined efforts of public sector, private sector, social entrepreneurs and philanthropists.

 

In the 1980s and 90s, large scale voluntary transfers of housing stock from local authorities’ balance sheets to independent housing associations created vehicles for raising private finance to fund improvements in housing stock.

 

A range of banks, finance companies and fixed income investors created a deep and liquid market in debt to top up the available public sector grant funding.

 

Throughout the 2000s and 2010s, a range of banks, finance companies and investors supported an evolving housing delivery model towards more debt funding (supported by falling interest rates), recycling capital through open market, shared ownership and void sales (supported by rising property prices), while reducing reliance on grant funding.

 

The for-profit segment also became a reality.

 

When innovation was needed, it was found, including in financing techniques.

 

Where next?

 

With enough expert input we have a good chance of making sector-wide decarbonisation financially viable.

 

Government’s upcoming Transition Finance Market Review is a good place to start addressing the unique structural challenges housing associations face to decarbonise the nation’s legacy social housing stock, while preserving financial capacity to build new energy-efficient stock.

 

As we hone in on a sector-wide retrofit funding solution, any and all ideas will need to come to the fore and the sector should engage fully with this review.

 

Tariq Kazi, group treasurer, Peabody and vice-president, Association of Corporate Treasurers

 

Hear views and helpful case studies from funders, housing associations and sector partners on a session chaired by Mr Kazi, entitled ‘Full house – funding a holistic approach to long-term, preventative repair and retrofit’, at the Social Housing Finance Conference on 8 May, in London. Speakers include Paul Eyre, head of residential and housing finance at NatWest; Howard Toplis, chief executive of Tai Calon Community Housing; and Eleanor Bowden, senior associate at Pineapple Sustainable Partnerships. To view the full agenda and secure your place while tickets remain, please click here.