Written evidence submitted by Addleshaw Goddard [FSS 050]

About Addleshaw Goddard

Addleshaw Goddard is a global law firm with a market leading social housing finance practice advising on the largest, most innovative and impactful social housing finance transactions in the UK. Notwithstanding its footprint, Addleshaw Goddard has its origins within the UK and has considerable strength across many public and private sectors. In 2022, it was named “City Firm of the Year” by The Lawyer.

We have advised on funding for the majority of the five million affordable homes in the social sector in the UK and are the pre-eminent firm acting for all major funders (lenders and investors) on social finance matters across the UK. We are unrivalled in terms of the size, breadth and strength of our social housing finance practice and continue to be the market leading practice on both bank and institutional investor transactions and on public debt capital markets issuances.

About the Authors

Lee Shankland-Gort has led the Social Housing Finance practice at Addleshaw Goddard since 2007. He has been independently recognised as one of the UK’s leading social housing finance lawyers for the past two decades, acting for funders, most recently being described by legal directories as “the sector expert” advising funders on social housing finance. Lee also leads Addleshaw Goddard’s Social, Sustainable and Green Finance business and is Head of ESG. He sits on the policy committee of UKSIF and was, in 2022, shortlisted by the Financial Times as one of the 10 most innovative lawyers in Europe for his and his team's work in sustainable finance.

Jennie Chilton leads the Social Housing finance Property team;  a team of experts who advise the funding market on the property aspects of the UK’s social housing sector. She has over two decade’s experience in the field and is co-head of the firm's Living sector. Within her specialism, Jennie is also described by independent commentators as “the sector expert”.

Summary Key Points

We do not feel:

• that the Regulator of Social Housing needs any increased powers, in relation to finance and financial matters;
• there is any causal link between the emergence of for-profit registered providers, and the overall financial health of the sector as a whole; and
• (relative to the sector’s reliance on debt funders and debt markets) equity capital is offering a significant solution to the social and affordable housing challenge, largely due to the existing organisation structures in the sector.

We do feel:

• the Regulator of Social Housing sometimes appears to need to balance its roles when on the one hand it is required it to take pre-emptive action against registered providers in difficulty (using existing statutory powers) and, on the other, maintain its wider objective of ensuring that the sector continues to be viable and attractive to funders. We feel this merits further consideration;
• whilst it is right that tenants are the key stakeholder, the lack of any shareholders means we feel that many non-profit registered providers do not have the types of stakeholders who are more likely to drive the more challenging business decisions particularly around growth and/or longer-term viability, ahead of it becoming a regulatory-type issue. This potentially stymies many of the smaller registered providers (by which we mean those which do not have any development programme or ambition) from a more commercial assessment of their future; and
• very significant and rapid consolidation across the sector is required, to ensure that the sector can deliver on its social purpose of meeting the social and affordable housing need, in the face of sustainability challenges, driving the investment needed in their stock.

We would like to thank the committee for looking into the financial resilience of the social housing sector as it contends with a number of pressures, new and old.

Introduction

• We believe that much of the public discourse around the state of social housing and social housing finance in England is lacking important context.
• This committee poses questions about what some would consider to be ‘controversial’ or ‘commercial’ aspects of the sector that have evolved in recent years: cross-subsidy, for-profit RPs, equity.
• The crucial context for this innovation is consecutive governments’ reduction in capital grant funding for core social housing over recent decades, from a position where government provided around 60% of grant subsidy required to deliver new social housing up to around 2010, to today’s sector where government provides much less.
• We see the evolution of the HA sector as an opportunity for public and private investment to combine to make a greater impact on the housing supply and affordability crisis, housing waiting lists and homelessness, than has been seen in many years.
• This would require a return to historic levels of capital grant funding from government combined with support for commercial activities, cross-subsidy and innovations like new funding partnerships with equity investors and other delivery partners.

Responses to call for evidence

1. How would you assess the financial resilience of the social housing sector currently? Are increasing pressures and requirements putting financial viability at risk?

• The sector is financially resilient, notwithstanding the economic headwinds it faces and the increased investment requirements needed to meet fire safety, decarbonisation.
• There are a number of competing financial pressures and with low levels of grant funding, which means housing associations have some difficult choices to make as they prioritise investment. This means choosing between investing in improvements to existing stock, developing new homes or decarbonisation work. This process will likely reveal that new development is not the top priority for some housing associations, as it has been in the past.
• It should be noted that HAs come in all shapes and sizes, ranging from small local charities to large multi-billion pound organisations comparable to FTSE 250 organisations. As such, some of the larger HAs will have far greater financial resilience to deal with the current financial headwinds.
• However, HAs do not have shareholders to help drive efficiencies and assess the quality of management. We feel that the sector’s financial resilience could be undermined somewhat by a lack of any third party oversight that a corporate organisation of a similar scale is subject to.
• One possible solution to this is create a separate body (e.g. in the style of the National Audit Office) which can assess the financial viability and decision-making of HAs. Any added duties could be built into the Regulator of Social Housing’s In-Depth Assessment process.
• We believe there is a case for more consolidation, and that a smaller sector with fewer HAs but stronger management teams could help meet these challenges – both in relation to financial viability, taking out cost and having expertise across stock.

2. What pressure has high inflation, increased energy costs and any other additional costs placed on the finances of social housing providers?

• Inflation has had a significant impact on the sector, with HAs under greater pressure and a period of low interest rates now behind us.
• However, this is true also of the commercial sector in which they operate and, given that they are funded in part by listed debt, there is understandably an expectation that they are able to manage these pressures.
• Those that are unable to navigate these economic pressures should consider merging with stronger organisations in order to protect the interests of residents and their social housing assets.

3. To what extent can social housing providers maintain output levels in housing development to provide a counter cyclical balance in otherwise tightening market conditions?

• HAs will struggle to maintain output levels at the current rate given the competing pressures they face.
• The move to a cross-subsidy model – driven by a fall in capital grant rates – means the sector is not counter-cyclical in the same way it was during the financial crash in 2008/9.

4. What impact have changes in the housing market in recent years had on the strength of housing associations’ balance sheets?

• We do not feel that we are best placed to comment on this topic.

5. Does the cross-subsidy model, by which market housing helps pay for social and affordable housing, have any continuing viability?

• Yes, the cross-subsidy model does have continuing viability.
• But we are concerned that those HAs that leaned heavily on the cross-subsidy model have been penalised for doing so.
• For example, credit ratings agencies have previously categorised exposure to market sale as a risk that impacts on credit quality. This has the potential to make it more difficult for those HAs – who typically are the biggest developers of social housing – to attract funding for new development at the best possible rates. Conversely, those HAs who have less market sale exposure and usually less ambitions development programmes gain better credit ratings even if they are simply looking to refinance old debt.
• We believe there is an opportunity for a system whereby the government offers to provide guarantees for HAs that use the cross-subsidy model. This would run separately from the Affordable Homes Guarantees Scheme. This may be a system in which the government is guaranteeing the organisation rather than the lending activity.

6. To what extent have private equity investors, and in particular international investors, been entering the sector? What challenges does this present?

• While there is a great deal of focus on equity investors in UK social housing, they remain a very small part of the overall sector and, as a sub-sector, are not yet significant contributors to the social housing market.
• We are familiar with several groups that have entered the sector in recent years but these groups contribute a very small portion of the overall social housing stock.
• However, we are aware of not-for-profit registered providers selling social housing stock to for-profit providers. We would like to see some protection, beyond section 106 agreements, that means these cannot be repackaged and sold off into the private sector. Unless private investors are committed to being social landlords in the long run, there is a risk that buying up social housing becomes a means of cheap development for these groups.
• We think more research should be undertaken to ascertain what equity investor exit strategies look like, given that most private equity houses will be working to a 5-7 year horizon.
• The context for innovations in the sector, ( e.g. cross-subsidy, for-profit RPs, equity) is that HAs are seeking alternative ways to deliver due to a lack of capital grant. We see opportunity to combine capital grant with commercial activity and innovation, in order to better address the housing crisis.

New challenges to the social housing sector

1. The Secretary of State has specified that more resources need to be directed towards maintaining and improving the existing stock. How feasible is this for social housing providers?

• Investing in existing stock has become the priority for many HAs, whether it be for issues around damp and mould, quality, safety or decarbonisation.
• While investment in decarbonisation works is essential, we are concerned that the sector – like many others – lacks the expertise to conduct necessary works in the most efficient and effective way.
• To tackle the decarbonisation challenge, we believe there is an opportunity for better collaboration between local authorities and HAs.

2. How do social housing providers choose whether to undertake new development or to focus on maintenance and upkeep of existing stock? Is it currently possible to achieve both objectives?
1. Where social housing providers are undertaking new developments, what consideration has been given to the types of homes they are building? For example, houses versus flats?

• We do not feel that we are best placed to comment on this topic.

3. What issues does the requirement on Housing Associations to carrying out building safety present?

• Building safety works should not be a consideration in the context of financial viability – it is a necessity and any requirements on building safety must not be softened.
• Our advice to the lending community is that there should be carve out covenants so that no HA is prevented from doing these works.

4. Has the lifting of the cap on the Housing Revenue Account made a difference to supply or improved housing from Local Authorities?

• We do not feel that we are best placed to comment on this topic.

5. Have for-profit Housing Associations made the sector, as a whole, more financially robust?

• FPRPs are welcome and have produced some successes but we do not consider there to be a causal link between their introduction and financial robustness of the sector as a whole.
• There have been some larger HAs entering into partnerships with FPRPs that look fruitful. The challenge is how this can be applied to small/medium sized organisation while ensuring social homes are retained in the social housing space.

6. Traditionally, struggling Housing Associations have merged with stronger, sometimes complementary, Housing Associations. Will this continue to be possible?
1. To what extent can mergers result in the creation of an umbrella group too large to discharge its duties and responsibilities to its tenants?

• While there have been a number of high-profile examples of HAs failing to provide acceptable services, we do not believe this is a direct result of the size of these organisations.
• HAs began as local organisations but most have evolved beyond this point and there are many instances of nationwide organisations providing excellent customer service.
• We do not consider that customer service and financial viability are aligned with localism.

7. Has the emergence of partnership working between councils and housing associations in local areas made the sector more resilient? What encouragement has the Department given to such partnerships?
1. To what extent do local authorities and Housing Associations collaborate when considering development plans for housing locally?

• We do not feel we are best placed to comment on this topic.

8. The Affordable Homes Programme includes a high proportion of shared ownership properties. To what extent is this form of tenure desirable for potential purchasers and for social housing providers?

• We would strongly advocate for shared ownership as we feel it has a key role to play in solving the housing crisis.
• That said, there are some barriers such as the tenure being poorly publicised to the public and it being difficult to understand for potential users.
• We also feel the market is not being supported for sales and resales of shared ownership properties.
• The demographic of potential users has changed in the last few years but we still feel shared ownership has significant demand.
• However, we believe that government thinking on residential property is too focused on nuclear families. Society has changed as have the ways people want to live. More consideration should be given to shared living, to people living longer with friends or colleagues, inter-generational living etc.
• More research should also be done into future living trends in order to develop housing types and schemes that will meet demand.

9. What contribution have council owned housing companies made to increasing social housing supply?
1. Is the collapse of Brick by Brick – wholly owned by the London Borough of Croydon – a one off or the tip of the iceberg?

• We do not feel we are best placed to comment on this topic.

10. Will the introduction of the Infrastructure Levy and changes to section 106 significantly affect the capacity to develop affordable housing?

• Until the full details are known following the outcome of the current consultation it is difficult to respond to this question but our observations would be;
• There has been a significant practice built around (and current funding is based upon) the current use of s.106 agreements which utilises the exclusions to restrictions in the s.106 agreements to ensure the highest valuation and this must be protected in any replacement system of regulation of the use of affordable housing.
• There must be clarity on whether this leads to the 'offsite' provision of affordable housing, and if so by who, and ensure the necessary skills are available and ensure there is no loss of efficiencies expected with onsite provision.
• There must be no net loss of spending on affordable provision.

What are the policy and regulatory challenges to the Department and the Regulator?

1. Is the current Departmental policy on social housing and affordable homes appropriately focused?

• For the most part we believe policy on social housing and affordable homes is appropriately focused.
• We would of course like to see greater focus on social rent properties, but understand that there is a question about how this will be funded.

• RTB policy in England is at odds with the devolved regimes of Scotland and Wales, each of which have abolished the Right to Buy in order to retain social housing stock and to protect the investment made in social housing by previous generations. A lot of the current financial challenges faced by the social housing sector are due to the additional investment required in its housing stock, and government policy in England will need to re-consider the balance between the current RTB policy in England and who in the future the government intends to benefit from this additional investment.

2. Is Homes England being directed appropriately by the Department, and is it achieving its objectives?

• We do not feel we are best placed to comment on this topic.

3. Has any evaluation been undertaken of the impact of the additionality guidance on the supply of social housing?

• We do not feel we are best placed to comment on this topic.

4. Is the current range of grant funding available appropriate to address the issues and challenges that the social housing sector faces?

• As we have discussed earlier in this submission, there has been a refocusing on investment in existing stock.
• With this in mind, it would be good to see HAs with the ability to use grant funding that can be used on existing stock as well as additionality.

5. On our inquiry into Exempt Accommodation we found that issues have arisen when providers are not registered with the Regulator. How does the Regulator of Social Housing engage with Housing Associations whose registration is voluntary?

• We do not feel we are best placed to comment on this topic.

6. Does the Regulator of Social Housing have sufficient power to ensure that mergers result in a financially viable new organisation?

• We are concerned that the Regulator of Social Housing has powers but that it is not exercising them readily enough, in some cases.
• It is our assessment that - at times - the RSH avoids using its powers in order to prevent creating concern about the social housing sector more widely.
• It would be beneficial to involve lenders so that, if the RSH were to use its powers appropriately, it would not spark widespread issues for the sector’s reputation.
• In the last 12-18 months the RSH has become more proactive with viability downgrades.

7. Does the Regulator of Social Housing have adequate powers to ensure:
1. value for money; and
2. low risk

 from new sources of finance such as private equity?

• We are concerned that the sector and the Regulator views value for money purely as a question of cost, which can undermine best practice.
• For instance, when building properties, using the cheapest available materials is likely to mean the materials used are less sustainable. As a result, the drive for value has undermined a HA’s ability to build sustainable homes – a key goal of the sector.
• This is not the fault of HAs – they are concerned about being downgraded. As such, further clarity on value for money is required from the regulator.
• We do not believe the RSH has any powers to regulate private equity, nor do we believe it should.

8. Does the Regulator of Social Housing have the resources and skills necessary to regulate the increasingly complex financial and corporate structures proliferating in the social housing sector?

• We do not feel we have sufficient knowledge to respond in relation to skills but it is imperative that the RSH has resources it needs to regulate an increasingly complex sector.
• There is a potential conflict for the RSH when seeking legal advice as the key law firms in the sector also advise HAs on financial transactions. It is possible another pool of advisers is needed for the RSH.

9. How appropriate is the existing regime in respect of regulating for-profit housing associations?

• We don’t feel regulatory powers need to change for FPRPs, but please refer to previous responses on the Regulator.

10. It is already accepted that the numbers of dwellings likely to be produced under the 2021 Affordable Homes Programme will be less than initially forecast. Will the financial challenges that the sector faces reduce these numbers even further?
     

• Yes

May 2023