Risk management

The board recognises that risk is an inherent part of running a business and that whilst it aims to maximise returns, the associated risks must be understood and managed. Overall responsibility for this process rests with the board whilst executive management is responsible for designing, implementing and maintaining the necessary systems of control.

Key to this function is the group’s risk register, which is reviewed formally once a year. The register is initially prepared by the executive board which, having created the list of risks, collectively assesses the severity of the risk, the likelihood of it occurring and the strength of the controls over the risk. This approach allows the effect of any mitigating procedures to be considered, recognising that risk cannot be totally eliminated and that some activities incur inherent risk.

The register is then reviewed and commented upon by the audit committee before being considered and adopted by the full board. The register was reviewed in February 2010 and the principal risks and uncertainties that the group faces in 2010, together with the controls and mitigating factors, are set out below:

Strategic risks

That the group’s strategy doesn’t create the anticipated shareholder value or fails to meet investors’ expectations.
  • The group’s strategy is inconsistent with the market environment.
  • The group’s development programme is not consistent with the economic cycle.

The group carries out a five-year strategic review and prepares regular rolling forecasts covering the next two years. In both exercises, the board considers the effect on key ratios of changing the main underlying assumptions and set these so as to best realise its long-term strategic goals. This flexibility arises from the policy of maintaining income from properties until development starts.

Financial risks

That the group becomes unable to meet its financial obligations or finance the business appropriately.
  • A substantial decline in property values or a material loss of rental income could result in a breach of the group’s financial covenants. This may accelerate the repayment of the group’s borrowings or result in their cancellation.

The group’s secured borrowings contain financial covenants based on specific security and not corporate ratios such as balance sheet gearing. Treasury control schedules are updated weekly whilst the rolling forecast enables any potential problems to be identified at an early stage and corrective action to be taken. The group has a considerable amount of uncharged property that could be used in such circumstances.
  • The group’s cost of borrowing is increased due to an inability to raise finance from its preferred sources.

The group’s five-year strategic review and rolling forecasts enables any financing requirement to be identified at an early stage. This allows sources of finance to be identified and evaluated and, to a degree, the finance to be raised when market conditions are favourable.
  • Financing costs are higher due to increases in interest rates.

The group uses interest rate derivatives to ‘top up’ the amount of fixed rate debt to a level commensurate with the perceived risk to the group.
  • The group incurs tax penalties or loses its REIT status due to failing to comply with the REIT legislation.

The group’s rolling forecast monitors compliance over the forecast period which enables any potential non-compliance to be identified and corrective action to be taken at an early stage.

Operational risks

The group suffers either a loss or adverse consequences due to processes being inadequate or not working correctly.
  • The implementation of the group’s strategy is inhibited by an inability to acquire assets at an attractive price.

The size of the central London market in which the group operates, means that such a situation is unlikely to persist for very long. During this time, the group is able to develop opportunities from within its existing portfolio.
  • The group’s development projects do not produce the anticipated financial return due to delays in the planning process, increased construction costs or adverse letting conditions.

Standardised appraisals including contingencies are prepared for all investments and sensitivity analysis is undertaken to ensure that an adequate return is made in all circumstances considered likely to occur.

The scale of the group’s development programme is managed to reflect anticipated market conditions.
  • The group suffers a loss of rental income and increased vacant property costs due to tenants vacating or becoming bankrupt.

Prospective tenants are considered by the group’s credit committee and security is taken where appropriate. The group’s property managers maintain regular contact with tenants and work closely with any that are facing financial difficulties.
  • The financial return of the group’s developments is reduced due to the insolvency of a contractor or  subcontractor.

Generally, the group selects contractors from a pool that are well known to it, and the financial information on these companies is regularly reviewed. If the insolvency of a major sub-contractor is seen to present a material risk to the critical path of a project, specific strategies are implemented to mitigate the effect.
  • The group’s reputation is damaged due to a breach of health and safety regulations.

The group employs a health and safety executive who establishes appropriate policies for the group’s offices and an external health and safety supervisor is appointed for each development project.
All significant accidents are reported to the board and reports for each scheme are submitted regularly to the board.
  • The group is unable to successfully implement its strategy due to a failure to recruit and retain key staff with appropriate skills.

The remuneration packages of all employees are regularly benchmarked. Six-monthly appraisals identify training  requirements which are fulfilled over the next year.
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