Finance and Constitution Committee

Meeting date: Wednesday, September 12, 2018

Official Report 789KB pdf

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Contingent Liability

The last item of business is to take evidence from the Cabinet Secretary for Finance, Economy and Fair Work on the proposed contingent liability arising from a standby loan facility for a development site at Winchburgh. I welcome to the meeting Derek Mackay, the Cabinet Secretary for Finance, Economy and Fair Work; Will Quinn, guarantee schemes manager; and Michael Walker, finance business partner. Members have received copies of a letter from the cabinet secretary setting out the background to the request. Later in the meeting, the committee will consider in private the response to the request and we will then write to the cabinet secretary to confirm our decision. Before we move to questions, I invite the cabinet secretary to make a short opening statement.

Thank you and good morning, convener. I am indeed here to invite the committee to approve a £15 million contingent liability to unlock major economic development in central Scotland at Winchburgh, West Lothian. That vitally important strategic site is on the point of stalling and urgent Scottish Government involvement is required. What I am asking you to consider is the minimum intervention required from Government to unlock the full development. The papers before you indicate the scale of economic activity on an active site that has reached a critical point. This proposal will allow the planning conditions to be met and the cap on construction to be lifted.

Your approval of this contingent liability will pave the way for new school provision, community facilities and essential transport infrastructure. All that will be alongside 3,450 new homes, 25 per cent of which will be for affordable rent, for an area with one of the highest rates of population growth in Scotland. This risk-sharing package has been subject to extensive due diligence and is the right type of intervention by Government, pitched at the right level, to demonstrate our commitment to provide an economic stimulus while limiting our exposure to financial risk. I ask the committee to consider the significant economic benefits that will be delivered to central Scotland through the approval of this essential contingent liability.

Thank you, cabinet secretary. Your letter states that the developer has been unable to secure affordable market-rate finance to forward fund all the infrastructure needed to develop the site. It made me wonder why we have arrived at this situation. Why was it not anticipated when the site development was initially financed—or was it anticipated?

I suppose that the answer to that is partly to do with the history and the changing costs, and partly to do with the recognition that a lot of front loading of capital investment is required and how, once that has been costed and considered, it is profiled in terms of the income that developers will get from the development and building of the units. I suppose that that involves a full understanding of the costs and the negotiation of what is required by way of planning consent, how the funding will ultimately be delivered and why this financial tool would be required. That is my understanding. My officials might be able to give you more of the history of what has changed since the development’s inception.

That is correct. This comes down to the scale of the development and the infrastructure that is required up front. In terms of the package that is being asked for, the delivery of the school in question is a planning requirement and, as is stated in the papers, the developer is unable to secure affordable finance to front fund that. West Lothian Council is engaged in the wider infrastructure that is required and is carrying the maximum risk that is allowed under its governance arrangements.

We are all quite grateful that the Scottish Government is able to help deliver this sort of output, but the question is: at the beginning of this process, was it anticipated that there would be a requirement for the Government to be involved, or did it think that West Lothian Council and the developer could put together the package that would release this site and make it work? How did we reach the point where the Government is getting involved?

I think that the answer to that is that the developer and West Lothian Council have been engaged in negotiations for quite a number of years, so they have been developing how they might take this site forward, given the scale.

Okay. It is an iterative process—is what you are saying? It is an evolving process and that is why the Government has been involved. I can understand that.

This is an exceptional situation because of the scale. It is a useful model to see whether we can find a financial tool with which to intervene to unlock development and help with infrastructure. Ordinarily, of course, developers would be negotiating with the planning authority, and if the negotiations did not work out, people would just walk away and the development would not happen. The council has been keen to see this through and it has looked at how it can be innovative in delivering the infrastructure elements, because of the public benefits that it will bring. The units will have an economic benefit, but it is the infrastructure benefits of the schools and the public transport elements that have encouraged the council to try to find ways to ensure that the development happens, because it recognises the population demands in that area.

We have commissioned officials across Government to support sustainable economic growth, while limiting our exposure. Fundamentally, rather than see the development fall apart, our role is to put that final piece of the jigsaw in place so that the council and the developers can deliver the mutually agreed aims. Rather than our being involved at the start and saying, “How can we plan an intervention?”, it been more a case of, “How can we help seal the deal?”.

That was a very helpful contribution.

I note my interest in the development sector, which is in my entry in the register of members’ interests.

I have a couple of questions. The first one follows on from the convener’s question. Has this situation come about because banks are becoming more restricted in their ability to lend to different sectors—the development sector being one of them? If that is the case, is this going to be the first of several requests to the Scottish Government to act as a lender of last resort?

When I speak to the banks, they tell me that there is plenty of capital. When I speak to other business interests seeking financial support, they give me a slightly different perspective on things. This is simply about the up-front infrastructure spend that is required to unlock the rest of the development, which is welcome. It has planning approval.

That leads me to ask whether this is the kind of model that we would want to deploy. There is a range of measures in our toolbox to support appropriate development, such as tax increment financing, the growth accelerator model, financial transactions and infrastructure loan funds. There is a range of financial products that we can use to support development that is worthy of support.

The interesting element here is the use of contingent liability. We are offering that financial support to the local authority, which in itself is being quite innovative in how it is delivering the infrastructure investment to unlock the development because of all the benefits it brings. Although this situation feels exceptional because of scale and some of the factors involved, contingent liability is a useful financial tool that is at the disposal of the Government and—frankly, because it requires your approval—the committee. You can ask, “Is this the right kind of intervention? Does the development have such support that it feels worthy of this intervention?” We hope, of course, the risk will never materialise for the Government, because there are many safeguards in place. However, the product gives that final security, in a sense, and supports the objectives of the development.

My second question is about the detail. The committee papers talk about a commitment or arrangement fee. How much is that? They also say that any funds drawn down

“will be repayable with interest.”

What rate will that be?

One thing that has not been mentioned is overage. If the returns exceed the amount being financed, what will the Scottish Government recover? Sharing the risk is one thing, but if the reward is beyond what is expected, how will the Scottish Government, which will have facilitated the whole development, benefit from that?

Although the Government is always keen to get credit for things, this is a financial product that gives a backstop, in a sense. I would not want it to be portrayed as meaning that we will have a financial share in the overall development. That would be quite a different proposition.

On the detail of the interest rate, of course the product has to be state aid compliant. It has gone through all that due diligence. I ask Michael Walker whether we have further information on the arrangement fee.

The interest rate on the commitment fee is 2 per cent, and on top of any drawings it is 2 per cent plus a 1.1 per cent margin. As the cabinet secretary has mentioned, those rates have been scaled as a result of state aid due diligence. We had our advisers at Grant Thornton look at similar interventions in the market and compare how private sector providers would act in this scenario, and that is how they determined the appropriate rates.

11:00  

Good morning, cabinet secretary. I shared with colleagues earlier that I am aware of the Winchburgh proposition. It is not in my constituency, but it is in the neighbouring West Lothian constituency, and when it comes to fruition it will obviously have an impact locally in West Lothian in terms of economic development but also in the wider region. The area is part of the city deal, and the whole raison d’être of city deals is of course to promote economic development, growth and house building, not just in the cities, but in the regions that surround the cities.

Given my local knowledge, I am conscious that identifying this project, in this area, for development would not have had its genesis with the Government; that would have rested with other partners, whether the local authority or the developer. It is important to understand more about the when and the why. Why did the Scottish Government get involved, what were the particular challenges, and are there any learning points? It is entirely appropriate that people should not just build houses without the infrastructure being in place, but it is obvious that, in this case, the planning consent process has been a barrier. Are there learning points for developers and local authorities when it comes to taking forward future projects of such magnitude?

Those were helpful comments—and helpful questions, too. I suppose that the financial element would have been negotiated between the council and the developer before they finally arrived at the proposition in the package. The question then became what the Government was willing to do as part of that. We have taken a proactive approach in trying to make sure that the development happens by offering our support. Essentially, as has been described, the council is using its borrowing regime to make sure that the infrastructure development happens and the development is unlocked. It will then get the return: it will get enhanced infrastructure for the area, but it will also get a financial return, which is based on the number of units that are developed.

It is not that this is the Scottish Government’s role, but we have been participating to see what we can do to support the development, given that it has come this far. Our understanding is that this is the final financial element that will make it work. Although we are always co-operative, we try to minimise the risk to the public sector, including the risk to the Government. If the situation crystallises, the resources will still have to be returned to the Government.

I entirely take on board the comments about planning and the local authority’s lead role in housing provision, which we are trying to support.

Good morning. If the facility is ultimately drawn down, can you be clear that, ultimately, the taxpayer will bear no part of the developer’s contribution as a result?

Yes. The developer is still absolutely liable for that. Can I explain how the impact on the Government might crystallise? I think that this is in members’ papers, but if there was failure to the extent that the facility was called on, we have security over the land and there are other calls on resources before the issue finally comes to the Government. We would have advance notice of that and would be able to plan it into a budget. It would not happen within a week or a month; it would be forecast at least a year in advance, so we would be able to build it into a budget. The maximum exposure would be up to about £850,000 a year, which would be manageable for us. However, the burden would still be on the developer to absolutely fulfil its condition obligations.

Yes.

You have set out that the basic reason why the facility is needed is that the developer is unable to access the finance that it hoped to access. What gives you confidence that it will have the money ultimately?

There would be the security over the land, and we would hold the developer to account for that, and there is income that is to derive from the units that are sold. The absolute worst-case scenario—it is almost unforeseeable—is that the units would not be developed, but liability would still rest with the developer.

You ask how we can be comfortable that the developer has the financing required—in this case, to put towards school infrastructure. The council will be forward funding that, so the risk is taken away from the developer to that extent. However, the development contributions will still need to return to the council from the units that are sold. That is why we are comfortable that the financing is there.

Cabinet secretary, in the papers that you provided to the committee, you identify that the Winchburgh development is identified in the Edinburgh city deal as a priority site for development. In your view, is such risk sharing, whether or not it involves contingent liabilities of the kind that we are discussing this morning, likely to become a feature of city and regional growth deals as they unfold and are developed across Scotland? We know that a number are still in various forms of negotiations in Stirling, Clackmannanshire, Tayside, Ayrshire and elsewhere in Scotland. Is it likely to become a feature of city and growth deals as we look forward?

For completeness, I should say to Mr Tomkins that I do not want to encroach on other cabinet secretaries’ portfolios. Mr Matheson will lead on city deal negotiations as the infrastructure secretary. As finance secretary, I think that, if a deal is contributing to the economy, we should look at a range of financial tools at the Government’s disposal to support sustainable economic growth.

Members of the committee will be well aware of other contingent liabilities in relation to which we have set out how we are trying to be supportive of industry and the economy to help stimulate appropriate development. I think that this case is exceptional but that the model could be used in future arrangements in partnership with local authorities. A local authority might set out how it wants infrastructure to be delivered, and it might want to use the same or a similar model. We are open to that financially, but we would want to understand the business case on every occasion. The model could feature within city deals; equally, that could happen outwith city deals.

It so happens that, in terms of the overall Government support for the site and the region, this case was part of dialogue and engagement. It was supported by the local authority, the wider region and the Government; for that matter, given the nature of city deals, the UK Government would also have had an overall view. I will engage with the secretary of state on future city deals so that we can try to ensure that city deals cover the whole country.

Yes—this is the answer to the question—we are open to using this financial model, not exclusively in city deals but, where appropriate, to support development and put in place the necessary infrastructure that can unlock wider benefits.

In last week’s statement to Parliament on the programme for government, I recall the First Minister talking about new infrastructure funding. I hear what you say about Michael Matheson and his portfolio responsibilities, but as the cabinet secretary who will propose a budget to the Parliament in due course, do you foresee such risk-sharing arrangements being part of the Scottish Government’s new investment in infrastructure in Scotland?

The model can be part of the infrastructure drive that we are trying to undertake, because it may well turn out to be a very useful financial tool. It is quite separate from the specific commitment that the First Minister gave on infrastructure spend as a proportion of GDP. That figure is about what we are able to invest by way of direct infrastructure spend, whereas this is about the contingent liability that we are creating because of the financial model that we are using in this instance.

The vision is absolutely clear, and of course we will return to Parliament with all the details on infrastructure spend. Let me be absolutely clear and give the most accurate answer possible to your question. This financial tool is different from the infrastructure announcement that the First Minister made as part of the programme for government.

Thank you for that response. I am trying to understand the relationship between the various pots of money that are on the table. We have city deal money, we have last week’s new announcements on infrastructure investment in the programme for government and we have contingent liabilities. I am trying to understand the relationship between contingent liability and the other two, broader pots of money, and your comments about that have been helpful.

All of us have to make sure that all of it is affordable, and understanding the liabilities that we are taking on is critical when it comes to affordability and understanding the risk. I am just being clear that the headline commitment is about actual spend, whereas this financial tool is about the risk that we are taking on to ensure that infrastructure spend happens.

I thank the cabinet secretary and officials for coming today.

At the start of the meeting, the committee agreed to take the next item in private. The committee will meet again on 26 September to continue taking evidence as part of our 2019-20 pre-budget scrutiny inquiry. I now close the public part of the meeting.

11:10 Meeting continued in private until 11:15.