LAI0032

Written evidence submitted by Bryan Rylands

 

  1. I live in Kent and as the lead for a number of citizen journalists we watch closely Council investment plans and acquisitions. Between 2014 and March 31st 2019 nine councils have invested £370 million and financed that through PWLB borrowing at a cost of £1bn.

 

  1. In all the investment stategies I and other have read, not a single document embedded in their risk modelling an economic downturn, a share market downturn or a property downturn.

 

  1. At two Councils Kent County Council & Folkestone & Hythe District Councils questions have been raised repeatedly about the failure to consider the various down turns as set out above. All were rebuffed with the economy is ticking along nicely and our “consultants” don’t see and future possibility of a downturn in the medium term (5 years)

 

  1. Now covid-19 has wreaked havoc with the economy in all forms, the £370 million pounds of investments do not appear to be such a prudent investment as FHDC forsee a minimum downturn of the High Street of plus 25%. Savills have predicted 35-40% closure of shops on the high street within two years

 

 

Kent County Council (KCC)

 

  1. KCC are a £1 billion pound (Teir 1) spending authority. In the last sixteen years it has demonstrated time and again it does not equipped with sufficient expertise to understand the complex transactions that they have ultimate responsibility for approving.
     
  2. Between 2004 and 2018 KCC  has demonstrated time and again its Councillors and decision-makers (Officers) are not equipped with sufficient expertise to understand the complex transactions that they have ultimate responsibility for approving.

 

  1. KCC can only have been listening to the song of free money when they parked £612m (1) of funds in high-interest accounts in Icelandic banks prior to 2008. Those banks failed in the financial crisis. Only extensive and expensive legal action allowed most of the money to be recouped by 2017.

 

  1. Then there was  investment of £281 million into Lend Option Borrow Option Loans, know as LOBO Loans, between 2004 and 2007 (2) and a further £60 million between 2008 and 2011 which were repaid in part by borrowing from the PWLB at a cost of £73 million to the Kent ratepayer (3). In 2018 KCC paid a £13.4 million premium to escape the 2008 to 2011 contracts, which can be written off over the next 50 years. (4)

 

  1. Fast forward to June 2019  when KCC request for the return of £263m from its Equity Income vehicle, it opted instead to freeze the flagship fund, run by star manager Neil Woodford (5), in order to restructure the portfolio.  £120 million is  yet to be recouped (6)

 

  1. What this demonstrates is the statements made in the Post Implementation Review of Changes to the Local Authority Capital Finance Framework Local Government Finance, published by the MHCLG in April 2020 hold true: especially the statement at page 4 which states:

 

to understand the complex transactions that they have ultimate

responsibility for approving.

 

The Localism Act 2011

 

Section 1 of the Localsim Act 2011states:

 

  1. Since then Councils (Tier 1 and 2) in Kent have set up companies to make investments in to property and land.

 

  1. Kent Councils between 2015 and 2019 made in excess of £370 million worth of investments in property and land, while borrowing in excess of £1 billion from the PWLB to do so. Meaning money’s borrowed from the PWLB were not used on property investments (7).

 

  1. Many of these investments are yet to show any return for the councils who made the investments, now with the downturn this will only be exacerbated.

 

Folkestone & Hythe District Council

 

  1. Folkestone & Hythe District Council have invested £60 million in land and property and are currently engaged in purchasing the former Debenhams building at a cost of £2.5 million and the former Folkestone Racecourse from the Reuben Brothers for in excess of £25 million pounds. Both of these will be paid for via borrowing from the PWLB.

 

  1. In Nov 2019, the Council granted itself permission to borrow £100 million from the PWLB bringing its total debt with them to £155 million. According to its own accounts   in 2017/18 it had invested £8 million into property and land, by £2018/19 this had risen to £31,841 million.  Its investment property rental income  in 2017/18 was £182,000 and in 2018/19 fell to £165,000 (8)

 

  1. Gains or losses arising from changes of the investment property are recognised in Surplus or Deficit on the Provision of Services  meaning frontline services will be affected, as the monies from the investments feed into the budgets of the frontline services offered by the council.

 

      1. According the FHDC’s Investment Strategy it’s total investment exposure in £millions is forecast to be £134.4m by the end of 2020/21 (9). This is broken down as follows:

▪          Treasury management investments £20m

▪          Service investments: Loans £12.5m

▪          Service investments: Shares £6.0

▪          Commercial investments: Property £95.9

  1. This is a further £35.9 million pounds worth of property investments to be made in this financial year by FHDC. The funding from the commercial investments will be funded by external borrowing of £71.6 million according to its investment strategy.

 

  1. What has to be borne in mind is the money from its continuing operations is £16 million of paper money, ie money made by internal selling of services to other departments. This money does not actually exists nor can be spent. Also revaluations is paper money as the council will not sell the property it owns and in the coming downturn these valuations will fall.

 

  1. Neither the statement of accounts or the Investment strategy considered any downturn in the economy or other similar eventuality such as a fall in the stockfall.

 

The PWLB
 

  1. As the committee knows many councils have borrowed from the Public Works Loan Board, an arm of the Treasury designed to fund local capital projects at long-term rates of about 2.5 per cent, and invested the money in real estate projects at yields of about 5-6 per cent or more.

 

  1. The envisaged returns for the councils was to much to resist especially as s1 of the LA 2011 allowed them to behave in such a way to borrow and invest.

 

  1. Government spending cuts have made it desperately difficult to fund local services, from social care to libraries to child care. Naturally, the return is not locked in. That would be free money. Yes, the loans are long term, but the yields on the investments — office parks, residential developments, and so on — are not guaranteed. Prices fall. Rents go unpaid or are negotiated downward. Accentuating the risk, councils’ finances are already leveraged, through tax receipts, to the local economy. When the loan-to-value ratios of the loans are 100 per cent, as some are especially for Kent Councils), the leverage is amplified further. It would not, in short, require a big correction in the real estate market (which is expected after covid-19) to turn these investments from a source of funding into an absorber of it.

 

  1. In some cases, the real estate investments dominate the Kent councils balance sheets.
    This arbitrage exercise is not costless for the central government. The local councils are in effect borrowing the central government’s credit rating. If things go terribly wrong after the PWLB lending inflates a credit bubble, the central government will, one way or another, be left to clean up. Not all government-backed lending is dangerous. There are reasons, not all of them economic, for local projects to be backed by central government financial muscle. But such loans are not meant to become a source of local budget funding by way of a carry trade. Nor are local councils set up to function as investment managers as is made clear in the the guidance sent out by the MHCLG in April 2020.

 

  1. The PWLB, for its part, is not a bank but has been used as one by the Councils. It is not equipped to reduce the risks by tightening up its credit policies. This ought to change. The PWLB need the power to decline loans to Councils without a thorough business and risk plan. Also, it should simply refrain from lending for anything other than local capital projects. Equally, the government itself needs to have a hard look at the local council credit expansion and recognise that it is a symptom of budgets driven to the breaking point. Speculation cannot solve the crisis in social care for unitary authorities like KCC. But as the government has tied its own hands on revenue increases, local councils, have been left with few other options,  so have given speculation a try, as they are allowed under the Localsim Act.

 

  1. Local government has long played the part of the “dumb money” in complex and ultimately doomed financial schemes, as is made clear by KCC. This familiar drama need not be replayed. The Treasury should put a stop to the local council credit bubble and the Public Accounts Committee ought to advise the treasury and MHCLG that it cannot grows even larger.

 

  1. Covid-19 has shown that the economy can be hit by something as small as 3 microns and have such a huge impact. For all borrowing in the future I would highly recommend that all borrowing by the councils for any form of investment or capital project from the PWLB be accompanied by a business plan and a risk mitigation plan.

 

  1. This would demonstrate what contingencies they would make in the event of another downturn from wherever it might come

 

 

May 2020

(1) - https://www.whatdotheyknow.com/request/summary_of_icelandic_bank_deposi_21

(2) - https://shepwayvox.org/2018/07/22/barclays-kent-county-council-and-the-lobo-roadshow/

(3) - https://www.whatdotheyknow.com/request/550214/response/1323437/attach/2/Response%20all%20information%20to%20be%20supplied.pdf?cookie_passthrough=1

(4) - https://webcache.googleusercontent.com/search?q=cache:pv7Xxvpw3I8J:https://www.standard.co.uk/business/council-lobo-loans-fall-away-as-rbs-strikes-refinancing-deal-with-kent-a3978061.html+&cd=1&hl=en&ct=clnk&gl=uk&client=ubuntu

(5) - https://www.ft.com/content/7f9ffb14-87a9-11e9-a028-86cea8523dc2

(6) - https://www.kentonline.co.uk/kent/news/kent-pension-fund-shortfall-now-120m-221175/

(7) - https://shepwayvox.org/2020/05/01/watchdog-to-examine-kent-councils-370-million-property-investment-spree/

(8) - https://folkestone-hythe.gov.uk/media/1023/Audited-Statement-of-Accounts-2018-19/pdf/FINAL_SoA_2018-19_(V2)_(Signed_with_Audit_Opinion).pdf?m=637057117859000000

(9) - https://www.folkestone-hythe.gov.uk/moderngov/documents/s32972/Appendix%20Investment%20Strategy%2020-21_v1.pdf