The Auckland Council treasury in New Zealand has undergone a radical transformation in recent years. From its formation after the merger of eight smaller councils into one organisation in 2010, it has run a long-term project to transform the Auckland region and its infrastructure, requiring innovative funding instruments.
The success of the treasury has been recognised by Standard & Poor’s (S&P) which reaffirmed the Council’s AA rating last year after initially placing it on a credit watch negative rating when the project launched due to the trembling of the projected debt burden. The funding, skill and repayment options outlined by the treasury convinced the credit rating agency (CRA) to change its mind. This case study will detail why and explain the funding and treasury transformation initiatives undertaken by Auckland Council over the last three years, as well as share the best practice lessons they have learnt.
What Were The Key Objectives of the Project?
A multi-year project that actually started way back in 2009 when planning begun for the merger of the eight previous councils into the new enlarged Auckland Council, this long-running project ended up being the largest business transformation ever undertaken in New Zealand history. The treasury project officially ended this year, although many of the structural, funding and other initiatives launched as part of the transformation will continue for many years to come. The key aims of the project as outlined at the beginning were to:
- Consolidate the treasury operations of eight council entities into one new organisation – the newly formed Auckland Council: The Auckland region is home to 33% of the national population in New Zealand and contributes 37% of national gross domestic product (GDP). Prior to 2010, the eight former councils had a wide-ranging approach to treasury management in terms of staffing, systems, levels of debt, risk management, approaches to cash flow management and general treasury policies. The differing approaches to treasury management resulted in significantly different outcomes creating a key integration challenge to overcome as a central treasury was formed.
- Manage the various risks – covering funding, liquidity, operational, legal and regulatory – arising from a trebling in the new entity forecast debt levels: Auckland Council became the largest non-bank borrower in NZ upon its formation, excepting the central government itself. Prior to this project, it was restricted by law to borrowing solely from the domestic New Zealand market, limiting its funding options as it sought to improve the infrastructure of the city. The opening financial position included assets of NZ$32bn and debt of NZ$3.8bn, while the Council’s first Long Term Plan (LTP) released in 2011 projected debt to peak at NZ$12.5bn by June 2019 and assets to increase to NZ$58bn. The Council simply could not borrow the projected additional debt from the NZ domestic capital markets alone, necessitating the legal relaxation around foreign currency borrowing.
- Minimise interest expense: Interest expense was projected to rise from NZ$200m to NZ$700m per annum over the next seven years. Debt servicing cost was forecast to be the largest single expense item faced by the Council and this was a crucial consideration because there is a statutory requirement for the Council to run a balanced budget every year – some innovative funding options were obviously going to be needed.
Management and governance of the various integration, planning and early-stage funding initiatives commenced in 2009 – a year before the consolidation date and official unveiling of the new Auckland Council – with the formation of the Integrated Treasury Group (ITG). This was created from the eight previous councils to coordinate funding and liquidity risk on a region-wide basis. Business as usual (BAU) activity was maintained as the transition towards the new unified structure and the ‘go live’ date of November 2010 neared.
During early 2010, the Auckland Transition Agency (ATA) treasury work stream was created to consider the structural and operational issues required by a combined Auckland Council treasury team. They immediately began to implement the strategy required to mitigate the risks of the enlarged entity and its future infrastructure and funding intentions.
The new centralised treasury team’s duties were structured so as to allow the Auckland Council treasurer and funding manager to focus on the key project initiatives, such as helping to establish a Local Government Funding Agency (LGFA) and an offshore borrowing programme. Other resources were drawn from the wider team when required to look after everyday operational needs. The formation of a strong proactive and integrated treasury team was a significant factor in ensuring that continuous improvement has been possible during this long-running three-year project, ensuring BAU was maintained while also delivering on specific funding projects designed to enable the successful city and regional transformation. The transformation has been both internal – in terms of the new structures and centralised treasury team created – and external in terms of the new facilities and funding streams. Additionally, the approach to approach to managing relationships with banks, investors and ratings agencies has been transformed.
A formal governance structure for Auckland Council treasury was created with the formation of the Treasury Management Steering Group (TMSG) to oversee the transition and the planned improvement activities. The Group comprised of senior management from the wider finance division, including the chief finance officer (CFO), and an independent external adviser. Governance reporting lines were also established to the Council’s Accountability and Performance Committee and the Strategy and Finance Committee, incorporating elected politicians into the process.
Surmounting the Challenges and Sourcing Funding
The key challenge that needed to be overcome by the newly formed Auckland Council central treasury team was to quickly establish the financial instruments and tools needed to fund the significantly increased borrowing requirement. The plans to create a new council and to undertake a significant infrastructure investment programme could not be funded in the domestic NZ markets alone, requiring additional liquidity to be sought and new borrowing channels to be opened up.
The treasury team set about overcoming the core need to establish new borrowing sources by launching a number of funding initiatives, including:
- Offshore borrowing: lobbying of the central government in New Zealand led to new legislation being passed that allowed Auckland Council to undertake foreign currency borrowing and to tap non-domestic markets for funding for the first time. No NZ councils have previously been allowed to do this. The benefits from recent long-dated issuance in Austrian dollars (AUD), Swiss francs (CHF) and Norwegian krone (NOK), has been to diversify funding sources and to lengthen the term of debt in a cost effective manner.
- Helping to set up a Local Government Funding Agency (LGFA): this funding institution has been established, and successfully issued NZ$1.8bn of debt in its first full year in 2012. Based upon the Scandinavian model of local government financing, the LGFA provides significantly cheaper funding to both the Auckland Council and 40 other councils across New Zealand.
- New Zealand Stock Exchange (NZX) listed Retail Bond programme: a retail bond initiative was established to diversify the Council’s investor base, reduce borrowing costs and allow foreign investors to participate on a tax effective basis in New Zealand dollars (NZD).
- The domestic market was still tapped for bank funding: the domestic market was too small to provide the required size of standby facilities so an innovative syndicated facility, which was upsized from NZ$600m to NZ$1bn with no additional cost, was negotiated. The arrangement included step-up utilisation fees, reducing the overall cost.
- Increasing Awareness of the Auckland Council story: an emphasis was placed on communication and relationship management between treasury staff, senior management and peers in the treasury profession and at banks and investors to ensure best practice and access funds. This effort has included speaking at domestic and international conferences (twenty-two in the past two years) to both highlight the Auckland Council story and expand the team’s own skills and knowledge, to ensure continuous improvement.
- Regular reporting: a focus has been placed on providing six monthly investor updates to banks and the 15,000 current investors, updating them about the status of the debt programme and progress against the various initiatives. Stakeholder management has become a key aspect of the project, as evidenced by the monthly updates to banks detailing historical and future funding activity, and funding targets.
The second major challenge facing Auckland Council, outside of the need to raise funds via the initiatives outlined above, was the need to avoid a credit rating downgrade. This was particularly relevant because S&P placed Auckland Council’s AA rating on credit watch negative in 2011, reacting to the higher debt projections unveiled when the Council was formed. The threat of a downgrade was reversed, however, after considerable time was spent engaging with the ratings agencies to explain the Council’s rationale. The effort was rewarded when the Council’s AA rating was reaffirmed in February 2012, which noted the strong and skilled treasury team.
The establishment of a central treasury, more integrated procedures, new technology systems and so forth have all led to additional project benefits, outside of the new funding avenues detailed already. Some of these benefits revolve around cost savings; a significant reduction in risk; improved internal treasury and operational efficiencies; and an opportunity for offshore and retail investors to participate. Better financial control and reporting has also resulted – not to mention an expanded role and voice for the treasury in Auckland Council.
Quantifiable project benefits include:
- Cost reduction has been achieved by reducing the number of suppliers used. For example, trustee firms, registry firms, and treasury systems have all been consolidated, saving an estimated NZ$500,000 per annum.
- Interest expense savings, a key requirement of the project, have been demonstrated to be NZ$12.5m per year through the funding options set up by the treasury.
- Opportunities seized by the treasury include the funding source diversification outlined and a move away from a reliance on just domestic borrowing – this has declined from 93% to 64% of total debt over a two year period and is projected to decline still further to below 50%.
- The length of the debt portfolio duration has increased from 2.7 years in November 2010 to 5.7 years currently, reducing the refinancing risk faced by Auckland Council. There has also been a significant contraction in the Council’s credit margin despite the additional borrowing, and the ability for retail and offshore investors to now participate in Council-run bond programmes has vastly increased the funding options available. The establishment of the LGFA and economies-of-scale savings from consolidating eight councils down to one have also delivered clear benefits.
- A significant ‘crowding out’ effect has also been avoided. In other words, any mismanagement of this large-scale project would have had significant implications on all NZ corporate borrowers through the largest and highest rated borrower paying excessively wide borrowing margins and thereby saturating the domestic market with debt to the detriment of others. Prudent treasury management has ensured this has not happened.
Conclusion and Testimonials
The success of the project has been recognised by S&P reaffirming its AA rating and stating that in its view: “Auckland Council’s own financial strength is evidenced by its strong treasury team and its approach to liquidity and debt management.”
This is not the only effective testimonial that the Auckland Council treasury has received, however, with the NZ Office of the Auditor General stating that “the Council now has sophisticated treasury management functions to manage its working capital requirements, borrowing requirements, financial investments, and treasury related risks.”
External recognition has come via the ‘KangaNews’ Treasurer of the Year award and CFO of the Year award, plus the Institute of Finance Professionals New Zealand (INFINZ) excellence in treasury award – not to mention the prestigious Funding the Organisation category win at the gtnews Awards 2013 and the Judge’s Choice accolade as the best overall entry.