Local Government Lawyer Insight February 2018 LocalGovernmentLawyer 6 they are tied to electoral cycles, while property investment is a long-term operation.” Casting a safety net Property also comes with a set of risks with which councils may be unfamiliar, which can be summed up as ‘is the rental stream from this building as certain as it reasonably can be, and can I deal with the consequences if it goes bad’? Alan Aisbett, real estate consultant to law firm Berwin Leighton Paisner, says: “Local authority pension funds have invested in property for years but the difference is that their regulators will demand that there is a balanced portfolio of investments to spread risks, so there is diversification if anything goes wrong. “With direct investment it’s about income but there are risks in commercial property, which apply to the sector generally not just to councils. “Tenants may go bust, when it comes to re-letting, the re-let rent may not be as high, and values can go down as properties get old. There will also be repairing obligations and the need for refurbishment to keep properties attractive to tenants in future.” While Spelthorne is perhaps unlikely to see BP go out of business, this is a hazard that can affect landlords with less blue chip tenants. Another factor is that property is “potentially an illiquid investment”, Aisbett says, where a council that needs to realise its asset may find no buyer prepared to pay the right price, potentially forcing a ‘fire sale’ at a loss. In a normal property transaction a lender would pay close attention to all this before advancing any money, but for councils this safeguard - or restriction depending on one’s view - is not there. Aisbett says: “The PWLB will lend 100% of the value and that is different from a bank that would only lend 50-60% and carry out a lot of due diligence on the property itself. “The PWLB just looks at the council as a whole so it leaves it up to the local authority to do due diligence.” It is certainly possible for councils inexperienced in property to come unstuck. Trowers’ Plumley says: “I know of a council that speculatively built an office block and then told the world it was fully let, which is true but it was on a lot of short term lets which is not a very good tenure as there is no investment value if you want to sell it on.” “I’ve not found any unwise investments yet,” adds Nathan Holden. “But, as Warren Buffett has put it, you don’t see the wrecks until the tide goes out. It’s possible that if the economy tanks then some of them will prove to have been unwise.” Winckworth Sherwood partner James Duncan, who deals with real estate and the public sector, says that while some councils have the skills to buy property they may lack the private sector’s agility. “One issue I see is that local authority staff are very busy people and so even if they have the expertise they do not have the resources to move at the speed that property transactions do, and quite a lot of resource is taken up with large transactions,” he says. “When buying property outside their area the issue is how much knowledge they really have of the place where they are buying. That is more of a concern than long-term property management, where agents can be appointed.” Brain says buying property outside a council’s area can be a perfectly sensible part of a diversification strategy. He explains: “It comes down to the risk appetite of the s151 officer. If there is little investment opportunity in their area they will look further, though some like Mansfield and Portsmouth have policies of “I’ve not found any unwise investments yet, but, as Warren Buffett has put it, you don’t see the wrecks until the tide goes out.” The cost of prudence In the Autumn of 2017, the Department for Housing, Communities and Local Government published a consultation on proposed changes to the statutory guidance on local authority investments and the Minimum Revenue Provision which, in conjunction with Cipfa’s Prudential Code and the Cipfa Treasury Management Code – which are also currently under review - make up the prudential system. The last update to the statutory guidance was in 2010, before the introduction of the general power of competence by the Localism Act 2011. The aim of the government’s review is to improve the transparency of local government finances and introduce new comparative indicators. However, in its response to the consultation in December 2017, the Local Government Association (LGA) said that although the consultation does not explicitly propose restrictions on income-generating investments, it does create a new distinction between “borrowing in advance of need” and capital expenditure. The effect, the LGA said, would be to prevent councils from borrowing for purpose of investment solely to make a return. Moreover, if effected it could force councils to divest themselves of investments already made, with significant financial consequences for the local authorities concerned.