I N BVRG H + Waverley Court, 4 East Market Street, Edinburgh. Item no 8.3. The City of Edinburgh Council

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1 + ED I N BVRG H + THE CITY OF EDINBURGH COUNCIL Item no 8.3 Waverley Court, 4 East Market Street, Edinburgh The City of Edinburgh Council 20 November Purpose of report 1.I To seek authority to purchase the Council s headquarters building at Waverley Court, 4 East Market Street, Edinburgh from Norwich Union Life & Pension Fund (NULAP) Summary The Council leases its headquarters building at Waverley Court from the current owner NULAP. An opportunity has arisen to acquire their interest giving the Council ownership of the building. The opportunity to acquire the building was not available to the Council when it was first constructed as a result of the rules governing Council finances at that time. However, these have subsequently changed and there are now clear long term financial and other benefits that make the case for acquisition using the prudential borrowing framework attractive to the Council. In practice, the Council stands to make savings by substituting prudential loan repayments for the current and future rental payments. Ownership of Waverley Court will also help the Council to balance its property estate and facilitate rationalisation of the number of buildings it occupies. 2.2 This report details the background to the procurement of the property and current leasing arrangement; sets out the non-financial and financial business case for this strategic acquisition and recommends approval of the main Heads of Terms for the purchase. The financial case is predicated on the future loan charges being considerably less than rental charges, which the Council would otherwise be committed to pay. This is the only way that such a sizeable capital investment is affordable to the Council. 2.3 It should be noted that on 29 September 2008, as part of an internal company restructuring, Morley Fund Management (MFM) became Aviva Investors. 1

2 3 Main report Background 3.1 The City of Edinburgh Council, at its meeting on 28 October 1999, approved a strategic office rationalisation plan based on a list of specific undertakings. This report also authorised the Director of City Development to procure a headquarters office building in the city centre by means of a leasing arrangement or a Public Private Partnership. 3.2 The rationale behind the decision was to replace a large number of older buildings with a new headquarters building. At that time, the Council occupied 20 separate core offices, many of which were inefficient, in poor repair, not accessible to all and too expensive to upgrade. The Fit For Future plan, therefore, sought to improve service delivery by reducing accommodation to six offices plus a new administrative headquarters building. All surplus property rationalised by the process would be sold off to ensure that the revenue budget implications for the project would be broadly cost neutral. 3.3 At its meeting on 20 September 2001, the Council agreed to enter into a leasehold agreement for new office accommodation. This decision was taken fotward by means of joint working with Elected Members, members of staff and outside agencies to create an innovative landmark building at Waverley Court. 3.4 The subsequent construction of Waverley Court was a collaboration between The City of Edinburgh Council (tenant), Network Rail (landowner), Norwich Union Life & Pension Fund (NULAP) (funder and developer) and Miller Construction (main contractor). The Key Performance Indicators (74) on sustainability applied throughout the whole project and challenged everyone from the design team, client team, right through to sub-contractors and suppliers. These included several topics such as: management process, resource use, emissions, built environment, material selection, ozone depletion, waste management, climate change, biodiversity, whole life impact and natural heritage. 3.5 The building was first occupied in November 2006 and was officially opened by Her Royal Highness The Princess Royal on 26 April The building comprises modern Grade A offices arranged over five floors providing 194,105 sq ft of office space together with 94 dedicated vehicle parking spaces. It now accommodates over 1,800 staff in an open plan environment, which marks a cultural shift away from the mostly cellular layout of the former offices. The offices have a BREEAM Assessment of very good, scoring nine out of ten and the building has been nominated for and won several local and national property awards. 2

3 Existing Lease Conditions 3.6 The Council leases the building from NULAP by virtue of a 20-year, full repairing and insuring, lease. The lease is fairly standard for this type of accommodation and seeks to ensure that the tenant is responsible for all repairs, maintenance, insurance, and other outgoings during the period of tenancy. Further, there are restrictive dilapidations obligations at the natural termination of the lease. The passing rent is currently 53,112,831 per annum and is subject to predetermined uplifts every five years during the duration of the lease as indicated in the table below: Term of Lease November November November 201 I - November November November 2021 November November 2026 Em per annum Current Position Earlier this year NULAP, represented by MFM, approached the Council with a view to establishing if the Council wished to acquire their interest. This led to the mobilisation of a small team of officers to take forward the proposal to establish if there was a business case solution that would demonstrate best value with financial savings to the Council. This can be achieved by replacing the rental obligations with loan repayments, together with other non-financial benefits that owning the building would bring. 3.8 Initially, the proposal was predicated on the Council having preferred bidder status. Latterly, however, MFM stated that they would have to take the opportunity on the market to ensure that they were obtaining best value for their clients. This resulted in a targeted marketing campaign by MFM on a rental top-up basis, i.e. the vendor (MFM) will top-up the current rental payments to the level of the first fixed uplift in November 201 I. As such, the notional rental profile would remain constant at f5,999,452 per annum from the date of acquisition until This is a relatively common industry proposal that increases the day one value due to the investment profile being enhanced by the additional rent. A number of viewings from interested parties took place, arranged by Facilities Management staff in Waverley Court. It is understood that at least one other offer has been received. 3.9 During this period, the Council sought specialist external advice over the level of bid that could be justified in today s market conditions. Their findings more than support the level of the bid price. The conclusion of the negotiations was the acceptance, in principle, of the Council bid of f89.25m based on a rental top-up by MFM of E2.61m, resulting in a net purchase price of f86.64m. 3

4 Business Case Non Financial I Over the past two years, it has been possible to reduce the number of properties leased-in by the Council. This strategy has evolved as part of the Fit For Future initiative which has achieved that reduction by relocating staff to other property holdings and investing the freed up revenue budgets in our retained property portfolio. In addition two other properties, Westwood House and Chesser House, have leases which terminate in 2012 and 2014 respectively. An exit strategy for both these properties is being developed. Prior to the introduction of the Prudential Code for Capital Finance in 2004, capital controls under the Local Government (Scotland) Act 1973 limited the capital expenditure of local authorities. This meant that the options of purchasing Waverley Court or leasing over a period exceeding 20 years were not available to the Council given the other demands for capital investment. Changes to the financial arrangements available to the Council, including the introduction of the Prudential Code and the current favourable interest rates, can now provide best value through the purchase of a property rather than entering into a lease arrangement. With that in mind, the Fit For Future programme seeks to establish the most appropriate method of securing properties for Council use. Leased-in properties may have a place within a mixed mode property portfolio, however it is necessary to consider all aspects of the long term commitment to the landlord and the life-time cost involved. The current profile of the core office porlfolio and staffing is as follows: Property 1 OwnedlLeased I Number of staff Comment Complex 1 Cockburn Street McDonald Road (Fomer Brough ton Secondary School) Chesser House Westwood House Waverley Court I accommodation I project nearing completion accommodation Owned 120 Upgraded in 2006 Owned 140 Enclosed inside a common boundary with Broughton Primary School Total 840 staff 23% of staff Leased Leased 1050 Training accommodation Leased in until June exit strategy to be developed. Significant dilapidations cost anticipated Leased in until December 2012 plus sub-lease (external) Current external sub-lease on annual basis Leased 1830 Leased in until November 2026 Total 2880 staff 77% of staff 4

5 3.14 It should be noted that some 77% of our centrally based staff are accommodated in leased-in property, which is a potential weakness in the current accommodation portfolio Other non-financial benefits can be summarised as follows: security of provision of city centre accommodation; allows long-term planning of building infrastructure such as ICT; enables repairs and maintenance expenditure to be prioritised on a council rather than a landlord requirement; removes uncertainty over the requirement to meet dilapidations costs at the end of the lease; 0 improvements can be made to the property as the Council wishes with no need to seek approval from the landlord; the normal fixed end date for leased-in property such as the lease for Waverley Court does not allow for early termination should circumstances change during the lease period; and the property, once purchased, will be an asset and should be viewed as an investment. It would be possible, should circumstances dictate, that the Council could consider disposal of the feuhold or sale and lease back in the future. Business Case Financial 3.16 A purchase price for Waverley Court and the car parking places has been agreed at f 89.25m with the Council receiving a top-up (cash-back) rental of E2.61m at date of settlement, resulting in a net payment of f86.64m. To this, stamp duty of f4.08m and estimated legal, property and other fees totalling f0.55m will be incurred resulting in a total outlay off 91.27m The Council will purchase the property using the prudential framework. Based on funding the project over 28 years and a borrowing rate of 4.75%, the annual cost to the Council would be f6m The table below compares the cost of extending the existing lease for a further IO years, with no increase in rental payment at the end of the current lease, and the purchase option on a cash and net present value basis The table demonstrates savings under the purchase option compared to the lease option based on both a cash flow and discounted cash basis of E37.7m and El 6.7m respectively The purchase of Waverley Court will enable the property to be included in the Council s owned and operational property insurance policy, which has a claims excess of f250,000, and will result in annual saving of f65,000 compared to the current arrangements. 5

6 Financial implications The annual estimated prudential borrowing costs of 6177 are equal to or lower than the agreed current lease costs (shown at paragraph 3.6) apart from the first three-year period until the first rent review in November The shortfall in the first three years is estimated at 2.6m which will be funded as follows: Source of Funding Remainder of Waverley Court initial 3 month rent free period Savings from Waverley Court insurance premium reduction Contribution from FFF2 property rationalisation Total I Amount fm I It should be noted that a movement in interest rates of 0.1 %, from that assumed in this report, will result in a 70,000 per annum change in the costs stated. From the financial analysis it can be seen that the borrowing required to fund the purchase of Waverley Court can be found from within the known future leasing costs and will also result in savings to the Council in the medium and long-term. On this basis, an increase of 90m in the Council s existing operational and authorised prudential indicators can be viewed as being affordable to the Council. This will result in the operational boundary for external debt increasing in 2008/09 from f I, m to El, m and the authorised limit increasing from f1, m to f 1, m. The Council s Treasury team will undertake this borrowing as part of its management of the overall Council s Loans Fund. Environmental Impact There are no environmental implications arising from this report. Conclusions The current economic environment has provided the Council with an opportunity to purchase the Council s headquarters building at Waverley Court. The acquisition on the terms detailed in this report will provide financial and nonfinancial benefits to the Council and enable the achievement of strategic asset management plan objectives. 6

7 7 Recommendations 7.1 It is recommended that the Council: notes the long term benefits associated with the purchase of Waverley Court, including the significant savings over leased-in costs which can be used to support the delivery of council services; approves the purchase of Waverley Court on the terms and conditions outlined in this report and on other terms and conditions to be agreed by the Director of City Development; delegates authority to the Director of Finance, Director of City Development and the Council Solicitor to complete this transaction; and agrees that the prudential borrowing operational and authorised limits for external debt be increased by f90m. Dave Anderson Director of City Development Donald McGougan Director of Finance 2. 3c*g u- Appendices ContacVtell Wards affected Single Outcome Agreement Background Papers Hugh Dunn, Corporate Finance Manager: Tel ; Peter Watton, Estate Manager, Property Development: Tel ; Ian McNicoll, Head of Fit For Future 2: Tel None Supports National Outcome (I 5) - Our public services are high quality, continually improving, efficient and responsive to local people s needs. Fit For Future Reports to Council 7