Auckland Council’s finance & performance committee agreed yesterday to sell the final $130 million in its diversified financial asset portfolio, but it’s a decision with potential adverse consequences.
The council sold $100 million of the portfolio in May 2016, will sell a further $100 million by the end of the June 2018 financial year and agreed yesterday to sell the balance by June 2018.
The council intends to use the proceeds solely to fund public transport & stormwater infrastructure.
However, turning liquidity to use in developing hard assets could take the council closer to a net debt:total revenue ratio of 270%, and at that point the council would face a ratings downgrade.
Council treasurer John Bishop said in his report a one-notch downgrade would cost $12 million/year in extra interest costs.
Committee chair Ross Clow said the decision to divest the portfolio would help tackle Auckland’s growth: “The fund was originally set up with the express purpose of funding infrastructure across the region when needed. Given the unprecedented challenges Auckland faces, divesting of the remainder of the portfolio and using it to help fund our infrastructure programme is a prudent & sensible financial decision.”
Mr Bishop said in his report the investment fund wasn’t regarded as a strategic asset, and divesting it would give the council the opportunity to repay debt to enable additional investment in infrastructure. “However, replacement liquidity may be required to meet treasury operating limits.”
The Auckland Regional Council established the portfolio, which originally contained its stakes in Ports of Auckland Ltd & Auckland International Airport Ltd, along with an investment portfolio of New Zealand & global equities, bonds & cash. It was used it to establish Infrastructure Auckland, providing seed funds for projects that included the Britomart Transport Centre and the Northern Busway.
It’s been managed recently by 8 external fund managers, with oversight from National Australia Bank subsidiary JANA Investment Advisers Pty Ltd.
Mr Bishop said in his report: “If the portfolio was liquidated to fund a wider Auckland or New Zealand event, it is likely that financial markets would also be negatively impacted. Therefore, when the funds are needed the most, there would be likely downward pressure on the value of the portfolio, meaning the portfolio is a less preferred form of liquidity when compared to cash or committed bank lines.
“Its specific investment objective was to achieve a net return exceeding the consumer price index plus 4% over rolling 10-year periods. JANA estimates an average annual 7% return over rolling 10-year periods. The portfolio has returned 9.1%/year since November 2010, in line with benchmark & ‘market’ returns. The return for the financial year to 31 March 2017 is 5.8%.”
Both EY & Cameron Partners identified the portfolio in their reviews of council funding in 2015 as a commercial rather than strategic asset, meaning continued ownership wasn’t required to ensure delivery of key services or outcomes.
“It was noted that the rationale for holding the portfolio is weak, and it is unusual for an organisation with the objectives of Auckland Council to hold such an asset.”
Mr Bishop said alternative uses for the portfolio funds included repaying debt and accelerating infrastructure investment. However, additional liquidity support might also be required if the portfolio was divested.
“Selling it to repay debt will reduce the risk of a downgrade to the council’s credit rating profile. Under the council’s long-term plan, the ne,t debt:total revenue ratio reaches 265%, meaning little available capacity to undertake further capital investment other than what is already in the long-term plan without breaching this ratio.
“The council’s credit rating agencies have indicated downward ratings pressure if this ratio approaches 270%. Therefore any unforeseen changes to planned operating results, such as a reduction in revenue or increase in debt, could lead to a lower credit rating.
“A one-notch downgrade is estimated to cost the council a minimum 0.15% in higher interest costs, while a bigger downgrade will result in a greater increase. On the council’s current debt portfolio of $8 billion, this results in an additional $12 million/year expense once existing debt is refinanced, more than offsetting the positive return from the portfolio over time.”
Mr Bishop said that as the investment portfolio was reduced, the overhead costs (both internal & external) of administering it became more significant: “Current external overhead costs are about $1.5 million, largely represented by fees paid to JANA & the fund managers. The refined responsible investment policy also requires significantly more oversight of the portfolio, adding additional cost and diverting council staff focus away from more material matters such as managing the council’s debt portfolio, interest rate expense & credit rating profile.”
4 April 2008: Auckland Regional Holdings’ “satisfactory” half sees revenue up 45%, profit up 55% to unstated figure
2 March 2004: Auckland gets Infrastructure Auckland $45 million for interchange
Attribution: Council committee agenda & release.