Insight Local Government Lawyer Insight February 2018 7 only buying elsewhere so that their investment decisions are not connected with local political decisions.” It is, he says, a balance. Councils may have less knowledge of the market outside their area, but miss some good opportunities if they only invest locally. Winckworth Sherwood real estate partner Andrew Kinsey thinks the funding gap councils face by 2020, when the grant system is due to end, is so daunting that they may look at the best available returns on property and be insufficiently cautious. “It’s no wonder when they can borrow at 2-2.5% and get a return of 4-6%,” he says. “They have a large funding gap to meet and where they don’t have the expertise it’s worth buying it in. “Some politicians like Vince Cable have raised questions about whether this will turn into a bubble like local authority investments in Icelandic banks did. But by 2020 local government has a £6bn funding gap and by then they will be able to keep all their receipts, so I do not think this will go away.” Councils have come unstuck under past Conservative governments when they competed with private industry - notably with the restrictions imposed by the Thatcher government on direct labour organisations - and there are some signs that the private sector could be concerned about the sudden emergence of local authorities as, in effect, a publicly-funded competitor for purchasing opportunities. Brain says: “I’ve heard some sour grapes about councils’ cheap borrowing from the property industry as unfair competition. Borrowing is cheap, but the council still ultimately has to repay the capital on top of that.” Ian Fletcher, director of real estate policy at trade association the British Property Federation, says: “Local authorities will sometimes have strategic reasons for investing in commercial property in their localities, to support wider council objectives, such as regeneration – and this is generally welcome. “The need, however, to generate income is leading more councils to consider investing in commercial property outside their borders. These councils will need to be careful participants in this market as competition for assets can be intense and more experienced investors in commercial property invest a lot of time and expertise to ensure they make the best investments to deliver a risk- adjusted, diversified portfolio.” CBRE looked at councils’ activities earlier this year on behalf of the property industry in a report Local Authorities: The New Long-term Investor? This found the £1.4bn of property deals concluded by councils between January 2016 and March 2017 exceeded the total of the entire preceding 15 years. Offices attracted the highest total of investment at £769m, followed by retail (£610m) and industrial (£200m). CBRE concluded this sudden spike was driven by the government’s decision to allow councils to retain the money they raise as the grant system ends. Combined with the PWLB’s generous interest rates, “the proposition that they should invest directly in commercial property has now become extremely difficult to resist”, it concluded. And it will become even more tempting to judge by CBRE’s analysis of how councils paid for these deals. It says at least seven of the top 10 transactions were funded with debt and the PWLB in all supplied £624m against a total purchase price of £673m. Debt terms were very long at between 23 and 50 years and interest rates ranged from 1.66% to 2.72%. Holden says: “There is a question of whether the government will turn off the tap since most of the money for this comes from the Public Works Loans Board and if they pushed up interest rates it would alter the dynamic quite substantially. “But it is in effect a form of quantitative easing by the government, so I would think it will be happy to keep lending councils money, but not giving them money.” It remains to be seen if government proposals to change the statutory guidance on local authority investments [see box p6] will have a significant effect. In the meantime, lawyers and their colleagues are set to continue having to grapple with priority deals, not least because, as Holden notes: “If I were a local authority I would be wanting to do this, as even if the government did turn off the tap I’d still have the assets, whereas if I waited I might have nothing.” Mark Smulian is a freelance journalist Five points for council investors The Chartered Institute of Public Finance & Accountancy (Cipfa) is reviewing both its prudential and treasury management codes to ensure that they provide a suitable framework for investment strategies. Its senior property adviser Chris Brain says there is no reason why council property investment need go wrong but recommends that councils: • use the right market knowledge and skills, partly independent and partly in- house; • assess the potential risks in the short and long terms; • do not take on undue or disproportionate risk in aggregate ; • continually monitoring risks, and ensure that they build a balanced investment portfolio; • are well informed on the potential impacts.