Communities and Local Government CommitteeLetter to the Chair of the Committee from Julian Ashby, Chair of the HCA Regulation Committee
HCA Regulation Committee Oral Evidence Session
I am writing following the oral evidence session on 15 July to clarify important matters in relation to the HCA’s regulation of financial viability that I would like to be put on the record. I also wish to take this opportunity to provide reassurance about the financial viability of two providers mentioned in evidence: Hyde Housing and South Anglia.
The Committee questioned why we had not issued more non-compliant (V3/V4) viability judgements. I want to make it absolutely clear that we will issue a V3 or V4 rating if we feel it is warranted. Failure to comply with a fundamental standard is a serious matter, including because it could impact on the price a provider pays for their existing debt, potentially making a bad situation worse. Our regulatory strategy is to work with any provider with weaknesses or serious exposures to deal with issues before it gets to the stage that a V3 or V4 is necessary; and that is why we have not issued any V3 ratings (and only one V4 rating) to date. This approach, in conjunction with our proactive work on governance to spot problems early and the financial stability of the sector, means a failure against our viability standard should be a rare event.
Further information in relation to our regulatory approach is set out below.
The Basis of our Governance and Viability Regulation
Our regulation of financial viability is designed to give us assurance that providers meet the required outcome in the regulatory framework that “Registered Providers shall manage their resources effectively to ensure their viability is maintained”. Our rounded assessment is based on examination of providers’ financial planning and control framework and analysis of key financial information. Although judgements are based on the information available at any given time, this is inevitably a forward looking process. We look at viability over a 30 year business plan but focussing on the first five years.
Our public judgements have two grades reflecting compliance with the required outcome—a V1 judgement indicates that a provider is meeting the requirements of the standard and has the capacity to mitigate its exposures and a V2 judgement indicates that a provider is viable but there are material exposures that need to be managed in order to maintain viability. There are two non-compliant judgements, the straplines for which are as follows:
V3—The provider’s financial viability is of concern and in agreement with the regulator it is working to improve its position
V4—The provider’s financial viability is of serious concern and it is subject to regulatory intervention or enforcement action.
Any grading of V3 or V4 is a very serious matter, indicating that the provider has or is about to fail financially.
Our viability requirements are part of a broader governance and financial viability standard. We issue separate judgements on the governance and financial viability elements of the standard but there is a close connection between them. At the root of financial failures will almost inevitably be a failure in governance and by carrying out our proactive regulation of governance we seek to spot problems early and prevent them developing to the point where they have an impact on viability. The grading system for governance broadly follows that of our viability regulation with two compliant grades (G1 and G2) and two non-compliant grades (G3 and G4).
Since April 2012 we have issued the following numbers of judgements at each grade.
|
V1 (108 providers) |
G1 (118 providers) |
|
V2 (25 providers) |
G2 (19 providers) |
|
V3 (0 providers) |
G3 (6 providers) |
|
V4 (1 provider) |
G4 (1 provider) |
The combined effect of forward looking financial regulation, proactive regulation of governance and the general financial strength of the sector (based on its very stable, asset based business model where there is constant demand for provision of social housing) means that failures of viability should be and are very rare events.
Hyde Housing Association
Hyde group’s financial statements were posted just prior to the select committee hearing. They have posted a loss of £2 million as a result of a fall of £27.7 million in the value of derivatives. The underlying surplus before tax was £25.7 million. We have not yet considered the latest accounts as part of our on-going viability regulation. However, we are well aware of the reasons for this loss and are not concerned that it affects underlying financial viability. We will, of course, reflect on the latest accounts as part of our continuous review of viability.
This recorded loss is as a result of changes in accounting rules that are applicable to providers, such as Hyde, that have issued capital market bonds and have entered into derivative (swap) arrangements to protect against adverse movements in interest rates. Financial Reporting Standard 26 requires providers to state derivatives at fair value in the accounts. Doing so does not affect the cash flow of a provider and the “loss” is not crystalised unless the instrument is wound up. The sector is moving over to this method of accounting and the effect will be more volatility in surpluses and deficits. In most cases this volatility will not be indicative of underlying financial weakness at providers, unless there are other problems. To set this in context, Hyde Housing Association has (at 31 March 2013), cash balances of £41.6 million, agreed long term loan facilities of £1.5 billion and derivatives of £350 million.
A move to these new accounting rules is noted in our sector risk profile and exposure to derivative products such as those entered into by Hyde is something we monitor on a quarterly basis in our quarterly surveys of registered providers.
Our latest regulatory judgement, published in December 2012 confirmed Hyde as a V1, G1.
South Anglia
South Anglia is a subsidiary within Circle Housing Group. We regulate at a group level and Circle Group made a surplus of £21.4 million in 2011
I trust this explanation is to the Committee’s satisfaction. I will, of course, be happy to provide any further clarification required.
Yours sincerely
18 July 2013