Helen Shaw - SFHA Finance Conference - 8 November 2022


08 November 2022

Helen Shaw - SFHA Finance Conference - 8 November 2022

Thank you for inviting me along to speak to you today.

It’s good to see so many people here in person today and I hope that you find the conference a good opportunity to reconnect with colleagues, share experiences and hopefully learn some things of value that you can take back to your organisation.  

The brief I was given was to speak about the economic landscape for RSLs, our current work and priorities as regulator and what we see in the year ahead.

So much has changed since I took on my new role as Director of Regulation at the start of the year. But just as important are the things that haven’t changed. From our work, we see that landlords continue to be committed to delivering for their tenants. And for our part, we will continue to regulate to protect the interests of tenants and ensure that we have well performing, well governed landlords with good financial health.

I wanted to cover a few things today.

I wanted to talk about some of the big challenges that are facing us at the moment and I then wanted to talk about some key pieces of work which we have been doing as a regulator. In particular, I wanted to talk about our annual risk assessment and also our view on the financial health of landlords.

If I start with the big picture. We are currently living in a dynamic and volatile world. And I was struck by the word permacrisis which the Collins Dictionary has named as the word of the year because it said “it sums up how truly awful 2022 has been for so many people.”

When I took up my new role at the start of this year, the sector was dealing with the impact of:

  • Brexit
  • the pandemic and the ongoing recovery from it.

Then we had

  • the war in Ukraine and the uncertainty in the national and global economy which has contributed to the cost of living crisis;
  • And rising costs, interest rates and inflation now at over 10% and all of the consequences of this for landlords and their tenants;
  • And we have seen quite unprecedented political turmoil at the UK level.

Most recently we have had the Scottish Government’s unprecedented intervention in the social rented sector with the introduction of the emergency legislation on rents and evictions which will freeze rents and place a moratorium on evictions until at least the end of March 2023.

The emergency legislation also gives Scottish Ministers the power to continue this intervention beyond March.  This is part of a package of measures the Scottish Government is introducing in response to the cost-of-living crisis.  We still don’t have certainty about what will happen beyond March 2023, although Scottish Ministers must advise landlords of what the position will be no later than 14 January. 

While the rent freeze as it stands will have no immediate impact on almost all social landlords, I think it is clear how critical the Scottish Government views the role of rents in tackling the cost-of-living crisis and its willingness to intervene on rent policy.  

And the Scottish Government has indicated that it wants to work with social landlords to agree what happens beyond March 2023. As regulator, we are involved in what is called the Task and Finish Group, which the government has established to take this work forward. The Group also includes representatives from the sector including SFHA, GWSF, ALACHO and COSLA as well as other stakeholders such as UK Finance.  

We recently published a rent increase thematic which confirmed that over the last six years, the average compound increase in rents has been 16.2%. This equates to an annualised rate of about 2.5%.

In our report, we also highlighted that landlords’ planned rent increases this year ranged from 0% to 6%, This averages out at 2.98% meaning that every social landlord applied a rent increase in April that was below inflation which at that time was around 6%. Some landlords did not apply any rent increases.

This illustrates that social landlords have made significant efforts to minimise the level of rent increases, especially in the last couple of years, with many applying increases even below those assumed in their business plans.

We know that a rent freeze or rent cap post 1 April 2023 will have consequences for landlords’ business plans and the services they deliver for tenants. We have written to landlords to remind them of the critical importance of reviewing their business plans.

Carrying out a comprehensive review of business plans, and keeping these under review, will be critical to ensure landlords fully understand and factor in the current and developing context to understand the impact of this on their income and their ability to deliver effectively for tenants and other service users.

It will be important that RSLs stress test their business plans around a range of assumptions (to think the unthinkable), including increasing interest rates, above-inflation cost increases, increasing levels of arrears, sustained high inflation, and sub-inflation rent increases.

We continue to encourage RSLs to have an open dialogue with their lenders about the impact of the developments on rent increases, and the wider cost crisis, on their business plans.

Please contact your Engagement Plan Lead Officer as soon as possible if you have any concerns about the matters including if you identify any potential financial viability concerns through the review of your business plan.

And we also understand the other pressures on landlords to

  • meet the demands around net zero and the decarbonisation agenda;
  • continue to invest in building new homes;
  • and manage the significant cost pressures from;
  • materials and labour for repairing, maintaining and improving existing tenants’ homes;
  • pressure for pay increases for staff and other staff costs;
  • energy costs for offices, costs for other office supplies, and vehicle fleet costs.

None of this is easy and the degree of uncertainty which the sector faces on a number of fronts makes for some really difficult decisions which landlords will need to take.

And that is why we suggested in the rent thematic that the Scottish Government may need to consider what more it can to do help landlords keep rents affordable and to continue to deliver for current and future tenants in the face of these unprecedented challenges.

However, the sector does have some things acting in its favour.

We have just published our Loan Portfolio report. This looked at lending to the sector up to 31 March 2022. I appreciate that the world has changed quite significantly since then but this report shows that lender and investor appetite for lending to RSLs remains high despite the disruption caused by COVID-19 and an increasingly challenging operating environment for landlords.

We continue to work closely with lenders, potential lenders and ratings agencies to ensure that they understand the way in which we regulate.

And that, in addition to protecting the interests of tenants, our work also protects public and private funders.

Lenders and investors are considering the implications of the Scottish Government’s emergency legislation to bring in a cap on increases in rent, and the challenges in the wider economy, for their assessment of risk in RSLs

Maintaining lender and investor confidence will be critical to RSLs’ continuing capacity to deliver new development and capital investment, including that necessary to meet the Scottish Government’s ambitions on net zero and decarbonisation and new homes.  

Some key stats from the report:

  • The total investment through borrowing in the sector now stands at £6.55 billion;
  • The net amount drawn down from total facilities increased by £280 million to £5.64 billion;
  • The total loan balances outstanding at the end of the year increased by 4.1% to £4.90 billion;
  • The average amount owed per home increased by £95 from £15,500 to £15,595 per unit ; and
  • RSLs plan to increase their borrowing by an additional £1.3 billion over the next five years.
  • of the total loan debt outstanding at the 31 March 2022, 27% of this is on a variable interest rate.
  • Interest rates are at their highest level in 14 years and are forecast to rise further. We estimate that every 1% increase, would potentially increase annual interest charges by £13.2 million.     
  • 80% of all facilities comes from traditional borrowing sources whilst the remaining 20% is capital market funding and this is similar to 2020/21.
  • Undrawn facilities available to RSLs reduced to £0.91 billion from £1.05 billion. This, along with increased cash balances means RSLs’ liquidity remained strong at 31 March 2022. 
  • Almost 60% of new loans were to fund affordable housing development

 What all of that tells us is that RSLs need to be monitoring their loan covenants closely and where there is a risk that the covenant level will be breached, RSLs need to be having an early dialogue with their lenders and raising a notifiable event with us about a potential covenant breach.

At 31 March 2022, RSLs’ liquidity in general remained robust but there is no doubt that landlords are facing major challenges in their operating environment and this has the potential to impact RSLs’ ability to continue to service current debt and raise new debt in the future.

It has therefore never been more important that RSLs plan their treasury requirements sufficiently in advance, manage interest rate risk and plan for any interest rate increases in the future and manage relationships and communication with funders.

This year as part of our annual risk assessment, we have completed a review of one landlord’s treasury management and this will continue to be a priority in our next annual risk assessment if our resources allow.

In the meantime, I also wanted to thank everyone for submitting the five year financial projections earlier this year and for getting them to us on time. This will allow us to publish a standalone report this month on our analysis of the returns which is six months earlier than last year and was something that we know SFHA members have said it would be helpful for us to do.

I wanted to now talk about our annual risk assessment. We have also recently agreed with our Board the approach we will take with our annual risk assessment this year. We will publish more information on the risks we will focus on at the end of this month but I wanted to highlight a few things.

Our annual risk assessment is the key way that we assess and prioritise risks and then decide what our regulatory engagement should be.

Given the many, varied and intense challenges within our wider operating environment, the methodology for the risk assessment must be, and is, different again from last year. The approach though is comprehensive.  It also joins up with our other key work/priorities.  For example, our risk assessment will take into account the findings and outcomes of the:

  • rent increase thematic, and our affordability strategy more broadly;
  • some specific work we are doing on a homelessness thematic
  • homelessness stakeholder event (forthcoming);
  • our reports on RSL finances;
  • national report findings,
  • wider intelligence from teams gathered from our on-going engagement, and Scottish Government; and
  • lessons learned from our intensive cases and statutory interventions.

The cost of energy challenges mean we will pay close attention to stock quality/energy efficiency, planned rent increases, affordability and levels of arrears.  We will also consider the impact on Gypsy/Travellers who have some of the most inefficient housing. 

In homelessness we will continue to prioritise regulating council’s compliance with statutory obligations such as providing good quality temporary accommodation when it is required.  We will also consider numbers entering the homelessness system to help assess whether – for example – economic headwinds mean more people are becoming homeless and what that means for pressures on the homelessness system.

We have also been doing some broader thinking on resilience of landlords given the scale of the challenges facing the sector.  I would however stress that this thinking is very much at the preliminary stages and we will want to work with the sector to explore this further before committing to anything in future risk assessments.  So, I would be interested to hear today your thoughts on this eg is there anything useful that your organisation has done that strengthened its resilience and might help other RSLs; or I would encourage you to speak to your lead regulator about this.

We are also very mindful that constraints on public funding can have a direct impact on us, as a non ministerial public body. We will need to be smarter in how we work – including considering the best use of technology to improve efficiency, make difficult choices in what we prioritise and do less with less. 

Being smarter will include how we do our annual risk assessment and remain focussed on clear priorities which reflect the wider operating environment.  These include a focus on the following broad areas:

  • Performance in the delivery of services to tenants;
  • RSL Governance;
  • Services for people who are or could become homeless;
  • Financial health in RSLs;
  • Development plans;
  • Tenant and resident safety; and
  • Stock quality.

Rent affordability is a priority for us. Our locus in relation to rents comes from the Scottish Social Housing Charter for all social landlords and from Regulatory Standard 3 which requires each RSL to manage its resources to ensure its financial well-being, while maintaining rents at a level that tenants can afford to pay.  The Scottish Government’s rent policy will of course be a key consideration in our thinking.

In previous years, where we have engaged with a landlord about its business plan, we have sought assurance on the affordability of rents, and we propose to continue with this approach.  Given cost of living challenges that I have mentioned earlier, we know that tenants and their representatives are concerned about present and future rent affordability. We also know that landlords face price and wage inflation in their costs.  This means that some landlords will have to make tough decisions in squaring the circle between keeping rents genuinely affordable whilst continuing to meet their commitments and obligations in service delivery and development.  And as I said earlier, this position becomes more acute if the current rent freeze persists beyond March 2023, or if a low cap is put in place.  

As part of our annual risk assessment last year, we carried out a tenant and resident safety survey and we plan to carry out the survey again this year. Through the Annual Assurance Statement that landlords give us each year, this provides assurance that their organisation meets the Regulatory Standards of Governance and Financial Management and regulatory requirements.  This includes confirmation that they meet all of their legal duties and responsibilities in relation to health and safety. The purpose of the Tenant and Resident Safety Survey is to provide us with some additional, more detailed information about how landlords gain this assurance. We are particularly interested in understanding how landlords continue to gain assurance that their systems, policies, procedures and working practices ensure compliance with health and safety requirements. Where landlords tell us they have identified areas where they have required further assurance on their levels of compliance, we may discuss this with the landlord before we complete our annual risk assessment.

Following feedback from landlords last year on the timing of the survey, we are in discussion with the sfha etc about how best to take this work forward.

I wanted to also mention decarbonisation.

The Scottish Government has set a target of net carbon zero by 2045.  In order to help achieve this, significant investment will be required by RSLs into their existing housing stock to both improve the energy efficiency levels and to move away from fossil fuel based heating systems.

In recognition of the importance of this area, we added 2 additional questions to the FYFP which RSLs submitted to us earlier this year.  The first asked if de-carbonisation had been considered and the second asked for an estimate of any costs that had been included if it had.

A total of 35 RSLs have indicated that they have considered de-carbonisation as part of their business planning process representing 25% of all RSLs.  Of those 35, 10 have not yet considered the cost impact on the forecasts.  In addition, a further 14 RSLs have selected “No” as the answer, but have added a comment to explain the reason for this.

Of the 25 RSLs who included an estimate for costs, these range from £23 to £2,607 per unit with a median figure of £684 per unit.  These estimates fall well short of the estimates from studies which have tried to estimate the additional investment required to meet the net carbon zero target.

Pre-1919 tenements will be one of the more difficult property types to achieve net carbon zero on.  RSLs in Scotland own over 25,000 pre 1919 tenements. The latest aggregate figure included in the five year financial projections for total capital and revenue expenditure on pre-1919 properties is £40.4 million. Only taking into account the energy efficiency measure costs incurred in a recent project to retrofit tenement flats to Passuvhaus standard, the total cost to the sector would be £932 million. 

So achieving net carbon zero is likely to be one of the key drivers for RSLs in determining investment requirements in the medium term.  But the relatively low response rate to the questions included in this year’s FYFP suggests that the thinking is still at a very early stage.

I wanted to finish with some comment on Annual Assurance statements. Thank you to everyone for submitting their statements at the end of October.

These statements are an important element of our annual risk assessment process and assurance is also an important function of governance in any organisation.

This is about those responsible for governing the organisation obtaining accurate and current information about the efficiency and effectiveness of its operations and the status of its compliance with regulatory and statutory obligations.

And when the operating context is as uncertain and volatile as it is at the moment, the assurance process that landlords have in place are critical to ensuring that governing bodies have enough information on each of the regulatory requirements and standards to help them reach an objective and evidence based judgement on your organisation’s level of compliance and where there are areas for improvement.

So in closing, if I was to set out what I wanted people to take away from this session, I would say the following:

Our analysis shows that most RSLs have generally been delivering a robust financial performance, backed up by strong liquidity.

But there’s no question that the scale of the future challenge exceeds anything that we have faced in the past.

So that means that tough choices are going to have to be made.

Most landlords are facing uncertain but significant and new costs at a time when their tenants are facing real financial pressure.

Landlords now more than ever need to vigorously challenge every aspect of their expenditure to ensure that it is necessary and demonstrate primarily to their tenants that they are operating as efficiently as possible.

They will need to continue to have meaningful and effective dialogue with their tenants about what is important to them and what they want and can afford to pay.

RSLs in Scotland have a strong track record on consulting their tenants and are committed to delivering the best possible future for your tenants and residents. 

And as regulator, we remain committed to working with stakeholders including landlords, Scottish Government, lenders and tenants' groups to help ensure that landlords are well governed and tenants are protected.

Thank you very much for listening and I look forward to taking your questions.

Helen Shaw 

Director of Regulation