The Liability Benchmark Mark Swallow mswallow@arlingclose.com

CIPFA is again consulting on changes to the Prudential and Treasury Management Codes with the expectation that revised guidance will be in place by December 2021 (CIPFA consultations | CIPFA).

One of the key changes to the Treasury Management Code will be the requirement for local authorities to prepare a Liability Benchmark, something we at Arlingclose have been preparing for our clients for over a decade.

In the original consultation respondents were invited to consider the implementation of the Liability Benchmark as a Treasury Indicator. Not all respondents to the consultation were supportive of this due to:

• concerns that the Liability Benchmark could be a complicated analysis that elected members would have trouble understanding, and;
• the requirement to calculate many years beyond the planned capital programme could mean that the long-term forecasts would be unreliable for decision making and the results could be misleading.

CIPFA has taken these concerns on board but has responded that it considers the Liability Benchmark to be an essential risk management tool and therefore it will be implemented as a treasury management prudential indicator. 

So, what is the Liability Benchmark and what information should it be showing?

The Liability Benchmark is effectively the Net Borrowing Requirement of a local authority plus a liquidity allowance. In its simplest form, it is calculated by deducting the amount of investable resources available on the balance sheet (reserves, cash flow balances) from the amount of outstanding external debt and then adding the minimum level of investments required to manage day-to-day cash flow.

CIPFA recommends that the optimum position for external borrowing should be at the level of the Liability Benchmark (i.e., all balance sheet resources should be used to maximise internal borrowing). If the outputs show future periods where external loans are less than the Liability Benchmark, then this indicates a borrowing requirement thus identifying where the authority is exposed to interest rate, liquidity and refinancing risks. Conversely where external loans exceed the Liability Benchmark then this will highlight an overborrowed position which will result in excess cash in the organisation requiring investment thus exposing the authority to credit and reinvestment risks and a potential cost of carry. The treasury strategy should explain how the treasury risks identified by the Liability Benchmark are to be managed over the coming years.

Those of you that attend our regular strategy meetings and training sessions will know that we prepare a liability benchmark for all our clients and maintain this throughout the financial year. However, we normally base this only partly on information provided by clients and we otherwise make a series of assumptions over the longer term. So, whilst useful it is not 100% accurate and should not be relied upon for the purposes of complying with the Code.

Instead, we believe that in calculating a meaningful Liability Benchmark which will satisfy CIPFA’s wishes, many factors will need to be considered and information used to produce a more accurate position. This will include, but is not limited to:

• A detailed breakdown of the latest Capital Financing Requirement including details of how this is to be financed in future
• Details of the expenditure and financing requirements of the Capital Programme
• Information on the use of balances and reserves over the Medium-Term Financial Plan and Capital Programme
• Full details of the loan maturity profile including loans from all sources

The resulting outputs should show the following information to inform elected members of the authority’s funding requirement for the near, medium, and long term:

• Existing loan debt outstanding: the authority’s existing loans which are still outstanding in future years.
• Loans CFR: calculated in accordance with the loans CFR definition in the Prudential Code, and projected into the future based on approved debt funded capital expenditure and planned MRP
• Net loans requirement: the authority’s gross loan debt, less treasury management investments, at the last financial year end, projected into the future based on its approved debt funded capital expenditure, planned MRP and any other forecasts of major cash flows

To enable local authorities to prepare an accurate Liability Benchmark and to understand fully the information that is required Arlingclose is developing several services which can be accessed including:

• An online model to support the production of the Liability Benchmark, including cost projections, risk evaluation and scenario modelling
• Training for Officers into the construction of the Liability Benchmark
• Training for Members into what risks the outputs of the Liability Benchmark are highlighting and how they are being managed through the Treasury Management Strategy

We believe that taking time to fully understand your Liability Benchmark, how it is constructed, how spending and funding decisions can influence it and what it means to your treasury management strategy and treasury decision making process will be time well spent, so if you wish to discuss how we can help you please get in touch.  

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