Risk and reward sharing is needed for housing association partnerships to work
Housing Associations (HAs) in the UK dominate the social and affordable housing sector, owning and operating a majority of the existing affordable housing stock. Most HAs are non-profit organisations where any income surplus generated is typically reinvested into the system to deliver more new affordable homes, capex or service debt.
The development of new affordable stock has not kept pace with the demand to the extent that latest estimates suggest a waiting list in excess of 1.2 million households in England alone. From a supply side perspective, the 10-year average from 2011/12 to 2020/21 has been 50,000 new affordable homes per annum which experts believe will need to increase three-fold to a total of circa 145,000 new homes per annum to meet demand. This poses a serious challenge for the HAs which are also facing sector-specific problems.
Headwinds and inherent constraints
HAs are faced with headwinds from essential fire safety upgrades in the near-term and large-scale decarbonisation expenditures required to meet net-zero targets in the more medium to long-term. Non-discretionary pressures on spend (which have no mitigation by way of increased revenues), heavy reliance on debt funding, constrained new debt capacity and a lack of equity inhibit HAs’ capacity and appetite for increasing development. Regulation, ratings pressures and lack of access to more subsidy or direct equity-raising capability add to the problem.
The case for private capital partnerships
Institutional funding has existed in the affordable housing sector for a long time in the form of long-dated debt investments. Given the rise of residential as an asset class in the UK and western Europe following the pandemic and the success story of institutional investment into student accommodation and build-to-rent in the UK, it was always a matter of time before the same institutions started to look at affordable housing sector through the equity lens.
Aside from diversification, the asset class is viewed to offer attractive risk-adjusted returns given low correlation to economic cycles and inflation-linked income. A spectrum of private capital providers are showing interest, with more real estate private equity style capital looking for higher risk reward via developments and quick aggregation play to deliver scale in a relatively short timeframe (3-5 years), whereas pension money backed capital view investments with a longer hold horizon and tend to be more focused on the stable income characteristics mainly driven by the need for matching pension liabilities.
Alternative capital solutions
A range of innovative capital solutions are at play and more are being developed as the sector draws further attention from institutional capital. Direct investment from institutionally owned for-profit registered providers (FPRPs), joint ventures applying forward purchase or forward funding, structured leases, fund structures as well as development joint ventures are either being implemented or developed. It’s fair to say that limited evidence exists to date but anecdotally a number of our HA clients have received enquiries and are working with us to receive independent advice and support in defining their financing objectives and identifying the most appropriate solutions to meet these.
Unlock additional affordable housing supply – the key attraction for the investor community is not only the steep supply-demand imbalance and long-term, stable income but also a sense of positive social impact that this investment class falls squarely into. The very strong ESG characteristics of this subsector are a major attraction for pension money, which is investing on behalf of stakeholders to build new affordable housing at the most impactful end of the scale.
Risk, reward and alignment
The key to this marriage lies in fair and transparent risk and reward sharing. Equally, alignment across both risk and reward as well as due consideration for the core purpose of HAs which is addressing the needs of underserved communities is absolutely key. In discussions with our HA clients this is an area of real focus and cultural alignment is as important as commercial and financial alignment.
There is an increasingly important role for equity in the affordable housing sector. However, it is down to individual HAs to assess their strategic objectives and goals first to work out the best possible application of equity and where this fits in the context of their current capital structure. We are working with a growing number of clients to support their strategies in this area providing independent advice to help them navigate a new and developing market and leveraging our unparalleled knowledge of the sector, capital markets and ratings agencies as well as equity investors.
Omer Fazal, Senior Director, Head of Real Estate – Centrus. Originally published in React News, May 2022
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