Property Research and Feasibility Studies

Presented to Master Builders Association, by Simon Fonteyn.

Steps to successful development:

  • Know Yourself ( Sun Tzu)
  • Leadership
  • Site search and selection
  • Feasibility studies
  • Development funding
  • Site acquisition and legal documentation
  • Risk Management

Know Yourself

  • Sun Tzu – “ Know yourself and your enemies and you can win any battle”
  • Know your tolerance for risk
  • Development is a high risk / high return basis – Not for everyone
  • Do as much analysis as possible, but remember property is an imperfect information market
  • Develop exit strategies for inevitable “bad projects”

Leadership – The key driver behind success of any property development project

What to aim for in development projects

  • Surround yourself with a qualified and dedicated consultant team
  • Demand results to budget and time
  • Reward success via bonus or profit share
  • Provide vision and clarity for the project
  • Provide crisis management, when things do not go to plan
  • Aim to achieve economies of scale

Property Sourcing

There are three main ways to find a development site:

  • Local real estate agents / advertised properties
  • Target an appropriate area with direct mail and a follow up visit
  • Commission a specialist agent to source

You will need to consider:

  • Time and effort in sourcing properties (success ratio is likely to be around 1 in 20 sites)
  • Site Characteristics and Planning Codes
  • State of the Market

Property Research

  • Property research is fundamental to successful development schemes
  • Research differentiates the “cowboys” from the professionals
  • Research is not “hearsay”. i.e. Do not rely on other peoples opinions, verify facts for yourself
  • Do your research before acquisition

Research Fundamentals

  • Short & Long Term Supply
  • Demand
  • Pricing
  • Product / Unit Mix
  • Checks & Balances
  • Analyse short & long term supply
  • Complete a demand study
    • Product Type
    • Pricing Points
    • Product Features
  • Test your results with third party sources such as valuers, researchers

Analysing Supply

  • Supply composed of:
    • Existing Stock (Re-sales)
    • Existing DAs under construction
    • Existing DAs @ CC
    • DAs under consideration
    • DAs mooted
    • Likely land being rezoned
    • Councils attitude to development
  • Draw up a timeline to analyse when the supply will hit the market, what type of product and impacts
  • Record the take – up of supply of product
  • Record the percentage of pre – commitment sales vs on completion sales
  • Record product that is unsold
  • Record the unit / product mix and note take – up of each

Supply – Information Sources

  • Council DA registers and websites
  • DIPNR
  • DA Register Databases
  • Property Council
  • BIS Shrapnel, Major Agencies, Valuers
  • Local Agents & Developers
  • Strata Schemes ( If available)

Analysing Demand

There are four types of demand:

  • Underlying demand – relating to migration and employment levels, and the need for housing and shelter.
  • Investment demand – driven by tax, capital growth, interest rates, and the performance of other asset classes.
  • Owner occupier demand – driven by interest rates, location, and employment.
  • Business demand – related to interest rates, consumption, business confidence, location, and corporate tax.

Underlying Demand – Natural Demand

  • This can be researched from the Australian Bureaux of Statistics (ABS) data into migration.
  • It is often related to inner city product demand and may or may not relate to owner occupiers.

Investment Demand

Main points to consider are:

  • Recent tax changes, including 2.25% exit duty (as under review), and the removal of the land tax threshold on all investment properties;
  • Deteriorating residential unit prices have all but dissipated residential investment demand.
  • Poor yields on residential investment contributes to poor residential investment demand.
  • Retail and industrial demand – flight of capital into these markets due to poor yields on residential investment and a net capital outflow to the share market where returns are better.

Owner Occupier Demand

As driven by:

  • Residential/location sentiment
  • Interest rates and affordability (employment growth)
  • Recent tax changes to the First Home Owners Grant have made units to the value of $500,000 or less very attractive

The outlook for this type of demand remains stable a long as employment growth remains strong and interest rates relatively stable.

Business Demand

  • This demand relates to a firm’s requirement for space both purchased and leased.
  • Objectives include proximity to markets, employment pools, technology, and hubs.
  • There is a trend for corporations to take shorter term leases and occupy less space then 5 years ago due to employment efficiencies and technical advancements.

Prices – Info Sources

  • RP Data
  • realestate.com.au
  • Pim (CPM)
  • Red Square (EAC Multi List)
  • City Scope
  • Leasing Information Services (for leasing info)
  • Domain
  • Agent’s market reports
  • Financial Review – Property Section
  • Talk to local agent’s
  • Developers
  • Australian Property Monitors

Research Report

Once demand and supply have been examined the following can be deduced:

  • Is there a gap in the market place for your product ( GAP Analysis
  • Unit Mix (type and target market)
  • Product Features
  • Product Prices

Property Feasibility Studies

The formal study undertaken to determine whether a proposed project is viable.

  • A project may be deemed feasible when it can be determined that there is a reasonable likelihood of satisfying explicit objectives when a selected development configuration is tested against a specific set of constraints and limited resources.
  • The feasibility study considers land acquisition, planning approvals, appointment of professional fees, the construction phase, and the leasing/selling phases.
  • The feasibility study seeks to quantify and model the implications of the relationship between the projects sale price and the compilation of costs associated with the development of the project.

The Feasibility Study

The generic feasibility study contains three separate activities, namely:

  • Market Study – To determine existing projected supply and demand for space in a particular sub-market, eg South Sydney industrial market, suburban commercial (Chatswood) and with it associated rental levels and market yields.
  • Physical Feasibility – A study to determine the number of units (residential) quantum of floor space / car parking etc. that can be generated from the site. This exercise established the building envelope for the site and mixture of units (1, 2, 3 and 4 bedroom) in the case of residential projects.
  • Financial – A financial feasibility draws upon the outcomes of the above two stages in order to quantify and financially measure the outputs from the above studies.

Financial Feasibility

The two basic techniques generally adopted are:

  • Return on total development cost (TDC) technique
  • Internal rate of return (IRR) technique

Return on Total Development Costs (TDC) Technique

  • Estimate income – both projected rental and initial yields
  • Compile all costs – both ‘hard’ and ‘soft’
  • Capital costs – all are assumed to be borrowed (debt) hence every component of the development costs incurs an interest cost at the nominated rate.
  • Net development profit level – assuming that the project generates a profit, will in the first instance determine the attractiveness or worthiness of further refining and developing the project.
  • The relationship between the projects probable end-value or sale price and all costs associated with producing the subject project together determine both in dollar terms and percentage terms the feasibility of the nominated project.

Internal Rate of Return (IRR) Technique

  • Regards the time value of money.
  • Particularly relevant for projects of long time frame where the land is held for many years, and major infrastructure is involved with buildings constructed on a staged basis.
  • Project cash flow – reflects the expected timing of revenue and expected items.
  • Once the IRR is computed it is compared with the established ‘hurdle rate’ commensurate with the level of risk inherent in the project.
  • For a pure development company the hurdle rate is equal to the company’s cost of capital with a positive or negative adjustment according to whether the project has more, or less, inherent risk than a typical company development.

Feasibility Analysis / Assessment

  • Planning Approval risk analysis
  • Site investigation analysis
  • Construction cost analysis
  • Market demand / supply analysis
  • Profit / risk analysis including taxation( ROC and IRR)
  • Sensitivity analysis

DO NOT:

  1. Use per unit site basis, you will get it wrong
  2. Rely on gut feel
  3. Check with your mate

Feasibility Packages

  • Estate Master ( We recommend)
  • Feastudy
  • Palamedes – @ Once
  • Dyna
  • Cougar ( Cashflow based investment)

Summary

  • Know your risk profile
  • Apply leadership and build your team
  • Rigorously analyse projects including tax
  • Determine if there is a “gap” for your product