The Property Speculator

4 Principles to Consider when Looking for Development Finance

It’s no secret that entering the field of property investment or development costs a huge amount of money. Some people are lucky enough not to need to borrow to purchase their first project, but the vast majority do.

Whether or not you receive funding will probably be the biggest factor in determining the success of your project and/or venture. If you don’t have the available capital to begin, and no one will lend to you, you are unlikely to get very far.

Therefore, finance is very important to the novice and experienced developer alike.

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I’ve written on the subject of Property Development Risk before, and to present the subject of obtaining finance it’s necessary to bring it up again. However it’s probably not in the way you expect.

Managing risk is very important in any business venture. If a company exposes themselves to too much risk on a regular basis, sooner or later something will go wrong and the consequences could be substantial. Likewise if risk is avoided at all costs, the venture is unlikely to grow. Risk is to be embraced but in a controlled way. Profit or losses are the wages of risk. There are ways for a property developer to manage risk; however it should be done with a view to your partner.

When I mention a partner, I mean the bank. If you obtain funding, you will literally be going into partnership with the bank. It’s most definitely not like an unsecured loan or even an owner/occupier mortgage. If you are using a substantial chunk of the bank’s money, they will want to know absolutely everything about your venture. This is when it’s important to consider the flip-side of risk management. Your bank is also extremely interested in risk management; therefore everything you do to limit risk, might have the effect of moving the risk in their direction. The bank is in the driving seat, there is a good chance they have put more money into the venture than you have, so they will be working hard to limit their own level of risk. In this situation, if you really need to borrow to realise your plans, you must take on a significant amount of risk.

Visualise the banks as being like a wild animal, they need gentle and convincing coaxing to entertain your plans. If you offer them a deal where they end up shouldering too high a proportion of the risk, they’ll be off before you know it.

So what should you be doing to get the banks to take you seriously?

Don’t use a Limited Company. The whole purpose of a limited company is to control and limit liability on the owner/s. Therefore if you set up your development/investment business as a Ltd company, the bank faces substantial risk because they will be severely hampered in recouping any potential losses if the venture goes wrong. The bank will be much more comfortable if they are lending to an individual rather than a company.

The CV of the Borrower. The person borrowing the money should really have a good idea of what they’re doing. And if it’s your first property development venture and you are considered a novice, it’s an excellent idea to work with someone else who does know what they’re doing. Obviously this is a bit ‘catch-22’, you can’t borrow the cash until you’re experienced, and you can’t gain experience because you can’t get the cash. No one said it was easy; do your homework, plan the project (especially the finances) well, take advice from a building contractor/Building Surveyor/Architect so that it’s less likely you will go far wrong. This is what the banks are looking for.

Don’t take on too big a project before you’ve gained experience. Most successful property developers start their new careers by carrying out very light renovations to properties that just require a bit of updating and tidying. This way the developer gains experience, and begins to accumulate more capital (hopefully). It’s important to learn what works well, and what doesn’t. It makes a big difference to your decisions when it’s your money going into a project.

Don’t expect to borrow heavily against your first project. This point is probably quite an obvious one in the current financial climate; however it’s an important point. There are financial advantages to borrowing against a property development, but fine-tuning the gearing is something to concentrate on when you are experienced and running a larger project/portfolio. Banks are beginning to be slightly more flexible in their lending criteria, however you really should be able to invest at least 25% into a project and also have enough in reserve to cover a part of the early construction phase and contingencies.

It’s important to see the banks point of view when approaching them for finance. They are in a powerful position, and it is vital that the developer/investor convinces the bank they represent a low risk.

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Apr 11th, 2012

Creating a Property Development Contract with your Builder

Many private property developers aim to save money by carrying out some of the construction work themselves. This can often be very successful, and usually depends upon the competency and persistence of the developer. However, it also depends a lot on the developer having the time to do the work. It’s fine if the novice developer does not have to do a ‘normal’ job every weekday and can just concentrate on the construction/alteration works. Most developers, when beginning their ventures though have to juggle a day-to-day job and run their property ventures in their spare time. I can assure you from experience that having a full-time job and having to squeeze in work on another property in the evenings, weekends and holidays will test your motivation and persistence. In short, it gets quite stressful.

Apart from the obviously increased expense, it usually makes a lot of sense to get builders in to do the work for you (or at least the majority of it). The larger the project, the more benefit there is.

Where to start though? All developers will at some point come to this stage. Knowing that substantial outside help must be secured, but not quite knowing what to do first.

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The first step is to decide exactly what needs to be done to the property. On smaller projects where the work will only amount to a few thousand pounds (such as very minor alterations) the route will be different to larger projects of hundreds of thousands or even millions. On small projects it’s more likely the developer will have a good idea of what work they require the builder to carry out. It’s very important to write this down, placing it in logical steps. An example of this might be:

Lift Patio area to rear of property (state the extent of this if possible).
Re-route/prepare drains for foundations to comply with Building Regulations.
Dig and lay suitable foundations in preparation for extension.
Construct double-skin brick/block extension to full property height in accordance with planning conditions, tying bricks and blocks in with existing structure.

This list in its entirety should be concluded with important points, for example ‘all associated excess material and refuse to be removed from site upon completion’ and ‘all appropriate Building Regulations to be complied with’.

This list is often referred to as the ‘Scope of Work’ and becomes more important as the size of the project increases. The scope of work can help you out at this point by enabling you to obtain several different quotes for the work if you feel you would like to look around for the most competitive price (known as ‘going to Tender’). If the idea of compiling this list is daunting because you are not experienced enough to place the required work into steps, contact either a professional (such as a Building Surveyor, Architect or Structural Engineer) or ask a reputable builder who will not be actually doing the work (so that the scope of work is impartial) to help out.

The process of finding a suitable contractor with the use of a scope of work is called ‘Tendering’. The larger the project the more important it is to find a contractor that will provide the right work at the right price. Once the builder has been chosen to carry out the required works (it might be the one who produced the most reasonable quote, or the firm who you feel might be the best suited to the work you need carried out) the next step is to establish the terms of the builders contract.

In almost all cases (around 70% – 80%), a Joint Contracts Tribunal (JCT) contract is used to establish the terms of the agreement between client and contractor.

The contract type depends on the type and scope of work to be done. For the smallest work, such as a house extension a ‘Homeowner’ contract would be used. There is further choice within this, for cases where the homeowner is overseeing the work, and where a consultant oversees it. At the other end of the scale is a ‘Design & Build’ contract where the contractor actually designs much of the work to be done.

It must also be mentioned, that when a project is being designed by a contractor, the company MUST have the appropriate level of competence and Professional Indemnity insurance to carry out the design work. This can be achieved by outsourcing to a Structural Engineer or Architect. However it is asking for trouble if a small building contracting firm designs a structure, dwelling or substantial alteration themselves without the appropriate level of design competence. The worst case scenario is if the structure fails or becomes unsafe. As developer, it is possible you could find yourself in court under a charge of negligence for failing to ensure the project was properly designed. Always approach the planning of your project in a professional manner.

For a guide to choosing the most suitable JCT contract, visit their site at:

http://www.jctcontracts.com/contracts/choosing.jsp

Please note, this article has been considerably condensed. Buy for the full version for only £2.

Feb 15th, 2012

Calculating Build Costs for a Property Development Project

When establishing a budget for a property development, the issue of build costs is hugely important. An accurate build cost value is a vital component of the residual valuation.

Build costs are not just for the construction of new build properties. If an existing property (for example) is to be renovated and the usage changed, or a residential property needs a lot of work to bring it back to a habitable state, the costs of work will be very similar to building from new. So to use new build costs is appropriate in the majority of cases.

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Build costs are calculated using the gross internal floor area. This is essentially the area of the internal space measured between the inside of the outside walls. This includes all common areas such as hallways and toilets etc.

Build costs are generally available from 2 sources. The first source is the subscription website BCIS (Building Cost Information Service), the second is SPONS (available in book format and updated every year). Both sources are well-regarded in the construction industry as being accurate enough to use in detailed development appraisals but are expensive when you are beginning your venture (both sources are a fairly similar annual price). When using the resources, you will find that a particular rate per M² or M³ is provided. For example, when demolishing a building up to 50M³, a rate of £49.92 would be appropriate per M³. The larger the building, the less expensive the work per M³ is to have carried out (economies of scale).

One of the recognised shortcomings of the residual method of development appraisal, is that the output (the land value) differs a great deal through only small changes in one of the inputs (in this case, build costs). The larger the project, the more likely it is to happen. For example, if 30 houses of 100 M² each are being constructed at a rate of £1,000 per M², the total build costs will be £3m. If the build cost rate were to increase to £1010 per M², total build costs would increase to £3.03m. So for just an increase of £10 per M², the total build costs would dramatically increase by £30,000. Therefore it is important to get as accurate a figure as possible. Fortunately the sources mentioned above are regarded as very accurate.

It can be a time consuming process reading through the construction cost guides if you are unfamiliar with them (I don’t profess to be an expert myself). They are extremely thorough and specific, however if you simply want to know how much it will be to build a 3 bedroomed house (at a rate per M²) then a far cheaper (free) option exists. A regularly updated source of inclusive build costs is at: www.homebuilding.co.uk/buildcosts. It obviously depends on how deeply you want to go into the analysis of costs, but this alternative provides accurate information if it’s an inclusive rate you’re looking for. It’s compiled for self-builders, not really private property developers but it offers a good indication and shows the degree of variance across regions. If you do need to go into the deeper intricacies of building costs then I suggest purchasing either the SPONS book or taking out a BCIS subscription (incidentally, SPONS books are available ‘used’ at a discount at places such as Amazon Marketplace but obviously the accuracy suffers as they age).

At the last update on the ‘homebuilding-buildcosts’ site (Dec 2011) a large 2-storey house being built in the South-East to an excellent standard by main contractors would be in the region of £1291 per M² to build. At the opposite end of the spectrum, a small single storey house built to a reasonable standard through a combination of DIY and sub-contractors in the North-East or Wales would be in the region of £793 per M². These values have been put together by experts using the more detailed costs guides.

The more detailed guides (BCIS & SPONS) allow the reader to obtain far greater information. For example, according to the 2011 version of SPONS:

High quality Inner London apartments would be in the region of £2350 – £2850 per M² to build.
Large budget student schemes with en-suite bathroom would be £1025 – £1275 per M² to build.
Warehouse conversion to apartments would be £1025 – £1275 per M².
Minor office refurbishment in Central London would be £435 – £530 per M².

Clearly some interpretation has to be applied to this information, as regional variations on prices can move beyond the ranges listed. It should also be remembered that these prices are inclusive of builder’s profits and overheads, but not of professional fees associated with the work.

For the more specific prices:

For machine-excavated trench fill foundations at 600mm wide x 1 metre deep, a rate of £79.00 – £100.00 per metre.
For facing-brick walls, single skin and pointed both sides would be £81.00 – £105.00 per M².
For a cement and sand screed floor of 50mm thick would be £12.40 – £16.80 per M².

The SPONS books and the BCIS provide a huge amount of information (the SPONS book is over 1,000 pages). You must remember though, that looking into the specific works and simply adding the costs together is risky because without experience, it’s easy to overlook some vital work component. This can have a significant effect on the overall build costs.

Dec 15th, 2011

The Contractors Method of Commercial Property Valuation

In some cases, the 4 other methods of valuation (Comparison, Residual, Profits and Investment) are just not suitable for a particular property. Some buildings are designed to be used by Town Councils or public sector/healthcare/military workers, and are therefore quite unique and it’s simply not appropriate or possible to value it for a commercial use. These properties very rarely change hands and because of this, almost no comparable evidence is available.

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In this case, the Contractors method of valuation can be used (also known as Summation). It is not without it’s limitations it has to be said, and is sometimes referred to as a ‘last resort’ method. This is because it works on the basis of a building or property’s value being the same as cost (which in most cases is a flawed concept, as ‘cost’ is a fairly definite sum, whereas ‘value’ is not).

The Contractors method works on the idea of the cost of the land plus the cost of the buildings upon it equals the value of the property as a whole. This sounds about as simple as it’s possible to get in Real Estate valuation, however it’s in the detail that the skill lies. The users of these non-commercial buildings could hypothetically move to a different site and have a similar building constructed. As no aspect of competition exists, the value is quite likely to be similar whichever site is used (assuming it’s a similar size). The value of the land should only be based upon the intended use, not best use. This is because land where (for example) offices are permitted to be built would be worth considerably more than land upon which only a fire-station could be built.

Another consideration is that the value of a new building would be worth more (theoretically) than the value of one that which already stood on the site. There must be some amount of depreciation for general wear-and-tear and obsolescence. The basic equation for the Contractor’s Valuation is:

Cost of Building

plus Cost of Site

= Total Cost of Similar Property

less Amount for depreciation and obsolescence

= Value of Existing Property

In practice, the process of establishing the value would be:

Apply build costs (at a rate per Sq Ft/M) at the time of valuation, and discount this by a percentage to allow for depreciation and obsolescence (this could be 25% for obsolescence and a further 15% for depreciation).
Add the revised total build costs to the land value, including costs of plot works and fees.
The result is the value of the property.

Clearly this method has its limitations; Not only can build costs be difficult to establish with accuracy (due to the envisaged specialist nature of the building), but the level of discount to be applied to allow for obsolescence and depreciation must be quite specific.

Valuation is (quoted from the Royal Institute of Chartered Surveyors) ‘an art, not a science’. This means that although the methodology is reasonably straight forward, the application of it not particularly simple.

Aug 17th, 2011

Developing a Victorian Property

As I’ve mentioned before, it’s never an easy ride developing a property for profit. Developing a listed property is more difficult still and not to be recommended for the novice developer. That said, it’s almost always the listed properties that manage to keep their romantic appeal over the more modern ones.

The vast majority of period property purchasers are pleasantly surprised to find that period features have been retained and enhanced. It can be quite disappointing for viewers to a period property to discover that the interior has been cleared of features and looks like a new-build. Therefore, it’s important to remember that if a property is a period one, you must keep the internal and external features.

Victorian properties are probably the most common of all listed properties. This is because the Victorian era covered many years. It took over from the Georgian period and began in approximately 1840 and lasted until around 1900. It’s fairly easy to notice the crossover period between Georgian and Victorian, unsurprisingly Georgian architectural features blended gradually into Victorian. A specific feature of typical Georgian architecture is symmetrical and proportional windows of many small panes, where the height of the windows is exactly double that of the width. Victorian properties however have very tall and narrow windows of only one or two panes. Technology had moved on to facilitate larger panes of glass which allowed more natural light to enter the property.

At the small end of Victorian properties, there are the long rows of terraced houses. These are situated in almost every town and provide the novice developer with an ideal property to learn the ropes on. They tend not to vary too much in layout; the only differences are the orientation of the stairwell and which floor the bathroom is on. Victorian properties tend to be robustly designed and built but occasionally turn out to have no foundations. This means that a survey is highly recommended as it’s not unheard of to find subsidence to some degree in these properties. On a more optimistic note though, most of these houses that were built without foundations have now had the necessary work carried out to prevent catastrophic movement. Always make sure though…remember – caveat emptor.

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Larger Victorian properties are often built in a ‘villa’ style. This means that they were built in a certain architectural style that the smaller terraced houses weren’t. This style can be shown in the ornate features that these properties have, such as intricate window mullions and projected porches. Much of this was influenced by the gothic revival period (1850-1880). These houses often had cellars and attic space for servant’s accommodation. Victorian houses tended to be either terraced or detached in towns and cities. Semi-detached Victorian properties are more likely to be found in rural areas as they were built for the workers on the large estates.

The Victorians were the first to introduce the beginning of what we know now to be Building Regulations.

From the middle of the 19^th century, there was an increased importance placed on sanitation in properties. Of course this wasn’t always particularly comfortable in the small properties (i.e. outside toilets) but larger houses were more likely to have a (downstairs) cloakroom built. Proper drainage (meaning the sewers were enclosed) was also introduced. Towards the end of the Georgian period, it was only a very few properties that had running water. By the end of the Victorian era, hot and cold running water was available in the majority of homes. The cellars of Victorian houses were used for the storage of coal. The pavement outside and immediately in front of the property would have a small flap or cover that allowed the coalman to pour the coal directly into the cellar without having to carry the coalbags through the house.

The Victorians strongly believed that a ‘bare’-looking interior was a sign of very bad taste. Subsequently, they tended to fill their homes with as many knick-knacks as possible. It is extremely unlikely that anyone would follow such a trend in modern times. However, it’s also not a good idea to attempt to incorporate a modern, almost minimalistic look into a period home unless you absolutely know what you are doing and it can be done sympathetically. Most people can’t. A compromise between the two would be to look for comfortable and classic looking fixtures and furniture to acknowledge the history of the property without overfilling it. The general intentional feeling of Victorian homes is of comfort. The Victorians prized their home-comforts more than the Georgians.

In common with the Georgian era, Victorian house interiors in towns and cities were generally not painted in particularly bright colours. This was because of a combination of the pollution and the fact that paint technology was not very advanced. As the era progressed though, more interesting colours became popular such a rich greens and reds. The general idea was to use a single colour as a main one and add several ‘secondary’ colours to compliment it. These secondary colours were intended to compliment the main one by giving a contrast but without clashing. Varying textures between mouldings, ceilings and woodworks was also popular towards the end of the 19^th century.

The most obvious features of Victorian interiors is coving, cornicing and ceiling roses. Originally, Dado rails were fitted in dining rooms at chair-back height. This was to protect the walls from dining chairs hitting them whenever a diner stood up. Picture rails were fitted in drawing rooms and parlours, where they did actually support pictures hanging beneath. Coving and ornamental woodwork should be painted in gloss white paint. This gives a ‘clean’ look that contrasts with the colour of the wall (just make sure the lines are straight…).

Wallpaper also became popular in the Victorian era. Although it was not quite as you might imagine. The patterns were extremely bold and were full of florals and swirls. In common with the idea of filling the property with lots of ornaments, it’s unlikely a developer would seek out Victorian style wallpaper unless it was intending to be a very accurate ‘museum’-type property. A good compromise would be to look at the Laura Ashley type of wallpaper. This would be regarded as sympathetic to a Victorian property, without being too accurate (i.e. dark). There’s no reason for a Victorian property to ever be dark. If the interior furnishings and decoration are light, then in combination with the tall windows, a Victorian property can be a very pleasant place to be.

May 31st, 2011

Risk Management in Property Investment & Development

Let’s be clear on this, investing in or developing property represents an element of risk to a greater or lesser degree.

Most prospective property developers and investors realise this but some subsequently procrastinate over taking positive steps to progress their venture. Perceived risk can include:

Getting a property project only partially complete before running out of cash.
Experiencing a problem during build of such scale that the contingency fund does not cover it.
Finishing the build and not being able to sell or let the property in order to recoup costs.
The property build/conversion will cost so much that the developer with experience substantial financial hardship in order to get it finished.

All these concerns can be effectively managed and guarded against prior to the start of the project. This is where a particular approach is vital; these risks should not put anyone off engaging in a property development or investment project.

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Risk is the ‘price’ of the return from a venture. It’s been said that ‘the higher the risk, the greater the reward’; however this seems (to me anyway) to be a contradiction in terms. If risk is high, then there is no guarantee of reward at all. People generally have very differing views on the amount of risk they are comfortable to adopt. However, if a developer is looking to borrow in order to fund the purchase and renovation/conversion of a property, then the mortgage provider will be very keen to see the project organised as low a risk as possible. This includes the developer putting around 50% (for first-time developers) of their own money into it.

So in conclusion, it’s important to minimise risk wherever possible. And to be honest, property is one of the lower-risk methods of investment and capital building. It’s not THE lowest, but there are far riskier investments available to those with the appetite.

To address the points above in turn:

1. Running out of cash mid-project.

This element of risk is managed by careful planning of the project. Many novice developers run low on cash, but it’s almost always because the budget has not been organised properly. The principles of running a financially viable project are:

Purchasing the property at a good price. It takes time to select the right property; it must fulfil many criteria – purchase price being one of the most important. If you are purchasing at an auction and the bid goes above your maximum level, you MUST resist the temptation to continue bidding. In my experience, if one opportunity has come along, then the chances are that another is not far behind. Once in a lifetime chances are just not that common. It’s far better to purchase a property at a good price and sell at an average one, rather than buying at an average price and hoping to sell at an exceptional one.

Agreeing a fixed-price contract with the builder. This is insisted on in many cases when obtaining development finance. It should be possible to agree stages of build with the contractor, where you pay a proportion at the end of a stage before moving on to the next. The agreement is likely to specify what is not covered in a fixed-price agreement. This might be substantial ground work or structural alterations. This is all in the negotiation.

Sourcing materials shrewdly. This might fall into the principle above, but if you intend to do it yourself, approach it as a business and not a personal ‘statement’. Buying the property and approaching the building work with your head, not your heart helps so much in this. Keep in your mind that the aim is to get the property let or sold and move on to the next.

2. Blowing the contingency fund on an unforeseen problem.

A contingency fund is an excellent idea. This is usually around 10% of the whole project budget. A fund of this amount will actually be a condition of borrowing with many companies (you’ll have to produce proof of the amount in a bank account).

So if a whole project budget is £240,000 for example, a contingency of £24,000 should be available in addition.

If the principles above are followed, there really should not be any reason for unforeseen problems to require more than 10% of the budget to rectify. Ground, structural and roof problems are usually the most expensive to sort out, but almost all of these can be taken into consideration if a good survey is carried out prior to purchase. Excessive build/conversion costs are another one of the criteria that should be considered before purchasing the property.

In some cases, problems do arise that there really was no way of knowing about before the project is bought. In this case, a degree of imagination is sometimes called for to resolve it without blowing that contingency fund. The most expensive and challenging problems are things like disused wells or buried objects. However these are rare.

3. Not being able to sell or let the property at the end of the building phase.

This is a problem that has affected many aspiring property developers over the past 4 years. As mortgage companies suddenly tightened their criteria for lending, the amount of buyers across the market as a whole reduced to such an extent that demand came to an abrupt halt.

This might be regarded as the greatest of all the risks involved in a property venture. It is theoretically possible to have a property advertised for sale for an indefinite period of time; and this scares the life out of many prospective developers.

Property is widely regarded as being highly ‘illiquid’. This means that the value cannot easily be released. The opposite end of the scale is cash; this is obviously a ready source of capital that can be used easily. Because of the nature of property’s lack of liquidity, it has certain characteristics such as a degree of stability of value (due to the fact that it is a tangible item, unlike for example – company shares). Unfortunately because of this shortcoming, capital can be ‘wrapped up’ in a property with little way of extracting it.

The way this problem is managed, is again by proper financial management. To reuse my quotation from above…. far better to purchase a property at a good price and sell at an average one, rather than buying at an average price and hoping to sell at an exceptional one. You must remember this! In many cases, the reason why properties stay on the market for so long is because they are overpriced for resale. Sticking to a rigid budget dramatically reduces this risk because there is less chance of financial overstretch. You should certainly make sure that you have planned for the property to be complete yet vacant for around 6 months after the build.

4. Experiencing financial hardship in order to complete the build.

Clearly, this is a variation on the perceived risks already mentioned. Most successful private developers have sufficient ‘surplus’ income to cope with the increased monthly outlay to cover another mortgage.

Some amount of flexibility will be needed to cover unforeseen problems, but the contingency fund will be in place to cover them.

There are not really many valid reasons why novice developers should find themselves enduring financial hardship to get their project completed.

To conclude, sensible and realistic budgeting should go a very long way to managing the anticipated risks involved. However as I’ve mentioned already, property development and investment is risky; if it wasn’t, there would be no money to be made in it.

May 13th, 2011

Property Development Finance

Many aspiring Property Developers procrastinate over their plans because they believe they will not get finance to fund their project. This is clearly an extremely important point, because as I’ve written in many posts, even if you can afford to, it does not make good business sense to use 100% equity (capital that is not borrowed) in a venture. One of the main advantages of working in property is that because it is a tangible asset (i.e. not a paper asset) it can be borrowed against.

In the current economic climate, you might be mistaken for believing that it would be impossible for you to get a mortgage based around a property that needs substantial work to put it into a marketable condition. This is not necessarily the case. The vast majority of mortgage providers will be sceptical when you mention ‘property development’. This is because the sum that the developer borrows is secured against the property itself. This is why mortgage debt is the cheapest of all loaned cash; the bank/building society massively reduces its risk by ensuring that it has a legal ‘charge’ over the property in the event of a default of mortgage payment. Essentially meaning it can sell the property to settle your debt if it needs to. If the property were to be repossessed in an uninhabitable state, the banks chances of recouping its loss would be severely compromised.

Another likely scenario is that the mortgage provider might only release a very small proportion of the total amount being borrowed for land/property purchase, and only release the remainder when the project is completed. This obviously means that the developer has to fund the individual build stages out of his own pocket. This can be catered for when you are an established, experienced professional developer. However a novice is likely to be financially stretched.

The alternative to this is to have each payment released at each (pre-agreed) stage. This is a fairly common approach because it’s an established way of only paying interest on what is being borrowed. These payments will however, be released in arrears; meaning that the individual stages must be covered by the developer, but the funds to pay costs and fees will be released in arrears at each stage boundary.

At this point, I’d like to take the opportunity of pointing readers in the direction of my posts on Financial Leverage in Property Investment and Development, and carrying out a Property Development Appraisal. This is so that you are aware of how to calculate how much you need to borrow and why it’s not a good idea to use all your own cash.

Be aware however, specific conditions still apply. Mortgage lenders are now more than ever, quite risk averse. All the usual conditions of obtaining a mortgage approval still apply:

You should definitely not be overstretching yourself too far. This is (arguably) one of the causation factors for the recession, too many people borrowing beyond their means to buy more and more expensive properties. This is currently the most common reason for rejection of mortgage applications. You simply have to be creditworthy.
You must have a good proportion of equity to invest. This is now usually around 10% minimum with the most generous of lenders on an owner-occupier mortgage (this level of gearing would not even be considered for a development project). A realistic figure for a property developer is around 50%-60% of the GDV. An alternative to this would be if you already own the land or pre-development property yourself.

In common with all professional developers, the novice must accept that full compliance with lenders conditions for each individual project is vital. It’s not like a conventional owner-occupier mortgage, where you simply pay the instalment each month and the provider more-or-less leaves you alone. Developing for profit is almost a joint venture with the bank. They must be absolutely 100% happy that you know what you’re getting into, or at the very least employing an experienced professional who does.

Apr 10th, 2011

Increasing the Value of a Property

To be a successful property developer and/or investor, you must learn to see your business or property through other people’s eyes. That is to say that if you intend to have a tenant occupy the property for example, you must think about how a prospective tenant will see your property when they view it. It is far too easy to make the assumption that your property (the ‘product’ of your business) is the perfect one for them because they have identical taste to you. Likewise, if a prospective purchaser arrives to view the property they are unlikely to be particularly impressed by a hot-tub installation or a state of the art media system as in almost all cases, a new property owner enjoys the process of changing the property to suit his or her own taste.

Have you ever noticed how builders change properties when they purchase them? This is yet another ‘pair of eyes’ that you should learn to view a property through. Builders know better than almost anyone how to add value to a property and fully maximise all features and benefits. This is one of the very reasons why they are probably about the most successful group of people at developing property. The other reason they are so successful is because they know how to carry out the development in the most cost-effective way possible. All materials and labour will be sourced shrewdly. Extensions, loft conversions and conservatories will be added to the property wherever possible. Rooms will be knocked through to make open-plan areas, en-suites and downstairs loos will be added and cellars (where present) will be used, all for the purpose of fully increasing the value of the property. They are very successful at it too. Be aware though, that in the majority of cases, planning permission must be sought to ensure legal compliance.

The way in which the extensions and loft conversions etc increase the property value is simply by increasing the internal property area. That’s it; the most certain way of increasing the value of a property is to increase the internal dimensions. There are some other ways to increase the value but they are not as reliable as ‘square footage’. They will be discussed later.

Property valuation is described by property professionals as ‘an art, not a science’. This means that there are no difficult calculations to carry out and no secret information that only estate agents are privy to. The majority of property valuations are based upon ‘comparables’. Comparables (in the context of property valuation) are similar transactions completed recently, that provide a guide to the likely sale price of a particular property. So to use a very basic example, if a 2 bedroom flat sold 3 months ago for £220,000; and another 2 bedroom flat sold 4 months before that for £215,000, then it would be fair to say that any similar 2 bedroom flat is likely to sell for a similar amount now. This is the technique that estate agents and valuers use, and it’s also the technique that anyone who knows the property market in a particular area uses. It really does not take long to get the feel for an area and whether properties are over or underpriced.

Property features such as garages, swimming pools, a quality kitchen and bathroom will also add value. However, there is a danger that you might not recover the initial cost of these things in the eventual sale price of the house. A double garage can cost around £10,000 to have built, but it is not guaranteed that it will make £10,000 worth of difference in the value.

So what happens if you have a property that cannot be extended or substantially altered such as a terraced house or a flat? There are still many ways that the value can be increased, it’s just a little trickier. This is because it depends so much on the property itself and the prospective owner or tenant you are hoping to ‘sell’ to. If the property is Grade II listed for example, period features must be kept and probably even emphasised. A high quality finish to the kitchen and bathroom is probably the most reliable way of adding value in this case. Materials such as slate and oak are instantly noticeable and will give that impression of quality.

In more modern and unlisted properties, the alteration of various internal walls to allow more natural light into the property will help a great deal as this will give the impression of extra space. This can also be done by adding velux type windows where possible or a ‘Sky Tunnel’. In these types of properties, it’s easier to alter things to maximise the feeling of space because you aren’t limited by the traditional layout and features of listed properties.

The modern practice of adding en-suite bathrooms wherever possible should be discussed here. A master bedroom (in a property with multiple bedrooms) with an en-suite is a clever move. If the property has more than 3 bedrooms, an en-suite to the 1^st and 2^nd bedrooms is a good move too. However, an en-suite to every single bedroom is too much. Once the bedrooms begin to get smaller, en-suites simply rob the room of valuable space. If you are hoping to sell or let the property to a family with young children, an en-suite will be useless in a baby or infant’s room. A single bedroomed property is not really suitable for an en-suite either. One bathroom/toilet is plenty.

Jan 25th, 2011

Finding a Good Builder

Finding the right builder is one of the most important aspects of any development project. People you might speak to seem to have no end of horror stories to put you off the whole idea of property development.

Make no mistake however, there is potential to completely ruin a project if the builder turns out to be totally incompetent. Anecdotal evidence of this is really not difficult to find. However, it really isn’t that difficult to find a builder who will accommodate your plans.

The majority of novice property developers carry out at least some of the work themselves. The main reasons for this are:

1. To save money. All work done by you is free; or is it? There is what is known in economics as an ‘opportunity cost’. This means that if you spend most of your evenings and weekends renovating the property, what are you missing out on? It’s likely to be opportunities to spend time with family and relax. This is the cost.

I can also assure you from experience that working a full time job and spending all your free time working on a renovation is a very effective way of becoming stressed, fatigued and highly inclined to look for a convenient way out of the project before you complete your goal. Think very carefully, and be realistic about what you can achieve in the timescale you have planned.

2. To maintain an element of control over the project. Again, do not underestimate the amount of stress generated by a renovation. This can be down to deliveries not turning up, the wrong item being delivered, builders not understanding your requests, unforeseen problems etc. If you are involved with the project on a daily basis, this stress can be reduced as the problems are less likely to all come at once. However, this brings us back to the above aspect of spending all your non-work time at a building site.

Project management is a good way of maintaining control over your development. This does not all need to be carried out on site so it is more suitable for novice developers who also have ‘normal’ jobs. Builders often have the facility of bringing in their own Project Manager. You will need to carefully consider the level of free reign that you are willing to grant them though; you don’t want them ringing you dozens of times a day for approval, and likewise you don’t want to lose touch with how it’s all going.

It is said often, that the best way of finding a good builder is through word-of-mouth. This is very true, however what happens if an abundance of this information is not available? To start with, a simple look through the Yellow Pages or Yell.com will produce some results of local builder’s availability. If there’s an advert or website, simply look for the symbol of the ‘Federation of Master Builders’, in fact the FMB run a website – www.findabuilder.co.uk. This site lists individual trades as well as general builders and particular specialisms too, such as agricultural buildings, loft conversions or groundworks. The site also has a page for free contracts that are recommended to be used with their members.

Other sites that run a similar service are:

1. www.mybuilder.com.

2. www.goodbuilderguide.co.uk

3. www.findpolishbuilder.com

4. www.findatrade.com

These sites are an excellent idea, as they list feedback for individual builders and even photos of work carried out by them. However, I strongly recommend doing your homework on any builders found on these websites. It will not come as a surprise to mention that these websites do not offer any form of gaurantee whatsoever for the builders listed.

I would also like to add that it’s never a good idea to employ any builders that call house-to-house. It’s often difficult to find any background information on these people and let’s face it, if they’re any good, why are they calling at houses rather than working? I am also ‘reassured’ by the builder turning up in a van that’s in good condition and with professional signs (for the right company) on the side. It just gives the impression of a good, healthy company who are less likely to disappear with your money before completing the work.

The builder should see the property as soon as possible to get an idea of the work to be carried out (if you use one of the above websites, the builder should have supplied an initial estimate based upon the scope of the work initially described) he will no doubt want to confirm this work by looking at the development project itself.

The builder you use should be covered by Public Liability insurance (this is quite likely to be in place if a reputable builder is found, but definitely check). Many builders can offer a NRWB (National Register of Warranted Builders) Warranty; this is another excellent indication that they are not cowboys. Any time schedule that you are keen to follow, should be discussed and included within the contract.

The scope of the work is one of the most common sources of disagreements between builders and their clients. The problem is not usually the initially specified work, it’s the little extra bits that you might believe shouldn’t amount to much, but the builder thinks otherwise. It is very important to regularly discuss with your builder the progress of the project. Unless you are attending the site every day, regular phone calls are important. Better still, make a point of visiting the site every couple of days or so; this might contradict the advice regarding not spending all your free-time on site, but the visit need only be brief. The point is that it is very important to strike up a good working relationship with your builder.

To ensure that the Scope of Work that you provide for the builder is the same for each one you speak to, write it out and quote it word-for-word each time you ask for a quote. You should also remember that a quote is not an agreed cost for the work, it is just a fairly rough estimation. The quote should also include VAT. If you’re offered a discount for cash, then alarms bells should be ringing in your head. That’s not to say that anyone who offers this is a cowboy, but if their financial turnover is above the HMRC threshold they’re breaking the law.

A fixed-cost arrangement is a very sensible one to ask for. This obviously enables you to draw up a budget with a reasonably accurate figure. However contrary to some popular belief, a fixed-price contract is not always 100% guaranteed to be particularly ‘fixed’. The conditions will be specified within the contract, but any work beyond the scope of the original specification will almost certainly cost extra. The method of pricing this extra work should also be stated in the contract. The contract should really be downloaded from the Joint Contracts Tribunal (JCT). The JCT are an organisation who offer standardised contracts for the construction industry. Their ‘Homeowner‘ section provides contracts for building work that are really easy to complete. I highly recommend the use of one of these!

Nov 2nd, 2010

Why the banks can’t win

This post is a bit of a rant I’m afraid. It’s in response to the constant contradictions in house prices and sales reports, and whoever is (apparently or supposed to be) to blame for them.

For the last year (at least) there has not been a single week when all sources of information have actually been in agreement on whether houses prices are rising or falling. As has been quoted many times – “the problem with predicting the future is that’s impossible”. The fact is that residential property values are fluctuating at the moment. This means (as far as I can see) that they ‘want’ to slowly begin to increase (their natural state) but certain factors are holding them back or restricting a rapid increase in some way. What could that be? Well, considering the vast majority of prospective property owners need to borrow to fund their purchase, it would make sense to conclude that the banks are now limiting their lending. If you regularly read reports in the papers (especially from the US) you would be forgiven for believing that the banks do not want to lend at all, and they are turning away a good 90% of applicants.

We all now know what caused the recession. It was the freely available level of credit that was underpinned by property values. As residential (and commercial) property values appeared to be increasing for so long, many people (and businesses) borrowed continually on cards and loans; comfortable in the knowledge that it could all be paid off, simply remortgage their property (what’s the harm?) and carry on. All it took was a realisation by the banks that this level of credit was going a bit too far, and a subsequent ‘tightening’ of lending criteria and it all ground to a standstill. The widespread belief that mortgages were almost unobtainable by anyone, lead to condemnation of the banks; they had gracefully accepted a huge amount of the public’s money (generously offered by Mr Brown and Mr Darling) and now they wouldn’t give any of it back to us. Bankers were conveniently demonised by most of society (initiated by Mr Brown, I seem to remember) as being responsible for the whole thing.

However, I simply do not believe this to be the case. Admittedly this is due to personal experience and subsequently, I am open to comments to the contrary. I have several friends and associates who have had no problems whatsoever in obtaining a mortgage within the last couple of months. When the banks changed their criteria for providing mortgages, the vast majority of people affected were remortgaging their property. In most cases to pay off high levels of personal debt accumulated on credit cards and through unsecured loans. Only a very small proportion of the applicants turned-down were actually purchasing a property. This would suggest (to me) that the new criteria for lending had generally been introduced to be of benefit and that only those applicants deemed uncreditworthy were refused. Obviously many readers are likely to have anecdotal evidence to the contrary, but this I strongly believe is the case.

Surely, if the banks are to blame to ‘getting us into this’, by being too generous with their lending, they should be thanked for taking steps to becoming more choosy with their credit recipients.

I believe that a general ‘baseline’ for property values is the total build cost. Obviously this is linked to land value which is in turn linked to completed property values…such is the intricate nature of property economics. Land values and build costs do tend to be less sensitive than the completed property values. However we are now getting down to levels that are more in line with these costs, and so my opinion (for what it’s worth) is that property values haven’t really got much space to fall further (I hasten to draw the reader’s attention to the site disclaimer by the way).

As for these reports in response to property values and markets, the ‘natural’ state of the property market is a gradual increase; attributed to the desirability of property ownership and it’s relatively short supply. I believe all the reports should be viewed with a degree of scepticism and an educated opinion should be formed over the long term. This approach will enable you to make the decision to buy or sell with confidence.

Sep 18th, 2010