Financial Strategy. What is Council s financial strategy?

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1 Financial Strategy Having a financial strategy is one of the key tools to the Council achieving its vision for the future. It is a new requirement under the amendments to the Local Government Act Financial strategy Sets out the direction for how we are going to pay for our activities and services in order to achieve our outcomes. It sets out the overall approach to the financial side of the Ten Year Plan based on the current financial position and future direction of Council and our community. Our Ten Year Plan shows that total rates are forecast to continue to increase by around 4% each year during the period. The lowest levels of rate increases occur mainly towards the end of the ten year period. Council s careful financial management over the last three years has resulted in surpluses largely due to the corporate-wide drive to create efficiencies. Council is now working harder and smarter with the funding we receive from rates. Council ended the 2011 year with total debt at $33.9m, well below the planned level of $48.7m. The main driver for this favourable debt position was the continued tight financial management and control of Council s capital works programmes and projects. Council s financial performance over the past three years and lower-than-forecast borrowings has put Council in a strong financial position. The section on future challenges and drivers for change (outlined in Part One of this plan, page 18) discusses some of the demographic challenges that we will face and how these may impact on our finances over the next ten years. The challenges include a fairly static population, but one where the average age of those living in our district is increasing and the working age population is decreasing. Our district has an affordability challenge where the mean income is well below that of the national norm. We are not anticipating any significant changes in the use of land that would materially impact upon our financial forecasts, plans, policies and strategies outlined in this Ten Year Plan. What is Council s financial strategy? The overarching aim of our financial strategy is to be financially sustainable. To Council this means that our commitments (that are prescribed by statutes and what our community expect from us) are funded in a way that the community can afford and which meet Council s obligation to be good stewards of the assets of the district. To achieve the aim of being financially sustainable our financial strategy sets out six key directions (elaborated further in this section). Council will monitor the financial strategy regularly through monthly and quarterly financial reporting to Council through the Finance and Monitoring Committee. The Financial Strategy may be reviewed at any time if circumstances change. The strategy will be formally reviewed at three yearly intervals as part of the ten year planning process. 34

2 Financial Strategy Financial Strategy Key Directions 1. Minimise and smooth rates increases Total rates revenue will comprise up to 70% of Council s funding requirements. Total rates increases will be between 3.2% - 5.4% of total rates over the term of the Plan. 2. Minimise debt levels Debt will be kept in the low to medium band ($18m - $55m). 3. Have an emphasis on user pays and beneficiaries The Revenue and Financing Policy including rates remissions policies will be used to allocate the cost of services and public good. 4. Increase other income (not from rates) Fees and cost recoveries will be consistent with those charged by other Councils or the private sector. Fees and charges will increase by inflation at between 2% 4% a year. The objective for holding and managing commercial investments is to provide income streams that are available to reduce rates. 5. Maintain (and in some instances decrease) existing services, activities and infrastructure The focus will be on delivering and maintaining essential services and infrastructure (community and network infrastructure) at their current levels. 6. Assist in improving the district s ability to pay Economic agencies will be supported to assist in growing the district s economy. Key stakeholders and others will be helped to improve the productivity of Māori land. Infrastructure to support and attract businesses into our district will be provided. Community infrastructure will be provided that attracts people to the district to Live, Work, and Play. Key directions for the Financial Strategy 1. Minimise rates increases Limits on Rates In order to balance the rates affordability challenges and continue to provide services to our communities, Council has set the following limits on rates revenue and rates increases for the duration of this plan: Total rates revenue will comprise no more than 70% of Council s funding requirements. This assumes that Council s Council Controlled Organisations (CCOs) and other enterprise operations generate the budgeted level of revenue and provide Council with the agreed level of return to offset rates requirements. Total rates increases will be between 3.2% - 5.4% over the term of the Ten Year Plan. This level of rates limits will enable Council to provide and maintain the existing level of services and to meet limited additional demands. There can be large movements in some of Council s rates, especially targeted rates, when services are extended or cyclical expenditure occurs (e.g. Waiapu river erosion control, Wainui foredune protection). In setting limits on rates, Council has included a small level of flexibility in the majority of years to allow for unforeseen events such as increased Central Government requirements or communities requesting additional services. 35

3 Rate Movement Total Rates $M Year Percent Increase Total Rates $M Total Rates % Increase Rates as a % of Total Income % 5.0% 5.4% 4.4% 3.5% 3.6% 4.1% 3.3% 3.2% 3.3% 62% 61% 58% 64% 65% 60% 60% 61% 65% 65% Why not use the consumer price index as a base for Council s limits on rates? The basket of goods which local government purchase is quite different from those that go into the running of a household. Council s infrastructure spend of $45m includes bitumen for roading and plastic pipes for our utilities. The increase in costs in these areas are heavily influenced by the price of oil, as it is a raw material used in the production of bitumen and plastic. Infrastructure services will also be effected by the rebuild of Christchurch and the impact that this may have on the availablility of skilled labour and contractors. Therefore for Council the consumer price index is not an appropriate measure on which to base limits on rates increases. Balancing the budget Council sets operating income at a level to meet each year s operating expenditure. This is to ensure that there is access to enough funding to enable the services to continue to be provided long term. However, there are activities where this approach may not be practical or prudent due to the activity s long term nature ie wastewater, forestry, soil conservation nurseries. Over the next ten years Council intends to: 1. Smooth rates increases by running activity deficits/ surpluses or repaying activity deficits. 2. Not fund a portion of depreciation on specific assets or components of assets funded through capital rates or subsidies (i.e. waste water treatment plant and some roading assets). 3. Use operational reserves and/or activity balances to fund some specific operational expenditure where appropriate % 12% 10% 8% 6% 4% 2% 0% In making these decisions Council has considered the overall impact of its financial management policies, level of service and ensured the cash flow is neutral or positive in each year (excluding major projects). For more information refer to The Finances section of the Ten Year Plan. 2. Minimise debt levels Council has a relatively low level of debt compared to similar councils which reflects Council s financial strategy of minimising debt levels. Council takes into account the following when considering the appropriate level of debt: 1. Possible impact on Levels of Service (LOS). 2. Council s ability to service and repay borrowing. 3. Rates affordability. 4. Deferred maintenance. 5. Intergenerational equity. 6. The long term sustainability of Council and its activities. Borrowing Debt is used to spread the cost of gaining major assets over time. Debt spreads the responsibility for funding an activity across both today s and tomorrow's ratepayers, ensuring that all of those who benefit make a contribution to the funding of a particular asset (intergenerational equity). Council has forecast its borrowings at the beginning of the Ten Year Plan to be $37m. The borrowings graph shows debt rising to $40m in The debt profile reflects our proposed capital works programme. Total Borrowing Debt $M Year 0 Total Borrowing Year Total Debt $M $M $M $M $M $M $M $M $M $M Interest Limits on Borrowings Borrowing occurs to support working capital requirements and the Council s capital expenditure programme. Council s limits on borrowing were last set in 2009 and these maximum levels will not be exceeded during the period

4 These limits provide a series of tests and the lowest of the test limits is used to determine the maximum borrowing limit. Council considers a low to medium level of debt ($18m - $55m) to be financially sustainable over the term of the Ten Year Plan. Council measures the financial sustainability of its debt by the financial ratios and limits set out in the Council s Treasury Policy. Current Debt Ratios and Borrowing Limits as set out in the Treasury Policy GDC Current policy Limits Public Debt ($M) $18M - $55M Net Surplus/ (Deficit) (M) NA Net Debt as % of Equity <10% 1.9% 2.1% 2.2% 2.1% 2.0% 1.9% 1.8% 1.7% 1.5% 1.3% Net debt as a % of Income <95% 43.3% 45.3% 42.5% 43.3% 39.7% 35.2% 32.1% 29.5% 26.6% 21.7% Net Interest as a % of Income <10% 3.42% 3.93% 3.74% 3.88% 3.65% 3.18% 2.96% 2.78% 2.66% 2.30% Net Interest as a % of Annual Rate Income <15% 5.51% 6.47% 6.42% 6.06% 5.63% 5.26% 4.93% 4.57% 4.09% 3.52% Total Debt per capita <$1,700 $771 $862 $860 $832 $781 $768 $732 $687 $598 $505 Proposal to join the Local Government Funding Agency (LGFA) Council proposes to participate as a Principle Shareholding Local Authority (PSLA) in the New Zealand Local Government Funding Agency Ltd (LGFA). The LGFA will be a Council Controlled Trading Organisation (CCTO). It has been established as a co-operative by a large group of Councils and Central Government to allow Councils to borrow at lower interest rates and have easier access to long term borrowing. The government supports the LGFA and will have a shareholding of up to a maximum of 20%. The LGFA credit rating matches that of Central Government (AA+ ranking). This is a benefit to smaller Council s, like Gisborne, where the costs of getting a credit rating often outweighs the costs. As Principal Shareholding Local Authority, Council will be required to invest $100K of capital in the LGFA. As a Principal Shareholding Local Authority we will be required to meet a certain proportion of our borrowing needs through the LGFA Scheme for an initial period. This is to ensure that sufficient borrowings are channelled through the LGFA to ensure its success. More information is included in the Council Controlled Organisation section of the Ten Year Plan. Council is still to confirm its level of participation in the LGFA. Securities for Borrowings Council does not currently provide security over any specific assets. Council has a debenture trust deed, representing the interests of all lenders to the Council. The debenture is a floating debenture but provides the lenders with a specific charge over the rates revenue of Council. Intergenerational equity Council has a desire to build a better district for current and future generations. Council seeks to ensure that today's ratepayers pay only for the services and assets which it currently provides to the community and not for benefits that will be received by the community in the future. This is known as intergenerational equity. Our strategy is to partially loan fund new major projects. This allows us to pay for the new facilities over a longer period of time, often years. By doing this the people who use the asset in the future also help pay for the asset. If we didn t do this today s ratepayers would pay much higher rates. Intergenerational equity is also achieved by funding the cost of renewing and replacing assets through rate funded depreciation reserves. Depreciation is the allocation of the wearing out of the asset over its life. By funding depreciation through rates current ratepayers are paying for the portion of the asset they are using. 3. Have an emphasis on user pays and beneficiaries Council recognises the concerns ratepayers have in terms of ability to pay for rates and aims to keep the level of income required from rates steady and smooth rates increases where possible. Council services are funded by a variety of rating tools. These are oulined below: General rates pay for Council activities which the community requires and has available to them but no identifiable person or property benefits. How much you pay depends on the capital value of your property. This makes up about 6% of a Gisborne City homeowners rate bill. Uniform Annual General Charge (UAGC) also pays for Council activities that everyone benefits from. 37

5 These activities - library, museum, toilets and civil defence - are more related to the existence of a household than the value of the property. Every ratepayer pays the same amount whether you live in Tolaga Bay or Wainui that s why it is uniform. If you have two houses you pay two UAGCs. This makes up about 27% of a typical Gisborne city homeowner s rates bill. The maximum level of rates income that a council can charge as UAGC is 30%. This is set by the Local Goverment Rating Act. Targeted rates (think user pays). The majority of our rates are based on what services - like drainage, public transport, water, stormwater, wastewater, roads and rubbish collection you receive or have access to. If you can access them you pay. This makes up about 67% of a typical Gisborne City homeowners rate bill. Council has tried to manage the demand for goods and services in the pricing signals that rate setting and fees and charges send. 4. Increase other income (not from rates) Council mainly collects income through rates. The rates increases over the term of the Ten Year Plan have been smoothed with increases ranging from 3.2% to 5.4% pa (an overall average of 4% pa). The balance of the funding is from grants, subsidies, dividends and user fees. Rates make up over 60% of the expected income in the 2013 year. There are no major changes anticipated for Council s funding policies or sources of income over the term of the Ten Year Plan, therefore the Council Income Chart below is representative of the funding sources over the next ten years. How Council uses these rating tools can impact on the incidence of rates across our district. Council has a focus on beneficiaries/user pays, use of fixed charges and the use of the UAGC to the maximum statutory level. The overall effect of this is that rates levels in residential areas do not differ greatly between low and high value properties. Unlike some other Councils, Gisborne does not use differentials (weighting) to increase rates to the business sector to the benefit of the residential sector. Where does the money come from? Grants & Subsidies - Operational 10% Other Revenue 17% Grants & Subsidies - Capital 9% Dividends and Interest Received 1% Targeted Rates 42% For more information refer to The Revenue & Financing Policy" section and the "Rating Information" section of the Ten Year Plan. Revenue & Financing Policy The Council reviewed its Revenue and Financing Policy as part of the Ten Year Plan preparation. The Revenue and Financing Policy determines from where and whom Council is seeking to fund its operations. The policy sets out why and how the funding sources are used. In order to ensure the incentives the funding approach creates are consistent, Council applied the following general principles: 1. Increase in use of fees and charges 2. Extensive use of beneficiaries and user pays through targeted rates 3. Use of Uniform Annual General and other fixed charges to legislative maximum of 30% 4. Use of targeted rates on Differential Rating Areas and inner/outer zone 5. Limited use of Capital Value rates. Despite these principles, there is an element of cross subsidisation in the way the rates are distributed across the district. This is appropriate as many goods and services are what are known as public good. Uniform Annual General Charge 16% General Rates 5% Increasing income from fees and charges The Revenue and Financing Policy tries to ensure that those users creating the demand for activities and services will fund them (ie the user pays principle). This is from targeted rates or fees and charges. Council collects fees and charges for a wide range of activities it provides, based on cost recovery. Council s strategy is to ensure fees and cost recoveries are set robustly and at a level consistent with those charged by other Councils or the private sector for similar professional work. The cost of Council providing services is increasing, therefore, Council s fees and charges must also increase, most by inflation at between 2% 4% a year. Operating Income Resource Consents - 0.3% Dog Registration - 0.8% Dividend Income - 1.0% Building Consents - 1.1% Parking Fees & Fines - 1.8% Rents & Leases - 2.0% Water by Meter - 2.7% Grants & Subsidies % Other Income % Rates % 0 10,000 20,000 30,000 40,000 50,000 's 's 38

6 Structuring of investments and commercial activities Council maintains a number of investments in Council Controlled Organisations (CCOs). Its largest investment is in Gisborne Holdings Ltd. The only trading operation of Gisborne Holdings Ltd is Tauwhareparae Farms Ltd. Council also runs a number of non-core activities. These include: Commercial Forestry Commercial Property Gisborne Vehicle Testing Waikanae Beach Top 10 Holiday Park. Council does not take a pure commercial approach to its investments. These investments are all located in the district and some are held for historic or legacy reasons. Revenues will vary and rates may need to be increased to offset reduced dividends sometimes. This will be with the view to ensure that returns are maximised for Council by having in place an efficient management structure that provides a very strong business emphasis. This may involve introducing additional equity partners and/or disposal of underperforming investments. Council s primary objective for holding and managing these investments is to provide income streams that are available to reduce the rates. The quantified targets for returns from these investments are set out below. Other Investments no return is budgeted for Council's investment in Civic Assurance and BOPLASS. Council's involvement in these companies is for operational rather than investment purposes. Over the next three years Council will review the governance and ownership structures of these investments and commercial activities Gisborne Holdings Limited Gisborne Holdings Ltd interim dividend of $500Kpa, final dividend making a total of 70% of the net distributable income Waikanae Beach Top 10 Holiday Park Waikanae Beach Top10 Holiday Park 80% to 100% of the operating surplus as a dividend. In addition to the above dividend the park contributes approximately $200k pa in internal lease charges and $95k pa in overheads. It retains approximately $7k pa surplus to fund capital projects. Gisborne Vehicle Testing Station Gisborne Vehicle Testing Station 80%-100% of the operating surplus as a dividend. In addition to the above dividend the GVT contributes approximately $50k in internal lease charges and $115k pa in overheads. It retains approximately $25k pa surplus to fund capital projects. Commercial Forestry Commercial Forestry 90% of the cash surplus as dividend. Due to the uncertainty of the timing and amount of the forestry income it is considered financially prudent not to apply the forecast surpluses/deficits to offset rates at this time. The next major harvest is currently forecast to occur in 2019 and this will be reviewed in the next ten year plan. Commercial Property - 90%-100% of the operating surplus as a dividend. The make up and structure of this activity is currently under review. Initial indications show that the current non commercial property (i.e. stock paddocks and small holdings) will continue to require a rates income to cover ongoing operational costs, including the payment of Council s rates. 5. Maintain existing services, activities and infrastructure Council s financial strategy is one of maintaining existing levels of service, except for major projects. It does not propose anything significantly new to current activities and services. Rather, it aims to focus on delivering and maintaining essential services and infrastructure (community and network infrastructure) at their current levels or improve them where there has been deterioration in the past. How the money is spent Operational expenditure The cost of Council doing its day to day business is driven by a number of factors. These include inflation, debt levels, salary and wage inflation, the amount of assets we own (and therefore have to maintain) and whether we increase or decrease our services to the community. The pie chart below shows that Council's spend on infrastructure makes up 58% of our total expenditure. 39

7 Council has nearly $1.9 billion invested in fixed assets. These are mainly used to provide essential services to our communities roads, water, stormwater, wastewater, flood protection, parks and open spaces and community facilities. Council must ensure these assets are maintained and replaced if necessary so that the services they provide can continue now and into the future. The maintenance and depreciation on Council s assets is costly. In 2013 depreciation is forecast to be $19m; this is 25% of our costs. Increases in depreciation costs have caused rates to rise in 2013 by 2.9%. Council s repairs and maintenance for 2013 is estimated at $3m. Operating expenditure 120, ,000 80,000 60,000 40,000 20,000 0 Expenditure Year Operating Costs Depreciation and Amortisation Finance Costs 2013-$M 2014-$M 2015-$M 2016-$M Operating Depreciation Interest Total $M 2018-$M 2019-$M 2020-$M 2021-$M 2022-$M The Ten Year Plan expenditure on the roading activity subsidised by NZTA is capped for three years at levels consistent with this level of funding. Capital Expenditure Over the last nine years Council s core capital expenditure has ranged between $16m and $22m (excluding Regional Development Roading and the Waste Water Treatment Plant). Therefore we anticipate the capital expenditure to maintain Council s asset base would continue at a similar level. Council proposes to spend $277m on capital projects over the next ten years. These are focused on core and major community infrastructure renewal projects. To maintain our assets, so they provide the same level of service to the community, Council proposes to spend around $17 - $24 million a year on these routine/ core projects. These are mainly renewals of existing assets that have come to the end of their useful life. Council now has the capacity and is in a better position to undertake much needed major community infrastructure projects. The major projects have been spread across the term of the Ten Year Plan as Council cannot afford to build them all at once. Council also anticipates obtaining external funding to help pay for some of the major community infrastructure projects. Capital projects - core and major $m One factor which Council has had limited control over is the increase in insurance costs. The impact of the Canterbury earthquakes and a number of other natural disasters in the Asia-Pacific region have resulted in large insurance cost increases. For Council, insurance costs are estimated to increase by $800,000 in 2013 to $1.3m. There is a growing level of rates owing on Māori land in our region. This is of concern to Council; however there are no quick fix solutions to reduce it immediately. Council has conservatively forecast its bad debts to increase over previous Annual Plan budgets by about $500,000 in 2013 to $1m. Council intends to work with other agencies and Councils to look at options for increasing the ability and willingness of Māori landowners to pay their rates. To offset these increases and being aware of rates affordability Council has committed to savings across the organisation. This may affect the speed of delivery of some community projects. The New Zealand Transport Agency (NZTA) funds approximately 58% of our roading expenditure Core Capital Major Projects Managing capital project costs and debt Council now has staff dedicated to major project management. This has resulted in a marked improvement in Council s ability to deliver the right projects at the right place, right price and right time. The Council has a programme of major community infrastructure projects planned for the next ten years. Potential funders of these projects have an expectation that Council will fund between 30% - 33% of most of the proposed major projects. This means that, for the agreed projects, Council will aim to achieve about 70% of funding from sources outside Council. When considering major projects Council is aware of the ongoing pressures on rates affordability. The prioritisation of the TYP major projects involves considering the following for each project:

8 Spend Speed of its implementation Availability of sufficient contractors Funding. Decisions on the funding of Council s capital projects consider the following factors: Who will use the assets or services provided (the beneficiaries)? What is the impact on debt levels? What is the impact on rates? What is the total pool of grants that are available for community projects across the district? Are we competing with other not for profit organisations for community grants? What are the stakeholder expectations? Has the principal of intergenerational equity been considered? Council commits to utilising the proceeds from the sale of community assets to purchase, redevelop or upgrade other community assets. Council has not yet identified any particular sales for inclusion in the Ten Year Plan. Levels of Service (capital and operational) Council has reviewed expenditure levels to ensure they realistically match the agreed Level of Service (LOS) set out for each activity. However, in doing so, we are aware of the need to manage the risk of concentrating on short term financial gains that may lead to longer term loss of service or deferred costs in asset repairs or replacement. Council cyclically reviews its LOS with the view to matching them to community expectations. The financial implications of any changes to LOS are always considered. Recent reviews have already resulted in savings in the HB Williams Library and Solid Waste activities. Council considers the following factors when reviewing LOS of activities: Maintaining the Council s asset base Consideration of ratepayer expectations How community infrastructure LOS impacts on the attractiveness of the Gisborne Region as a place to Live, Work, Play Competition with other provincial centres for investment, economic growth and skilled staff Possible alternatives to providing minimum LOS Rates affordability. 6. Assist in improving the district s ability to pay A major theme running through our Ten Year Plan is the district s ability to pay. There are two aspects to the ability to pay challenge. The first relates to the cost of Council s goods and services on the community and the way these costs are allocated. Council can control those aspects. The second relates to the value of a rate payer s property and other income. There is little Council can do about that. Our challenge is clear from the following statistics: In 2006, 31% of the district s residents lived in areas assessed as decile 10 (measurement taking socio economic factors into account decile 10 being the poorest) and a further 15% lived in decile 9 areas. This means that at the time of the 2006 Census, a little under one-half (46%) of the district s population lived in places judged to be among the 20% most socio economically deprived in the country. At $20,600, Gisborne/East Coast district residents aged 15 and over had a median personal income considerably below the 2006 national median of $24,400. Household incomes in 2006 showed a larger-than-average representation of Gisborne/ East Coast district households at the lower end of the income scale (over-represented at all income levels up to $50,000 and under-represented in all incomes above $50,000. For Council, this means (in addition to reducing costs) looking at ways in which we can maintain and more importantly increase our rating basis (ie our population). Council can assist in improving the economic performance of the district and therefore increase ratepayers ability to pay. With limited growth projected and the current income challenge the strategy is to: Support economic agencies to assist in growing the district's economy Work with key stakeholders and others to improve the productivity of Māori Land Provide infrastructure to support and attract businesses in to our district Provide the necessary community infrastructure that attracts people to the district to Live, Work, and Play. Council s financial strategy for the next ten years is to maintain LOS at their current levels. No planned increases to LOS have been provided for. 41