Mergers amid the perfect storm – should associations combine and conquer?

As the dust settles on two recent Centrus-advised mergers between Abri and Silva, and Sovereign and Network Homes, Centrus considers the role mergers have historically played in the affordable housing sector, and why, particularly given ongoing economic and political volatility, the theme of consolidation is likely to remain in focus into the future. 

Navigating the perfect storm – why might housing associations wish to merge?

As Winston Churchill opined, “the further backward you can look, the farther forward you are likely to see”. Indeed, the practice of UK housing associations merging appears not novel, but cyclical, with each burst of activity more pronounced, with ever greater calls on finite financial resources.

Understandably, during significant uncertainty, such as that caused by the pandemic or the 2008 financial crisis, housing associations had very little time to peruse the sector for potential partners, instead focusing on the immediate concern of getting their own houses (pardon the pun) in order.

Furthermore, while we don’t possess a crystal ball, consolidation looks set to continue, with the total number of UK housing associations decreasing nine per cent in the past decade alone, according to statistics from the Regulator of Social Housing.

For an increasing number of housing associations, this landscape has forced at least consideration of mergers and the appeal of ‘combining and conquering’.

Partnering with an organisation with complimentary geographies and ambitions is an attractive prospect for some, particularly where resources may be stretched thin. The benefits of a merger will vary and be specific to the organisations involved. However, as a general rule, the key advantages of undertaking such an exercise include:

1. Economies of scale, efficiencies and bargaining power

Often the primary driver behind any merger, and the most obvious benefit, is the resulting pooling of resources to achieve economies of scale. The newly merged organisations will benefit from sharing administrative and operational platforms, reducing duplication, eliminating costs and improving efficiency.

Furthermore, the newly formed, larger, housing association may have greater negotiating power via balance sheet strength and an enhanced credit profile, offering improved outcomes with investors, rating agencies, suppliers and local authorities.

There is a risk of diseconomies of scale. When considering a merger, entities must carefully evaluate how the combined organisation will operate and the pathway to that outcome.

2. Financial stability and improved risk management

Combining the financial resources of two or more housing associations can result in greater financial stability, providing a more secure foundation for delivering housing services and investing in property development and maintenance.

Additionally, there is a reasonable expectation of risk diversification across a larger number of properties, potentially reducing exposure to specific challenges or risks in a single geographic area or property type, such as flood risk.

Again, careful due diligence on the asset base of each partner is required to ensure the resulting portfolio of homes achieves the aspirational profile.

3. Improved service delivery and development capacity

Mergers can enable housing associations both to increase their development capacity and to provide and invest more into a broader range of community services for tenants.

The combination of cost savings and enhanced bargaining power achieved via merging may unlock additional building capacity for the merged entities to deliver new affordable housing units.

However, in a larger organisation, the distance between the tenant and the board may increase; careful consideration of operational structure is needed to ensure due focus remains on delivery for tenants.

Challenges

Overall, the case for mergers appears strong.

The saying about laws being like sausages (best not to see how they are made), applies to mergers as well. Mergers are complex, representing a substantial undertaking for all stakeholders and are not to be undertaken lightly.

While mergers can offer excellent benefits, this requires careful planning and execution.

Achieving the merger may require lender consent solicitation initially, while unlocking maximum capacity may need financial covenants and corporate controls to be reshaped.

Both can engender potentially complex and expensive negotiations with lenders. These can result in treasury costs, and ensuring they are outweighed by savings is a critical test of a business case.

Cultures will need to be harmonised, tenant concerns surveyed and allayed, while employee stakeholders will see significant disruption, but potentially a broader range of career development opportunities.  

The resulting, larger entity will naturally be more complex, and it is reasonable to expect some short-term administrative challenges to ensure all parties are comfortable, from governance and risk management perspectives.

However, it is important to ensure that this is transient; any long-term drag on decision-making speed can result in poor responsiveness, worse outcomes for tenants, and undermine any business case.

Mergers also have the potential to result in overextension during execution, where the level of effort required to deliver the process is too big for the existing personnel to achieve effectively.

This is where the selection of experienced advisors can be critical to ensure that lender negotiations are successful, and the loss to EV (with EV representing the present value of existing borrowing versus a like-for-like replacement at current market rates) is minimised.

Key success factors

1. Choose the right partner

Easier said than done, but the success of any merger depends first and foremost on selecting the right merger partner. A shared vision, culture and geographic focus are key to reducing the risk of integration issues.

2. Evaluate the business case early

Careful planning, effective communication and a clear understanding of the objectives of any merger are vital. A key step in merger execution is constructing an outline business case which should define the ‘merger ambition’ and assess to what extent the merger may deliver this.

It’s also important to ensure that the interests and needs of tenants and communities are at the forefront of the merger process. Ongoing tenant engagement is paramount (often formally required) throughout the process to ensure they feel their needs are heard and any dissatisfaction avoided.

3. Get the right support

Depending on the entities involved and the legal mechanism opted for, the transaction can take between six and 18 months to complete. During this period, there is likely to be an operational drag on day-to-day business, with deal-fatigue a real risk.

Mergers are not insignificant in terms of cost and will require specialist support from financial, legal and operational advisors to execute effectively. Selecting the right professional partners is important.

Creating resilient businesses

Mergers are not a universal cure for operating pressures. They have, however, been used successfully to create more resilient businesses that are greater than the sums of their parts.

Organisations should be prepared not only to proactively consider mergers, but also how to respond if approached, as many neighbouring entities will be pondering the same conundrum of how best to navigate their current challenges.

This article was originally published in Social Housing Magazine on 31st October 2023.

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