Treasury management strategy 2002/03

Report: 08
Date: 21 February 2002
By: Treasurer

Summary

This report sets out the Treasury Management Strategy recommended for 2002/03, together with the introduction of a new Code of Practice for Treasury Management in the Public Services and proposed Borrowing Limits to be recommended for formal adoption by the Metropolitan Police Authority.

A. Recommendations

1. The strategy set out in this report for 2002/03 be approved
2. The new Code of Practice recommendations set out in Appendix 1 are approved and referred to the meeting of the Metropolitan Police Authority on 21 March 2002 for formal adoption
3. The borrowing limits set out in paragraph 24 are approved and referred to the meeting of the Metropolitan Police Authority on 21 March 2002 for formal adoption.

B. Supporting information

Background Information

1. On 10 July 2000 the Metropolitan Police Authority formally adopted the Code of Practice on Treasury Management (The 1996 Code) issued by the Chartered Institute of Public Finance and Accountancy (CIPFA) together with a Treasury Management Policy Statement as a policy framework within which Treasury Management operations are to be conducted.

2. CIPFA has issued a new Code of Practice for Treasury Management in the Public Services that will replace the 1996 Code in April 2002. This new Code recommends formal Council adoption of four key clauses. This Committee is requested to accept the adoption of this Code and refer the key clauses to the MPA as noted at Appendix 1 for formal approval.

3. The new Code requires that the MPA receives an annual strategy and plan in advance of the year. This report is submitted in accordance with that requirement.

4. Section 45 of the Local Government and Housing Act 1989 also requires that the MPA set limits on the total amount of borrowing that can be outstanding at any one time and the amount of both short term and variable rate debt within that overall limit. These limits must be determined before the start of the financial year to which they relate.

5. The exercise of that determination is a function that cannot be delegated to a committee or an officer. This Committee is therefore requested to consider and approve the Treasury Management Strategy for 2002/03 and refer the proposed borrowing limits to the MPA for formal approval.

Strategic objectives

6. The objectives underpinning the strategy for 2002/03 are as follows:

• To undertake treasury management operations with primary regard for the security of capital invested.
• To minimise the cost of borrowing and to maximise the return on investments subject to the objective above.
• To ensure that sufficient cash is available such that the MPA is able to discharge its financial obligations in accordance with approved spending plans.

The investment portfolio

7. At 1 April 2002 the MPA is projected to have cash balances in the region of £145 million. This cash represents:

• Earmarked reserves, provisions and balances held to cover specific or general liabilities.
• Unapplied Capital receipts and grants pending payments in respect of capital projects.
• The net cashflow position of revenue income and expenditure including major creditors such as the Inland Revenue.

8. Cash balances are invested in approved investments as specified in regulations made under the Local Government and Housing Act 1989. These regulations restrict the borrowing instruments available to a Local Authority to those prescribed by the Secretary of State and limit the investment period to 364 days. Within this framework, the Treasury Management Policy Statement sets out the policy for investment of MPA funds. Specifically in 2002/03 it is proposed that the portfolio be invested with the following institutions:

• UK Banks.
• Foreign banks registered in the UK.
• UK local authorities.
• Mutual building societies.

9. Overall limits are imposed for these market sectors, with the aim of maintaining a balanced portfolio. The sector limits are currently set at £150 million each for UK banks and foreign banks and at £70 million each for UK local authorities and building societies. Changes to these Sector Limits, as with other amendments to operational practice, are made through the preparation of Treasury Practice Notes, which are approved by senior management in consultation with the Treasurer.

10. The regulations prescribed by the Secretary of State permit lending to banks regulated by the Bank of England under the Banking Act 1987. There are many more banks on the Bank of England list of regulated banks than appear on the MPA lending list. This is because the Treasury Management Policy Statement restricts lending to institutions with very high credit ratings reflecting the need to minimise risk in the lending strategy.

11. The Government is considering extending its own deposit taking facility to local authorities. This would be managed by the UK Debt Management Office and known as the DMA Deposit Facility. The Approved Investment Regulations would be amended to add the DMA facility to the list of approved investments. The scheme would allow access to wholesale market rates at low cost, with excellent liquidity and highest possible security. It is proposed that this facility, if the scheme is progressed, is included as a sector of the portfolio. The Government would guarantee deposits, so a sector limit is not proposed.

Interest rates

12. Interest rate movements are reviewed continuously using informed comment appearing in the financial press, brokers advice sheets and with regard to financial and economic indicators. Investment operations are undertaken taking account of these factors. The events of 11 September 2001, contributing to a reduction in base rate of 100 basis points to 4%, illustrates the difficulty in accurately estimating future interest rate movement.

Long term borrowing

13. At 31 March 2002 the MPA debt portfolio is forecast to total £126 million. This includes debt held on behalf of the former Inner London Magistrates' Courts Service (ILMCS) and the former Inner London Probation Service (ILPS). The breakdown between the three services is shown in Table 1.

Table 1 – Outstanding debt at 31 March 2002

14. The Greater London Magistrates' Courts Authority and the National Probation Service have an obligation to reimburse the MPA for costs incurred in discharging the debt of ILMCS and ILPS respectively. Consideration is currently being given to a mechanism that would allow the Courts and Probation services to refinance their debt and redeem their liability to the MPA. Pending the full redemption of the debt, repayments of 4% of the balance outstanding and interest charges are made annually.

15. In determining Treasury Management Strategy consideration needs to be given to the MPA borrowing requirements in 2002/03. The major issues impacting on this requirement are the loans falling due for repayment in the year and the financing of the capital programme.

16. Loans totalling £11.5 million are due for repayment during the year. Provision is made within the revenue budget for the redemption of debt based on a statutory requirement to set aside a minimum amount each year, currently 4% of the adjusted credit ceiling. For 2002/03 this amounts to £6.9 million and this is available to finance part of the repayment.

17. Credit approvals in support of the Capital Programme are currently forecast to be £21.7 million. Borrowing quota covering this will be available from the Public Works Loans Board (PWLB). The quota calculation also covers the full amount of maturing debt thereby permitting borrowing from them up to £33.2 million. In addition funding is being negotiated with the Home Office for the C3I communications project. If successful, this will be a significant item in the capital programme. It is not clear at this stage whether any such funding would be made by way of grants, credit approvals or a combination of both.

18. In deciding the policy for new borrowing consideration must be given to the cashflow of the MPA and whether it is necessary to raise funds externally. It should also be noted that it is unlawful for a Local Authority to borrow for the purpose of onlending those funds. On this basis the strategy for 2001/02 determined that no new borrowing would be undertaken that financial year.

19. When considering the new borrowing policy for 2002/03, taking note of the £6.9 million funding available from the revenue budget and the overall level of cash balances forecast to be available, it is again proposed that no new borrowing be undertaken. This position may need to be reviewed during the year if substantial expenditure on the C3i project is to be covered by a credit approval. In this event a further report would be brought to this Committee to revise the approved strategy.

The structure of the debt portfolio

20. The Treasury Management Policy Statement requires that a balance should be maintained in the portfolio between debt taken at fixed and variable rates of interest. Fixed rate debt means that interest costs are stable and unaffected by changes in interest rates. Conversely variable rate debt is sensitive to changes in interest rates and allows savings to be made when interest rates fall, but leads to increased costs when they rise.

21. At the start of the financial year on 1 April 2002 all of the loans portfolio will be held at fixed interest rates. No new borrowing is proposed and the question of using fixed or variable rates on new borrowing will therefore not arise. However the terms of loans with the PWLB do permit a switch between fixed and variable rates. At present it is not proposed that any of the fixed rate borrowing be switched to variable rate but the option should be kept open for such a switch to be made in appropriate circumstances. To avoid undue risk from an adverse movement in rates, the proportion of borrowing held as variable rates should be limited and it is proposed that the limit be set at 15% of the total borrowing limit.

22. The Policy Statement also requires that the proportion of the portfolio maturing in any one year should not exceed 15% of the total. This limit is set to restrict the exposure of the MPA to having to refinance a significant proportion of its loan debt at a time when interest rates may be high.

23. The 2001/02 strategy recognised that the maturity profile was consistent with this 15% recommendation, with the exception of 2004/05, when PWLB loans of £22.966 million representing 16.9% of the portfolio were due to mature. The 2001/02 strategy proposed the rescheduling of a loan of £4.3 million maturing in 2004/05 to mature in 2009/10, so that the proportion of debt maturing in 2004/05 will be reduced to 13.7%. This rescheduling will be undertaken before the end of 2001/02, ensuring the maturity profile on 1 April 2002 is consistent with the Policy Statement requirement.

Borrowing limits

24. The borrowing limits that are required to be set for 2002/03 need to take account of the investment strategy outlined above. Account also needs to be taken of possible requirements that may arise in the event of temporary revenue requirements such as the late payment of grant. To cover this situation it is proposed that the borrowing limit should include £100 million for this purpose.

25. The borrowing limits recommended are therefore as follows:-

26. A Treasury Management Strategy will be prepared for approval before the start of each financial year.

C. Financial implications

The budgetary assumptions discussed in this report are consistent with those in the MPA budget proposals for 2002-03.

D. Background papers

CIPFA Code of Practice for Treasury Management in the Public Services.

E. Contact details

Report author: Stephen Skirten, Treasury Manager, Exchequer Services.

For information contact:

MPA general: 020 7202 0202
Media enquiries: 020 7202 0217/18

Appendix 1

The new CIPFA Code of Practice recommends the formal adoption of the following four clauses.

1. The MPA adopts the key recommendations of CIPFA's Treasury Management in the Public Services: Code of Practice (the Code), as described in Section 4 of that Code.

2. Accordingly, the MPA will create and maintain, as the cornerstones for effective treasury management:

• a treasury management policy statement, stating the policies and objectives of its treasury management activities
• suitable treasury management practices (TMPs), setting out the manner in which the organisation will seek to achieve those policies and objectives, and prescribing how it will manage and control those objectives

The content of the policy statement and TMPs will follow the recommendations contained in Sections 6 and 7 of the Code, subject only to amendment where necessary to reflect the particular circumstances of the MPA. Such amendments will not result in the MPA materially deviating from the Code's key recommendations.

3. The MPA will receive reports on its treasury management policies, practices and activities, including, as a minimum, an annual strategy and plan in advance of the year, and an annual report after its close, in the form prescribed in the TMPs.

4. The MPA delegates responsibility for the implementation and monitoring of its treasury management policies and practices to the Finance, Planning and Best Value Committee, and for the execution and administration of treasury management decisions to the Treasurer, who will act in accordance with the MPAs policy statement and TMPs and, if a CIPFA member, CIPFA's Standard of Professional Practice on Treasury Management.

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