Regulator flags risks of rising remedial and construction costs amid ongoing rent cuts
The English social housing regulator has warned about the “key fundamental risk” of managing rent cuts against increasing costs and remedial works in the aftermath of the Grenfell Tower tragedy.
The Regulator of Social Housing (RSH) published the latest in its annual Sector Risk Profile reviews this week, covering registered providers with around 2.8 million homes and a turnover of around £20bn.
This year’s report puts a central focus on health and safety risks, including significant investments in fire safety measures and a call on boards to ensure they have the appropriate controls in place to ensure compliance with the full range of health and safety requirements.
It said a “fundamental risk” for the sector until 2020 is that while its costs will rise with inflation, its rental income is constrained by the four-year reduction. It said latest forecasts show that providers are still looking to make cost savings to offset the loss of rental income since 2016.
There is also expected to be an initial increase in total forecast expenditure driven by a rise in major repairs and maintenance costs due to remedial works required following the Grenfell Tower fire.
It added: “Despite the fall in inflation from its recent peak, registered providers may find it more difficult to contain costs as key elements of their cost base continue to grow more quickly than general CPI inflation.”
The forecasts showed that the average (mean) headline social housing costs per unit are expected to rise by four per cent over the next 12 months before falling back in line with 2017 projections of £3,880 per annum until 2021. Thereafter costs per unit are forecast to rise to £4,000 until 2023.
The report also highlights the growing level of reputational risk for housing associations, with the social housing sector under greater scrutiny than ever before.
It said boards need to be aware that their actions will be scrutinised by a large number of different stakeholders with a range of perspectives, including tenants and residents, lenders and investors, central and local government, and the media – and that housing associations should ensure their actions do not damage the reputation of the sector as a whole.
Fiona MacGregor, chief executive of the RSH, said: “The risks facing each organisation will depend upon the scale and nature of that business. It is important that boards understand the specific issues that they face, carry out adequate stress-testing and plan meaningful mitigations.”
Ms MacGregor also pointed to “unprecedented scrutiny” following the Grenfell Tower fire and said that providers must show how they are delivering on their social purpose and objectives, and meeting their promises and commitments.
“Where things go wrong providers should be open and transparent and look to put the issue right as quickly as possible. Failure to do so could not only undermine stakeholder confidence in individual providers but also affect the reputation of the sector as a whole.”
Sales risk
Sales risk remains one of the main areas of focus for the regulator, with “more registered providers than ever” reliant on sales income to fund their development programmes.
Set against the context of the government’s ambition to deliver 300,000 new homes per annum by the mid-2020s, the regulator said it is calling on boards to ensure that they undertake challenging stress-testing against the potential for a number of risks to crystallise simultaneously, such as a macroeconomic shock or wider market downturn.
The sector has forecast that it will invest £74bn in its development programme across all tenures over the next five years, with £53.5bn being invested in sub-market rent properties.
This would be supported by £39bn of sales receipts.
Other areas include counterparty risk – with a reference to the collapse of Carillion – along with lease arrangements or index-linked finance.
The regulator pointed to “several cases of financial failure by large contractors, most recently Carillion”.
It said a lack of controls and monitoring of counterparty risk, including relationships with private firms involved in joint venture arrangements, contractors, lenders and pension providers “can result in failures in services to residents and be costly to registered providers”.
“Registered providers should ensure that management of risk plays a fundamental role in shaping contract terms. It would also be prudent for boards to consider contingency plans where the registered provider depends on a limited number of contractors for maintenance and development.
“Boards must ensure that they have a recovery plan in place for when important projects do not generate expected outcomes.”
The publication also covers welfare reform, value for money, collection and use of data.
Registered providers should be clear on the relative risks of alternate funding options and ensure that cash and security are in place to accommodate “even unlikely security calls” on derivatives, it added.
It also summarises some of the specific risks that could affect specialist providers, for example lease-based supported housing landlords.
Key risks around lease-backed models
Boards need to maintain a “long-term perspective on managing risk” when it comes to lease-backed finance.
The regulator included a section in its report on an increase in both not-for-profit and for-profit providers that have entered contracted lease arrangements for property, and the emergence of new equity-backed partners, such as real estate investment trusts.
The report said registered providers of any size need to protect social housing assets and provide assurance that their business plan “has been thoroughly tested to ensure short and long-term viability”.
The regulator also set out key risks around the lease-backed model, including: index-linked rental payments for leased properties, which may or may not be backed with index-linked contracted income over the term of the lease; contracts which have few or no ‘break clauses’ which may leave the registered provider vulnerable should the external market conditions change; and significant void risk due to reliance upon third parties in respect of renewal of nominations and housing management provision.
In addition, it pointed to highly dispersed stock patterns requiring understanding of disproportionate numbers of markets and partners as well as impacting the cost base, and protection and management of sinking funds for repairs, counterparty failure and changes in government policy/welfare reform.
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