As first published in Social Housing, 21 January 2019.
With the financial year end approaching, lessons learned from the past will help housing associations to manage any future slowdown in sales, writes Andrew Cowan
According to the Royal Institution of Chartered Surveyors (RICS), the housing market has the worst outlook for 20 years. Although this is a gloomy prediction, it doesn’t come as a huge surprise. We’ve been here before but not for a while – over the past 10 years we have seen remarkable growth in property values.
However, that doesn’t mean housing associations can sit back and hope that the potential storm disappears after Brexit. The last property recession triggered issues with a small number of associations such as (the then) Genesis Housing, which provide valuable lessons. These highlight the need for the sector to proactively manage the potential impact of a slowdown in sales to minimise financial risk, especially when there is a financial year end approaching.
A flat sales market is not just about sales values. It is about completions and getting sales over the line, whether that’s homes for outright sale or shared ownership. Although these sales receipts can add to surpluses, failing to make a sale can have a disproportionate effect on cash flow affecting the housing association group and, increasingly, joint ventures and other partnerships.
Although this is a serious concern, cash flow does not generally lead to the initial failure of housing associations as most have access to significant cash and, if not, there are generally other housing associations or lenders who will help (on terms).
The more critical issue is the potential impact of a falling sales market on impairment of assets or land banks, which can affect compliance with lenders’ financial covenants and a ‘going concern’ sign-off from auditors. And with the accounting year end looming, this is a potential issue that should be addressed as early as possible.
Impairment is not necessarily a science, but the calculation can have a fundamental impact on lender financial covenant compliance if the amount is significantly larger than anticipated. And in the past, impairment of off-balance-sheet investments has been more difficult for housing associations to manage.
Housing association lenders seldom treat breaches of financial covenants with a wave of the hand. A breach of one set of lender financial covenants results in a default under all of the association’s other loan agreements, known as a ‘cross default’, and would result in auditors being unwilling to sign off accounts on a ‘going concern’ basis. A cross default makes it very difficult to agree a drawdown with a lender regardless of whether there is a breach of their loan agreement or not, which can compound any cash flow issues.
In these situations, other related issues often arise, including signing drawdown requests and uncertainty among housing association officers about whether they can provide the required certifications, let alone whether a lender can be relied on to honour the drawdown notice. Failure to draw entirely could have a detrimental impact on cash flow, especially if other lenders have increased their lending margin.
Meanwhile, the potential insolvency of a joint venture, joint venture partner or development company means that significant unforeseen additional investment can be required as the best way of mitigating the potential loss. But this can require lender consent as many loan agreements have restrictions on the amount a housing association can invest in other entities. Consents can take time and involve further costs or a refresh of primary lending terms. The growth of joint ventures since 2007 also means the impact would be significantly different to the last recession when comparatively few partnerships existed.
For joint ventures, consents can also be required if the partner is failing and the only option is to buy them out, bringing the entity into the group as a subsidiary. This can require a significantly larger amount of cash than may have been estimated.
These risks can, however, be significantly minimised or resolved if identified and addressed before the end of the financial year. There are tried and tested options available to housing associations, such as reconfiguring the planning of developments or converting homes into another tenure. But the quicker these are identified, the greater the chance of them delivering an effective and long-term fix. For those who choose to wait until after 1 April, those options will significantly reduce.
Andrew Cowan is head of social housing at Devonshires.
