‘This is a great book to understand the complexity involved with real estate development.

In this
seventh edition the author has clearly captured the major issues to be aware of to mitigate the
uncertainty that goes along with investing in a real estate development.’
—Dr. Elaine Worzala, CRE, FRICS, Carter Real Estate Center, USA

‘This book is a very comprehensive coverage of all aspects of the property development process,
with international examples highlighting key issues. The new section on sustainability is a
welcome addition as an important ongoing element in property development.’
—Professor Graeme Newell, Western Sydney University, Australia
Property Development

This fully revised seventh edition of Property Development has been completely updated to reflect
ongoing changes in the property field and maintain the direct relevance of the text to all stakeholders
involved in studying the property development process. This text has been in high demand since the
first edition was published over 40 years ago.
The successful style and proven format of the highly popular text has been retained to assist the
readership to understand this complex discipline. The readership typically includes anyone with an
interest in property including aspiring property developers, established property developers, property
stakeholders involved in the property development process, as well as any interested parties. In
addition this new edition of the standard text is ideally suited for all property development and real
estate students and will also be of interest to early career professionals and those pursuing similar
professional degrees in the industry and in wider built environment courses.
This new edition includes new content discussing the rise and significance of PropTech with all
chapters updated and enhanced to also assist lecturers and students in their teaching, reading and
studying. The book focuses specifically on development and outlines the entire comprehensive process
from inception, financing, planning and development stages within the context of sustainability and
urban global challenges. The chapters include introductions with chapter objectives, discussion points,
reflective summaries and case studies.

Richard Reed (PhD) has extensive experience in property and real estate in both the private and
public sectors. He has conducted research at many universities up to the level of professor including
the University of Melbourne, University of Queensland and Deakin University. He is the founder and
editor of the International Journal of Housing Markets and Analysis and currently is a director of
Reed Property Insights.
Property Development

Seventh edition

Richard Reed
Seventh edition published 2021
by Routledge
2 Park Square, Milton Park, Abingdon, Oxon OX14 4RN
and by Routledge
52 Vanderbilt Avenue, New York, NY 10017
Routledge is an imprint of the Taylor & Francis Group, an informa business
© 2021 Richard Reed
The right of Richard Reed to be identified as author of this work has been asserted by him in accordance with
sections 77 and 78 of the Copyright, Designs and Patents Act 1988.
All rights reserved. No part of this book may be reprinted or reproduced or utilised in any form or by any
electronic, mechanical, or other means, now known or hereafter invented, including photocopying and recording,
or in any information storage or retrieval system, without permission in writing from the publishers.
Trademark notice: Product or corporate names may be trademarks or registered trademarks, and are used only for
identification and explanation without intent to infringe.
First edition published 1978
Sixth edition published by Routledge 2015
British Library Cataloguing-in-Publication Data
A catalogue record for this book is available from the British Library
Library of Congress Cataloging-in-Publication Data
A catalog record has been requested for this book
ISBN: 978-0-367-85833-9 (hbk)
ISBN: 978-0-367-85835-3 (pbk)
ISBN: 978-1-003-01530-7 (ebk)
Typeset in Sabon
by codeMantra
For my parents
Contents

List of figures
List of tables and examples
Foreword to the seventh edition
Preface
Acknowledgements

1 Introduction

2 Land for development

3 Development appraisal and risk

4 Development finance

5 Property cycles

6 Planning

7 Construction

8 Market research

9 PropTech

10 Marketing and sales

11 Sustainable development

12 Emerging markets

Appendix: CPI by country, 2010–19

Index
Figures

1.1 The real estate process

1.2 Relationship between land use and proximity to the city centre
1.3 Rent-bid relationship between location and land use
1.4 Conventional decision tree process
2.1 Part of the Armstrong Creek East Precinct Structure Plan highlighting the project
2.2 Initial masterplan including HVOTL and easement
2.3 Updated masterplan without the HVOTL easement
3.1 Development timeline
3.2 Timeline of events
3.3 Status in 2003
3.4 Status in 2006
3.5 Status in 2012
3.6 Status in 2013
3.7 Status in 2014
3.8 Status in 2016
4.1 Global House Price Index (1980 = 100)
4.2 Global Industrial Capital Value Index (Q1 2003 = 100)
4.3 MSCI Annual Property Index: residential vs total returns (UK) 1990–2019
4.4 MSCI Annual Property Index: retail vs office vs industrial returns (UK), 1981–2019
4.5 MSCI Annual Property Index: hotel vs other vs all segments (UK), 1981–2019
4.6 Accumulated Annual Property Index (UK), 1980–2019
5.1 Characteristics of a typical cycle phase
5.2 Combination of varying length cycles affecting a single market
5.3 Property market, financial and economic framework
5.4 The concept of equilibrium in a real estate market
5.5 External shifts in demand for real estate
5.6 Over-supply scenario due to decreased demand
5.7 US house price cycles
5.8 Construction phases
5.9 Empire State Building: aerial view
6.1 Example of the UK planning process
6.2 Castle Towers Food Court
6.3 Castle Towers retail development
7.1 Hypothetical development project via bar or Gantt chart
 7.2 Cash-flow: fees/construction
7.3 Financial report: building costs
7.4 Checklist to monitor primary activities
7.5 Petronas twin towers
7.6 Twin towers retail shopping
8.1 Market research approach from broad to specific
8.2 Relationship between market research areas
8.3 Cross-tabulation based on land use by geographical location
8.4 Site of Watergardens retail centre
8.5 Watergardens internal design
9.1 PropTech conceptual diagram
11.1 ‘Three pillars’ model of sustainable development based on triple bottom line accounting
11.2 Four pillars model of sustainability
11.3 CSR pyramid
11.4 Evolution of rating tools
11.5 Canary Wharf
11.6 Canary Wharf construction
12.1 Construct for combining global, multinational and regional strategies
12.2 Steps in international strategy formation
12.3 Wuhan Huoshenshan hospital under construction
12.4 Wuhan Huoshenshan hospital construction site
Tables and examples

Tables
3.1 Investment yields and respective year’s purchase (YP)
3.2 Development timeline
3.3 Normal S-curve irregular pattern of expenditure
3.4 Sensitivity analysis and effect on adjusted developer’s profit
3.5 Level of developer’s profit expressed as a percentage (i.e. profit as a percentage of total
development value)
7.1 Advantages and disadvantages of design-bid-build procurement
7.2 Advantages and disadvantages of design and build procurement
7.3 Advantages and disadvantages of management contracting procurement
9.1 Horizontal and vertical PropTech sectors
11.1 Property development stages and the key potential sustainability issues

Examples
3.1 Residual valuation
3.2 Formulas for residual valuation
3.3 Alternative residual valuation
3.4 Cash-flow approach
3.5 Net terminal approach
3.6 Discounted cash-flow approach
4.1 Developer’s profit analysis
4.2 Developer’s profit analysis
Foreword to the seventh edition

The publication of this new edition of the standard text on Property Development is both timely and
welcome. The time since the previous edition has been characterised by ever stronger needs for
sustainability and governance, as well as sensitivity to an ever-increasing range of stakeholders. Major
changes to working and living practices are making the task of development more complex and riskier
than ever. In this context, the new edition of this book is most welcome, introducing new material that
responds to the recent changes in the way that the property market operates.
As well as clear explanations and useful approaches to analysis, the underlying concepts are
explored in order to provide the reader, whether student or practitioner, with a level of understanding
that will enable adaptation to continuously changing circumstances. This is essential reading for all
those involved in any aspect of property and construction. For undergraduate and postgraduate
students of property and construction, it is an indispensable guide and companion.
Will Hughes
Emeritus Professor of Construction Management and Economics School of
the Built Environment University of Reading, UK
Preface

The implications from continuing and unpredictable changes in the twenty-first century at the local,
regional and global levels present many challenges in the property development field. Reference to
COVID-19 and the GFC are two obvious yet unpredictable examples. Identifying and understanding
the opportunities and associated risks in every property development has never been associated with
so many different risks. Fortunately this task can be greatly assisted by the availability of knowledge
where this textbook has been specifically written to make this substantial contribution as a reference.
This is the seventh edition of this leading textbook that has been highly sought-after since the first
edition was published in the 1970s. Over time this popular textbook has been regularly updated to
reflect market changes including the increasing contribution of technology, the integral contribution of
sustainable practices and the importance of developing regions. The readership during these decades
has included a wide cross-section of stakeholders involved in the property development process
including students enrolled in university courses up to experienced and successful property
developers. In fact, anyone directly or indirectly involved in the property development process will
benefit from the contribution made by this textbook.
This edition includes 12 fully updated chapters based on feedback from industry stakeholders and
the readership. The successful chapter format has been retained including discussion points, case
studies and worked examples. The previous six editions have confirmed the success of this format and
readers of previous editions will benefit from the user-friendly nature of the layout.
The popularity of this textbook can also be linked to the direct relevance with stakeholders in the
property development process. The structure of the chapters and associated layout successfully
reduces a potentially complex topic into a straightforward and readable format. Following on from
earlier editions, this seventh edition retains the easy-to-read writing style where the use of jargon is
relatively minimal, however it also includes adequate detail where deemed necessary. This textbook
has reference to property development in most regions and countries since the proven principles are
directly applicable. Throughout the chapters there are examples and references to property
development on different continents to highlight the important relevance.
In this seventh edition there has been a focus on embedding sustainability throughout the textbook
as well as providing a separate chapter on ‘Sustainable Development’. Prior to the last edition there
was very limited reference to sustainability. Another expanded and renamed chapter is ‘PropTech’ and
clearly acknowledges the technological advances over the previous editions. In a similar manner to
many disciplines, property development is a process that is substantially assisted by computers as a
decision support system. The new case studies are designed to inspire the readership as well as provide
a practical aspect for the readership. As we continue to adapt to this rapidly changing world, other
chapters including ‘Property Cycles’ and ‘Emerging Markets’will assist to prepare for our
unpredictable future.
Acknowledgements

The following individuals and organisations are acknowledged for this invaluable assistance and
contributions.
Professor David Cadman for the unparalleled contribution and belief in the discipline of ‘Property
Development’ with the publication of the first (and subsequent) edition all those decades ago.
Ed Needle for his long-term support and encouragement in his role as Commissioning Editor for
Routledge Construction and Real Estate. Also Patrick Hetherington for his excellent assistance in his
role as Senior Editorial Assistant.
Andrea Ahearn (Brookfield Properties), Leanne Peters (Canary Wharf Group PLC) and Howard
Dawber (Canary Wharf Group PLC) for their contribution to the Canary Wharf case study.
Grant Brady and Marc Joshi (Queensland Investment Corporation Global Real Estate QICGRE) for
their contribution to the Castle Towers case study and the Watergardens case study.
Richard Nguyen and Liz Ronson (Jinding Developments) for their contribution to the Armstrong
Creek case study.
Vivian Leung (MRICS) – MSCI, Hong Kong.
Professor Will Hughes – University of Reading, UK.
Professor Elaine Worzala – College of Charleston, USA.
Professor Graeme Newell – Western Sydney University, Australia.
Dr Sally Sims – Oxford Brookes University, UK.
Chapter 1

Introduction

1.1 Introduction

Property or real estate development is an inevitable and unavoidable process undertaken in the
vast majority of locations throughout the world where there is freehold or leasehold ownership
held by private or government entities. Some exceptions do exist, for example when property is
preserved as vacant undeveloped natural land or buildings allocated a historical or heritage
designation. Often the reference to ‘property development’ is relatively broad and encompasses
practically any form of change to the property. In some instances this can equate to a very minor
development of the property to increase its value and retain the existing use, e.g. minor
refurbishment such as updating and painting. In other examples it will involve a material change
of use (e.g. from industrial or rural use to residential use) along with the associated processes to
ensure this will be a viable course of action.
The demand for continual property development is based on the premise that everything (and
everyone) is in an individual cycle and also has a defined life. For example the residents within
each home will continually change over time: no one lives forever. This process is often
accompanied by a change of ownership and potentially also a change of land use to ensure the
highest and best use (as opposed to current or existing use) is achieved. Hence property
development is an ongoing organic process that (a) surrounds us and (b) is perpetual. Most
importantly, real estate development shapes the way that people live and work, while in this
process it determines and enables human activity to evolve (Squires and Heurkens 2015).
Considering the in-use life of a structure can cover many decades and at times even many
centuries, ensuring the correct property development process is undertaken at the outset is
essential. However the process of property development is a mixture of both scientific elements
where striking an optimal balance will equate to a successful property development track record
(Lausberg and Viruly 2019).
This is the seventh edition of this very popular book that has been globally accepted over the
past 35 years as the leading text on the discipline of ‘property development’. The contents outline
and detail the theoretical concepts and explains the individual processes involved when
undertaking the many different forms of property development. At the same time it is also a
practical book that describes the process of property development and enables the reader to gain a
comprehensive understanding of both the fundamental concepts and the underlying conceptual
framework required for undertaking a successful property development in the ‘real world’. The
audience for this book is broad and encompasses a wide range of stakeholders.
From a readership perspective the content of this text is relevant for new property developers
and students who are seeking to identify and understand the important components and
actors/stakeholders when undertaking a property development. Equally important, this book has
also been written for experienced property developers desiring to revisit the theoretical concepts
underpinning this exciting discipline. Anyone with an interest in undertaking property
development will find this book to be informative. Included in the reference section, especially
for this introductory chapter, are numerous websites relating to examples of property
development organisations in order to provide information about property development. To
achieve success in this networking focused industry, membership of professional bodies and
attendance at their industry events and conferences is considered as practically mandatory.
During the period of time since the previous sixth edition of Property Development was
published there have been many global changes and challenges affecting the property
development environment and associated stakeholders. In a similar manner to many other areas
of business activity, there has been a substantial move towards globalisation and the property
development market is now undertaken on a global as well as on a national and local scale (Reed
2015). In addition there have been unforeseen economic challenges such as the COVID-19
pandemic and the preceding GFC (global financial crisis). Nevertheless the concepts and
discussions in this text are applicable in many different regions and countries where developed
markets are linked to a high level of property development activity. Importantly the emerging
markets have the largest amount of potential change, as well as future property development, so
are discussed in the final chapter.
Since the last century the trend towards adopting sustainability in development has continued
and arguably both indirectly and directly affects most types of property developments and real
estate analysis (Kauko 2019). This perception is linked to the higher profile of climate change in
wider society and the need to protect the current resources for use by future generations. Another
example is the ongoing popularity of green-related political parties, providing additional evidence
of this heightened awareness in many western societies. With most property development
approvals requiring some form of government input, sustainability is therefore embedded
throughout this text in addition to the dedicated chapter on ‘sustainability’.
The appropriate starting point is to define the term ‘property development’ for reference in this
book, however this definition can be slightly ambiguous and also varies depending on each
stakeholder’s perspective. This discussion commences with the understanding that no two parcels
of land are identical as each has its own unique set of attributes and accordingly requiring a
unique type of property development at a specific point in time. Therefore the definition adopted
in this text for property development is ‘a process that involves changing or intensifying the
material use of land to produce structural improvements for’. Hence it is not focused specifically
on the buying or selling of land for financial gain when all over variables (e.g. land area, existing
land use) are held constant, since the land itself is only one of the many essential components of a
successful property development. Other variables are numerous; for example including the
building materials, labour, infrastructure, financial capital and professional services. Today’s
property developers can benefit substantially from an ‘economies of scale’ approach and are no
longer limited to a specific local geographical location. Since property development is now
widely accepted as a global activity, this text therefore has an international perspective including
relevance to the property development processes in the UK, Europe, USA, Asia-Pacific and the
rest of the world. The varying locations of the case studies also reflect this high level of
globalisation in property development.
Property development is often incorrectly perceived from the outside as a glamorous and
sought-after occupation in comparison to a career in a traditional discipline, e.g. planning,
services. However little mention is given of the irregular hours and associated risk (and stress)
levels being intrinsic to the development process. Nevertheless property development is an
exciting and occasionally frustrating activity. At times it involves the use of scarce resources and
 large sums of money to develop a product that is largely indivisible and illiquid. Generally
speaking it can be a high-risk activity but does involve a high level of planning and co-ordination
to maximise the use of limited resources, primarily the limited supply of land. As the
development process is often lengthy and can take years from initial conception until completion,
the performance of external factors, such as the broader economies at the local and national
levels, are important considerations in the successful completion of a development. This can be
further compounded since the assumptions made at the outset may have dramatically changed by
the final completion. A successful development often depends on the level of attention to detail in
the process although success is not always judged in terms of profit and loss; for some it is
measured in social, emotional and/or aesthetic terms for example. Above all, property
development is, for many, a worthwhile, rewarding and exciting discipline that can be viewed as
a long-term career.
Due to the broad nature of property development and the many individual disciplines (e.g.
planning, finance, architecture, construction) that collectively fall under the umbrella of ‘property
development’, the reader is directed to each individual discipline to gain further detailed insights.
The ongoing popularity and success of the previous six editions of Property Development have
been founded on successfully striking a realistic balance between a broad overview of property
development and insights into the role of each discipline in the development process. The
emphasis in the text is on the practical application of property development where the reader is
taken through each stage (i.e. consisting of these individual disciplines) involved in the process.
In each chapter a series of discussion points are provided to prompt the reader to reflect on the
content of the previous section. These are also accompanied by ‘real life’ case studies included to
demonstrate the application of the various development stages covered in the various chapters.
Consequently this text is intended for both (a) those who already practice in this field and also (b)
as an introductory guide to students and those not fully established in the field. The reader should
be able to use this book as a reference text and benefit from the insights and feedback received
over the past 30 years covered by the previous six editions. Above all, the aim of this book is to
provide a proven framework for undertaking successful property development.

1.2 The development process

As indicated in the title, undertaking a property development is largely about the ‘process’ of
developing a heterogeneous and unique property in a series of different stages over time. A starting
point to understanding property development is to consider the direct and indirect relationships
surrounding ‘site’ and ‘improvements’ (see Figure 1.1) and the synergy between both. Many variables
are incorporated in the process commencing with this reference to ‘stages’ and ‘time’. There is no
generic approach here; property development is tailor-made and undertaken on a case-by-case
approach. Also considering the subjective input from the decisions made by humans, quite often the
decisions by two different property developers about how they would develop the same property will
differ. At the same time there are varying perceptions about what the property development process
actually involves, which is due in part to the region or country within which a property development is
occurring and also the specific location. A major property development in Paris or Tokyo, for example,
will be considerably different in many aspects from an alternative property development in a regional
town. Whilst the overall theory is generally similar, no two parcels of land are identical, therefore
ensuring each property development has its own unique aspects and development challenges.
Figure 1.1 The real estate process (Source: Graaskamp 1981)

From a basic perspective the process involved in property development has similarities with other
industrial production processes. It involves the combination of various inputs at specific timings in
order to achieve a desired output or final product. In the case of a successfully completed property
development, the final product is the result of a change of land use and/or a new or altered structure in
multiple stages combining the factors of land, labour, materials and finance to produce a varying level
of profit and risk, however this is dependent on the amount of financial outlay allocated to the other
preceding components. The synergy between land and improvement is the focus here. It must be noted
that, in actual practice, the successful implementation of this framework also ensures the process can
become complex if poorly understood, especially since a development often is undertaken over a
considerable amount of time, i.e. years.
When the property development is completed then the final end product can never be exactly
replicated, either in terms of its physical characteristics, the location, or both. Arguably no other
process operates under such constant and visible public attention, nor in recent times have varying
property developments received so much interest in broader society. For example the international
quest to construct the world’s tallest building over time is clear evidence of the interest in new
property developments, with this view further supported by a high international interest and demand
by individuals to visit such properties.
The overall development process can be generally broken down into eight separate stages:

1. initiation
2. investigation and analysis of viability
3. acquisition
4. design and costing
5. consent and permission
6. commitment
7. implementation
8. leasing/managing/disposal.

Note that each individual stage may not always be used and also they may not follow this specific
sequence and/or at times may overlap or be repeated. For example the commitment stage (stage 6) may
occur in an earlier stage where the purchase contract is subject to planning consent and permission
(stage 5) that may be formally confirmed in a later stage. There are many other factors affecting the
sequence and timing of the stages. Another consideration is whether the development is either a
speculative project or a design-and-build project. The sequence listed in the above scenario is typical
of a speculative development where an occupier had not been identified at the time when the
commitment phase (stage 6) of the property development was undertaken. Alternatively if the
development was undertaken based on a design-and-build approach and then pre-sold to an occupier
or alternatively was pre-let to a long-term tenant, then stage (8) would precede stages (2) to (7).

1.2.1 Initiation
The initial first stage of the property development process usually begins when either one of two
events occurs. It may commence when a parcel of land or site is identified and considered suitable for
a different or more intensive use than its current or existing use. Alternatively the second event that
may occur is when there is an observed increased level of demand for a specific land use, such as
increased population growth that in turn may cause higher demand for housing. Therefore this shift
leads to a search for a suitable site in a specific area.
Prior to commencement there must be careful consideration given and important questions asked.
For example ‘why has this development not been previously undertaken by another party?’ and ‘is
there a missing variable that has not been taken into consideration in the hypothetical analysis?’ If the
profit margin appears to be extremely high and all other factors are held constant (and all information
is freely available in the marketplace), the proposed development is perceived as high risk. Referring
to the laws of property economics, the level of risk for a property is generally commensurate with the
level of return and vice versa. For example a low-risk development will only have a relatively low
profit/loss profile; in contrast for a risk positive development there will be a high level of profit or loss.
The property market is relatively efficient in this respect and is assisted nowadays by the widespread
and instant availability of market information.
Acquiring detailed knowledge and a thorough understanding will allow the developer to make an
informed decision and estimate the appropriate level of risk/return. There are underlying fundamentals
behind the property development process being commonplace across different land use types. With
reference to improving vacant or undeveloped land, the amount of resources needed can range from
minimal structural improvements (for example to convert existing rural land to future residential land)
to major structural improvement in a city centre with accompanying higher density land use (for
example constructing an office building in a city centre). Note there are a large range of land uses in
existence somewhere between these two including residential, industrial, retail and office land use.
The location for each of these types of development is often largely driven by their proximity to cities,
towns and transport networks, which is linked to the level of demand. For example the requirement for
additional office space is closely associated with the number of white-collar office workers.
Refer to Figure 1.2 for the underlying proven rationale for the location of each land use where Von
Thunen’s original 1826 model provides an accepted and somewhat broad framework for
understanding variations in highest and best land uses based on limited supply in the city centre and
the hierarchy of higher returns for office, then retail, industrial and so forth. Note this model is very
theoretical (i.e. not 100% practical due to the perfect concentric circles ignoring geographical
constraints) and also ignores any limitations imposed by legal or planning regulations designed to
protect against non-conforming uses. Nevertheless it provides a useful starting point for a broader
understanding about the property development process.

Figure 1.2 Relationship between land use and proximity to the city centre (Source: based on Von
Thunen 1826)

The main focus in this book is alignment towards the more intensive land uses in Figure 1.2, where
there is increased pressure to develop the land to its optimal capacity. Accordingly this emphasis is
placed on the land uses where future property development is most likely to occur. For example, retail
land use has a relatively high level of obsolescence partly due to changing demand trends and
consumer tastes, which in turn ensures the continual development or redevelopment of retail property
including shopping centres. In this book there are references to examples of higher intensity land uses
such as retail, office and industrial property as well as lower intensity land use including broad scale
residential development. For example the diagram in Figure 1.3 highlights the globally accepted
landmark rent-bid model for the high-density Chicago office market and closely examines the actual
property locations and the rents per unit of area. Reference to this model can be made for many high-
density areas and therefore can greatly assist property developers to analyse the levels of demand for
various land uses in areas such as a city centre. Caution must be exercised from a practical perspective
due to the unique locational variables intrinsic to each city. Note that individual land uses actually vary
in their geographical or spatial layout in each town/city and are not always distributed in a purely
theoretical or simplistic pattern as shown in Figure 1.2. For example if this model were transferred to a
residential development then it would be affected by other variables such as access to or views of
water (e.g. ocean, lake) and location to transport, schools and retail facilities. More recently many city
centres have evolved into mixed-use locations combining office, retail and residential land uses.
Taking this concept one step further, it is now commonplace for a property development to contain
various land uses, such as a single office building incorporating ground level retail and a combination
of office and residential levels, or alternatively an industrial building with partitioned office space.

Figure 1.3 Rent-bid relationship between location and land use (Source: based on Alonso 1964)

Other trends in new mixed-use property developments include the use of creative planning and
design strategies to harmoniously combine multiple land uses then benefit from their synergy.
Relevant examples include:

Office/retail/residential: office buildings being predominantly office space although with a large
proportion of retail on the lower levels with residential accommodation or a school located on
the upper levels.
Large format retail (or bulky goods warehouses) being often located in close proximity to a retail
shopping centre but that have an industrial design and construction.
Hotel/residential: multi-level buildings with the lower half as a hotel and the upper half allocated
to private residential, where both land uses have full access to all amenities including pool, gym
and common areas.
Retail/office/residential: regional shopping centres containing predominantly retail space
accompanied by a substantial office component and also a large medium density residential
component.
Residential/retail: especially with reference to inner-city multi-level developments the bottom
levels can include restaurants and retail outlets to cater for the residents living in the building.

The importance of sustainability will continually be incorporated into the property development
process and also is a means of ‘future-proofing’ for the decades ahead. This integration commences
with the initiation phase and increases throughout the development until completion. When referring
to the design phase and incorporating sustainability, many stakeholders perceive sustainability as
reduced future risk and are looking for buildings considered ‘agile’ and that can be adaptive to future
changes in demand, as opposed to the traditional option of demolish and build. For example an agile
high-rise building can be converted from office to residential use or alternatively from industrial to
retail use. Therefore potential to ‘adapt’ the building from one land use to another, with relatively
minimal disruption and time delay, has become an important and sought-after design feature. This
process requires forethought in the design phase to ensure the structural features of the existing
building do not constrain the future use and prevent changes; for example changing from ‘office’ to
‘residential’ by locating services (e.g. water supply and sewerage) and placing supporting columns
where they will not have an adverse effect on the use. Agile buildings are particularly sought-after in
the inner-city areas where there are often multiple adjoining land uses, such as in a particular precinct
including office, retail and residential.
The initial catalyst for the property development itself can vary. At times it can be traced back to
one of the stakeholders in the property development looking for an appropriate new site to meet their
needs; for example a finance company seeking vacant land to construct a new office building so they
can amalgamate their inefficient smaller leases in multiple buildings. Alternatively a stakeholder could
be looking to redevelop or expand an existing site, such as a retail shopping centre, and therefore need
to acquire adjoining residential houses for land required for the retail extension. These changes in
demand may be due to any number of influencing factors and are influenced by the constant state of
change that occurs both directly and indirectly within the market. Typically the factors negatively
affecting an existing land use or development use are usually referred to as a type of obsolescence
such as economic, social, environmental, physical, legal, historical obsolescence and so forth.
Identifying and quantifying obsolescence is another challenge for every unique property development.
Often it is impossible to disentangle those forms of obsolescence affecting a specific property and to
what extent, as several factors may interact and negatively affect a property which in turn will cause a
decrease in value over time.
To ensure the highest amount of efficiency, it is an accepted theoretical concept in property and real
estate markets for the land (and any improvements that are affixed and now form part of the land) to
be at its ‘highest and best (legal) use’. Note in this context this reference to ‘legal’ use refers directly
to statutory planning authorities who seek to separate non-compatible uses and maximise efficiencies
in urban landscape through planning legislation. Of course this level of highest and best use may vary
substantially from the current use due to market inefficiencies. One example would be a residential
area that has gradually become predominantly changed to industrial use over time although a small
number of homes are still occupied. Due to this gradual change, the ‘highest and best’ land use for that
particular area has also changed. This type of trend should be acknowledged by the property developer
as soon as possible otherwise a new residential development may become obsolete soon after
completion. Hence many developers consider themselves to be ‘visionaries’ and provide a completed
property development that will be in demand well into the future.

1.2.2 Investigation and analysis of viability

In the preliminary stages of the property development it is essential for detailed market research to be
undertaken. With developments in technology and the widespread availability of decision-support
systems to assist the developer, such as GIS (geographical information science) and scenario
modelling software, the risk of not developing to ‘highest and best use’ in the current and foreseeable
market has been substantially reduced (Reed and Pettit 2018). Regardless of how much assistance is
available from decision-support software there remains a need for a successful developer to be
subjective and base their decisions on past experiences and their holistic knowledge of the market.
The stage of fully investigating, evaluating and modelling the detailed process of a property
development is fundamental to the successful completion of the project. It cannot be underestimated
and many proposed developments do not proceed further due to an identified exposure to unacceptable
risk. Any errors or misjudgements at this stage can have an adverse effect on the financial viability of
the project, potentially during an individual development phase or upon completion. It is accepted
there have been many property developments, at times being high profile and on an international scale,
which have made a substantial financial loss upon completion due to other mitigating circumstances.
Today the task of scenario planning for a hypothetical development has been substantially assisted by
computer software programs where detailed costings and potential scenarios can be closely examined
with an accompanying viability analysis. The critical importance of undertaking a rigorous
investigation and evaluation cannot be underestimated here, since losses due to poor planning or
undue haste can largely be avoided.
There is no doubt the evaluation stage is the single most important part of the property
development process and ultimately determines the success or failure of the project. In other words,
‘failing to plan is planning to fail’. This stage enables the developer to create the essential framework
for the project management of the development and then influences every decision made throughout
the entire development process. A comprehensive investigation and evaluation must include market
research, both in general and specific terms, and also examine in detail the bottom line financial
viability of the proposal. This approach is based on the proven methods for assessing the financial
viability of a property development (see Chapter 3), although the data input and reliability factor will
depend on the depth of the market research (see Chapter 8). The real estate market works largely on
the premise that ‘knowledge is power’ since not all reliable property data is commonly available for
free.
In many countries it is very expensive to gain access to accurate detailed information and it can be
very tempting here to forgo purchasing this data to save money. However selecting the option of not
purchasing the data would increase the potential for unknown factors in the proposed development,
thus increasing the level of risk. These risks are arguably higher for the less professional developer
who may be more inclined to cut corners to save money. One outcome from the process of
undertaking the assessment of financial viability is the level of assurance about the success of each
project if undertaken and completed. This evaluation should be approached using a minimum number
of assumptions, although all forecasts will incorporate some assumptions and judgements based on
limited known information and past experiences. There will also be a distinction here between
public/government and private development projects and their respective reasons for undertaking the
development in the first place. A proposed development in the public and/or not-for-profit sectors will
not likely have placed financial profit as the primary driver behind undertaking the development,
however they will be aiming to minimise development expenses and be cost-effective, accountable
and transparent. In contrast the private sector will be profit-seeking and aim to maximise the financial
return to shareholders whom they are directly accountable to.
The evaluation stage may also be used to assess the market value of a vacant site with the potential
to be developed either now or in the future. In any given market there is usually some availability of
vacant land or alternatively some land with under-utilised improvements. This approach is
commonplace and an evaluation of a particular site may occur on a regular basis, often with the
viability analysis concluding the development is not profitable at this point in time due to excessively
high exposure to risk. This may be due to external forces such as the high borrowing (holding) cost of
finance over the entire development period or a lower final sale price of the completed project due to a
projected depressed market upon completion in the property cycle. Timing is of paramount importance
here. Over time the market dynamics between supply/demand and the economic climate changes
ensure that most sites can be eventually developed in due course. A vacant undeveloped site is not
typically at its highest and best use.
It is accepted that the investigation and analysis of viability phase must be conducted before final
commitment to the property development. Overlap here is not possible and delaying completion of this
phase or underestimating its importance is the most common characteristic of a failed property
development. This stage also allows the developer to evaluate various hypothetical scenarios in turn
allowing the developer to retain a degree of in-built flexibility. The professional team assembled by
the developer usually includes architects, quantity surveyors, accountants, planners and valuers. The
final decision to proceed and accountability for the bottom line profit/risk evaluation always rests with
the developer, based on the findings from the detailed investigation and viability analysis. Note that
when/if a development is approved by the stakeholders and proceeds to the next stage, the viability
analysis must be continually re-evaluated and monitored throughout every stage of the property
development. This also will ensure that all stakeholders can be kept informed about all aspects of the
project as it progresses through each stage and that adjustments can be made where necessary. It is the
ability of the developer to be a visionary and problem solver to ensure the project is successful, as well
as adapting to change. The buildings and improvements that were sought after in the past will be
obsolete in the future. The development needs to be in demand from the time of completion.

1.2.3 Acquisition
If the feedback from the investigation and viability analysis stage has been positive, the decision to
proceed is then usually made. There is a considerable amount of preparation required before the site
can be acquired and the development actually commences. Preparation prior to acquisition should
include the stages outlined in Figure 1.4.
Figure 1.4 Conventional decision tree process

(a) Legal investigation

In most cases the site will be identified and purchased with the specific intention of undertaking the
development project. One exception is when the site is already owned by the developer, although this
is rarely the case. Prior to purchasing the site the developer (i.e. taking the role of the prospective
purchaser) will conduct a detailed examination of all legal and planning aspects of the site. This
process will commence with analysing the type of ownership or tenure of the site including the nature
of the ownership rights, the characteristics of the owners/organisation and their background, e.g. if
they are located overseas or in the same locality. It is essential to identify any easements, outstanding
encumbrances or liens on the title, which could be potentially transferred to an unsuspecting new
purchaser as they are often permanently attached to the land itself and can adversely affect both use
and value. If the site is being acquired as a purchase in the open market between a willing buyer and a
willing seller, these factors may adversely affect the time period required to transfer ownership of the
land to the developer. Any complications here could substantially delay the commencement of work
on the scheme and extend the total development period by many months or even years, which in turn
often would result in additional holding costs. In addition any delays in this stage may also result in
the loss of a potential tenant (tenant risk) who will not remain committed to a property with a high
level of future uncertainty.
If the site is being acquired by the public sector for the benefit of society then it may be acquired
using compulsory purchase powers; therefore some of the details mentioned above (e.g. willingness of
a seller) will not be relevant. However, where land is compulsory purchased it is still essential to
examine the title deeds and identify any encumbrances and other characteristics that may impact the
future use or value of the land. The assessed value of the property to be paid for compensation
purposes will rely on this information. Although the use of such powers can be time-consuming and
costly, the vast majority of property developments involving compulsory acquisition are completed
with the co-operation of the original site owners, either by disposing of their interests through
negotiation or by remaining a stakeholder in the development. The public sector may become involved
in the initial acquisition stage; for example to assemble an aggregate large site with many occupiers
and landowners since they can use their legal powers of compulsory purchase to ensure the tenure to
the land is secured. Note that the importance of sustainability also has a considerable bearing on the
compulsory acquisition process since the proposed development must be perceived as being as
sustainable as possible within the constraints.

(b) Physical inspection and examination

A comprehensive on-site physical inspection of the site and all structural improvements, if any, is
essential. This includes an examination and physical assessment of the potential of the site to
accommodate the proposed redevelopment for an existing use or development for an alternative land
use. Factors to consider include a detailed assessment of the site’s load-bearing capacity (i.e. the
provision of foundations for a potential multi-level building), access (i.e. ingress and egress both onto
and from the site for both construction and occupiers/tenants), natural drainage and proximity to
services (e.g. gas, electricity, water, sewerage) if these are not already in place. The existing services
(i.e. above-ground or below-ground electricity, water, gas, telephone, computer cabling) must be
examined to assess their capacity to meet the needs of the proposed development. If there is an
identified gap between (a) existing services and (b) the level of services required for the development,
the cost and relevant steps required to overcome this shortfall must be reliably estimated and then
factored into the development plan and financial calculations. Additional indirect costs, such as a
contribution to the local off-site headworks for the supply of water or sewerage for a major
development, cannot be ignored. For example the local government body may approve the
development, but conditional on a substantial financial contribution to the upgrade of the local water
supply pumping station. Alternatively there may be a condition requiring a financial contribution to
the government for a local park. The physical inspection should also look for other factors that may
affect the overall viability of the property development. This may include below-ground complications
such as an easement for a water main or an underground railway, or above-ground aspects such as the
height of the adjoining property and the interruption to views.
Other attributes of neighbouring properties should be noted if they have the potential to alter the
perception or desirability of the proposed development. An example would be if the proposed
development was a high-density residential development but the adjoining and use was as a major
railway station, adult detention centre or a 24-hour industrial factory. The characteristics of each
individual site will vary considerably but there should be an awareness of the potential presence of any
archaeological remains, contamination or associated stigma from a previous land use, e.g. due to the
removal of underground services and storage tanks from a gas station. A land identification survey by
a qualified land surveyor will normally be undertaken in this stage to confirm the exact dimensions
and configuration of the site. Factors such as archaeological remains or contamination can stall the
development process and/or require additional costs.

(c) Finance
Unless the developer is in the rare position of using their own cash/equity to fund 100% of the project
over the entire development period, there will usually be a requirement to borrow funds to finance a
portion of the costs associated with the development. From the outset it should be noted that the costs
associated with servicing the finance loan will have a major bearing on the overall viability of the
property development, especially for projects conducted over an extended time period, e.g. a number
of years. This is often the largest cost in the development. The terms and conditions associated with
obtaining finance must be on the most favourable terms available in the marketplace for the developer
before deciding to proceed. The level of interest rates will be based on the risk profile of the developer
and also the level of risk associated with the development. The subject of finance is discussed further
in Chapter 4.
Typically the types of finance required by the developer are either short-term or long-term finance.
Short-term finance is required to pay for costs expended both before and during the development
process itself. Long-term finance is needed to cover the costs associated with retaining ownership of
the development after completion in situations where, for example, the developer retains the property
for investment purposes. Alternatively the developer may seek a purchaser for the completed
development if the build is speculative. The availability and conditions attached to finance provided by
lenders can vary substantially. Part of the lender’s decision about whether to fund the proposal will be
based on other criteria including the viability and profit from the proposed property development that
will be closely scrutinised, as well as the track record and credit rating of the developer.

1.2.4 Design and costing

In the preliminary stages of the property development process it is normal to consider some basic
aspects of design and costing. This may be as simple as estimating the cost and feasibility of building
different types of structures on a particular site and varying adaptations. Most often there isn’t only
one option possible but rather various alternatives that are evaluated on a cost-benefit analysis.
The design and costing aspects are interlinked and often an iterative process is used until an
acceptable design is identified within budget constraints, as per the initial development brief. Clearly a
building with a complex design is usually associated with a higher cost and vice versa. The inclusion
of sustainable features often adds substantial additional costs and should hopefully be capitalised into
a commensurate higher rent or final sale price. Exceptions include if the final assessed value does not
fully incorporate the added value of incorporating sustainability attributes as much as anticipated, or
alternatively the sustainable features have been over-capitalised, e.g. more photo-voltaic solar cells
than the market deemed necessary. The overall design of each development is a balancing act between
competing interests. It is influenced by many factors including the client’s initial brief, public
perception and current architectural styles. At the same time the primary aim of the developer is
traditionally to maximise profit by maximising the development potential of the site. This is central to
the success of the development and its importance should not be underestimated, regardless of which
design and costing is considered to be optimal by different stakeholders.
Design is an almost continuous process undertaken throughout the property development and runs
parallel with other stages, becoming progressively more detailed as the development proposal
increases in certainty. Following on from the preliminary investigation into design options, the
developer may now have detailed knowledge of what design is required; this may be because the
likely tenant or purchaser has been identified and an agreement (in writing) has been reached. In the
case of a speculative property development proposal, it is commonplace for the developer to initially
consider a small number of conceptual proposals and to consult with real estate agents about potential
demand of each individual proposal, if completed. Investigating the design of other competing
developments is also important to ensure there is not over-supply and a competitive design aspect is
maintained. Therefore this process would lead to the professional team agreeing on a specific design
brief for the property development project. The importance of groundwork, at times, is underestimated
by inexperienced developers yet this groundwork undertaken for the brief will affect the ultimate final
outcome and also reduce uncertainty in the design phase. For extremely complex proposals it can save
substantial time, resources and substantially assist the architect to produce a design that meets the
needs of all stakeholders. It also should ensure market appeal for existing and future prospective
tenants.
 The preliminary design stages should be kept relatively brief in order to reduce costs before the
developer is fully committed to the scheme. Due to the unique nature of property it is not possible to
find two identical parcels of land, therefore the design itself only has relevance to that specific plot of
land and for that developer. This is an attractive facet of property development where a new approach
is required for each proposal, however it is accepted that many developers specialise in replicating a
particular type or style of property and building design. This approach can then be transferred between
each development based on adopting similar techniques in each stage from initial site identification,
design, construction and marketing.
It is essential for the preliminary designs to include sufficient detail to enable the quantity surveyor
to prepare an initial and reliable cost estimate, which in turn will allow the developer to prepare the
financial evaluation for different options. Although varying on a case-by-case basis, this initial brief
normally includes the following:

Architectural drawings with scaled floor plans showing location (or possible multiple locations)
of the proposed new building/s on the site, together with basic floor plans or sketches showing
the internal arrangement of each level in the building on individual levels.
Plans of the main elevations or a cross-section of the proposed building/s, together with an
outline specification of the required building materials and finishes, are often included at this
point in time. These plans together with the initial cost estimate should enable the developer to
prepare an initial evaluation of the development’s profit and risk level.

Following on, a decision may then be made to submit a detailed planning application for the proposed
scheme where there will be a requirement for the plans to be in substantially more detail. This will
require a full set of comprehensive plans showing the final layout, elevations, cross-section/s of the
building/s and detailed design specifications. Then the developer needs to increase their level of
confidence and certainty in relation to the costings in order to improve the accuracy of the financial
hypothetical development valuation and appraisal. Another objective here is to include minimal
assumptions. Based on this information the quantity surveyor needs to be able to produce a detailed
estimate of all building costs, which in turn will enable negotiations to commence with potential
building contractors either informally or via a formal process by inviting tenders. Additional care
during this phase will save time and expense at later stages of the development process, largely by
reducing the amount of uncertainty and therefore risk.
The design and costing stages typically involve input from all members of the professional team
with additional input from stakeholders such as the real estate agents and financiers. These
contributions continue throughout the entire construction phase of the property development. Most
importantly it is also the role of the developer to ensure there is fluent co-ordination between each
stage of the development when producing the design and costings. As the major shareholder, the
developer must ensure there are no delays to this process and project management software is
frequently used to chart each stage of the development process. In turn this enables corrective steps to
be taken to mitigate time delays and additional costs if there are unforeseen delays; for example a
delay in the planning approval by the relevant government body.
In most cases the final design will be very different to the initial design concept. This is due to the
input by stakeholders and therefore being through many design changes and alternations/modifications
before the final drawings are complete. It is important there is clear acknowledgement by all
stakeholders of a point in time when modifications can no longer be made. This is commonly referred
to as the ‘commitment’ phase where the time for significant and potentially costly design changes has
then passed. The only exception here is where there are unforeseen errors in the original design brief
or an external change, e.g. a recent change in planning legislation that must be addressed and
incorporated.
1.2.5 Consent and permission
It is common for a new development on a specific site to require a change of use from the previous
land use, such as an industrial site that is now to be developed as a medium-density housing
development. Since every proposed property development requires planning consent or permission
from the local planning authority then a change of use is dealt with at this stage prior to commencing
the property development. Further details relating to the planning process are discussed in Chapter 6.
There are many different variations as to what actually occurs next due to differences from an
international perspective. In many jurisdictions the developer may, where a building operation is
involved, apply for what is termed an outline (or ‘in principle’) application before full approval is
confirmed. In this context an outline planning consent establishes the approved use of the site and
states the permitted size or density of the proposed scheme. The developer only needs to provide
sufficient information to describe in limited detail the type, size and form of the scheme. Note that
outline planning consent, by itself in isolation, is most often not sufficient to permit the developer to
commence the actual development as a detailed planning consent is still required.
The detailed application that is usually submitted to the planning authority will explain all aspects
of the proposal with minimal assumptions, if any. The application will also include detailed drawings
and information about the location of the structural improvements on the land, access to and from the
site, design criteria, external appearance and landscaping. Where the development requires a change of
use, developers are usually required to submit the detailed application at the outset, effectively
bypassing the outline planning stage. In some instances there may be multiple outline applications
made if circumstances change before a developer purchases a particular site. If the design parameters
change after detailed consent has been obtained, then further approval is again required from the local
planning authority before proceeding further.
The developer will rely on their previous experience to make realistic initial estimates of the likely
timeframe and costs associated with obtaining the appropriate permission during the evaluation stage.
The task of seeking and being granted planning permission can become complex, requiring detailed
knowledge of the relevant legislation and policies as well as having essential local knowledge about
exactly how a particular planning authority operates. Enlisting the services of consultants to assist with
this process may be necessary and cost-effective when planning problems are envisaged or
encountered. If permission is refused by the local planning authority then the developer may be able to
lodge an appeal. The reasons for a refusal will vary between different regions and are often associated
with strategic agendas. For example an area may adopt a plan that limits the density of development
on the outskirts of a town or city, such as an ‘anti-sprawl’ policy (Klaus 2020).
The developer may be required to enter into a contract with the local planning authority where a
‘planning agreement’ is negotiated as part of a planning approval. In some countries (i.e. the UK)
these agreements used to be referred to as ‘planning gains’ and deal with matters that cannot be
covered as conditions to the planning approval. One example would be improvements to local
transport routes to improve local area access to and from the site when the development is finished.
Planning agreements must be signed before approval is granted and often impose additional
development costs (e.g. financial contribution to a park, provision of off-street car parking spaces)
therefore such agreements can directly affect the overall cost and viability of the scheme. It is not
uncommon for a property development to be stalled or stopped at this planning stage.
There are a variety of other legal consents that may be necessary before a development is allowed
to commence. These include gaining listed building consent (e.g. the right to alter or demolish a
‘protected’ or ‘heritage’ building); a diversion or closure of a right-of-way; removing or re-routing
existing infrastructure such as electricity lines; agreements to secure the provision of the necessary
services and infrastructure; and in all cases where building operations are involved, building
regulation approval. The prudent developer must clear all legal permission hurdles before commitment
to the development is possible.
1.2.6 Commitment
Prior to making a substantial commitment to the development each developer must be fully satisfied
that all the necessary preliminary investigations have been undertaken, which in turn will reduce
exposure to risk from unknown variables. Often this is referred to as undertaking ‘due diligence’
checks. The acquisition of statutory permissions must be satisfactorily negotiated before any
agreements are signed, since any additional time required to wait for these permissions would then
cause the developer to be liable for additional financial commitment and a further outlay of money.
After the work in the initial preliminary stage has been completed, the developer has a chance to
reconsider the proposal before fully committing to the development. This is the optimal time to
carefully review all factors that may affect the success of the development. For example, changes to
the economy may have affected underlying demand for the finished product. Another scenario could
be where land is subdivided for a residential development although between the planning application
stage and the completion of the first phase of the development some market preferences have changed
with regards to house size.
Even though the preliminary development phase was completed it is still possible for the developer
to make adjustments; for example to reconsider the optimal size of the subdivided vacant housing
allotments. This example highlights how critical it is for the developer to access detailed reliable
information and have adequate time to reflect on the status of the project throughout the entire
development process to ensure its viability.
The developer will endeavour to keep outlay or sunk costs to a minimum until all permissions are
granted and the actual title, either freehold or leasehold, has been transferred giving full access to the
site. Until this stage the expenditure will be primarily related to professional fees (e.g. planning
consultant, architect) and staffing costs for those who are co-ordinating the project. Certain factors
may affect initial costs, such as:

Professional teams working on a speculative basis in the hope of securing an appointment after
the scheme commences.
Developers acquiring land without planning permission (also referred to as ‘land banking’) with
a view to applying for planning permission at some future date. Development contracts entered
into are often referred to as Subject to Council Approval (STCA) and mean just that.

The next stage is for all parties to sign contracts for the property development. This includes the
contract to purchase or lease the land (e.g. 99-year ground lease), secure all of the finance required for
the project, engage the building contractor and also confirm the contracted professional team.
Contracts with all parties will usually be formed within a short space of time, ideally within a matter
of days, usually to avoid uncertainty and the risk of delays through prolonged negotiations.

1.2.7 Implementation
After a firm commitment has been made for a specific plot of land, the design and construction aspects
of any buildings on the site and the development costs will be spread out over the life of the project.
Once all the raw materials deemed essential to undertake the development process are in place then
the implementation stage can begin. Note the additional flexibility associated with design and
construction has been eliminated since the implementation phase has commenced. Whilst it is
important to maintain as much flexibility for as long as possible during the actual property
development stages, there is also a level of risk associated with being too flexible. For example the
inclusion of too much flexibility may lead investors to consider the future of the project uncertain.
The primary objective throughout the implementation stage is to ensure that the subsequent
completion of the development and the handover are both within (a) the allocated timeframe and (b)
the financial budget as contained in the proposal, although an allowance for contingency permits a
degree of flexibility for unknown variables, e.g. extreme weather conditions. There are no
compromises possible with regards to quality or taking ‘shortcuts’ to save time or money. Depending
on the experience of the developer and the complexity of the proposed development scheme, ensuring
the implementation runs smoothly is often achieved by employing a project manager to co-ordinate
the design and building processes. This is essential for large-scale developments. The project manager
and/or developer need to skilfully anticipate upcoming problems (if possible) and make prompt
informed decisions to minimise delays and extra costs. Note their qualifications, experience and tacit
knowledge come largely into play here.
It is common practice for the developer to take substantial interest in both the running of the project
and its overall promotion. The status of the property and the real estate market must constantly be
monitored in each property development stage to ensure the final product, when completed, will
remain close aligned to the market’s needs at that point in time. This objective might require slight
adjustments to the specifications to reflect market changes. Where the development is for a non-profit
organisation, the developer must aim to contain costs whilst at the same time maximising benefits to
the final occupier. The construction and project management stage of the development process is
further discussed in Chapter 6.

1.2.8 Leasing/managing/disposal
Although traditionally the final stage in the overall property development, it must be at the forefront of
the developer’s thoughts from the commencement of the scheme. This is because there could be an
adverse effect on the development’s value unless it is sold or leased at the estimated price or rental
value and also within the period originally forecast in the evaluation.
It is common for a tenant, either in the form of an owner-occupier or a lessee, to be confirmed
before the commencement of the property development or soon after the commencement of
construction. In turn this will reduce, or eliminate, the need for the developer to be involved in
marketing activity to secure a tenant. Also a tenant/lessor who is contractually committed to leasing
the completed development may want to have some input at the design and construction stages. This
will ensure a working environment that would best suit their staff.
Increasingly the need to secure a tenant for all or a substantial part of the development has been
influenced by financial institutions that provide the finance for a large proportion of the completed
development. It has become commonplace for the lenders to insist on set level of pre-commitment to
the total scheme (which can range from approximately 30% to 80% of the completed development
either sold or let by tenants) before the lender will commit to forwarding the finance. These
requirements vary depending on variables such as the risk profile of the developer and the level of
volatility in the property market. The final disposal of the completed property development may be in
the form of a lease (often long-term) or the transfer of the freehold interest to a third party. In the case
of a major retail development there are usually numerous individual small leases with single or
multiple anchor tenants in some centres. In direct contrast a small industrial development or office
building is often leased to only one or two tenants.
During the evaluation stage the letting and/or sales promotion strategy should be included in the
development planning as early as possible, then continually updated during each stage. A decision is
needed to determine the most appropriate time to sell or let the scheme. In some cases the
development may be completed or virtually completed prior to seeking an occupier although this
decision is often influenced by other stakeholders, especially the financiers or landowners if they have
remained partners in the project. If a suitable tenant has not been identified by the date of completion
or shortly thereafter, this will place the developer and stakeholders in a position where they are
exposed to additional risk, directly affecting financial risk due to ongoing holding costs with no
income stream. Reputations and goodwill may also be negatively affected.
At the commencement of the project the developer must decide what the final intention will be
regarding the tenure or ownership of the completed project. The decision may be to take on the role of
property investor and retain ownership of the completed development, or alternatively to sell and
realise a profit upon completion. However, this decision will depend largely on the motivation of the
developer, their experience and what they perceive their role is. This will also depend on other factors
such as the condition of the prevailing property investment market at the time, as well as the ability of
the developer to borrow funds over the long term in an investor role without adversely limiting their
borrowing power for future investments.
Every developer needs to be flexible to accommodate changes in the investment market prior to
completion of the scheme, especially when some larger developments can take many years between
the initial conception and completion. Careful thought must be given to the final anticipated
investment value at the initial evaluation and design stages, keeping in mind it is impossible to
accurately determine the value of any property in the uncertain ‘future’. If the decision is made to sell
the completed development to an investor, then the developer needs to fully research their
requirements. The location, design specification and financial strength of the tenant will be critical in
achieving the highest sale price for the investment.
To ensure the completion of the project runs as smoothly as possibly, it is commonplace for the
developer to engage the services of a real estate agent or a realtor to secure a sale of the property. They
will also ensure the property has maximum exposure in the marketplace to potential purchasers. The
real estate agent should be employed as early as possible to advise on the design specification of the
final product to ensure it meets the needs of the market.
The development process and the developer’s responsibility does not cease with the completion of
the construction process and final occupation. There remains an ongoing requirement for the developer
to maintain a relationship with the occupier, even though no direct landlord/tenant relationship may
actually exist. This enables the developer to keep up-to-date with occupiers’ requirements in general,
and in particular to understand the shortcomings (if any) of the completed building from a
management perspective. Management needs to be considered as part of the design process at an early
stage if (a) the final product is to benefit the occupier/s and (b) the developer maintains and enhances
their reputation. In reality the financial success of the development cannot be accurately assessed until
after the building is completed, let or sold. Often it may not be until the first rent review under the
terms of the letting agreement that the true picture becomes clear. The timing of the first review can
vary in different regions but is often three or five years after the commencement of the lease.

Discussion points
What is the sequential order of the stages in a property development?
To what extent can the order of these stages be changed?

1.3 Main stakeholders in the development process

The property development process has been divided into separate stages where in each stage there are
a variety of important stakeholders who each contributes to the outcome of the process. Some
stakeholders will be involved for a single stage, in more than one stage or may remain involved for the
entire development process. Each stakeholder will have their own perspectives and expectations
therefore an important role of the developer is to manage these diverse and often conflicting interests
to ensure the project runs smoothly and reaches a satisfactory conclusion. With so many diverse roles
the various stakeholders are discussed below in the approximate order they appear in the actual
development process. However, their importance can vary considerably between each project and not
all stakeholders will appear in every development scheme.

1.3.1 Landowners
The landowner plays an essential role in the first stage of the development process. For example they
may be engaged in initiating the actual development due to their desire to sell the land, or alternatively
they may seek to improve the value of their existing land by altering its current use. At times it will be
a hybrid combination of both of these drivers. On the other hand, a landowner may be unwilling to sell
their land and can become an obstacle to a proposed development. Without the willingness of the
landowner/s to sell their interest or participate in the development, no future development can take
place unless it is possible to acquire the land through compulsory purchase powers available only to
the government. Often the landowner’s motivation will affect their decision to release land for
development and this is the same whether the landowner is an individual, corporation, public authority
or a not-for-profit organisation. Each organisation may even take on the role of the developer, either in
whole or in part. Land ownership can be broadly divided into three categories, namely (a) traditional,
(b) corporate or (c) financial as detailed further below.

a. Traditional landowners include the Crown Estate, the church, aristocracy, landed gentry and
occasionally the older universities – for example Oxford in the UK. They have a significant
interest in land both in terms of area and capital value. They are not completely motivated by the
economic return on investment (ROI) and their reason for land ownership is often linked to
social, political and ideological constraints rather than a return on capital.
b. Corporate landowners are related to the term ‘corporate real estate’ or CRE. This group own land
that is complementary to their main trading purpose or existence, being usually the provision of
some form of production or service. In this category there are a wide variety of landowners
including rural farmers, manufacturers, industrial companies, extractive industries, retailers and
service industries. This list can also include public authorities such as central, local and
nationalised industries that own land that is complementary to providing a particular service or
product. Understanding the motivation for land ownership within the group can be relatively
complex, since their attitude to land ownership is directly linked to the core reason for their
existence, namely their product. In addition they may be constrained by their legal status and
therefore will not always be seeking to maximise the return (ROI) on their land holding or real
estate since the property component is secondary to their core business function and there may
be little apparent economic advantages of releasing land for development. If an organisation in
this group is forced to sell their land due to a compulsory purchase or resumption scenario,
although they are compensated for expenses related to relocating and temporary disturbance that
affects the operation of their business activities, then limited financial allowance is made since
they are unwilling sellers. In addition there are often intangible losses to commercial businesses
although such losses are often difficult to identify and value. This scenario would be different if
the landowner/s were residential occupants.
c. Financial landowners view their land ownership simply as an investment holding and will treat
land in the same way as stocks and shares. Therefore this type of landowner/s is often more
willing to co-operate with the proposed development if the return on their land is financially
attractive and commensurate with their level of investment risk. The financial landowner will
have a clear motive for financial gain. They are likely to be the most informed type of owner
regarding financial variables such as land values and the level of profit/risk level in the
development process. Some of the major organisations in this category are financial institutions
 including pension/superannuation funds and insurance companies who have a substantial holding
of real estate when measured by capital value. Financial landowners may adopt the role of the
developer directly, or alternatively enter into a partnership arrangement with a developer. Major
property companies generally hold large property portfolios and carry out development and
therefore may assume the dual roles of both the landowner and the developer.

Historically many landowners have played an important role in shaping the way in which land has
been developed and when. They have influenced spatial layout, the type of buildings, infrastructure
and the design of the landscape. More recently the introduction of legislation and the planning system
has reduced the level of influence a landowner can have on the type of development itself, however
they can still influence the location and planning of the development.
An additional challenge for the development to overcome is when there are several landowners
involved in a single property development. In this scenario every landowner must agree to the
development proposal. However the greater the number of owners and the smaller their holdings, the
more difficult it is to assemble a site for development. In these situations it can take years for the
project to come to fruition and commence which requires substantial patience and foresight in the role
of the developer.

1.3.2 Developers
Private sector development companies come in a variety of forms and sizes ranging from single person
entities up to global multinationals. As with many privately owned organisations their primary aim is
to return a profit and therefore maximise the financial returns for their shareholders. This is the
standard objective for practically all private sector companies, regardless of the product or service they
offer.
Developers primarily operate as either traders or investors. Due to limited resources such as
financial equity and access to borrowed funds, many small development companies act as traders and
have to on-sell each project they complete. Relatively few developers have sufficient financial
resources to retain ownership of a finished development project and also continue with another new
development. The traditional pathway for a developer is to increase in overall size and also build up
their goodwill and perception in the marketplace. This process gives the smaller trader developers a
chance to evolve upwards into an investor-developer thus enabling them to retain profits for
investment purposes. In contrast, some of the larger property development organisations, as measured
by capital assets, hardly undertake any new development, preferring to specialise in managing their
property portfolio and primarily carrying out refurbishment and redevelopment work.
Most residential developers operate solely as traders, historically developing and selling on for
owner occupation or to private landlords. Many residential developers also become substantial
landowners after undertaking successful developments over time. The reasons behind this are largely
associated with the smaller exposure to risk with this type of development due to the wider cross-
section of possible purchasers when compared to retail or office developments, and the smaller
financial outlay required when undertaking residential developments. Also there is a higher level of
demand typically due to the need for residential accommodation in all towns and cities to some
degree.
As the type of developer can vary substantially, so can their preferred type of development. For
example some developers operate only in specific geographical regions but are flexible with the type
of development; however others specialise in developing offices or retail schemes but in different
geographical areas. Others prefer to spread their risk by producing different types of developments in
different locations and countries. Nevertheless property companies formulate their individual
development strategies and mission statements in accordance with the interests and expertise of their
directors, their perception of the prevailing and future market conditions as well as following the
strategic direction they desire their organisation to pursue when looking forward. Once again their risk
profile is a major consideration of their type of development. Operating outside one’s level of
expertise will increase exposure to risk and caution should be exercised here at all times.

1.3.3 Public sector and government agencies

Government organisations and the public sector are rarely directly involved as the main driver in the
development process. Usually government organisations are primarily concerned and involved with
developments for the sole purpose of their own occupation, community use and/or the provision of
infrastructure that directly benefits the public. Furthermore, governments are public entities so need to
balance competing resources with political influences and are typically constrained by their financial
resources and limited by their legal powers. Government bodies, in most developed countries, are
required to be transparent and are usually publicly accountable for their actions. Their core aim is to
meet the overall needs of the community they serve.
The degree and type of government participation and involvement in the development process will
depend largely on whether the government seeks to (a) encourage development or (b) control
development in order to maintain standards. Many government authorities undertake their own
broader or regional economic development activities designed to encourage and attract property
development and investment to regenerate their immediate area and support economic growth. Some
of the more proactive government bodies act as a catalyst to the development process by supplying
land, and in some instances also buildings and infrastructure, to increase economic development of
their area.
The broader acceptance of public-private partnerships (PPPs) was based on this approach being a
means of a government-related entity undertaking major property development without the financial
outlay previously required by governments. This has also been accompanied by relatively long
leaseholds issued to private organisations, such as a 99-year ground lease, ensuring the property
ownership remains with the government and is less contentious. Where a government authority has
retained freehold ownership of a development site but grants a long leasehold interest to the developer,
this is often accompanied with a share of rental growth through the payment of ground rent over the
period of the lease by the private investor to the government body.
Most government policies restrict public body intervention in the development process unless it can
be clearly demonstrated that private market forces have failed to deliver an adequate level of property
development proposals, particularly in locations already targeted for economic development. For
example a government may have an urban regeneration initiative administered through a dedicated
governmental department. The primary role of such a department is to facilitate development for the
benefit of society whilst also attracting investment in partnership with the private sector. At times a
government body will be able to assist developers with particular development roles including site
identification, site reclamation, provision of infrastructure and possibly financial grants if a
government’s needs are sufficiently large and the financial resources are available.

1.3.4 Planners
The underlying aim of most planning systems is to control the use of land in the public interest by
encouraging development which is harmonious and to prevent ‘undesirable development’. Generally
speaking, planners can be divided into two broad categories: politicians and professionals. The
politicians, usually on the advice of their professional employees, are responsible for approving the
development plans drawn up by professionals in accordance with the current legislation, policy and
influenced to a varying degree by factors such as the size of the development, the number of objectors
(if any) and the current status of the government. Usually at a more detailed level the planners are
responsible for determining which applications relating to permission for development proposals
should be either approved or refused. In addition the planners are responsible for advising the
politicians and administering the system and day-to-day operation.
The underlying basis for determining planning applications is laid down by statute legislation and
typically supported by guidance notes and publicly available local and regional plans, such as strategic
development plans. Individual planning applications are submitted and ultimately decisions are made
with full consideration given to the development plans, government policy and advice, as well as the
previous and the unique circumstances surrounding each individual application. However in reality
there are often differences and conflicts in the planning guidance leading to some uncertainty, which in
turn causes most developers to employ planning consultants to assist them in direct negotiations with
the planners. In turn, this saves time and therefore reduces overall exposure to risk and hopefully time
delays. Property developers need to know what type of land use is acceptable, what density of
development is permitted or possible, as well as which design standards must be met in order to obtain
planning permission. A successful development application is usually achieved by undertaking a
process of prior consultation and negotiation with the relevant government authorities before lodging
the planning application. In some instances this may involve agreement by the developer to provide
infrastructure or community facilities in the case of a large development, sometimes referred to as
‘planning gain’. Examples include the provision of off-street parking, recreational park facilities or
perhaps a financial contribution to town water or sewerage headworks. In times of tight public
spending a planning agreement can be seen as a useful means of securing benefits for the community
without making any financial outlay. However the issue of planning gain has been controversial and
there is a limit as to how much profit a developer can afford to forgo to acquire planning permission
but also still ensure the development is financially viable.
Planning authorities, both national and international, differ widely in their policies towards property
development. For example those planning authorities in locations with low economic activity may
seek to encourage development activity by placing only minimal restrictions on development
proposals, particularly when this will increase employment opportunities. In contrast the authorities
located in areas of high economic activity mainly see their role as imposing higher development
standards, ensuring sustainable development practices are adopted and even slowing down the pace of
development in order to achieve a better balance between different land uses and improve the design
of buildings. In some localities this results in an increased level of conflict between property
developers and government planners, leading to a higher use of the appeals system. In some instances
this conflict is caused by the politicians ignoring the advice of the professional planners, which may
also result in high-profile planning applications being the subject of media attention.

1.3.5 Financial institutions and lenders

It is unusual for a development to be entirely financed with a developer’s own capital. Other sources
of financial capital are needed and therefore financial institutions play a critical role in the
development process. The term ‘financial institution’ has been typically used to describe pension
funds, superannuation funds and insurance companies. Now there are many different types of financial
intermediaries who supply a large amount of money in return for a secure mortgage or lien over a
property. Financiers include banks and companies with the primary aim of lending money they have
received from depositors. Other financiers include pension funds, insurance companies, clearing
houses and building societies who can all provide finance for property development purposes. A range
of other hybrid financiers emerged in the twenty-first century and developed some innovative funding
vehicles. Another type of financier is an off-market private syndicate, usually comprising a small
number of individual investors who collectively provide funding for a development without the use of
an intermediary such as a bank.
 Generally there are two main types of money required to complete the development:

a. short-term finance or ‘development finance’ to cover the costs during the development and
construction process; and
b. long-term money or ‘funding’ to cover the cost of retaining ownership of the completed
development as an investment.

A developer may not always decide to retain ownership of a completed project and may seek to
dispose of the development in the long term. This approach will allow the repayment of the short-term
loan and hopefully realise a profit upon final sale. Due to the lead time required before commencing
each development a full-time professional developer will be focused on multiple developments at the
same time. For example as the current development is being constructed they will be also searching
for and securing a site for their next development. This process will require careful management of
cash-flow re: holding costs for a vacant parcel over an extended period of time, e.g. years. There is a
popular saying in property circles that ‘ants don’t pay rent’where a site needs to be improved before it
can provide a regular return. Therefore a property developer must have access to substantial financial
capital for holding costs associated with land banking and be able to meet loan repayments without
any additional income.
Financial institutions are generally motivated by financial gain as they have shareholders who have
invested in their organisation. Therefore most financiers need to achieve an acceptable capital growth
in order to meet their financial obligations to their shareholders. In contrast to many developers,
financiers usually take a long-term view and importantly they understand that investment in property
is a relatively long-term investment. This is in direct comparison to other investments such as the
stock market where trades can be made every day including the buying and selling of the same stock
or share.
Financiers seek to minimise risk and maximise future yields. The yield on any investment is the
annual income received from the asset expressed as a percentage of its total capital cost or value.
Property and real estate is only one of a number of investments that institutions invest in. In many
countries the total proportion of property value in the entire portfolio is low and may represent only 5–
15% of their entire portfolio of investments although this varies between regions and the status of the
economy. It is commonly accepted that in the case of property investment, the financier will receive a
lower initial income when compared to a fixed-interest investment, however this will be compensated
by the long-term growth.
A financier may provide both short-term and long-term finance to a developer by what is called
‘forward-funding’. In other words they agree to purchase the development on completion whilst
providing all the finance over the interim period. Almost all the risk passes to the developer who will,
in the majority of cases, provide a financial guarantee. Alternatively they may act as the developer
themselves to create an investment where all the risk is theirs but they do not have to provide a profit
to the developer. In reality only very few financiers would decide to purchase a completed and fully let
development since they perceive the risk exposure associated with carrying out the actual build phase
of a development as being too high. In order to be persuaded to take on the risks associated with
development, rather than purchasing a completed and let scheme, they need a higher return on
investment, often referred to as a ‘higher yield’.
Regardless of whether acting as a developer, financier or investor it is noted that each of these
stakeholders will adopt relatively conservative and risk-averse policies where possible, although each
stakeholder differs in their individual criteria and strategic directives. Nevertheless each is fully aware
of the benefits of diversification with regards to reducing exposure to risk and seeks to achieve a
balanced portfolio of property types rather than focusing on one individual land use or development
only. Furthermore most developers, financiers or investors also aim to spread their investments across
different geographical markets. They are looking for properties or developments that meet their
specific organisational criteria in terms of location, quality of building and tenant characteristics, i.e.
financial strength. Therefore it is essential for developers to initiate proposals to meet the strategic
objectives of the financiers rather than solely for the occupiers. Financial institutions also seek
developments that will have the widest possible level of demand. Often this policy ensures their
advisers will adopt a low-risk conservative view and recommend the highest specification for the
development project. However there is an added risk for this can lead to over-specification and less
sustainable buildings, therefore resulting in higher future obsolescence.
The availability of funding to the developer depends largely on the risk profile of the developer,
their accepted industry track record and the availability of funding in the marketplace at the time of the
development. For example if the proposed development is not considered to be ‘institutionally
acceptable’ or the developer is not prepared or unable to provide the necessary financial or personal
guarantees, it is possible for the developer to approach the banking sector for funding. On the other
hand if the property development is being undertaken in a current or forecast period of rising rents and
capital values the developer may prefer to use debt finance to maximise the potential profit on
completion.
In some countries the financial lending market has been deregulated and therefore the lending
market is somewhat competitive and able to provide a variety of lending products. This includes
providing finance for both short-term and medium-term loans. Actual lending rates will vary
depending on variables such as the availability of finance at the time of the development, the risk
profile of the developer and the base lending rate of the central lending bank, e.g. government bonds.
Banks need to protect their interest in each of their investments as they do not want to be exposed
to risk associated with all of a single developer’s projects. In order to reduce the exposure of their
shareholders to risk, the financiers will usually register their interest on the legal title where this is to
be removed prior to final sale of the development. Property is attractive as security since it is a large
identifiable asset, is immovable and also has a resale value. In addition most external parties would
conduct a title search confirming the existence of any outstanding loans or debts associated with the
property. As financiers have an interest in the successful completion of the development they will take
a close interest in the attributes of the property and seek to ensure that the property is well located, the
developer has the ability to complete the project and that the scheme is viable. With reference to
corporate lending, the financier is primarily concerned with the risk profile and strength of the
development company, its balance sheet, reputation, profitability and cash-flow characteristics. In
certain instances and depending on variables such as the size of the loan and the financier’s level of
exposure to risk, a financier may be in a position to take an equity stake in the property development
scheme.
Residential developers who focus on building owner-occupier homes usually only require short-
term development finance, typically over months rather than over many years. The amount of money
they need to borrow is comparatively small in contrast to commercial developments. Loans of this
nature are often provided by a bank where the process is relatively straightforward. As with all
developers, the ability to raise finance and gain loan approval is predominantly based on their ‘track
record’ (i.e. credit rating) and the level of risk exposure to the lender.
For public sector developments, similar sources of funding are much more difficult to obtain due to
a higher level of accountability and transparency by public bodies. Another option for local
government bodies is to apply for funding through broader grants, such as the development of a
historical building into a residential one which would otherwise be unviable due to the added cost and
higher risk. Another project would be an urban regeneration scheme in a disused area. This type of
funding is usually acquired via a competitive tender process; often the process is targeted at creating
PPPs with development undertaken in partnership with the private sector and the community. The use
of PPPs is popular with some governments because they can bypass some of the common problems
associated with obtaining finance, however still retaining ownership associated with the land and
continuing as major stakeholders in the development. The private party leasing the land from the
government is also a major stakeholder in the development but their motives are typically profit-
seeking, therefore they will be primarily interested in the profit and risk potential of the development.
If the arrangement is both planned and co-ordinated correctly then all stakeholders can benefit from
this arrangement.
At times developers may be able to access financial assistance from the various government
agencies in the form of grants and rental guarantees. In this scenario the developer has to prove that
the project would not go ahead without such assistance and that it will provide either new
infrastructure or create employment opportunities for the local population.

1.3.6 Building contractors

Building contractors are employed by developers to undertake the task of physically constructing the
development scheme and their prime objective is direct financial gain and profit from completing this
task. There are many different forms of building contractors and construction companies with each
having a particular focus on the type of construction and/or the geographical area in which they
operate. In addition there is a considerable variety of contractual systems in order for a building
contractor to ensure the timely completion of the new improvements and/or buildings.
Some development companies employ their own building contractors. For example certain
residential developers tend to employ all of the necessary expertise in-house, rather than tendering and
outsourcing to a third party contractor. Alternatively a development company may keep their
contracting division at ‘arm’s length’ as an entirely separate profit-making centre. More recently there
is a more general trend towards an integrated approach especially with regard to residential
developers.
A builder may also take on the role of developer, for example as a specialised house builder.
However they will then also be exposed to additional risk associated with the development process.
Where a builder is employed only as a third party contractor, the financial profit is related to the
building cost and length of contract. If the agreement is based on a design-and-build contract, then a
contractor will take on a design role involving a greater element of risk in relation to the responsibility
for cost increases. Larger contractors, including international organisations that possess the relevant
expertise, may take on the role of a management contractor and assume responsibility for managing all
of the various sub-contracts for the developer in return for a fee. In a scenario where the builder is also
the developer (i.e. ‘developer-builder’) then a larger return is required due to the risk involved.
However when combining the building and development profit, it is often acceptable for an overall
lower level of profit. For builders or construction companies who employ a relatively large labour
force, an additional objective may be to ensure continuing employment for the workforce. Sometimes
the only way to achieve this is by reducing tender prices and therefore reducing profit levels, however
this is only a short-term survival strategy and not a realistic long-term business practice.
Building contractors have a specialised role in the development process usually commencing at the
time of maximum commitment and risk for the developer. It is essential for a prudent developer to
ensure the capability and capacity of the contractor to undertake the proposed work, striking the
optimal balance between accepting the lowest tender and ensuring quality of performance. Clearly it is
not in the contractor’s or developer’s interest to have a situation where the contractor is unable to
make an acceptable profit from the scheme. Also it is not to the developer’s benefit for the contractor
to become bankrupt or to compromise anywhere on quality.

1.3.7 Real estate agents

There are many terms used to describe agents who sell real estate or real property and act as
intermediaries between buyers and sellers. The more common of these terms include ‘commercial
agents’, ‘estate agents’, ‘real estate agents’ or ‘realtors’ depending on the region and country of
operation. Quite often this agent can be instrumental in initiating the development process and/or
bringing together some of the main actors in the process. Typically agents are highly skilled at
networking and often rely heavily on technology to assist in this task. Agents are seen as the conduit
between supply and demand so they also bridge the gap between the developer and the occupier,
unless the developer uses ‘in-house’ staff to perform the agent’s role and there is no need for the
occupier to be represented by an agent.
Nevertheless an agent plays an important role in the development process and they are often
involved in every stage of the process from initial acquisition of the site through to the final sale of the
completed product. Agents are able to perform this role due to their detailed knowledge of both the
property market in terms of demand and current rents/prices and their ‘personal’ contacts with
developers, occupiers, financial institutions and landowners. It has been said that the property industry
is all about ‘people’ and a successful agent has excellent communication skills.
The agent’s motivation for providing a professional service is to make a financial profit from the
fees charged to their client, being a developer or an occupier or both. In the case of introducing one
party to another (e.g. a landlord to a tenant) they will receive a small fee but only if the transaction is
completed and this fee is usually based on a percentage of the value of the total transaction.
An agent may also be a catalyst for the initiation of the development process by either finding a
suitable site for a developer or advising a landowner to sell a particular site due to its development
potential. Unless an agent is retained by a developer to specifically identify a suitable site for a
particular land use, e.g. a specific location and land area/shape, then an agent will often take the
initiative by identifying suitable sites and presenting them to developers to consider. This process has
been assisted greatly by internet technology therefore enabling an agent to send email alerts to all
interested parties as soon as a property is placed on the market for sale, regardless of the global
location of the developer.
A successful agent will do their thorough homework and only introduce sites to those developers
who they consider have the appropriate expertise and resources to both acquire the site and complete
the development. In a competitive real estate environment an agent will not waste time with a
developer who does not have the potential to proceed. Quite often the agent will negotiate with the
landowner on the developer’s behalf and advise the developer on all matters relating to the evaluation
stage.
If the acquisition progresses then the agent may be paid a fee for introducing the site, which is
usually a percentage of the purchase price. The real estate agent may also secure appointment as
letting and/or funding agent for the development scheme. It is often a lengthy and time-consuming
process for the agent but the financial rewards for them can be high considering they have minimal
exposure to risk. If an agent acts for a landowner then they would advise on both the likely achievable
land value and the likely market for the site.
Agents may also be used by a developer to assist them in securing the necessary finance for a
development scheme due to their knowledge of the requirements of the financial institutions or banks.
Many financial institutions also retain an agent to advise them generally on their property investments
and development funding, and such agents may also specifically identify profitable development
opportunities for their client to fund. The institution’s agent will normally advise their client
throughout the development process and act as one of the letting agents with the scheme. Some of the
larger or more specialist firms of chartered surveyors or property/real estate consultants may undertake
a consultancy and act as financial intermediaries arranging funding packages with banks and other
institutions in return for a fee proportional to the size of the loan.
 Agents are widely employed by developers as letting or selling agents providing an essential link
between the developer and final occupier, either as the tenant or as a new owner. In performing this
role the agent needs to be involved from the start of the development to enable them to competently
advise the developer on the occupier’s viewpoint. Unless the agent’s organisation is sufficiently large
to have a specialist marketing department then it might not be possible to provide comprehensive
advice on the state of the market, both during the development and a forecast upon completion. A
developer will need to commission market research to obtain more detailed knowledge of a specific
market when undertaking a large development. Some developers may employ an in-house research
team although the advantage of an agent is knowledge of the market in general and their contacts with
potential occupiers or their agents.
Developers, landowners, occupiers, financiers and property investors may at some stage enlist the
services of a valuer, chartered surveyor or appraiser to assist their decision-making process. Chartered
surveyors, real estate valuers or appraisers are employed by many commercial and residential agents
to enable them to undertake professional work alongside their agency work. Developers will require
an independent assessment of the hypothetical future market value of the property in the post-
development phase to confirm their own opinion of value since they usually have limited knowledge
themselves. This type of assessment may also be required by a financier of the development who is
undertaking due diligence and is a condition of their loan approval. Independent and in-house valuers
or surveyors are also used by financial institutions and banks to evaluate proposed development
schemes for which they are considering making loans or granting mortgages, including the asset value
of any security being offered by the developer. Financiers will often employ building surveyors to
check on the construction phase of a development to ensure it is being built to the right specification,
as well as to certify drawdown of the development loan as the various stages are completed. In the
public sector the local authorities, central government and the inland revenue/taxation department, for
example, each employ valuers to advise and report on any development-related work.

1.3.8 Professional team

The development process is complex and most developers do not have the skills or expertise to carry
out a major development in isolation. The developer will seek to lower their exposure to unknown
factors and risk by employing a range of professionals to advise them at various stages in the
development process. Reference to the most important professionals is provided below.

(a) Planning consultants

Planning consultants are employed to negotiate with local planning authorities to obtain the most
valuable permission for a development, particularly when involving large or sensitive development
proposals. If a planning application is refused they may be employed to act as expert witnesses in
presenting the case on behalf of the developer. Planning consultants can also advise a landowner and
confirm the sites within their ownership are developed to their highest and best use in accordance with
the legal requirements of the planning scheme. At times this may involve negotiation with the local
planning authority at the planning preparation stage or subsequent representations at an enquiry into
the development plan. In performing this role, planning consultants can be important initiators of the
development process and greatly assist with the progress of the planning scheme.

(b) Market research analysts/economic consultants/valuation surveyors

Increasing emphasis continues to be placed on the role of market research analysts and their ability to
gather and analyse relevant data, designed to minimise exposure to risk during the development phase
and after completion. It is therefore essential they are employed at the evaluation stage to provide a
detailed market analysis in terms of the demand and supply levels of the type of development being
proposed. Many lenders insist on a comprehensive market analysis by a professional third party when
evaluating their lending risk for development finance. A lender or financier will often have their own
in-house researchers who constantly assess risk levels in alignment with their funding criteria and
lending policies and also in light of the changing economic environment.

(c) Architects
Architects and designers are employed by developers to design new buildings, the refurbishment of
existing buildings or new infrastructure. Their knowledge of design, building material and
construction methods also places them in a position to administer the building contract on behalf of
the developer if required and possibly to certify completion of the building work. In the case of
refurbishment work, building surveyors are often employed to survey the existing building and advise
on alterations and provide contract administration services.
Architects are normally responsible for obtaining planning permission if a planning consultant is
not employed. With a refurbishment, the building surveyor will usually perform this task. Architects
are paid a ‘fee’ usually linked to a proportion of the total building contract sum. It is important the
architect is engaged at the earliest possible stage in the development to ensure that all design work has
been approved and completed prior to the commencement of construction. It is also important to
employ architects with the appropriate experience, reputation, resources and track record in the
industry. Due diligence needs to be undertaken by the developer in this area as an architect can affect
the success or failure of a development.
A developer should ensure the architect has the right balance of skills to produce both (a) good
architecture and valued design and also (b) a cost-effective and workable design attractive to
occupiers. This balance is often hard to achieve and therefore it is important for the developer to
produce a clear architectural brief from the very beginning. Problems and complications start when
there is poor communication between the architect and the developer.
Larger architectural firms usually offer a comprehensive list of services including project
management, engineering, interior design work and landscape architecture. This may be an effective
‘one stop shop’ approach for some developers and also improve communication channels. However
most developers actually prefer to assemble their own professional teams to achieve the appropriate
balance of skills by bringing together the most effective and experienced team. Some larger
development companies will use their own in-house architects and design professionals with the added
benefit of existing communication links and familiarity with the developer’s needs and objectives.

(d) Quantity surveyors

Quantity surveyors (QS) are often viewed as ‘building accountants’ who advise the developer on the
likely costs of the total building contract and associated costs. They cost out the price of every single
item in the development. Their role can include this costing to the designs produced by the architect,
administering the building contract tender, advising on the most appropriate form of building contract
or procurement, monitoring the construction phase and approving stage payments to the contractor. A
quantity surveyor also needs to know the location of the proposed development since the cost of every
building material and labour differs between each location. In addition, the actual timing of the
purchase is critical since this will affect the cost of purchasing goods and services since prices
typically rise with time due to inflation and other factors.
More recently quantity surveyors have become increasingly more involved in the administration
and management of design and build contracts. Like architects, their fee is based on a percentage of
the final contract sum of the completed development. The choice of quantity surveyor should be based
on appropriate experience and reputation. Referring to their own experience and according to their due
diligence checks, the developer should be able to identify a quantity surveyor who works well in
partnership with architects and other members of the professional team to produce cost-effective
designs for the final development. Also a good quantity surveyor will be able to provide the developer
with cost-effective ideas as alternatives to those proposed by the architect.

(e) Engineers
Structural engineers are employed by the developer to work with the architect and quantity surveyor to
advise on the design of the structural elements of the building. They will also participate in the
supervision of the construction of the structure. Civil engineers will be employed where major
infrastructure works and/or groundwork is required for the development. On large and complex
schemes there is often a requirement for mechanical and electrical engineers to design all the services
within the building, whether new or refurbished. Engineers are usually paid a percentage fee based on
the total value of their proportion of the building contract.

(f) Project managers

Project managers are employed to manage both the professional team and the building contract on
behalf of the developer. Project managers are usually only employed on the larger and more
complicated schemes due to the size of the development and the associated economies of scale. They
are often drawn from other professions within the property industry such as architects, chartered
surveyors, quantity surveyors and civil engineers.
For many projects the actual developer will assume the role of the project manager and co-
ordinator or rely on in-house staff or another member of the professional team. Project managers
should be appointed before any of the other professional team or the contractor so that they are in a
position to advise the developer on the best professional team to be assembled for the development
project. Their fees can be either on an agreed salary or alternatively can be based on a percentage of
the total building contract sum. In addition there is often an added financial incentive for managing the
scheme within the agreed budget with delivery on time.
For ‘design and build’ schemes, developers often perform the role of project managers themselves
for occupiers who wish to employ the expertise of a developer in constructing their own premises.

(g) Solicitors
Solicitors are needed at various stages throughout the development process. This commences at the
time of the initial acquisition of the development site through to the completion of initial leases and
contract/s of sale to third parties when completed. Furthermore, solicitors are often involved with the
legal agreements covering the funding arrangements entered into by the developer. If the developer
has to appeal against a planning application via the court system, then both solicitors and barristers
may be involved in presenting the developer’s case at an inquiry. With some schemes there are
guarantees or collateral warrantees required by purchasers and a solicitor will be involved in this
process. Collateral warrantees are defined as supporting documents to a primary contract where an
agreement is needed with a third party outside the main contract. This could be the architect, a
contractor or sub-contractor who will need to provide a guarantee to a funder, tenant or a purchaser
that it has fulfilled its duties under a building contract and accepts liability for their performance.

(h) Accountants
Specialist accountants may be employed to advise on the complexity of taxation-related issues that can
have a major cost impact on a development and the level of profit/risk. A knowledgeable accountant
will often lessen the added taxation expense and can identify the best financial structure and holding
vehicle to benefit the developer.
This list of the various professionals and specialists employed during the development process is
not meant to be finite, however such professionals normally form an integral part of a successful
development team. There are a considerable variety of other specialists who may be necessary
depending on the characteristics of the proposed development, including its size and complexity. Other
professionals may include environmental experts, road/highway engineers, land surveyors, soil
specialists, archaeologists, public relations consultants and marketing consultants. The above highlight
the cross-section of skills that are required within the development process and are unique, just as
much as each development is unique.

1.3.9 Objectors
Objectors have the right to provide an input into the viability of the proposed development based on
social and community considerations; it is important for the developer to be aware of the role of
objections to the development process and the relevant transparency. There are two categories of
objectors who can potentially cause delay and possible abandonment of development projects. The
first group of objectors may be purely ‘amateurs’ and self-interested neighbours of the proposed
development who usually live nearby to the proposed development. They are often referred to as
NIMBYs (‘not in my back yard’) and, when well organised, can achieve considerable obstruction to
the successful progress of a development. The rise of social media has greatly enhanced their ability to
raise the profile of the proposed development to a broader audience, frequently through the use of
social media.
The second category is the well-organised professional permanent bodies at either/or the local,
regional or national levels. At a local level they may be referred to as ‘amenity’ societies who take an
interest in every proposal affecting their local environment and heritage. This may also occur at the
regional or national levels and the degree of involvement depends on the size of the project. Often
these bodies have considerable influence with the local planning authorities and tend to be always
consulted on major development applications. These organisations are usually well-informed and have
a thorough knowledge of planning and development processes.
The developer must be aware of the interest or potential interest of these objectors. Accordingly the
developer must be prepared to either accommodate their objections where this may result in some
level of compromise on the development scheme or alternatively to refute their opposition. Ideally any
negotiations resulting from objections to the proposal should be undertaken before a planning
application is submitted in order to avoid complications and lengthy delays.
Opposition to a proposed development can be costly to a developer, either by imposing higher
standards and costly alterations or causing lengthy delays resulting in additional holding costs. In a
worst-case scenario this opposition can lead to the complete abandonment of a development proposal
that otherwise may have been sound. Sometimes a large-scale or sensitive development may become
part of a political discussion and receive substantial media attention, often resulting in intervention at
the government level in the development proposal. Where possible, a prudent developer needs to
anticipate objectors when evaluating the likelihood of their development proposal receiving planning
permission.

1.3.10 Occupiers
Unless the final occupier of a building is the actual developer or alternatively the final occupier is
known early in the development process, this is an unknown variable in the overall process.
Furthermore the final occupier is not considered to be a major stakeholder in the development process
because they are often unknown until the development is completed and let/sold. The demand for
accommodation triggers the development process and influences both land prices and rents, to which
developers then respond by producing more supply. The future requirements of a potential occupier
should be carefully researched at the beginning of the process. In the past some developers have
tended to produce buildings in accordance with the requirements of the financial institutions, where
the needs of the occupier have been largely overlooked or are a secondary consideration. It is
important to ensure that property development is viable and meets the needs of the future potential
occupants, which in turn will lessen the exposure of the lender and developer to risk.
When the final occupant of the property development is confirmed early on in the development
process, then the occupier becomes a major stakeholder in the overall development. The building will
be constructed in accordance with the occupier’s future needs and requirements, which at times can be
unique to a specific occupier. This is particularly applicable to the occupants of industrial property
developments. In some instances the developer may need to persuade the occupier to compromise on
their requirements in order to provide a more standard and flexible type of building. In turn this will
broaden the future appeal of the building in the wider market if it has to be offered for sale or lease at a
later time. In addition the developer will also be concerned about maintaining the financial value of the
building as security for loan purposes.
An occupier, either in the role as a tenant or owner, may regard the buildings they occupy as an
overhead incidental to their core activities as providers of a service or product. Although some
organisations do employ an in-house property team, including a facilities manager, many occupiers
tend to fail to adequately plan for their future property requirements to meet their changing needs.
They simply react to changes in their business as they happen and act accordingly. The property
requirements of occupiers are influenced by both the short-term business cycle and long-term
structural changes underlying the general economy, including events such as the global financial crisis.
Such factors can influence occupiers at a specific level or across the business sector in which they
operate. The level of demand for accommodation in the real estate market is also influenced by
advances in technology where changes affect both operational working practices and their physical
property requirements. A relevant example is the increase in online shopping and less demand for
major retailers in some regions. The increased importance of social distancing due to the COVID-19
pandemic has also altered how real estate space is used by occupiers.
In specific instances some occupiers have been acknowledged by agents and developers for not
quite knowing exactly what accommodation specifications they are after. However many organisations
have now become far more knowledgeable about the role of property within their business and
frequently employ their own facilities manager to advise on their accommodation requirements and
building specifications. Different occupiers have different real estate requirements and priorities,
particularly in the case of office space requirements, making the developer’s task very challenging
when aiming to produce a building suitable for as many tenants as possible. The response from the
financial institutions is to seek the highest quality specification with a layout to suit the widest possible
range of tenants. As a consequence an occupier may be forced to occupy a building compromising
their requirements in terms of location or specification.
Developers and the financiers are taking more account of the needs of the final occupants. For
example many tenants seek a degree of flexibility in their leasing agreement terms, especially in
uncertain economic times. The occupants prefer to have the option to extend the lease at their
discretion, which is opposed to the preference of the developer and lender who often prefer a longer
lease incorporating rent reviews and no options to end the lease. A balance must be struck here and
this is often driven by conformity in the wider real estate market.
 Occupiers have been increasingly seeking ‘sustainable buildings’ in the twenty-first century, which
follows the initial trend for ‘green buildings’ in response to the increasingly higher profile of climate
change. Developers need to be aware of this trend by ensuring their buildings are future-proofed and
have incorporated sustainability aspects into the property’s design and marketing. Occupiers are
seeking sustainable buildings for a variety of reasons including corporate social responsibility (CSR)
which appeals to the customers, a better workplace for staff and potentially lower operating costs, e.g.
natural ventilation instead of air-conditioning.

Discussion points
State the main stakeholders in the property development process.
List the level of importance of each stakeholder from high to low.

1.4 Economic context

Property development does not occur in isolation or in a vacuum. Every property development is
located within different markets based on geographical location and also economic considerations in
the local, regional, national and global market. Property development stakeholders have no control
over the external market as shown quite dramatically by the global financial crisis which highlighted
the ability of one region to directly affect volatility levels in global markets. The demand by occupiers,
either tenants or freehold ownership, is a factor of supply and demand interaction in the broader
market as consistently proven by conventional economic theory.
The level of occupier demand is a reflection of short- and long-term changes in the economy where
the availability and cost of development finance is also linked to conditions in the wider economy. The
economic climate is important to developers as the local economy helps to determine the market
demand for an individual scheme and the wider economy affects general property market conditions
including the confidence of occupiers, investors and developers about the future. Of course, the longer
a development takes until completion then the more complex is the task of trying to forecast future
demand and investment returns.

1.4.1 The local economy

It is accepted that most demand for an individual office or industrial development is drawn from a
relatively small geographical area in the locality of the scheme. The ability of a retail scheme to attract
national retailers depends largely on the spending capacity of the local population. Workers will live in
residential accommodation located in relatively close proximity to their place of employment so as to
reduce commute time. Since local economic conditions will help determine how much development,
and of what type, is appropriate in a particular location, it is in the interest of any developer to look
beyond the individual scheme to the wider economy. The local economy can be a useful indicator of
the likely viability of any development project and can be used alongside the development appraisal.
However it must be remembered that the focus is on the completion of the project in the future, so a
downturn in the market today may result in a market upturn close to the completion of the project.

1.4.2 The national economy

At any given time the state of the national economy has a direct effect on the real estate market from
both supply and demand perspectives. The developer must be aware of the implications from changes
in the national economy and also must factor in any changes as much as possible that potentially affect
their business plan. The strategic approach for a diligent developer is to anticipate these changes as
much as possible and adjust their plan accordingly. Fortunately there are many organisations analysing
data and forecasting changes in the marketplace and much of this information is now either free or
available to purchase by developers.

(a) Supply considerations

Competing developers will enter the marketplace when there is the potential for a positive return on
their investment. One way in which the state of the national economy affects the viability of a property
development is the effect it has on the cost of borrowing. For example base interest rates for
borrowing are traditionally set by the national government and the interest rate applicable to loans to
finance a development can be the largest individual cost, especially when the project has a lengthy
construction phase. Meeting the costs associated with high interest rates can make or break a
development. Alternatively a government may restrict the level of investment from overseas investors
for a particular development or place limits on the proportion of ownership if resident in a foreign
country. This can result in lack of equity for a proposed development, which in turn may not meet the
lending requirements of the financier regarding the loan-to-value ratio (LVR).

(b) Demand considerations

The national economy can directly affect confidence in the broader market and the need for property
accommodation. For example if national unemployment levels are high then there will be reduced
interest in homeownership with households unable to borrow funds due to a lack of stable long-term
employment. At the same time this will then transfer to increased demand in the rental market. High
unemployment also reduces the level of disposable income so retail spending may be lower.
Government measures such as reducing taxation rates or the introduction of a stimulus package can
help mitigate the impact on the property market (Gemeda et al. 2020). At the national level such
factors are largely outside the control of the developer but a skilled developer can interpret changes in
the national economy and produce a development that will be of substantial value in the future upon
completion.

1.4.3 The global market

The increased use of technology and the instant availability of information changed the nature of the
property market and it is now interlinked on a global basis. The global financial crisis in the early
twenty-first century and the later COVID-19 pandemic confirmed that global financial markets are
now very closely related so uncertainty in one market can adversely affect other markets. A developer
must now consider broader changes in the marketplace, regardless of the size of their development.
Some organisations are moving part of their business offshore (e.g. to India) to reduce operating costs
and reduce risk. In turn this can have a direct effect on employment levels and demand for a certain
real estate product. Property developers could be considerably affected by changes in the global
economy and need to be aware of prevailing trends and forecasting changes.

Discussion point
Why is it important for property developers to be adaptive to change?
1.5 Reflective summary

This chapter outlined the strategic framework for property development and introduced the
stakeholders, each of which has different objectives required to achieve a successful outcome.
Collectively they operate within the overall context of the local market, the national and global
economies. Development is affected by the status of property cycles at any given time that can
adversely affect the viability of a new development. The development process may be initiated by
any of the main stakeholders identified, but it can only take place with the consent of the
landowner. An exception is when compulsory purchase powers are used.
The lender/financier is a critical stakeholder in the development and assumes a large
proportion of risk, therefore practically becomes a partner in the development. As a development
proceeds through the various stages then the developer and the lender become increasingly
committed and therefore flexibility is reduced, exposing both parties to greater risk prior to
completion. Before a developer makes a commitment to both acquiring land and signing a
building contract they need to undertake a due diligence process. This includes obtaining all of
the necessary consents, carrying out the necessary investigations and securing the finance at an
acceptable lending rate. In addition, a thorough financial and market evaluation should be carried
out with the best information possible to establish the project’s viability in light of the status of
the occupier market for either renters or owners. The ultimate success of the completed
development will depend on many factors including the skill and experience of the developer,
state of the local, national and global markets, as well as a myriad of other variables being often
outside the control of the developer. The key to a successful development is closely linked to the
ability of the developer to be a ‘visionary’. This includes knowing when to proceed with a
development, or most importantly, when not to proceed.

References and useful websites

Alonso, W. (1964) Location and Land Use: Toward a General Theory of Land Use,Harvard University Press.
Appraisal Institute, www.appraisalinstitute.org.
Gemeda, B.S., Abebe, B.G. and Cirella, G.T. (2020) ‘Urban land speculation: model development’, Property
Management,13 July.
Graaskamp, J.A. (1981) Fundamentals of Real Estate Development, Urban Land Institute.
Kauko, T. (2019) ‘Innovation in urban real estate: the role of sustainability’, Property Management,37:2, pp.
197–214.
Klaus, J. (2020) ‘Sharing property value losses: the spatial concentration of development rights as a way to limit
urban sprawl’, Land Use Policy,94, https://doi.org/10.1016/j.landusepol.2020.104540.
Lausberg, C. and Viruly, F. (2019) ‘Gut feeling or reason: how do property developers decide? An international
research project on rational and intuitive behaviour in the field of property development’, in Proceedings of the
26th Annual Conference of the European Real Estate Society, 3–6/07/2019, Paris.
NAIOP Commercial Real Estate Development Association, https://naiop.org.
Property Council of Australia (PCA), www.propertycouncil.com.au.
Property Institute of New Zealand (PINZ), https://propertyinstitute.nz.
Reed, R.G. (2015) ‘Real estate development in the fastest growing free market democracy’, in International
Approaches to Real Estate Development, edited by G. Squires and E. Heurkens, Taylor & Francis, pp. 150–66.
Reed, R.G. and Pettit, C.J. (2018) Real Estate and GIS: The Application of Mapping Technologies, Taylor and
Francis.
Royal Institution of Chartered Surveyors (RICS), www.rics.org.
Scottish Enterprise, www.scottish-enterprise.com/sedotcom_home/about_se.htm.
Squires, G. and Heurkens, E. (2015) ‘Introducing international approaches to real estate development’, in
International Approaches to Real Estate Development, edited by G. Squires and E. Heurkens, pp. 1–22.
Urban Development Institute of Australia (UDIA), www.udia.com.au.
Urban Land Institute Americas (ULI Americas), www.uli.org.
Urban Land Institute UK (ULI UK), www.uk.uli.org.
Von Thunen, J.H. (1826) The Isolated State, Perthes.
Chapter 2

Land for development

2.1 Introduction

The essential element in every property development is the unique geographical location of the
land as surveyed and its legal reference. This site may be identified and recorded as being at
ground level or alternatively either above or below the earth’s surface. The initial acquisition of
land or space above land surface in the case of a strata title development is usually the
developer’s first major decision when seeking to undertake a property development. The land
may be previously undeveloped or may currently include a building/s or other structures attached
to the land. The current use of the land may not currently equate to its highest and best use, being
further evidence that the current timing of the development process may be ideal. When
undertaking a property development, the purchase of the land should not take place until after a
full analysis and evaluation of the proposed development project has been undertaken. This is
further discussed in Chapter 3. This chapter discusses the initiation and purchase acquisition
stages of the land or strata required in order to commence the property development process.
The selection of a development site fundamentally affects the nature and success of each
development. This decision is irreversible and due to one of the inherent characteristics of land
being immovable. Poor site selection cannot be rectified after the decision has been made and no
amount of careful design or promotion can totally overcome the disadvantage created by a poor
location or a lack of demand for accommodation at that location. This statement holds even when
the ‘for sale’ value is pitched at below market price for the final product. Land is unique and
every site has its own individual characteristics. Site identification and acquisition can be a very
long, frustrating and unpredictable process as there are many factors involved, some outside the
developer’s control, which affect the successful acquisition of a viable site. The increasing need
to undertake sustainable development is another critical factor to address since sustainability
affects many aspects of the process from initial site selection, proximity to public transport and
also the construction phase (Perera and Mensah 2019).
The objective of this chapter is to identify approaches and strategies to be used by a developer
to identify and acquire a site deemed suitable for development. There is also a discussion about
the role of landowners and other stakeholders in the process. As much as each site is unique,
often a specialised tailor-made approach must be undertaken when searching for an appropriate
site. Whilst technology and online search engines have greatly enhanced the availability of
information instantaneously accessible to a developer, industry networking and an understanding
of the basic skills related to site identification are still closely linked to every successful
development. If a site has been vacant for an extended period of time with little change of other
variables in the marketplace, extreme caution should exercised as other developers have decided
 any proposal includes excessive exposure to risk. In most marketplaces there are usually a
number of vacant or near vacant sites that will eventually be developed when the analysis returns
a positive outcome following an upswing in the market.

2.2 Identification of development site

The first initial step prior to identifying a development site is to confirm the developer’s search
parameters by defining the aims, nature and relevant geographical area of the search. The overall
strategy and objectives of the development company will form the basis for the identification of sites
and potential development opportunities in line with their risk profile (Yang and Wu 2019). For
example some developers restrict themselves to a specific type of development in a particular location.
In this type of scenario the obvious advantage is they can benefit from previous knowledge about
certain types of successful developments they have undertaken in the same general locality. The
availability of resources will also be a major consideration, such as the amount of finance they can
obtain, skilled workforce or materials, as will market information they have already gathered about the
level of demand and the type of product sought.
Within this overarching strategy a developer needs to accurately define the optimal search criteria
to identify their preferred geographical areas and associated real estate parameters. This criterion
relates to the size/area, shape, topography, access and location of sites. In addition the geographical
area of search for sites depends on other variables such as:

risk profile of the developer;

developer’s knowledge about a particular location;
forecast status of the market when completed, both now and in the future;
potential to diversify risk across different locations in a portfolio;
availability of development finance for a specific location; and
results from detailed market research into supply and demand considerations.

The location of the development company’s offices will also be a consideration because the further the
development site is located away from the office the higher the possibility for management of the
project to be less effective. On the other hand the availability of technology will practically negate this
concern. Another partial solution would be to establish a temporary office in close proximity if the size
of the development is sufficiently large. If the developer is operating within their own local precinct
then the developer will usually have already established many good contacts with real estate agents,
occupiers and the local planning authorities and will be able to consult with them about the proposed
development.
In a scenario where a development site is located a considerable distance from the developer’s
office and also in a different region, a good working relationship will need to be established with local
agents. In this example it may be prudent to undertake the development with a local development
partner since there is no substitute for local tacit knowledge to lower the exposure to a lack of local
knowledge risk. Larger national and international development companies benefit from economies of
scale and often are able to spread their exposure to risk by spreading their development activities over
different locations. Therefore if an over-supply of accommodation occurs in one particular location
then the problem will be restricted to only some projects and does not affect the entire development
portfolio.
The process undertaken by a developer in the identification of a suitable site at times is largely
influenced by the manner in which a developer sources finance for the development project. For
example if a developer intends to seek finance from a particular lender or financier, then the developer
needs to be aware of their preferred locations when lending for property investment. An analogy can
be drawn here with the cost of car insurance and the location where the car is parked every night.
Many insurers will require a higher insurance premium being commensurate with the perceived higher
exposure to risk in certain locations. This approach is also used by many property development
lenders who perceive certain locations as always being in high demand; at the same time they view
other locations as being in less demand, therefore associated with higher risk.
In previous development booms the location of a speculative development site was generally less
important when seeking finance, mainly due to the widespread availability of funding for loans.
However following market downturns in the property cycle practically all lenders have tightened their
lending criteria and therefore placed increased importance on the attributes of the property developer
and the proposed completed development. In other words it is commonly accepted that obtaining
funding is more likely to be successful on well located sites; such sites will have the widest appeal to
potential occupiers with associated reduced risk. Much focus is continuing to be placed on reducing
the exposure to risk, especially for commercial real estate developments which have a substantial
initial outlay and a limited pool of occupiers/tenants (Thilini and Wickramaarachchi 2019).
Regardless of the state of the real estate market at any given time, a prudent developer should
always seek the best location appropriate to the proposed highest and best use. Settling for a second
choice location could affect the long-term success of the project and the developer should consider this
additional risk carefully in the evaluation stage.
When identifying the optimal location for the geographical search a developer should focus on the
project’s completion. Therefore the developer’s perception of occupier demand, supported by reliable
market research, is a critical factor. In this role the developer’s skill, knowledge and experience are
important in identifying areas of potential growth where market forces will provide increased demand
for accommodation and providing there is no unexpected downturn, demand should exceed supply
when a development project is completed.
Proactive and forward-thinking developers may commission research at a strategic level to identify
trends in the market and areas of potential opportunity. This decision also aligns with the proven
concept of a successful developer being a ‘visionary’. Market research should seek to identify current
and projected levels of supply and demand of various types of accommodation in a particular area in
addition to short-term and long-term trends in rent and capital values. From a valuation perspective,
direct access to services and transport are usually highly sought-after by residential and commercial
occupiers. Accordingly good access to road networks and public transport schemes are some of the
more obvious factors influencing levels of demand for accommodation in a particular location.
Developers will seek to purchase a site in a location likely to be affected by future population growth
and an expansion of urban areas so associated infrastructure will also need to be examined.
The developer should identify and examine factors influencing occupiers in their choice of location
as part of market research. Different factors affecting decisions about the choice of location for each
type of land use are explained further below.

(a) Residential development

All humans have a basic primal need for shelter to provide protection against the external environment
and also as a safe place to sleep. The actual form of shelter varies substantially between different
locations and regions depending on climate type, weather, crime, government policy as well as the
availability of land and construction material. Most importantly, all real estate including residential
real estate have property rights that provides options to the owner/s to use. Over time the traditional
family home, in addition to providing essential shelter from the environment, is widely acknowledged
as having the additional benefit of being a wealth asset or an investment in a family’s asset portfolio.
Wider acceptance of homeownership also provides many direct and indirect benefits for individual
households and broader society including lower crime rates, a sense of ‘place’ for family as well as
improving social cohesion and sustainability (Hu and Wang 2019).
The procedure to achieve homeownership status in western civilisations for a large proportion of
the population is to purchase their home with the assistance of a loan or mortgage from a financier,
e.g. bank, credit society. In order to meet loan repayment obligations it is usually an essential
requirement of the lender that the borrower/s is in ongoing employment. Following on, in order to
reduce transit time between home and work it is accepted that the optimal location for most residential
property, especially in urban cities, is in relative proximity to the homeowner’s place of employment.
This scenario commonly requires prospective homeowners to search for residential real estate with
nearby transport links and, with increasing global commitments to sustainability coupled with road
traffic congestion, there is a need to locate close to reliable public transport networks.
From a planning perspective there have been increasing debates about options for urban cities to
expand ‘up’, e.g. high rise condominiums, or ‘out’, e.g. urban sprawl into rural areas on the edge of
outlying suburbs. Nevertheless most residential densities continue to increase due to an expanding
global population base; in many regions this has resulted in smaller living spaces, such as high rise
accommodation in Hong Kong or New York. However this type of residential accommodation is not
ideal for all urban cities and occupants, accordingly careful market research needs to be conducted to
assess the demand for different types of dwelling from a forward-looking perspective. Consideration
must always be given to the lifecycle of a residential property and ensuring today’s property
development concepts will not quickly become obsolete due to rapidly changing demand in a
particular location. The in-use life of residential accommodation should realistically cover many
decades.

(b) Office development

Due to the evolution of many cities from initially being only a marketplace then expanding to a town
followed by a large city, the centre of these urban areas has usually remained the most sought-after
location since there is limited land supply in the middle aligned with the highest level of demand.
Accordingly the traditional location for office space has been in the centre of the cities where transport
hubs are easily accessible to and from residential areas located on all sides of the city. Note that some
cities have become so congested that there has been a trend to develop office ‘hubs’ located on the city
fringes in close proximity to workers, and that these are often on cheaper land. At the same time
planning approval and examining the risks associated with a location some distance away from the
core office precinct (i.e. city centre, central business district or downtown) requires careful assessment
(Anacker et al. 2019).
The proximity of reliable roads, rail and air are all vital in the identification of potential locations
for office development. The choice of location for an office occupier is determined by a range of
diverse factors including traditional locations, proximity to other related professionals (e.g. other
financiers, lawyers), transport links, staff availability, quality of accommodation, availability of
parking and individual preferences of decision-makers.
With the advent of internet technology, including smart phones and tablets with associated high-
speed connectivity, many companies have partly reduced their requirements for office accommodation
in contrast to previous needs. Many organisations encourage staff to work from home or in transit out
on the road, therefore each office worker does not necessarily require a dedicated individual office
desk which is vacant most of the time. The uptake of working from home during the COVID-19
pandemic has also increased the acceptance of working from home for extended periods. The concept
of ‘hot-desking’ where multiple employees share a desk or workstation is often designed into office
accommodation and this is particularly common with active and mobile staff spending most of their
time out of the office. There continues to be much debate about how such changes in working patterns
and advance in information technology will affect the location of offices in the future. Earlier concerns
in the late twentieth century that telecommuting would severely reduce demand for office space have
been dispelled although office buildings must be agile to sufficiently adapt to the changing future
needs of occupiers due to the extended life of a high-rise office building in comparison to other land
uses.

(c) Retail
Retail is acknowledged as an integral and essential component of twenty-first century society and
development takes place within a hierarchy of shopping locations and a diverse range of retail
accommodation types. This hierarchy of shopping locations consists of regional centres, district
centres, local centres and superstores/retail warehouses. A particular shopping area will be classified
within the hierarchy by reference to its general demographic characteristics and the size of its
catchment population. The catchment population is typically calculated by reference to the size of the
population living in close proximity to a specific location for a proposed shopping centre.
Prior to making a decision to develop a site the retail developer will carefully analyse the catchment
area surrounding the proposed scheme and undertake scenario modelling. In relation to regional and
district retail centres the catchment will be modelled in terms of (a) travel time to/from the retail centre
and (b) the potential target population and its characteristics in terms of demographic characteristics,
e.g. age, household income, disposable income, spending patterns. An analysis will also be made of
competing shopping centres, both existing and planned, to evaluate the impact of a proposed scheme
on the existing retail centres and vice versa. In carrying out this analysis the developer assesses the
trading potential of the proposed scheme within the broader retail market with the emphasis placed on
the return on investment (ROI). The analysis is conducted from the point of view of both the
individual retailers and the individual shopper since the overall viability of the scheme will depend on
the decisions of these stakeholders.
An example of an evolved retail category is retail warehousing, at times referred to as ‘big box’,
‘out-of-town’ retailing or ‘large format retail’. A developer of this type of land use has a detailed
knowledge of the locational requirements of each retailer via their working relationship with them and
associated in-depth research into the industry. Many of the national and global retailers who operate in
out-of-town stores undertake their own property developments. With this approach the development
division of a retail organisation will identify potential sites and then the retail division will project
their potential trading position and forecast turnovers.
A critical factor in identifying the optimal location of any proposed town centre retail scheme,
whether it is a single shop unit or a major shopping centre, is pedestrian flow characteristics. Studies
can be constructed to model the pedestrian flows heavily influenced by car parks, bus and railway
stations, pedestrian crossings and the location of major stores commonly referred to as ‘anchor’
tenants or stores. It is this precise geographical location of a shop or store that is directly linked to the
level of rental value, therefore it is crucial the developer makes the correct and optimal decision at this
stage.
Retail shops and shopping centres are compared in the market on a ranking system being somewhat
broadly similar to the ranking system adopted for office buildings albeit with different criteria and
scales. For example different retail locations are classified using terms such as ‘prime’ and ‘secondary’
with reference to characteristics including pedestrian flow and proximity to competing retail stores.

(d) Industrial
Industrial development is closely aligned to real estate zoning restrictions designed to separate non-
compatible uses from other uses; for example industrial and residential developments are rarely
planned together in the same location, however retail and residential uses are encouraged due to their
synergy. Therefore industrial development occurs in designated and separated locations due to the side
effects of transport noise, potential pollution (e.g. noise, air) and the large parcels of real estate
typically required. There are various types of industrial property, each with unique locational
characteristics. Industrial property can be categorised into many different industrial land use categories
including general industrial, light industrial, service industry and warehousing/distribution.
Usually the zoning of ‘general industrial’ refers to larger land parcels with good ingress/egress for
large trucks/semi-trailers as well as dedicated parking on hardstand for trucks, often equating to up to
50% of the total area of the parcel. The improvements in this type of zoning are often larger industrial
buildings with a relatively small office component. The underlying emphasis is placed on the ability to
provide accommodation for a wide range of industrial activities (e.g. heavy industry) where each
industrial land use is too narrow to have individual industrial categories.
The category of light industrial typically refers to real estate used for processes involving the
manufacture of goods although with minimal or no environmental impact. There are various types of
occupiers who require light industrial property. At one end of the scale there is the traditional long-
standing manufacturer in contrast to companies in ‘high technology’ industries who require office and
research and development facilities alongside production facilities. Often this type of development is
located in a dedicated area (e.g. Silicon Valley in California) as opposed to a dedicated Business Park
that specialises in administrative processes or in a dedicated Industrial Park focusing on
manufacturing. Light industrial buildings are developed to a particular specification and also situated
in a location identified as in demand by potential occupiers.
Industrial warehouses are large industrial units occupied by retailers, manufacturers and
distribution companies. Each occupier’s needs have increasingly become more diverse over recent
times and often highly specialised due to technological advances and the urgency factor in today’s
economy. A large proportion of the warehouse development is carried out on a ‘design and build’ basis
rather than on a speculative basis to suit each potential new tenant. Sites suitable for a warehouse or
distribution centre must be in a location with good access to major transport infrastructure. This
scenario also suits ‘just in time’ (JIT) approaches adopted by many organisations where stock is not
stored for extended time periods but moved quickly in and out of the warehouse. In many regions the
service industry accommodation is also perceived as semi-retail and provides direct services and sales
to the community.
There are specific variables influencing the location of industrial premises. Industrial occupiers
need to locate in areas close to their markets and also to supplies of raw materials, as well as with
good access to major transport routes including road, rail and sea. Companies employing a high
proportion of office plus research and development staff will often have similar locational
requirements to occupants of office property; for example attractive landscaped built environment and
the availability of quality housing in the nearby proximity.
Once a developer has established the parameters of the locational search, a strategy and brief for
the site identification process can be produced based on certain parameters. It is important to define the
size of target sites by calculating the total land area of the potential development scheme and the
preferred land-to-building ratio. The next stage is then to identify preferred locations in a town, city or
region.

2.3 Brownfield and greenfield sites

In order to increase the efficient use of land in urban cities there has been an increasing emphasis
placed on urban regeneration and the development of existing vacant sites. At the same time such
urban areas are typically experiencing higher levels of peak traffic congestion where commuters are
transiting past, often in slow-moving traffic snarls, vacant and unused sites in order to reach their
outlying homes. The inefficiencies here are obvious. The need for increased urban regeneration is
accepted by most stakeholders where this is also often associated with an increased plot ratio density
in future developments and encouraging the uptake of public transport use by residents. Note the
catalyst for urban regeneration is often supported by major changes in government policy to promote
the re-use of existing land, at times with a different prior land use, being commonly referred to as
‘brownfield’ land.
The development of this brownfield land is actively promoted while the development of greenfield
land (i.e. previously undeveloped land) is encouraged if ‘land banking’ or storage is occurring. Urban
regeneration, or alternatively ‘urban renaissance’ as it is sometimes referred to, is increasingly
undertaken in all developed countries. Brownfield land located in, or close to, the city often appeals to
property developers as it is considered to be in a good location on the urban fringe. These sites may
have become available due to a decline in manufacturing, however attention must be placed on
associated challenges such as contamination from the previous land use. An example of the conversion
of brownfield sites that often occurs when a major redevelopment is undertaken would be the
regeneration of an area by converting a disused industrial estate into a medium to high density
residential area (Choi 2019).
Brownfield land redevelopment can be very complex at times and involve substantial risks. Most of
the best brownfield sites may have already been identified by other developers and redeveloped.
Therefore the remaining brownfield sites are often poorly located and/or the costs of cleaning up the
contamination are prohibitively high; for example converting a previously used industrial site to a new
residential site. In many global cities it is now probable that there are locations where there is an
insufficient supply of brownfield land for residential and commercial property development, thus
leading to increased densities and pressure to rezone outlying rural land for development. There has
been a broad trend to apply the same principles of increasing densities to new greenfield developments
although applying densities not as high as the inner-city development densities. This in turn will
reduce the amount of land required to accommodate a development.

2.4 Initiation
After undertaking research and defining a strategy for site acquisition, the next step for a developer is
to actively seek and identify potential development sites. This can be achieved in a number of ways,
however theory and practice often differ here in their exact approach. A developer may have in mind a
well thought out and thoroughly researched land acquisition strategy but actually achieving that
strategy will depend on numerous factors, many being beyond the control of the developer. This is
where the property development process for each scenario is unique and much depends on the
opportunities available.
Above all, a developer’s ability to acquire land and possibly existing buildings forming part of the
land is dependent on the availability of land at any particular time. But the availability of land is
dependent on many factors including the state of the real estate market at that time, planning policies
and physical factors including the shape of the land including access to and from the lot. Furthermore,
every proposed property development will also be reliant on the motives of the existing landowner and
their willingness to sell their property. In this scenario the developer, landowner, real estate agent and
government bodies sector are the main stakeholders involved in the development initiation process.
For some development projects a landowner could take either an active or passive role in the process.
A successful developer needs to comprehensively understand all of the dynamics at play in the real
estate market. For example, in accordance with standard economic theory, there is likely to be more
land supply available during a time when land values are rising rapidly (Payne et al. 2019). The
availability of new land will be influenced by the allocation of land within a local planning authority’s
‘development plan’ and the perceived chances of obtaining planning permission in respect of
unallocated areas of land or land allocated for other uses. Although land may be available on the
market and is allocated within the development plan for the proposed use, it still may be unsuitable for
a development due to certain physical factors, e.g. potential to flood which is becoming a more
frequent occurrence in some countries as attributed to climate change (Christensen and Gabe 2018).
The lack of necessary infrastructure, such as road access and services, can also make a
development scheme unviable. On the other hand the state of the physical ground may be
contaminated or unstable, therefore ensuring it is cost prohibitive when seeking to undertake a
profitable development. Contaminated land is practically unavoidable for many previous uses and
undertaking rectification (i.e. decontamination) must be evaluated in the original assessment, not once
the site has been acquired and works have commenced. In some instances the contamination has only
been identified once the buildings have been completed, therefore necessitating the demolition of the
new buildings in order to undertake decontamination. In all instances it is essential for all stakeholders
to closely examine all of the various ways of initiating the site acquisition process.

2.4.1 Initiation by the developer

In most instances a development will be initiated by a developer identifying a potential development
opportunity, then making an initial approach to purchase. The search for land will often be undertaken
via a search of real estate internet websites, being on a subscriber list for new ‘for sale’ properties or in
regular email contact with a real estate agent/s. At times a potential seller may enlist the services of an
agent or property consultant (e.g. vendor’s advocate) to directly approach prospective large site
developers. For a small developer there can be no substitute for approaching a potential seller with the
opportunity to explain the intention in purpose. In contrast a larger developer may employ an in-house
team, an agent or a planning consultant to actively identify a development site/s based on the criteria
set out in the site acquisition strategy.

In-house land buyers

Many developers, particularly those who specialise in a certain type of development (e.g. enclosed
retail shopping centres) and land development companies employ their own staff who specialise in
buying land direct from sellers. Their primary task is to identify and acquire sites in accordance with
the development company’s strategy. Most importantly they will require a good knowledge of the
target geographical area and relevant planning policies. At times these searches will be made in the
field in person, by car or on foot to identify potential sites. Reliance on internet search engines and
mapping applications only is convenient for the user, however this data will not be updated daily, as
opposed to a vendor posting a ‘for sale’ property on their boundary the next day and seeking a quick
sale.
If an identified site is not currently on the market and for sale then the next step is to source details
about existing ownership of the land. There are a number of ways to achieve this including an
approach to local agents or physically knocking on the door of the owner. In some countries there has
been privacy legislation introduced to restrict the release of personal information by government
bodies to third parties. Another option is to investigate if a planning registry is in use, or alternatively
a body recording historical planning applications and approvals.

Employing a planning consultant

A developer may employ a planning consultant to conduct a strategic study of a particular
geographical area to identify suitable land within the planning context. A strategic study of an area
will involve examining planning documents, i.e. development or strategic plans and local plans if they
exist covering that area, as well as discussions with local authority planning officers. The study will
usually highlight sites identified and allocated in the strategic development plan but not yet developed.
Commentary will be provided on their suitability and availability for the proposed use. A report will
be made on each site describing its characteristics, planning history and details of the landowner if
known.
The study will also identify sites that have not been allocated but where there is a high probability
of obtaining planning consent for a property development by negotiation or in an appeal process.
Often the optimal time to conduct this study is when the development plan is in its draft or review
stage since at this time it may be possible to influence the allocation of land by presenting evidence at
the public inquiry. Accordingly, it is of vital importance that developers are aware of the timing of
every review so they can access draft publication of the development plans relevant to their search
area. The study should advise the developer about the actual sites to be pursued due to their potential
future viability.

Employing a real estate agent or realtor

A different approach is possible when a developer enlists the services of a real estate agent or
approaches a number of real estate agents to identify prospective sites in a particular location. The
developer will need to brief the agent/s as to their requirements in terms of the nature and area of
potential sites. An effective agent will have an in-depth knowledge of the local area and its relevant
planning policies; therefore on this basis a local agent/s is usually employed or approached. A
developer is usually in direct contact with a number of agents as it is important to develop good
relationships to build trust and ensure each agent/s remains fully committed.
If the real estate agent is directly retained by the developer then a fee will be payable if the latter is
successful in acquiring a suitable development site identified by the agent. For example this may
equate to 1% of the land price, however this fee will be a result of direct negotiation and depends also
on the amount of the real estate agent’s involvement in the latter stages of development, letting and
funding of the scheme. Another advantage of using a real estate agent is they become the developer’s
eyes and ears within the marketplace. Referring to their in-depth knowledge of the area they know
who owns a particular site and its history. Over time an agent develops an intricate knowledge of
properties, owners and buyers in the marketplace and can often anticipate whether a particular site
may be coming onto the market. At times they may have previously sold the site to the current owner.
With occupied buildings they may know when leases will expire and therefore when potential
redevelopment opportunities may arise.
It is advantageous if sites can be identified as early as possible since it gives a developer the chance
to negotiate directly with the landowner and secure a site before release onto the open market to wider
competition. A developer’s ability to acquire a development site ‘off market’ will depend on the
developer’s negotiating abilities and the current state of the market, as well as the seller’s level of
urgency. When the market is booming and land values are rising rapidly, the landowner will be
strongly advised by their agents to put the site on the open market. Note a negotiated deal may not be
possible if the landowner is a government authority since they are publicly accountable and need to
demonstrate the highest price in the market has been sought and achieved. Often they use an auction
or tender process to fulfil this requirement.
Developers may also identify sites in some less obvious ways. For example a developer may
acquire an entire organisation as part of their acquisition strategy therefore securing a site or an entire
portfolio of properties. Alternatively a development company may purchase a particular retail chain as
a means of securing ‘prime’ sites in a built up area. The developer may retain ownership of the
property assets and either (a) on-sell the operating part of the business to a third party, (b) move the
business to other leased premises or (c) cease operating the business. Developers also may acquire
individual properties or entire portfolios through direct approaches to other developers or property
investment companies regarding their corporate real estate assets. These types of transactions are
considered to be ‘off market’ and not common knowledge until after the transfer has been completed.

2.4.2 Approach via real estate agent or realtor

Although real estate agents or realtors (note: simply referred to from this point forward as ‘agents’)
may be retained exclusively by a developer to identify potentially suitable sites, they will often take
the initiative and introduce opportunities to developers first. The use of an email list is a common tool
here. Such an opportunity may be a site already listed for sale on the market or a site likely to come on
to the market very soon. If the introduction to the developer ends in a successful acquisition of the site,
then the agent will expect a fee from the developer unless they are retained and instructed by the
landowner. The fee is typically around 1% of the land price but may be negotiated. It will also depend
on to what extent the agent continues to be involved with the scheme in the future through the
marketing, letting and/or funding phases.
An agent will seek to introduce the site to only those developers most likely to be successful in
acquiring that particular site then undertaking the development. Some agents remain loyal to a certain
developer because that particular developer is an established client and they have established a good
working relationship over time. The agent will examine the experience of development companies,
their track record and also their financial status when making their decision about who to introduce a
particular site to. The most likely candidates are successful developers active in the particular market
at the time and have the underlying fundamentals in place to remain successful over the long term.
A development company, depending on its size and financial status, may receive introductions
about prospective development sites on a daily basis when market conditions are favourable. It is
particularly important to set up a register of sites already introduced to the development company
because it is highly possible that different agents will introduce the same scheme to different people in
the same organisation. It is important to avoid duplication of agents, otherwise two acquisition fees
might be payable for the same property. Unless an agent is advised in the first instance that the
developer was already aware of the site, due to this misunderstanding the same agent may effectively
‘black list’ the developer from future opportunities.
When introducing a site to a developer the agent should provide sufficient detail to enable an initial
decision to be made by the developer as to whether or not to pursue a potential development
opportunity. Ideally this information should include a site plan, location plan, planning details and
details of the asking price and terms. It is the introducing agent’s responsibility to assist the developer
throughout the acquisition process and therefore earn their commission. Furthermore this agent should
be able to provide detailed advice on the local property market, rental values and information on
existing and proposed schemes of a similar nature to assist the developer in the evaluation process.
The agent is also frequently relied on to negotiate the land price on behalf of the developer.
The approach to identifying a site is a two-way process between the developer and the agent. At all
times the developer must establish and maintain a good relationship and regular contact with local,
regional and national agents. It is important to provide those agents with details of site requirements to
avoid a situation where site opportunities are continually rejected, then causing the agent to give up
and work with a rival developer. At the same time the agents should provide a good service to their
developer clients to ensure the business relationship continues and increase their chances of receiving
letting and funding instructions associated with the property development. Other property
professionals such as solicitors, planning consultants, valuers, architects and quantity surveyors may
also introduce opportunities to developers. In-person networking and effective communication are key
skills a successful developer must possess, rather than relying solely on impersonal email and
keyboard communication. In many respects property development is more about who you know than
what you know and the skill of networking cannot be understated. Professional networking websites,
such as LinkedIn (www.linkedin.com), greatly assist with maintaining networks and developing
additional links with other professionals.

2.4.3 Landowner initiatives

A landowner may take an active role in initiating the development process via their decision to sell
their land or alternatively to enter into partnership with a developer. This may be because the
landowner is ‘asset rich-cash poor’ and lacks access to finance, as well as lacking the expert skills and
knowledge to develop their own land or property to its highest and best use. Understanding the drivers
behind the landowner’s decision to sell can substantially assist to complete the negotiation process and
speed up the sale process. Empathy and communication are essential traits of a successful developer
and likely reasons why other purchasers were unable to secure the same property.
An obvious source for identifying development sites for sale is ‘for sale’ advertisements, whether
on a site board, via direct mail, in the media or in property publications such as Estates Gazette in the
UK, Real Estate Times in Asia, or Realtor in the United States. The starting place is when an agent
lists available property as ‘for sale’ on their own website. These sites are designed to be very easy for
prospective purchasers to navigate with most including a search engine with filters allowing the user to
define the characteristics of a sought-after property and reduce search times. In addition it is often
possible to subscribe to a particular agent’s website as they will forward notification of new property
‘for sale’ based on the stated parameters. The benefits of using this method to search for land include
(a) where potential purchasers are instantly advised about a property just placed on the open market
and (b) it reduces the need to constantly revisit real estate internet websites in case they have been
updated since the last search.
Other advertising mediums where ‘for sale’ property can be found include local and regional
newspapers, both of which usually have real estate sections. The reliance on newspaper advertising
has substantially decreased with the exception of more expensive sites being advertised in financial
newspapers as an investment asset. In addition a developer may also receive particulars of a ‘for sale’
site directly from a landowner or their agent if they have been identified as a potential purchaser due to
their past activities in the market.
Potential development sites advertised on the open market will automatically involve the developer
competing in the open market to purchase the site. However the level of competition from other
developers will depend largely on how the site is offered to the market and the associated conditions
of sale. There are various methods available to bid for the land including informal tender, formal
tender, a competition process, auctions and open ‘for sale’ listings. The method of disposal is at the
discretion of the landowner after considering advice from the agent where this decision will depend on
market conditions and the motives of the landowner. The developer may be in competition with any
number of other potential purchasers or there may be a selective list of bidders. The different
approaches to sale are discussed further.

(a) Informal tenders and invitations to offer

An informal tender or an invitation to offer involves inviting interested parties to submit their highest
and best possible bid within a certain timeframe. This usually involves all parties who have expressed
an interest in the site and forwarding an invitation to bid. In certain circumstances it may include an
indication of the minimum price acceptable. For example it might state that offers to purchase over a
certain dollar amount are invited. In addition it will state any conditions attached to the bid; for
example where planning permission for a change of use has been approved.
 An important point from the developer’s perspective is when the bid is made but subject to any
necessary conditions. After a bid is informally accepted by the landowner then the developer has the
ability to renegotiate the price if there is some justification to do so before the contract is agreed by
both parties in writing. There is always a risk the landowner may not accept a revised price and may
offer the lot to one of the other prospective purchasers who also made a bid. Generally speaking,
developers prefer ‘informal’ to ‘formal’ tenders as they allow bids to be made on the developer’s own
terms. However the more conditions a developer attaches to a bid then the less likely the bid will be
acceptable even if it is the highest bid received. Most often the landowner will accept the highest bid
unless the conditions attached to it are unacceptable or the developer’s financial standing is
questionable and perceived as high risk. After receiving the bids, the landowner may negotiate with
several prospective purchasers before making a decision as an attempt to vary conditions or the level
of the bids.

(b) Formal tender

A formal tender effectively binds both parties to the terms and conditions set out in the tender
documentation being subject only to contract. It involves an invitation to interested purchasers or the
entire market to submit their highest and best bids prior to a stated time on a specific date. The
invitation will set out the conditions applicable. Note the document will usually state that the
landowner is not bound to accept the highest bid.
In many instances a developer does not favour involvement in formal tenders since it reduces their
flexibility and therefore increases their risk. The exception to this would be a situation where all the
possible unknowns had been eliminated; for example where a detailed acceptable planning consent
was in place, a full ground and site survey had taken place and the site was being sold with full vacant
possession. Sale of property by governments is normally undertaken by tender to ensure competitive
transparency and an arm’s-length transaction.

(c) Open ‘for sale’ listing

A landowner may decide to list their property for sale on the open market at a certain price. The listing
may be assigned to only one particular real estate agent, although multiple agents are often used to
broaden the amount of exposure in the marketplace. Selling on the open market is also used to dispose
of property that did not sell previously, such as via the auction process or via the tender process. An
obvious advantage to the landowner is there are usually no substantial upfront out-of-pocket expenses
for marketing the property in contrast to the costs involved in a tender or auction process. The
downside is that achieving a sale can take many months or even years. It should be noted that open
‘for sale’ listings are often priced above the market’s true value in anticipation of the asking price
being driven down during the negotiation process. Also an open listing could be unrealistically priced
substantially higher than the actual market value as the seller has no costs until the final sale is
completed. Therefore simply because a property is listed for sale this price has limited relevance to its
true market value being the agreed price between purchaser and seller in accordance with the
definition of market value.

(d) A competition process

A competitive process may be adopted by the selling landowner when financial considerations are not
the only criteria for site disposal. Therefore competitions are an approach mainly used by local
authorities and other public bodies seeking to identify the optimal developer to implement a major
scheme. They are also used in a more informal way by other landowners seeking development
partners. For example a landowner may want to obtain planning permission before disposing of the
land, therefore a developer may be selected on the basis of planning expertise. On the other hand a
government entity may not wish to dispose of the land and will seek a property developer to project
manage the scheme in return for a profit share. This has become increasingly common and is
commonly referred to as a private-public partnership (PPP).
As the majority of competitions involve government bodies and other public bodies, the emphasis
is placed on these public authority competitions. Government authorities and other public bodies will
invite competitive bids on a tender basis, whether formal or informal, and the bids will normally be
evaluated on a financial and/or a design basis.
As an initial step the authority will usually advertise their intention to set up a competition and
invite expressions of interest. Alternatively the government authority may choose a selection of
developers to enter the competition. If the first method is adopted then developers are usually invited
initially to express their interest in becoming involved in the process. Each developer will usually be
asked to provide details about their relevant experience and track record, financial status (e.g. usually a
copy of their company report and accounts), the professional team if appointed and any other
information considered relevant. As an example a developer may own land directly adjoining the
competition site or may have been involved with the subject site for a considerable time.
In the next step the government authority will assess all expressions of interest and compile a
shortlist of suitable developers to enter the competition. This may or may not be the final selection
process and additional bids may be invited from those shortlisted in order to assemble a final shortlist.
The number of selection processes will depend largely on the total number of interested parties and
complexity of the competition. If the authority requires each interested property developer to submit
both financial information and design bids for a relatively detailed design, then the number of
developers shortlisted for the final process is normally a maximum of about three developers. Many
competitions involve property developers spending large sums of money to submit bids; therefore in
such circumstances extended shortlists are not favoured.
It is important that a development brief is prepared to provide guidelines for the competitive
process. The development brief should state the basis of the competition and the criteria adopted for
choosing the final developer. The development brief will set out the statutory requirements of the
government authority with regard to such matters as total floor space, pedestrian and vehicular access,
car parking provision, landscaping and any facilities the authority considers desirable in planning
terms. The authority may also include a sketch layout or outline sketch drawings illustrating the
development required, but in the majority of cases it is the developer’s responsibility to suggest design
solutions.
The brief should state how flexible the authority is when evaluating if each bid meets its
requirements. From a developer’s perspective it is very important for a developer to find out if they
will be penalised for not strictly adhering to the brief and how much flexibility within their bid is
possible. As a general rule the developers who follow the guidelines set out in the brief will be looked
upon favourably; this is unless a developer proposes an alternative solution to the brief. For example
there may be a scenario where through their ability and expertise a developer may be able to produce a
higher financial bid by proposing an additional area to lease than originally envisaged in the brief
whilst still producing a viable and sensitive design. Every competition is unique and it will pay for the
developer to study the development brief in depth and identify all possible angles potentially available
for their competitive advantage. For example a single aspect, such as a short period until settlement or
naming the development after the seller, may be the ultimate difference in securing the property or not.
Most developers generally find a competitive process to be the least attractive method of acquiring
development sites, mainly due to the lack of control by the developer (e.g. negotiating skill becomes
irrelevant) as well as the resources and financial outlay needed. Competitive bids involving designs
require an input of substantial time and expense linked to the preparation of drawings and financial
bids. In addition this information will be irrelevant for any other future site bids if the developer does
not win approval for that particular site.

(e) Auctions
In some regions and countries the preferred method of sale is via the auction process. Some
development sites are also sold at auction in this manner. In direct contrast other regions use auctions
as a sale method of last resort and then often for unusual sites that have remained unsold. For example
a government authority may use an auction process to dispose of disused railway embankments or
alternatively land with no or limited access.
The underlying benefit of the auction process, where the buyers and seller come together at one
point is time, is based on the belief the market actually determines the final sale price. Other uses of
the auction process are varied since it can be an effective approach if used and marketed correctly. An
auction may be used to sell real estate investment opportunities where leases are due to expire in the
next five years and there is obvious redevelopment potential. Therefore a developer conducting a
search for potential development site/s should regularly examine auction advertisements and subscribe
to email lists related to development opportunities.
As a result of a successful auction process the highest bid secures the site, providing the reserve
price has been met and/or exceeded. With this type of sale the control rests with the landowner who
dictates the conditions of sale, however there are often no accompanying conditions and the property
is sold on a cash settlement basis. Prior to the auction the landowner will instruct the auctioneer about
the reserve price being effectively the lowest price acceptable. If the reserve price is not reached, and
the landowner will not reduce the reserve further downwards, then that particular lot is withdrawn and
often placed back on the open market for sale from that time onwards.
The auction will set out both the standard and special conditions of sale relating to each particular
lot. Once a final auction bid has been accepted, the successful bidder exchanges contracts at that point
by handing over the deposit, together with details of their solicitor or conveyancer (where applicable).
Therefore if a developer plans to acquire a site at auction they must ensure a thorough evaluation has
previously been conducted and all other preparatory work has been finalised prior to the
commencement of bidding. Occasionally a lot may be acquired prior to auction by direct negotiation
with the landowner being ‘sold before auction’.
While there are many different approaches to selling a site, either sale via tender or auction is a
common method of disposal preferred by landowners when market conditions are good. In contrast a
developer will generally prefer to obtain a site off market, therefore avoiding direct competition with
other purchasers and reducing their likelihood of success. For example if a developer enters a number
of competitions and tender situations they could all be unsuccessful or alternatively all or some could
be successful; all of these decisions are out of the control of the developer. In this scenario there is no
certainty and the developer may become very frustrated with an unfavourable outcome, wasting a lot
of time and money in the process.
Securing the appropriate site for an acceptable price is based on the developer’s ability to
successfully evaluate the best opportunities to pursue and also identify the lowest level at which to
submit a winning financial bid. However in many instances it may be simply a case of luck or being in
the right place at the right time. The site acquisition process can be very competitive, especially since
a developer is naturally looking for sites in areas where there is demand for new development and this
can be observed in the market. It must be appreciated that even the best thought-out acquisition
strategy may not be achieved in the manner or in the timescale first envisaged or sought-after by the
developer.
 Discussion point
Examine the positive and negative aspects of developing a brownfield site versus a greenfield
site.

2.4.4 Local authority initiatives

In many regions the public sector is now less directly involved in the development process due to
variations in government policy. Often the emphasis of government policy is to enable development
and facilitate private sector involvement in development although with minimum interference from
government bodies. Nevertheless the government authorities still have an important role to play in
initiating the development process, commencing with the responsibilities of the planner via the
planning system. They may also facilitate development by directly promoting or participating in
development opportunities themselves.
Local governments are restricted by the scope of their legal powers, the availability of finance and
the need for public accountability and transparency. Some government authorities are more active than
others; this depends on the priorities of the political party in overall control of the authority and if they
wish to actively encourage development within their area. It is important to examine the various
methods adopted by local authorities to influence the availability of land for development and their
recent track record.

(a) Planning allocation

The allocation of land within a government planning authority’s development plan establishes the
framework for the permitted use of land and therefore directly establishes its potential value for the
purpose of development. In formulating planning policies in the development plan a local authority
has to balance the demands of developers against the wider long-term interest of the local community.
After all, the community can vote a government authority either in or out based on the government’s
track record. A developer will examine the development plan relevant to the areas identified in their
search for sites. At the same time the local government entity, in their role as the planning decision-
maker, can influence the availability of a particular site by allocating a specific use to it in the
development plan.
It must be stressed that allocation of a site in a development plan does not automatically make this
site available for development. The developer and landowner must be able to agree upon terms and
also the site must be suitable in physical terms for the proposed use. Even if a site is available it may
not be developed because the location of the allocated land does not meet the requirements of
occupiers in the market. If the developer and/or landowner disagree with a particular allocation in a
development plan that appears to be in preference to their own site, often they can discuss their
specific case with a planning inspector at the public enquiry into the development plan. Alternatively
they could make a separate appointment at a convenient time to both parties. Hence to some degree
there is flexibility in the planning process designed to balance the needs of all stakeholders over the
long term.

(b) Land assembly and economic development

Local authorities may make land available for development by assembling development sites for
disposal. At times this process may involve using their statutory compulsory purchase powers to
acquire land from existing landowners without their agreement although this approach can be
controversial. Their ability to assume this enabling role clearly depends on the amount of land under
their control and their attitude towards encouraging development. In regions where there is economic
decline and high unemployment some government authorities are very active and encourage direct
private sector investment. For example their planning department may work with developers to bring
forward certain sites for development using their land acquisition and development powers in order to
deal with physical constraints on development. In economically prosperous authorities an activity may
be restricted to involvement in prestigious sites such as enclosed retail centre shopping schemes.
However this scenario of positive participation by local authorities in making land available is not just
limited to land assembly, whether by agreement or compulsion, but may include site reclamation; the
provision of buildings; the provision of infrastructure/services; the relocation of tenants; and general
promotion of their area as a business location. Any or all of these activities tend to be described by the
general term of ‘economic development’.
The need for a local government authority to become involved in ‘economic development’ depends
on the initiatives taken by the private sector and whether market forces in isolation meet the
expectations of the local authority for the development of their area via the creation of employment
opportunities. Another consideration is the extent to which local government authorities can undertake
‘economic development’ as the statutory body must work within the parameters of government policy.
A viable scenario for a local government authority is to use a proportion of their capital receipts (i.e.
proceeds from the sale of land or buildings) for new capital investment. The remaining balance of
funds is used to redeem debts or as a substitute for future borrowing or set aside to meet future capital
commitments. A local authority’s ability to raise money through capital receipts is important when the
government sets their credit approval limit; for example the extent to which they can borrow money.
The reference to capital receipts usually extends to the receipt of rent (e.g. occupational rents and
ground rents) and the receipt of reduced rent in lieu of some benefit where this must be fully valued in
current monetary terms. In addition any temporary financing by local government authorities, such as
the acquisition of land pending disposal to a developer, will count against their credit approval limit if
the period between acquisition and disposal exceeds one year. This extended timeframe is not
uncommon within the property development process.
Some local government authorities, particularly those located in inner-city locations or in areas of
high unemployment, may receive additional funding from the current government. It is accepted that
access to government assistance has become increasingly competitive and local authorities are being
forced to increasingly identify innovative ways to achieve economic development aims. Joint
initiatives undertaken between the government and the private sector are commonly viewed as a viable
option.
When a local authority does become directly involved in land assembly it can also benefit a private
sector developer, but often will extend the timeframe of the whole development process. When a
particular site identified by a developer is owned by different landowners then a developer may require
the co-ordination of the local government authority to acquire the site. For example this scenario is
quite common in medium or high density urban and town centre locations. The local government
authority may allocate the site for comprehensive redevelopment in the relevant development plan and
therefore is willing to work with the developer to achieve the government’s planning aims. In this type
of scenario the developer may experience difficulties in negotiating reasonable land values with the
various landowners; in other words the landowners may effectively hold the developer ‘to ransom’ by
demanding unrealistically high prices since a specific landholding is vital to the proposed development
due to the ‘special value’ with adjoining lots.
The landowner may be unwilling to sell their site since the primary motivation for their current
occupation of the land is the long-standing operation of their business. In contrast a particular
development site might be land-locked with access under the control of a landowner seeking a price
well above the market value because of their advantageous position. A government authority assisting
with navigating the land assembly process may assist to reach a compromise agreement via
negotiation. If this step is unsuccessful, then a government authority may have the option of making a
compulsory acquisition or purchase order, subject to prevailing legislation. Note that there are strict
rules and regulations surrounding compulsory acquisition and compensation, as well as the obvious
implications and generally negative perception from a political perspective for elected government
officials.
The entire process of compulsory purchase is often a very lengthy and drawn-out process. This
involves the relevant government authority agreeing to compensation values with all of the individual
interests directly affected by the compulsory acquisition. The number of interests affected may equate
to hundreds of landowners in the case of an inner-city redevelopment, or potentially even thousands of
landowners in the case of a major new road within an urban area. In this scenario the correct notice
must be served on all interests involved and details of the scheme publicised.
In most cases the monetary compensation payable by the acquiring authority is the actual value
realised if the property was hypothetically sold on the open market at its highest and best use for full
market value. In addition there may be other heads of claim sought by the affected party including
disturbance, relocation and removal expenses, cost of adapting new premises and loss of profit. In
many cases the compensation amount for disturbance may exceed the value of the land. In the event of
disagreement between the parties then the matter is referred to the court system for independent
adjudication with the assistance of expert witnesses.
In return for assisting a developer with site assembly it has become commonplace for the local
government authority to require the provision of social facilities, a financial contribution towards other
government assets (e.g. water main contribution) or even participate in the financial rewards of the
eventual development scheme. In the past some local government authorities in their role as planners
have used the threat of their compulsory purchase powers in a negative manner to achieve some
material benefit in the form of ‘planning gain’ or amendments to planning applications.
When a local government authority disposes of land to a developer they usually produce a
development brief outlining their strategic plan of how they would like to see the site developed. It is
important that the brief is flexible and not overly detailed in order to allow the developer some
freedom to react to prevailing market conditions. Where compulsory purchase powers are used then
the land assembly process may take several years; over this extended period the market conditions
could have completely changed. It is important from a developer’s point of view that sites are sold as
clean as possible with minimal additional work needed to be suitable for development. In other words
any current encumbrances, problems or constraints existing with regards to the legal title, services,
planning and access should be addressed in the initial commencement.

(c) Infrastructure
The provision of supporting infrastructure is critical to the site acquisition process where local
authorities play an important role in ensuring its provision. The reference to ‘infrastructure’ is used to
describe all the services deemed necessary to support a new development. For example this includes
good vehicle ingress and egress to/from the site and the general locality, water and sewerage
provision, open space and parkland, schools and retail shops.

2.4.5 Site access and additional infrastructure

Access to a site via existing or the proposed provision of roads is important when identifying viable
locations for property development. While proposals for a new road will generate pressure for new
development along its route, a new development will also create additional traffic pressure on the
existing road network. As the existence of infrastructure is absolutely critical to the viability of a
particular development scheme, it is accepted that there are direct influences on land values and also
on the highest and best use of the site. If the necessary infrastructure does not currently exist to
support a development then a developer will take account of the cost of its provision in the evaluation
of the land value.
Local government authorities are largely responsible for deciding the level of infrastructure
required in the locality and securing its provision. In performing this role they must determine who is
ultimately responsible for the cost of its provision. Due to government control on spending, local
government authorities often negotiate agreements with developers to secure the provision of new
infrastructure if it is required to support the development. For example this may refer to the provision
of a roundabout to link the development scheme with the existing road network or the provision of
additional public open space and parks for the public to access.
The assessment of future infrastructure requirements at a strategic level is the responsibility of
different government departments or associated bodies. Their assessment of future requirements will
vary depending on the infrastructure they are responsible for; examples include the road network
(either/or local and major roads), electricity, sewerage, water supply, parkland or waterways. Special
consideration will be given to development with different aspects. For example a new high-rise
development in the city would normally cause higher demand for on-street parking if the development
incorporated insufficient parking, so therefore each development should not place unacceptable
additional pressure on the existing infrastructure and current residents living nearby.
Many government authorities adopt a proactive approach to the provision of infrastructure because
they recognise that new roads assist the opening up of additional land for development. Land is often
assembled at the same time as the construction of a new road so the government authority can benefit
from enhanced land values by packaging sites for disposal to the private sector. There is often a debate
about the pressure for development caused by new roads, particularly in prosperous or
environmentally sensitive locations. Once again this highlights the need for a developer to employ
sustainable development practices.
In some cases the developer may be required to make a financial contribution to pay for
improvements to existing roads in order to accommodate additional traffic caused by a new
development. This potential increase in road traffic also presents an opportunity for government to
reduce the need to travel by car by influencing the location of development schemes relative to public
transport networks or existing roads. From a sustainable perspective they may encourage development
viewed as easily accessible via low carbon (CO2) forms of transport including car sharing, cycling,
walking and public transport.
Many local government authorities actively promote the uptake of public transport as a viable
solution to traffic congestion and a shortage of car parking spaces. This usually includes a standard bus
service however in some locations this has been expanded to include a light railway or tram/light rail
system to ease traffic congestion. In order to secure the necessary public funding for such
transportation systems, government regulations usually stipulate that private sector contributions have
to be secured in advance. Often developers and landowners with sites that will directly benefit from a
new nearby proposed transport system will be approached to contribute to a proportion of the required
financial capital. Note that there is a realistic limit to how much developers can contribute as any
additional financial payments will be automatically deducted from funds the developer had allocated
to purchase the property. This same scenario is applicable to financial contributions made by
developers for road and other infrastructure improvements.

2.4.6 Public-private partnerships (PPPs) with developers

One strategy often adopted by government authorities is to retain a legal interest in the development
scheme by granting a long leasehold interest to the developer (e.g. 99 years) instead of selling the
freehold of the site. In return the government retains ownership and receives regular payments for a
ground rent at a percentage rate usually linked to the long-term success of the scheme. At the
expiration of the lease then the land and any structures or improvements revert back to the authority’s
control. This very low level of rent is often called a ‘peppercorn rent’. Alternatively this type of
arrangement may be referred to as a public-private partnership (PPP) and overcomes the problem of
the government making a large initial financial outlay to develop the site.
At times a government may only retain an interest in the property until the development has been
completed where a building licence is granted for a nominal premium to a developer to enter onto the
land and complete the development. Under this arrangement the government authority sells the
freehold interest to the developer on final completion and therefore receives a financial benefit from
any increase in property value. The main consideration in these scenarios is to identify which
stakeholders are exposed to the most risk. Although such arrangements are presented to the public as a
partnership arrangement, note that this is not a true partnership as the private sector bears the majority
of the risk whilst sharing in only some of the rewards.
Property developments involving a local government authority can often result in a lengthy and
costly competitive process to select a development partner. The size of such schemes involve a
substantial risk for the private sector with substantial sums of money being expended before funding
for the development is secured. The legal agreement between the government authority and a
developer often takes a long time to negotiate and is usually subject to the developer securing finance.
At times some developers are forced to withdraw from such schemes due to lack of funding or because
the initial evaluation of the scheme has changed significantly due to the amount of lapsed time. A
further complication can arise since there are often conflicting interests between a local government
authority’s social objective and a private developer’s profit objective. It must be acknowledged that the
local authority has multiple overlapping roles in the development process directly conflicting with
each other, such as being both the planner and landowner at the same time.
A local government authority is based on democratic and transparent processes that are often
lengthy and inflexible compared with the relatively quick decision-making approach of the private
sector. Sometimes it may take an extended period for a property developer to gain confidence amongst
the elected members of the local authority, only for changes to occur in the authority’s personnel and
also the elected political party in overall control following regular government elections.
Some government authorities, as an alternative to the above arrangements, have entered into joint
ventures with developers via companies limited by shares or guarantees. Another viable scenario is
where some governments have formed wholly owned subsidiaries; for example the use of enterprise
boards to carry out economic development initiatives. This can also apply to those companies being
essentially extensions of a government authority. As a general rule the government wants to ensure
that local government authorities remain accountable to the public and will have policy or legislation
restricting the use of joint companies as a means of avoiding capital expenditure restrictions. Many
developers prefer joint venture arrangements as they are familiar with this arrangement and it also
facilitates a quicker decision-making process. In addition it allows more flexibility in securing funding
for the scheme as the property developer passes some of the risk to the local authority, which then
shares in any decrease in the value of the completed scheme.

Discussion point
What is the role of government authorities in the property development process?
2.5 Site investigation
Prior to site acquisition there are a number of very important investigations the developer must
undertake. These investigations will influence the terms of the contract to acquire the site and the price
the developer is willing to pay for the site. Although landowners, particularly local government
authorities, will provide as much information as possible it is up to a property developer to satisfy
themselves that there will be no unexpected surprises once legally binding contracts for the acquisition
of the site have been drawn up and exchanged. The investigations listed below are of critical
importance when a developer is acquiring a particular site. For example, after closer examination the
investigations may reveal that the proposed scheme is no longer viable due to the physical state of the
ground and the cost of remedying such problems.

2.5.1 Site survey

A site survey needs to be undertaken by qualified land surveyors to establish and/or confirm the extent
of the site and whether the boundaries agree with those identified in the legal title deed. The location
of structural improvements, fencing and even a boundary wall on a site does not necessarily confirm
the location of the actual site boundary as stated in a legal title deed. For example there is not always
an obvious boundary when the site adjoins community or state owned parkland. To avoid future
disputes over ownership, physical inspection of the site and comparison with the legal title deed is
essential.
The need for a site survey is of vital importance where a development site is being assembled by
bringing together various parcels of land in different ownerships. In this scenario the survey needs to
confirm all the boundaries of the various parcels are correct in both length and alignment and that the
entire aggregate site consisting of multiple individual properties is actually being acquired. There
would be acute development barriers if the developer discovered after commencing the property
development that a small but vital part of the site had not been acquired. In this type of scenario the
developer would then have to negotiate from a very weak position with that particular landowner,
being effectively held to ransom with little bargaining power. The site survey also establishes the
contours and levels of the site. If any existing buildings on the site are to be retained, a structural
survey will need to be conducted.
A legal search of the title deed/s will confirm the responsibility for the maintenance of the
boundaries. It will also identify any encumbrances on the site, such as a sewerage or electricity
easement under the ground possibly limiting the construction of any improvements on the land above
these utilities. For example there may be a high voltage overhead power line (HVOTL) in existence
therefore restrictions are placed on the land underneath, such as not being legally permissible to be
improved with a structure (Wadley et al. 2019). Another example would occur when there is an access
or ‘right of way’ easement over the site to an adjoining lot; in addition the access arrangements to this
site need to be confirmed to ensure the site boundary abuts the road and gives direct uninterrupted
access. If a public highway exists then a solicitor needs to check whether it has been adopted by the
local authority and is maintained at their expense. If access to the site is via a private road then the
ownership and rights over that road need to be established.

2.5.2 Ground investigation

Unless reliable information already is available as to the state of the property below the surface then a
ground investigation needs to be carried out by appropriate specialists. The purpose of the ground
investigation is to assess the suitability of the land to support the building structure. Ground
investigations can vary both in cost and extent depending on the size of the proposed scheme and the
information already known. A comprehensive investigation will normally include a series of boreholes
taken at strategic locations on the site. Then such samples taken from the boreholes need to be
analysed in a laboratory to establish the nature of the soil, substrata and water table, together with the
possible existence of any contamination.
The results of the investigation will be given to the structural engineer, architect and quantity
surveyor. They will need to analyse the results to establish whether any remedial work is necessary to
improve the ground conditions or whether any pile foundations are required. An example would be the
addition onto the site of external soil as fill material and then compacted. Both circumstances will have
an impact on the cost of the development scheme, which in turn will affect the overall viability of the
development.

2.5.3 Contamination
The existence of any contamination on a site has become an issue that developers are legally unable to
ignore. Unless the parcel of land has never had a previous use and has always been in its natural
undeveloped state since the beginning of time, there will arguably always be some level of
contamination left behind. The process of property development commonly requires a change of land
use; for example from a previous industrial use to a residential use. Industrial processes typically
cause land contamination from the chemicals and products used in the manufacturing process
including cleaning products, oil and acids. It has been well documented that long-term exposure to
these contaminants can be harmful to humans and therefore contamination must be completely
eliminated prior to development. Another example is the identification of asbestos on a site with a
previous use.
Contaminated land is generally referred to as land that represents a natural or potential hazard to
health or to the environment as a result of current or previous uses.
There are varying definitions of contaminated land depending on the jurisdiction. A reliable
definition of contaminated land produced by the UK government is ‘where substances are causing or
could cause: (a) significant harm to people, property or protected species; (b) significant pollution of
surface waters (for example lakes and rivers) or groundwater; or (c) harm to people as a result of
radioactivity’(UK Government 2020).
In the United States the definition is based on a category system that refers to the level and type of
contamination, as well as the regulations under which they are monitored and remediated (USEPA
2020). These categories produced by the United States Environment Protection Agency (USEPA) are
listed below.

Superfund National Priorities List sites. These sites are seriously contaminated and include
industrial facilities, waste management sites, mining and sediment sites, and federal facilities
such as abandoned mines; nuclear, biological, chemical, and traditional weapons production
plants; and military base industrial sites (e.g., those used for aircraft and naval ship maintenance).
Resource Conservation and Recovery Act (RCRA) cleanup facilities. These facilities are
subject to cleanup under RCRA due to past or current treatment, storage, or disposal of hazardous
wastes and have historical releases of contamination.
Underground storage tanks/leaking underground storage tanks. Businesses, industrial
operations, gas stations, and various institutions store petroleum and hazardous substances in
large underground storage tanks that may fail due to faulty materials, installation, operating
procedures, or maintenance systems, causing contamination of soil and ground water.
Accidental spill sites. Each year, thousands of oil, gas, and chemical spills occur on land and in
water from a variety of types of incidents, including transportation (e.g., rail, barges, tankers,
pipelines) and facility releases.
 Sites contaminated by natural disasters or terrorist activities. Disasters of any sort, naturally
occurring or caused by humans, have the potential to contaminate lands and cause problems at
already-contaminated sites.
Land contaminated with radioactive and other hazardous materials. Many sites spanning a
large area of land in the United States are contaminated with radioactive and other hazardous
materials as a result of activities associated with nuclear weapons production, testing, and
research.
Brownfields. Brownfields are real property where expansion, redevelopment, or re-use may be
complicated by the presence or potential presence of a hazardous substance, pollutant, or
contaminant. Cleaning up and reinvesting in these properties protects the environment, reduces
blight, and takes development pressures off green spaces and working lands.
Military bases and defense sites. Some of the millions of acres of land used by the Department
of Defense are contaminated from releases of hazardous substances and pollutants; discarded
munitions, munitions constituents, and unexploded ordnance; and building demolition debris.
Similarly, as part of its defence mission, the Department of Energy owns numerous facilities that
have been contaminated from releases of hazardous chemical and/or radioactive substances.
PCB-contaminated sites. Prior to the Toxic Substances Control Act, polychlorinated biphenyls
(PCBs) were widely used across many commercial industries, and significant PCB contamination
resulted from spills and releases, and from the use and disposal of products containing PCBs.
Abandoned and inactive mine lands. Abandoned and inactive mines may not have been
properly cleaned up, and may have features ranging from exploration holes to full-blown, large-
scale mine openings, pits, waste dumps, and processing facilities (USEPA 2020).

When highly contaminated land is initially suspected it is important to employ the services of
professionals and assess the cost, if any, and the associated timescale for remedial action. It has
become commonplace for the financiers and end-use purchasers of development schemes to demand
evidence from developers that sites are no longer contaminated after completion. In instances where
they were, the stakeholders need to be convinced that satisfactory remedial action has been taken. It is
accepted a developer will not obtain finance for a scheme if there is the slightest risk of contamination
and associated high risk.
Contamination is typically caused by a previous occupier/s use of the land. Unfortunately for many
sites the use of contaminants is unrecorded which makes it incumbent on the developer to undertake a
thorough investigation, especially of brownfield sites. Occasionally contaminants will migrate onto
land from other adjoining sites and pollute the land, although such an occurrence can cause very
complex issues to arise in terms of enforcing the polluter to pay costs of remediation.
Different land types that are most often contaminated (and examples of relevant contaminants) for
different land types are listed below (API 2020).

1. Abattoirs and animal processing works. 1b. Arsenic

2. Acid/alkali plant and formulation.
3. Agricultural activities (vineyards, tobacco, sheep dips, market gardens). Heavy metals.
4. Airports. Trichloroethylene from solvent cleaning operations.
5. Alumina refinery residue disposal areas. Fluoride (atmospheric emissions).
6. Asbestos/asbestos production.
7. By-product animal rendering. Pesticides.
8. Bottling works.
9. Breweries. Pesticides, oils and greases, underground storage tanks.
10. Brickworks.
11. Car wreckers. Oils and greases, TPH and BTEX compounds, TCE (solvent cleaning).
12. Cement works.
13. Cemeteries.
14. Ceramic works. Heavy metals.
15. Chemical manufacture and formulation.
16. Coal mines and preparation plants. Organic compounds – surfactants.
17. Defence works
18. Docks. Oils and greases, TPH and BTEX compounds, TCE (solvent cleaning), pesticides, heavy
metals.
19. Drum reconditioning works
20. Dry cleaning establishments. Organic compounds.
21. Electricity distribution. PCB compounds.
22. Electroplating and heat treatment premises. Chrome, heavy metals.
23. Ethanol production plants.
24. Engine works. TPH, BTEX compounds, organic compounds (associated with solvents).
25. Explosives industries.
26. Fertiliser manufacturing plants.
27. Gasworks.
28. Glass manufacturing works.
29. Horticulture/orchards. OCP and OPP pesticides.
30. Industrial tailings ponds. Heavy metals, organic compounds, TPH, BTEX.
31. Iron and steel works.
32. Landfill sites. Variety of possible contaminants.
33. Limeworks.
34. Marinas and associated boat yards. Heavy metals particularly Tributyl tin.
35. Metal treatment. Heavy metals.
36. Mineral sand dumps.
37. Mining and extractive industries.
38. Munitions testing and production sites.
39. Oil production, treatment and storage.
40. Paint formulation and manufacture.
41. Pesticide manufacture and formulation.
42. Pharmaceutical manufacture and formulation.
43. Photographic developers. Heavy metals – Ag Cl used as part of process.
44. Piggeries. Pesticides and heavy metals.
45. Plant nurseries.
46. Plant or fibreglass.
47. Power stations.
48. Prescribed waste treatment and storage facilities.
49. Printed circuit board manufacturers. Solvents and glues – volatile organic compounds.
50. Properties containing underground storage tanks. TPH, BTEX, PAH, solvents.
51. Radioactive materials, use or disposal.
52. Railway yards.
53. Research laboratories. Metal, organic compounds, radioactive elements.
54. Sawmills and joinery works. Copper, chrome, arsenic.
55. Scrapyards. TPH, BTEX.
 56. Service stations.
57. Sewerage works.
58. Smelting and refining.
59. Sugarmill or refinery.
60. Tanning and associated trades (e.g. fellmongery).
61. Timber treatment works. Formaldehyde, copper, chrome, arsenic.
62. Transport/storage depots.
63. Tyre manufacturing and retreading works. Glues – volatile organic constituents.
64. Waste treatment plants in which solid, liquid chemical, oil, petroleum or hospital wastes are
incinerated, crushed, stored, processed, recovered or disposed of.
65. Wood storage treatment. Formaldehyde, copper, chrome, arsenic.
66. Wood treatment facility. Formaldehyde, copper, chrome, arsenic.
67. Wood preservation. Formaldehyde, copper, chrome, arsenic.

The cost of ground investigation is usually substantially higher than normal when any level of
contamination is identified, therefore representing a potentially substantial upfront cost for the
developer. As much information should be obtained on the site’s history of previous land uses before
any ground investigation is started. This is achieved by examining ordnance survey maps, local
authority records, title deeds and any other likely historical source of information. In regions where
contamination is widespread then the local government authority may have already compiled records
of contaminated land. However the information obtained from records may be limited and will always
need to be thoroughly checked as the major risk rests with the developer.
The ground investigation will usually involve taking soil samples down to the water table level.
This may be accompanied by extensive surveys of all underground and surrounding surface water due
to the risk of contaminants seeping into water below the surface (for example see the UK legal case
Cambridge Water v. Eastern Counties Leather plc [1994] 1 All ER 53 involving the contamination of
the local water supply from the operation of a tannery). The results of the ground investigation will
enable an assessment to be made of the extent and cost associated with undertaking remedial
measures.
There are many different approaches to treat and remedy contamination. The main options
available are (a) remove the contaminated soil and replace it, (b) treat the on-site contaminated soil in-
situ, or (c) contain the contamination under a blanket of clean earth where this is often referred to as
‘capping’. Ongoing measures may be required once the development is complete such as venting
methane gases to the surface, especially in the case of previous landfill sites. If contamination is
limited to one area of the site it may be possible to design the development around the problem; for
example by locating a car park in the proximity. If ground has to be decontaminated by using imported
material as fill as part of the process then deep piled foundations may be required.
Sometimes when a developer is faced with a contaminated site then the remedial measures are
often very expensive, which in turn eliminates practically all alternative land uses except higher value
uses such as commercial office or retail warehousing. In view of the increasing concern about
contaminated land and the debate about identifying the stakeholder to be financially responsible, the
developer should undertake a thorough due diligence and spend time in the preliminary investigations
to thoroughly investigate its possible existence. The appropriate professionals should undertake a full
environmental audit so this can then be presented to all stakeholders including potential purchasers,
financiers and final owners.

2.5.4 Services
The site survey should establish the existence of services currently available to the site including the
provision of water, gas, electricity and drainage. All of the utility companies should be contacted to
confirm the services identified in the survey actually correspond with those listed on official records.
In addition, the capacity and capability of the existing services to be able to meet the needs of the
proposed development should be accurately evaluated. If the existing services are considered as
inadequate the developer will need to then negotiate with the company concerned to establish the cost
of upgrading or providing new services. A relevant example would be making a financial contribution
to a new electricity substation to provide the additional electricity needed for the development scheme.
When tasks need to be carried out by either an electricity or gas company the developer will often
be charged the full cost of these additional service requirements. At times a partial rebate may be
available once the development is occupied and the company is receiving a minimum level of income.
The physical route of a particular service may need to be diverted to allow the proposed development
to take place, such as where one lane on a road or a complete road may be closed to give the builder
more access to the site. The cost of this diversion and the time period required to complete should be
established at the earliest possible stage.
A legal search of the title deeds will reveal if any adjoining neighbours or occupiers have rights to
connect to or enjoy services crossing the development site. The developer may need to renegotiate the
benefits of these rights if they affect the development scheme. It is accepted that access to services are
essential to any new development and the developer must be 100% certain the site will have full
access to those services required by the occupier prior to proceeding further.

2.5.5 Legal title

In most cases a solicitor or legal expert will be engaged by the developer to identify the correct legal
title to be acquired and also conduct all of the necessary enquiries and searches before contracts are
entered into with the landowner. The developer’s solicitor will apply to the body governing, or in
control of, land registration to examine the official register of the title. If the land to be acquired is
leasehold then it is essential to closely examine brief particulars of the lease and record the date it was
entered into. The developer will need to establish the length of the lease, examine the pattern of rent
reviews and the main provisions of the lease. Such provisions need to be checked to ensure the terms
are acceptable to the provider of development finance.
The solicitor needs to confirm the land will be acquired with vacant possession and also that there
are no unknown tenancies, licences or unauthorised occupants. The fact that a site or building is
currently vacant or unoccupied does not necessarily mean that no legal rights of occupancy exist and
belong to an absent third party. The search of the lease and title deeds will also reveal the existence of
any conditions or restrictions affecting the rights of the landowner to sell the land. In addition, all
rights and interests adversely affecting the title will be identified such as restrictive covenants,
easements, mortgages and registered leases.
The existence of an easement could fundamentally affect a development scheme. An easement may
either (a) positively affect the land, e.g. a public or private right-of-way to an adjoining property or (b)
negatively affect the land, e.g. a right of light access or views for the benefit of an adjoining property.
If the easement exists to the detriment of the proposed scheme then the developer may be able to
negotiate its partial or full removal or some type of modification to allow the scheme to proceed.
Rights relating to the availability of natural light might affect the proposed position of the scheme
and ultimately affect the amount of floor space available in the property development. If a party or
inter-tenancy wall exists then it will be necessary to agree a schedule of condition with the adjoining
property or make a payment of compensation. A property professional with specialist knowledge on
party wall matters may need to be appointed by the developer to correctly evaluate this aspect.
 The existence of restrictive covenants may adversely affect the development scheme; for example a
covenant restricting or prohibiting a particular use of a site. However it is sometimes difficult to
identify individual landowners who benefit from a covenant since the covenant may have been entered
into some considerable time ago. If the beneficiary can be found then the developer may be able to
negotiate the removal of the restriction. If not identified, then another option is for the developer to
potentially apply to the relevant government authority for its discharge although typically this is a
lengthy process. Another alternative is for the developer to take out an insurance policy to protect
against the beneficiary enforcing it. The insurance cover may be able to compensate against the loss in
value caused by any successful enforcement action.
A solicitor will also conduct or request a search of local government authority records. This process
has varying names depending on the regions, such as being referred to as the ‘Local Land Charges
register’ in the UK. This will reveal the existence of any planning permissions or whether any building
and/or site is listed as a building of special architectural or historic interest or there are any other
charges on the property or land being sold. Enquiries should also be made of the local government
authority to confirm whether the road/s providing access to the site are adopted and maintained at
public expense. The existence of any proposed road improvement schemes might affect the site. A
relevant example is where a strip of land may be protected at the front alignment of a site for future
road widening purposes.
Direct enquiries should be made of the existing site landowner in their role as the seller/vendor and
include standard questions on matters such as boundaries and services. Enquiries will also reveal the
existence of any overriding interests (e.g. rights and interests to other parties which do not appear on
the register of the title) or adverse rights (e.g. rights of the current occupiers of the land). Solicitors
may also make additional enquiries of the vendor considered directly relevant to the land being
acquired.
The developer should aim to acquire the freehold or leasehold title of the development site without
as many encumbrances as possible by renegotiating or removing these restrictions and easements.
However this not always possible and the developer may need to make some compromises, especially
with reference to the retention of heritage buildings and facades already existing on the site. Lenders,
particularly financial institutions, usually prefer to acquire their legal interest with a minimum of
restrictions that potentially can affect the value of their investment in the future. In other words, the
market would rather have fewer restrictions than more restrictions due to the perceived higher risk.
The developer has to be able to sell the title to the final occupants, being either purchasers or tenants,
as quickly as possible without any added complications, e.g. complex encumbrances

2.5.6 Finance
The provision of finance is fundamental to the success of the development. No prudent developer,
unless there are sufficient internal cash resources and equity, would consider entering into a
commitment to acquire a site without having first secured the necessary finance or development
partner to cover at least the cost of acquisition, including interest on the acquisition cost, while the site
is held pending development. The developer should aim to ensure that the financial arrangements are
confirmed to coincide with the acquisition of the site. If no financial arrangements are in place then the
developer must be 100% certain either the finance will be secured or that the site can be sold on the
open market if no funding is forthcoming.
The developer must ensure all investigations have been carried out thoroughly so a financier or
partner has a full and complete picture of the site. Every area of doubt must be removed if at all
possible. Market downturns create a situation where lenders are more risk-averse and typically tighten
their lending criteria to reduce their exposure to risk. Often this means they will require a commitment
to pre-letting to an existing tenant for all or a substantial proportion of the proposed scheme before
they are prepared to finance the venture. The developer needs to fully understand what a lender is
looking for regarding lending criteria and then organise their application accordingly.

Discussion points
When evaluating a particular site which are the most important considerations for a property
developer to consider?
How does each consideration affect the viability of a development?

2.6 Site acquisition

The findings from all of the investigations undertaken, as discussed above, need to be fully reflected in
the site acquisition arrangements. The degree to which developers reduce the risk inherent in the
property development process depends to some extent on the type of transaction and associated
conditions that all parties agree to during the site acquisition stage. The prudent developer will always
endeavour to reduce the element of risk to a minimum and the site acquisition arrangements are
important in this respect. Ideally no acquisition will be made until all the relevant detailed information
has been obtained and all problems resolved. A comprehensive due diligence must be completed.
However, in practice, it is practically impossible to remove every single aspect of uncertainty due to
the inherent characteristics of the real estate market. The degree to which a developer can reduce risk
to the site acquisition stage is largely dependent on the landowner’s method of disposal, the amount of
competition and the form of tenure. At times it is possible to pass some of the risk to the landowner
however this will largely depend on the developer’s negotiating abilities.
The majority of site acquisitions are undertaken on a straightforward freehold basis where the
developer will own the site outright. The freehold title transfers from the vendor/landowner to the
developer after contracts have been completed; from that point the property developer is responsible
for all of the risk associated with the land. The developer can reduce much of the risk inherent in the
transaction through careful negotiation of the various contract terms. The contract is usually always
conditional to some extent and payments can be paid in stages or delayed. For example the property
development may be based on obtaining permission for a change of land use and therefore the
developer should negotiate that the contract is subject to a ‘satisfactory planning consent’ being
obtained. The vendor, if such a condition is acceptable, will try to ensure the term ‘satisfactory
planning consent’ is clearly defined.
The developer may obtain a planning consent that does not reflect the highest value of the site but
satisfies the condition in the contract. However at a later stage the developer can possibly obtain a
better planning consent. It is not uncommon for ‘top-up’ arrangements to be made whereby the vendor
benefits from any improvement created by planning consents obtained by the developer. Developers
will carefully identify and evaluate the degree of uncertainty in relation to planning and it will be a
matter of judgement as to whether the additional exposure risk or uncertainty is acceptable. If the
vendor is undertaking to sell the site with vacant possession then the contract should be conditional
upon this tenure since there could be a time delay for the occupants to actually leave the building in a
vacant state.
Whilst the normal period between signing a contract to purchase a site and then access can be
relatively short (e.g. 28 days or less), the developer may negotiate an extended time delay for the
completion, e.g. 12 months. Any delay in the development process will incur an added expense
therefore the developer should ensure that any potential problems identified in the investigations are
dealt with prior to completion of the contracts. Alternatively it should be ensured that the amount of
time needed to resolve them is reflected in the evaluation and therefore also incorporated in the price
paid for the land.
If the planning process is perceived to be very long and difficult, the developer will often consider
it will be advantageous to pay for an option to reserve the land for future purchase. This type of option
involves the developer paying a nominal sum to secure the right to purchase the freehold rights to the
property. There is usually an agreed date, also referred to as a ‘long stop’ date, after which the vendor
is free to sell the land to another purchaser if the developer has not taken up the option by the
expiration. The option agreement might specify that certain conditions need to have been complied
with by the developer before they are permitted to purchase the land. If the developer fails to complete
the purchase by the ‘long stop’ date then the vendor is free to market the site to other purchasers for
sale. Alternatively, the agreement may allow the developer to call upon the vendor at any time to sell
the site after sufficient notice. The developer will aim to nominate the specific value of the site at the
time the option agreement is entered into, but in reality this is often difficult to actually achieve. At
least in a rising market where values are increasing the vendor/landowner will usually try to ensure
that the open market value is fixed at the same time the developer actually purchases the land.
The developer may only be able to acquire a long leasehold interest in the land at a premium with a
nominal ground rent, sometimes referred to as a ‘peppercorn rent’. This occurs when the landowner is
(a) only able to dispose of a leasehold interest or (b) wishes to retain some control over the
development, e.g. the landowner is a local government authority. The developer may be able to take
out a lease on a building in the first instance, therefore immediately forming a legal estate although
probably subject to covenants relating to the satisfactory completion of the property development.
Alternatively the transaction might be arranged on the basis of a building agreement and lease. This
only gives the developer a licence to enter onto the site and construct the building however it includes
a commitment by the landowner to grant a lease when the building has been satisfactorily completed.
A similar arrangement is sometimes made by local government authorities in relation to freehold
transactions. For example where the developer is able to carry out the development under a building
agreement and the freehold is then transferred on the satisfactory completion of the property
development. Under this type of transaction the local government authority may become an equity
partner in the scheme. The value of the scheme is assessed on completion and therefore the authority
can share in any growth. The developer can use this type of transaction to reduce their exposure risk at
the outset. The property developer may only be required to pay a nominal premium to enter into a
building agreement and the consideration owed to the local government authority may be only payable
if a profit is made on completion. The consideration paid to the local government authority may be in
the form of a profit share or it could be the land value on completion. This method of acquisition is
advantageous to the property developer where the development scheme is large and likely to take a
number of years to complete. The risk to the property developer can be substantial; nevertheless a
government authority may be willing to be flexible due to their interest in the implementation of the
scheme. A prudent developer would not enter such a building agreement on a large property
development scheme without making this agreement conditional upon funding approval.
It is important that the building agreement is carefully negotiated as otherwise long drawn out
arguments can take place after final completion in relation to the calculation of profit. Larger property
development schemes will take many years to complete and as a result it is possible the political party
and related personnel in overall control at the local government authority will have changed when the
project is finally completed. In turn this may lead to disputes over matters such as the precise
definition of development costs that adversely affect the authority’s profit share. An alternative
approach to undertaking lengthy negotiations about how to calculate the profit is to form a joint
company with the authority. With a joint company the profit is clearly listed in the audited accounts of
the company so there is no dispute as to the level of acceptable development costs.
 For some developments the site will be acquired on the basis of a long leasehold interest with an
open market ground rent payable, instead of a premium being payable with a nominal ground rent.
Some leasehold agreements can be for an extremely long timeframe such as 99 or 125 years. The
actual level of ground rent payable can be reviewed in various different ways and might be geared to
(a) a proportion of the current market rent of the property, (b) a proportion of the rents received less
outgoings or (c) the level of rents receivable.
Each developer should have high regard to the preferences of financial institutions and lenders in
the local region in which they operate. Most financial institutions prefer freehold arrangements to long
leaseholds and this will be reflected in the yield at which the institution values the completed
investment. The reviews might be to a vacant site value with planning permission and based on the
assumption that a similar term of lease will be granted at the time of review. Some financial
institutions prefer the revised rent of the building to be fixed when the ground lease is granted. This
means the ground rent might cease to rise or may even fall towards the end of the term. Ground leases
may have a user covenant to limit the use of the site to a particular planning use class.

2.7 Government assistance

There can be barriers to development when (a) the land is not made available for sale or (b) a
development is not initiated by private market forces since the development process is not viable.
Development is often not viable due to low market rents and lack of occupier demand in a particular
area and/or prohibitively high development costs as a result of the physical condition of a particular
site. Typically many of these areas are located within the city centre or regions in economic decline
and associated with high unemployment. Often the infrastructure in such areas is extremely congested
or non-existent and there may also be widespread contamination from previous uses of the land
parcels by heavy industries. An added challenge with urban regeneration of an older area is the
requirement by the local authority to preserve the historical significance of the original property e.g.
retaining the facade at the street alignment (Lai and Lorne 2019).
To tackle this problem many innovative forms of funding urban regeneration have been
encouraged, typically involving additional risk sharing by the public sector rather than simply
distributing financial grants to developers. This approach is especially applicable to areas in a rundown
or disused state for an extended period and have minimal appeal to developers due to the higher
inherent risk.

2.7.1 Government agencies

Various government agencies exist to implement and administer urban regeneration policies on behalf
of the government. However these agencies may exist at the locality level, the regional level or the
country level. For example in the UK there are different agencies operating within England, Scotland,
Wales and Northern Ireland. Their roles differ but they all take an active, initiating role in the
development process by making land available for development and providing financial assistance; at
times they may even participate directly in development. A prudent developer should be aware of the
existence of these agencies, their remit and how to provide a development solution being profitable for
the developer and also meet the objectives of the agency. For the developer this can reduce the level of
risk as their development partner is of higher quality than a normal market participant.

2.7.2 Funding and grants

Direct government financial assistance via funding or grants is usually available to local authorities
and/or developers proposing important urban regeneration schemes in specific areas of their region or
country. For example financial grants are often available to developers and the public sector to develop
rundown inner-city sites and buildings. At times this will include historic or heritage sites where the
developer must work with and retain parts of the existing buildings and infrastructure.

Discussion point
How do governments provide assistance to the development process?

2.8 Reflective summary

This chapter has discussed the framework surrounding the selection of land for development.
Even if the developer has undertaken a substantial amount of research prior to implementing a
land acquisition strategy then successfully achieving this objective within the stated timeframe
and within budget is often beyond the control of the developer. The following preconditions need
to be in place for the development process to be initiated through land acquisition:

1. The landowner’s willingness to sell the land at a price with associated conditions to enable a
viable profitable development to proceed.
2. Planning permission granted for the proposed development or allocation of the proposed
use within the relevant development plan and zoning constraints.
3. The existence of adequate infrastructure and services to support the proposed development.
4. If necessary, after appropriate decontamination at a reasonable cost, the existence of suitable
ground conditions to support the development.
5. The necessary development finance at an acceptable cost.
6. An identified end-user or confirmed hypothetical occupier demand for the proposed
development.

If one or more of the above conditions cannot be confirmed then the development should not
proceed since it will usually represent a considerable risk to the developer. Local authority
involvement and government assistance may be available in relation to compulsory acquisition,
provision of infrastructure, site reclamation, finance or occupier/investor incentives depending on
the nature of the proposed development and its location. Most importantly the requirements of
occupiers are always the central component of a successful developer’s land acquisition strategy
to reduce exposure to risk.

2.9 Case study: large-scale residential development – Armstrong Creek

This case study examines the planning process undertaken by Jinding Developments (Jinding), being
part of the Jinding Australia Group, to improve the value of a large-scale development to both the
Project Partners and future residents. This process was led by Jinding in partnership with Yolk
Properties and the landowner, the Harkness Family (i.e. jointly together as Project Partners), who have
used the property for farming and held ownership since 1995. The subject of this case study is the
development of a masterplan for this land between 2018 and 2020 to form the future Harriott
residential community, https://harriottarmstrongcreek.com.au/ (the Project). The Project is located
within the Armstrong Creek growth area forming part of the Armstrong Creek East Precinct Structure
Plan (PSP). This case study focuses on the skill and determination of the developer to overcome major
challenges associated with the Project whilst also maximising the highest and best use of the site.
Rather than accept an average outcome for the Project, which would have satisfied all approval and
commercial requirements of the Project Partners, the final outcome was superior in many respects.
Armstrong Creek is a regional location on the outskirts of Geelong, Australia. The aggregate
Armstrong Creek growth area is an extremely large contiguous area consisting of more than 2,500
hectares (6,175 acres) of land suitable for development. Eventually the region will provide housing for
between 55,000 and 65,000 residents in 22,000 residential homes. The emphasis has been placed on
being a sustainable community with a focus on walkability, public transport provision and sustainable
water use (Geelong Council 2020).
The PSP sets the planning framework for the Project and nominated ‘residential use’ for this
location and site. This includes a mixture of standard residential and medium density allotments closer
to the planned Neighborhood Activity Centre (NAC). The PSP also accounted for an existing
easement containing the High Voltage Overhead Transmission Line (HVOTL) in favour of Alcoa
Corporation. This easement traverses the entire site from the south-west to the north-east corners
(Figure 2.1) where it extends across the Armstrong Creek growth area from Geelong City to the now
redundant power plant. The PSP considers this HVOTL as encumbered land and nominated it as
‘Public Open Space Easement’.
Figure 2.1 Part of the Armstrong Creek East Precinct Structure Plan highlighting the project (Source:
Jinding 2020)

To develop a site subject to a PSP overlay each developer must obtain Planning Permit approval
that complies with the PSP. The Planning Permit must detail the road grid, open space distribution and
lot density to conform to the PSP planning framework. Initial plans for the Project incorporated the
HVOTL easement per the requirement of PSP. However the HVOTL and its alignment compromised
the master plan in the following ways:

The HVOTL did not align square to the property boundary, thus required additional roads and a
higher development cost.
Increased intersection and corners in roads also reduced vehicle and pedestrian permeability as
well as increasing walking and drive time.
The HVOTL alignment created odd shaped lots and resulted in less efficient use of land, in turn
resulting in a lower average value per square metre of developed land.
The HVOTL contained unsightly infrastructure that would substantially reduce the market value
of homes abutting it and also those located nearby.
Overall decrease in perceived quality of the project would be due to widespread negative
perceptions about electro-magnetic fields (EMFs) relating to HVOTLs (see Wadley et al. 2019).

The original plan (Figure 2.2) was still viable for the Project Partners and would have been approved
in usual timeframes since it complied with the PSP. However the developer adopted an alternative
approach since they were aware there were plans from Alcoa to decommission and remove the
obsolete HVOTL. The developer recommended a proposal to achieve the intent of the PSP on the
basis that the HVOTL was removed. This approach included an inherent risk since there was a
possibility that the HVOTL may not be removed in the near future, where the local government
needed to agree to an alternative plan that varied from the PSP. Nevertheless the developer considered
that the potential urban design and livability benefits were substantial if achieved, therefore they
proposed the project should proceed down this path.
Figure 2.2 Initial masterplan including HVOTL and easement (Source: Jinding Australia 2020)

After confirming the imminent plans for removal of the HVOTL, the developer was able to
proactively progress removal of the easement. This was a complicated process since the easement was
in favour of the Crown and therefore the Queen’s representative needed to give approval for the
removal of the easement. An exhaustive legal process led by Jinding confirmed the Crown no longer
had an interest in the easement therefore it could be removed if ministerial approval was granted. As
the revised plan was contingent on the easement being removed, the local government delayed
Planning Permit approval until this was achieved. An early engagement with local government about
an alternate plan was imperative to gain in principle support for the process and then ensure the
Council’s planning objectives were met with the alternative plan. This dialogue continued throughout
the evolution of the plan. The final approved plan is shown in Figure 2.3. Some key elements that
Council sought to maintain in the alternative masterplan included:
Figure 2.3 Updated masterplan without the HVOTL easement (Source: Jinding Australia 2020)

walking and cycling paths providing a direct connection between the NAC and the Sparrovale
Wetlands;
a linear green corridor with an active open space at the top of the hill (northern end) to provide
an amenity to all residents; and
 increased housing density close to the NAC and amenity.

In addition to meeting the local government’s objectives, the following improvements were achieved
in the final masterplan (Figure 2.3):

removal of the HVOTL allowed for a structure layout therefore creating an efficient and
permeable plan;
fewer roads but more legible north-south and east-west connections;
increased net developable area due to less roads and regular shaped lots and parks;
a new boulevard connector road providing direct access from the NAC and Regional Active
Open Space to the east;
lots that are regular shaped and with added variety; and
additional useable and greater accessible open space.

This case study highlighted the developer’s ability to maximise their returns with an additional 100
lots, as well as producing more appealing lots and also an improved livable master plan. Arguably a
different developer, if faced with the same scenario and the associated pressure to complete a
successful development, would have proceeded with the initially approved development plan
including the HVOTLs and associated easement as the original scenario was still viable and also had
less approval risk.
There are many direct and indirect benefits related to this developer’s approach and regard for
careful master planning that provided examples of value for the Project Partners and the future
residents:

a more desirable masterplan that increased the value of the Project and ensured enhanced
livability for end users;
additional regular lots that are easier to sell and also are better suited for dwelling construction;
improved marketability of the overall development without the stigma from the previously
existing HVOTL;
superior connectivity and visibility (i.e. without the existing HVOTL and associated towers) for
all residents in the development, not only on the date of sale but also well into the future.

This case study highlighted differences between a mediocre development and a high-quality
development based on the foresight of the developer. Rigour and commitment to good design, even
when there is potentially an easier path, will pay long-term dividends for all stakeholders including the
developers, local council and many generations of residents. Property development has an extremely
long-term residual effect on the environment and the decisions made today will have an extremely
long-term effect for many decades, potentially centuries.
Jinding Australia, www.jindingau.com/, is an integrated property services company with five
business divisions: Jinding Developments, Jinding Real Estate, Jinding Investments, Jinding Funds
Management and Jinding Services. In just over three years Jinding Developments has established a
development pipeline for over 4,000 homes including medium density, apartments and mixed use
sites. The organisation’s philosophy states that in the Chinese language, ‘Jinding’ translates to ‘a
lifetime of commitment’ (Jinding Australia 2020). They apply this philosophy to both their
stakeholder relationship and to their service and product lines, understanding that a good customer
experience will lead to ongoing business and shared success.

References and useful websites

Anacker, K.B., Nguyen, M.T. and Varady, D.P. (2019) The Routledge Handbook of Housing Policy and Planning,
Routledge.
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2020).
Choi, K. (2019) ‘A case study on urban regeneration projects for declined industrial districts in downtown area’,
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Estate, Springer, pp. 35–76.
Communities and Local Government, www.communities.gov.uk.
Department for Transport, www.dft.gov.uk.
Geelong Council (2020) www.geelongaustralia.com.au/armstrongcreek (last accessed 29 May 2020).
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Journal of Housing and Built Environment, https://doi/10.1007/s10901-019-09724-5.
Jinding Australia (2020) www.jindingau.com (last accessed 2 June 2020).
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UK Speculative Housebuilding? UK Collaborative Centre for Housing Evidence.
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Journal of Environment and Sustainability, 3:1, pp. 1–66.
Thilini, M. and Wickramaarachchi, N. (2019) ‘Risk assessment in commercial real estate development: an
application of the analytic network process’, Journal of Property Investment & Finance,37:5, pp. 427–44.
UK Government (2020) Contaminated Land, www.gov.uk/contaminated-land (last accessed 28 April 2020).
United States Environment Protection Agency (USEPA) (2020) Contaminated Land, www.epa.gov/report-
environment/contaminated-land (last accessed 28 April 2020).
Wadley, D., Han, J.H. and Elliott, P. (2019) ‘Regarding high voltage transmission lines (HVOTLs): perceptual
differences among homeowners, valuers and real estate agents in Australia’, Property Management, 37:2, pp.
178–96.
Yang, Z. and Wu, S. (2019) ‘Land acquisition outcome, developer risk attitude and land development timing’,
The Journal of Real Estate Finance and Economics,59, pp. 233–71.
Chapter 3

Development appraisal and risk

3.1 Introduction

This chapter examines how property development projects are evaluated from a financial profit
and risk perspective so therefore it focuses on the process of development appraisal and
valuation. Assessing and evaluating the financial viability of a development constantly occurs
throughout all stages of the development process, however the exact type of analysis varies
depending on the specific land use (Popovic et al. 2019). A developer should not stop after
conducting an appraisal/valuation prior to the acquisition of a development site, but rather
constantly re-evaluate and re-appraise the profitability of the scheme throughout the entire
development process due to the effect of all influencing factors that are subject to constant
change. Many dynamic factors influence the development so their status must be updated and re-
evaluated in light of the overall risk attached to the development. At this point the importance of
value management in the property development process is critical (Sari and Prayogi 2019).
Furthermore each region is associated with unique influencing factors and drivers so special
attention is therefore required to identify the local characteristics (Lakshmanan and Button 2019).
Risk is an inherent component of the property development process (Puschel and Strobel
2019). Whilst there are many identified and known risks, other risks are emerging and need to be
identified as soon as possible; for example the existence of flooding risk (Hudson 2020) is
accepted in many locations although a higher focus on rising sea levels has increased the
perception of this risk due to the climate change debate. Even though a totally risk-free
investment would produce a profit to a developer or investor, in reality this scenario does not
exist according to standard economic theory (Yoe 2019). Therefore risk is unavoidable and we
shall consider how this is assessed as part of the overall evaluation process. Another important
concept underpinning appraisal is the definition of market value as defined by the International
Valuation Standards Committee where: ‘Market Value is the estimated amount for which an asset
or liability should exchange on the valuation date between a willing buyer and a willing seller in
an arm’s length transaction, after proper marketing and where the parties had each acted
knowledgeably, prudently and without compulsion’(International Valuation Standards Committee
2019).
This chapter commences with a discussion of the conventional approach to development
appraisal before introducing the different cash-flow concepts including the discounted cash-flow
(DCF) approach. We shall also consider the importance of market research (see Chapter 8 for
further detail) in the assessment or appraisal of profit and risk. Finally we shall examine the
influence of uncertainty and how this can be contained in order to reduce the effect on risk.
3.2 Financial evaluation

3.2.1 Conventional technique

The financial maths and models for undertaking a property development are not difficult or complex to
understand if broken down and examined separately. The best approach is to commence with a basic
‘no frills’ short-term development and then increase the skill level up to complex long-term
developments. The conventional techniques of identifying the various components of value in a
proposed development are relatively straightforward and founded on using a form of ‘residual’
valuation. This type of model is designed to isolate an individual component of a development, such
as the level of risk/return or the land value, then to assess their individual ‘unknown’ value when
information about all of the other variables are known. In other words it starts with the ‘known’ or
certain variables and then moves to evaluating the ‘unknown’ variables to complete the analysis. It
commences with the total value of the completed project and then gradually deducts selected
components to finally arrive at the remaining or ‘residual’ component. The main variables in this type
of model are:

initial land purchase price;

building construction cost;
current level of market rents and sale prices;
interest rate level;
investment yields or return on investment (ROI); and
time period on a per month basis.

There are two primary models used in undertaking residual valuation and each differs depending on
the final outcome sought. The first approach focuses on calculating the investment risk/return with the
second approach based on calculating the remaining (i.e. residual) cash available to purchase the land
after all other development costs, including the developer’s profit, have been paid.

1 Investment risk/return
This model commences with (a) the final estimated value of the completed property development
based on estimated final market prices. Then (b) the total development costs (e.g. land, construction
cost) are deducted from (a) to establish whether the project produces (c) an adequate rate of return for
the developer or financier, either in terms of a trading profit, an investment yield or return on capital.
In this model the financial amounts in both (a) and (b) are generally determined/fixed by the market
and outside the control of the developer. Therefore the result for (c) may be too low at present to
undertake the property development, possibly because (a) is too low (e.g. low predicted demand) or
(b) is too high (e.g. high current borrowing costs and interest rates).

2 Affordable land purchase price

An alternative approach for using a residual valuation is to assess (a) the likely costs of producing a
development scheme and by deducting these costs from (b) an estimate of the value of the completed
development scheme to arrive at (c) a land purchase price. The developer will include an allowance
for the required return in assessing the total development costs. Once again, the financial amounts for
both (a) and (b) are generally determined/fixed by the market and outside the control of the developer.
Therefore the current ‘for sale’ price of the land (c) may be too high to make the development
‘affordable’ at present. For example there may be an added risk associated with the cost of remediation
due to the effect of land contamination (I-Chun et al. 2019).
The manner in which the above-mentioned variables are brought together in a development
appraisal can be shown best via a working example as follows. Let us assume a 0.8 ha site (2 acre) is
on the market and the vendors are seeking a price of £$4,200,000. The site is in a good location in a
town with adequate transport access and the vendor has obtained planning consent for 4,299 m2
(46,274 ft2) of offices. Through market research, a developer has established that rents are currently £
$355.21 per m2 (£$33 per ft2) for comparable office space. A bank has agreed to provide short-term
finance for the scheme at an interest rate of 2% above the bank’s base rate of 6.25% to be compounded
quarterly, i.e. effective annual rate of 8.47%. The developer’s quantity surveyor has advised him that
building costs are currently £$1,561 per m2 (£$145 per ft2). The agents have advised the developer
that the completed scheme should achieve a yield of 8.0% when sold to an investor. The developer
will carry out the following typical conventional evaluation as shown in Example 3.1. A model
showing the formulas is shown in Example 3.2. Note that there may be rounding undertaken in some
of the calculations when totalled in order to simplify the analysis.

Example 3.1 Residual valuation

Evaluation of profit (risk/return) £$ £$

(a) Net Development Value
(i) Estimated Rental Value (ERV)
Net lettable area 4,299 m2 (46,274 ft2) @ £$355.21 per m2 (£$33 per ft2) 1,527,048
(ii) Capitalised @ 8.0% YP in perpetuity 12.50
19,088,097
(iii) less purchaser’s costs @ 2.75% 524,923
Net Development Value (NDV) 18,563,175
(b) Development costs
(c) Land costs
Land price 4,200,000
Stamp duty @ 1% 42,000
Agent’s acquisition fees @ 1% 42,000
Legal fees on acquisition @ 0.5% 21,000
4,305,000
(d) Building costs
Estimated building cost
Gross area 4,599 m2 (49,500 ft2) @ £$1,561 m2 (£$145 ft2) 7,179,039 7,179,039
(e) Professional fees
Architect @ 5% 358,952
Structural engineer @ 2% 143,581
Quantity surveyor @ 2% 143,581
M & E engineer @ 1.5% 107,686
Project manager @ 2% 143,581
897,380
(f) Other costs
Site investigations – say 21,175
Planning fees – say 7,260
Building regulations 36,300
64,735
(g) Funding fees
Bank’s legal/professional fees – say 72,600
Bank’s arrangement fee 108,900
Developer’s legal fees – say 60,500
242,000
(h) Finance costs
(i) Interest on land costs (£$4,305,000) over the development period and void 975,015
of 30 months @ 8.25% compounded quarterly = (1.0206)10
(ii) Interest on (d) building costs, (e) professional fees, (f) other costs and (g) 356,651
funding fees divided by a half (£$8.38m/2) over building period of 12
months @ 8.25% compounded quarterly = (1.0206)4
(iii) Interest on building costs, professional fees, other costs and funding fees (£ 713,303
$8.38m) over void period of 12 months @ 8.25% compounded quarterly =
(1.0206)4
2,044,969
(i) Letting and sale costs
Letting agents @ 15% ERV 229,057
Promotion 135,000
Developer’s sale fees @ 1.5% NDV 278,448
Other costs (see text)
642,505
(j) Total Development Costs (TDC) 15,375,628
(k) Developer’s profit
Net Development Value 18,563,175
Less total development costs 15,375,628
Developer’s profit 3,187,547
Developer’s profit as % of total development costs 20.73%
Yield on development cost 9.93%

Example 3.2 Formulas for residual valuation

A B C
1 Evaluation of profit (risk/return) £$ £$
2 (a) Net Development Value
3 (i) Estimated Rental Value (ERV)
4 Net lettable area 4,299 m2 (46,274 ft2) @ £$355.21 per m2 (£ =4299*355.21
$33 per ft2)
5 (ii) Capitalised @ 8.0% YP in perpetuity =100/0.08/100
6 =B4*B5
7 (iii) less purchaser’s costs @ 2.75% =B6*0.0275
8 Net Development Value (NDV) =B6-B7
9
10 (b) Development costs
11 (c) Land costs
12 Land price =4200000
13 Stamp duty @ 1% =B12*0.01
14 Agent’s acquisition fees @ 1% =B12*0.01
15 Legal fees on acquisition @ 0.5% =B12*0.005
16 =SUM(B12:B15)
17 (d) Building costs
18 Estimated building cost
19 Gross area 4,599 m2 (49,500 ft2) @ £$1,561 m2 (£$145 ft2) =1561*4599 =B19
20
21 (e) Professional fees
22 Architect @ 5% =B$19*0.05
23 Structural engineer @ 2% =B$19*0.02
24 Quantity surveyor @ 2% =B$19*0.02
25 M & E engineer @ 1.5% =B$19*0.015
26 Project manager @ 2% =B$19*0.02
27 =SUM(B22:B26)
28 (f) Other costs
29 Site investigations – say 21175
30 Planning fees - say 7260
31 Building regulations 36300
32 =SUM(B29:B31)
33 (g) Funding fees
34 Bank’s legal/professional fees - say 72600
35 Bank’s arrangement fee 108900
36 Developer’s legal fees - say 60500
37 =SUM(B34:B36)
38 (h) Finance costs
39 (i) Interest on land costs (£$4,305,000) over the =(C16*((1+0.020625)^10))-
C16
40 development period and void of 30 months @ 8.25%
compounded quarterly = (1.0206)10
41
42 (ii) Interest on (d) building costs, (e) professional fees, (f) other =(((C19+C27+C32+C37)/2)*
costs and (g) funding fees divided by a half (£$8.38m/2) ((1+0.020625)^4))-
over building period of 12 months @ 8.25% compounded ((C19+C27+C32+C37)/2)
quarterly = (1.0206)4
43
44 (iii) Interest on building costs, professional fees, other costs =((C19+C27+C32+C37)*
and funding fees (£$8.38m) over void period of 12 months ((1+0.020625)^4))-
@ 8.25% compounded quarterly = (1.0206)4 (C19+C27+C32+C37)
45 =SUM(B39:B44)
46 (i) Letting and sale costs
47 Letting agents @ 15% ERV =B4*0.15
48 Promotion =135000
49 Developer’s sale fees @ 1.5% NDV =C8*0.015
50 Other costs (see text)
51 =SUM(B47:B50)
52
53 (j) Total Development Costs (TDC) =SUM(C16:C51)
54
55 (k) Developer’s profit
56 Net Development Value =C8
57 Less total development costs =C53
58 Developer’s profit =B56-B57
59
60 Developer’s profit as % of total development costs =C58/C53
61 Yield on development cost =B4/C53

We shall now examine each of the elements of the appraisal in further detail.

3 Net development value

There are two important variables in establishing a development scheme’s value, namely ‘rent’ and
‘investment yield’. These terms vary between each region and country, however in this context the
term ‘rent’ refers to the annual financial amount a tenant pays for occupying the final developed
product. The term ‘investment yield’ refers to the income return on an investment being usually
expressed as an annual percentage based on the cost of the investment. Both variables can have an
adverse effect on the appraisal model so it is critical that careful attention is paid to accurately defining
each variable to ensure both are accurate.

(A) RENT
The forecast level of rent that a tenant is likely to pay to occupy part of, or all the completed property
scheme on completion is usually established in consultation with a real estate agent or a valuer. This
amount should reflect the interaction between supply and demand factors in the property market at a
certain point in time and is usually based on a forecast of the property market when the development
will be finally completed. An estimate of the future rent must be considered reliable and based on as
few assumptions as possible. The estimate will be based on a thorough analysis of the present and
future market trends and is often referred to as ‘fair market rent’. According to the International
Standards Valuation Committee (2019) market rent is defined as ‘the estimated amount for which an
interest in real property should be leased on the valuation between a willing lessor and a willing lessee
on appropriate lease terms in an arm’s-length transaction, after proper marketing and where the parties
had each acted knowledgeably, prudently and without compulsion’.
The best source of information about the current market levels of rent is to refer to comparable
market evidence based on recent lettings of similar schemes in close vicinity of the property, in the
local region or in the surrounding area in accordance with the definition of fair market rent as stated
above. It is important for every lease to comply with each section of the definition and in all respects is
representative of a normal rental agreement. In other words the tenant involved in the comparable
lease must have been fully conversant and aware of the market and hypothetically may have even
leased the proposed development if it was completed.
As no two properties are exactly identical then it is important that the level of rent for every
property involved in each rental lease is adjusted to reflect differences in its attributes including age,
quality and specification. For example where there are relatively few or no recent comparative leases,
a thorough market research exercise needs to be undertaken (see Chapter 8 for further details). It is
essential that this estimate is based on the developer’s estimate and firm reliable evidence with careful
analysis to establish today’s rent level, i.e. at the date of the appraisal. Note that the importance of
ensuring this rental estimate cannot be over-emphasised since an overly optimistic estimation in rental
levels can adversely result in an incorrect presentation of potential risk and return upon the completion
of the development.
It is not recommended for a developer to heavily rely on a forecast (i.e. based on assumptions) or
inflated rent in this type of appraisal model. When there is reliance on a forecast rent this should be
explicitly stated in a valuation model, being either a discounted cash-flow or capitalisation of income
approach, rather than bound up and hidden within the discount rate or an ‘all risk’ yield. The property
market is a complex interaction of variables so it is extremely difficult, if not impossible, to forecast
future rent levels with a relatively high degree of accuracy. The foundation for this modelling should
place the emphasis on known variables such as the existing market status and the current level of
agreed rents.
Rents are usually analysed by reference to a rate per square foot or rate per square metre based on
the annual cost per year. In the case of an office building, the net area of the building (i.e. generally the
internal usable space) needs to be established and is commonly known as the net lettable area (NLA).
The tenant is most interested in the NLA available (as opposed to the aggregate building area being the
gross lettable area or GLA) and tenants who seek a larger area to lease will often be rewarded with a
smaller rate per square metre (m2). Larger rental areas are usually less expensive (on a ‘per unit of
area’ basis) than smaller rental areas due to bulk discount and economies of scale theory, even though
other influencing factors (e.g. use, building, floor level) remain fixed. In addition any discounts applied
to the rate will take account of areas with less demand, such as basements (i.e. due to no or restricted
natural light) and floors with restricted or lower headroom. At times it can be difficult to ascertain the
components on a floor to be included in NLA and what is excluded since this can have an adverse
effect on the amount of NLA, especially in a multi-level office or retail building.
It is essential for all measurements to be undertaken in strict accordance with the relevant guidance
notes as accepted by lessees and lessors in the local property market; these guidance notes clearly set
out the various definitions of area measurement for different types of property. Often these guidance
notes are produced by the nationwide industry body and are updated on a regular basis, therefore
providing relevance for that particular location and market. For example in the UK the industry
standard is produced by the Royal Institution of Chartered Surveyors (RICS) where definitions and
guidance for measuring is set out in the RICS Property Measurement published by RICS (2020). In the
United States the relevant standard is the “BOMA Floor Measurement Standards” published by the
Building Owners and Managers Association International (BOMA 2020). Many countries have a
unique approach to measuring lettable areas and these industry standards are accepted by local
surveyors, property owners and tenants. Therefore if operating in a country or region outside of the
normal region then it is essential to refer to the local industry body for confirmation. In 2013 a new
global body was formed with the aim of standardising global measurement standards. The body,
referred to as International Property Measurements Standards Coalition (IPMSC), produced the first
international guidance notes in 2014 titled International Property Measurement Standard (IPMS)
(IPMSC 2020).
With an industrial scheme it is commonplace for the ‘gross internal area’ to be measured and this
includes all internal space within the external walls. In contrast the approach to measuring retail
property and other types of land use varies. For example in some regions the rent for the retail units
may be analysed in sections or zones measured from the front boundary of the shop (e.g. zone widths
are usually a depth of 20 feet or 6.1 metres in the UK, London has variable widths, some parts of
Ireland have zones of 15ft or 4.5 metres). The first zone at the front of the retail space is usually
referred to as Zone A, the second Zone B and the remainder Zone C. Retail units are valued in relation
to the Zone A rent which is the rate applied per square metre (or per square foot) to the area of Zone
A. Then half the Zone A rate is applied to the area of Zone B and a quarter of the Zone A rate is
applied to the area of Zone C. This zoning is to reflect the fact that the most valuable space is at the
front of the shop in Zone A. As most shops do not conform to a standard size and shape, adjustments
will be made to the above described analysis to reflect the varying levels of demand for different
frontages and unusual shapes, which largely will be based on the experience of the property
professional (e.g. valuer) and their knowledge of the current market conditions. Large retail units such
as department stores and variety stores, together with smaller shops in lower profile locations, are
usually analysed on an overall rate rather than based on a Zone A rate.

(B) INVESTMENT YIELD

The return on the total financial capital used to purchase a real estate investment is usually referred to
as the ‘investment yield’. Applied in the process of assessing the overall development value the
investment yield is used to discount the future rental income stream needed to calculate the capital
value of the development scheme in today’s money. Derived from the investment is a multiplier that
can be applied to the future income stream and is referred to as the ‘Year’s Purchase’ (YP) in
perpetuity. The YP is the reciprocal of the investment yield.
This modelling approach is based on taking a snapshot of the current rental income and, where this
represents current market value, assumes it will remain at its present level in perpetuity. The growth in
the rental income and the risks associated with it are then reflected in the multiplier used. For example
if the future income from the completed property scheme is estimated to be $500,000 per annum and
the investment yield is 5% then 5 is divided into 100 to calculate the YP of 20, which is then
multiplied by the rental income to produce the final capital value of the completed development. In
this example it is $10,000,000. Therefore the investment yield (5%) is derived by dividing the rental
income into the capital value (0.05) and then multiplying by 100 to express it as a percentage. Table
3.1 lists a range of investment yields and their respective YP.

Table 3.1 Investment yields and respective year’s purchase (YP)

Investment Return (%) Years Purchase (YP)
30 3.3
27.5 3.6
25 4.0
22.5 4.4
20 5.0
17.5 5.7
15 6.7
14 7.1
13 7.7
12 8.3
11 9.1
10 10.0
9 11.1
8 12.5
7 14.3
6 16.7
5 20.0
4 25.0
3 33.3
2 50
1 100

The actual investment yield for a particular property can be obtained by comparing ‘like with like’
in the property market, then making allowances for differences between the properties. This is a
common valuation technique and also the simplest. The approach is by way of comparison, based on
an analysis of recent sales of properties considered similar to the property development scheme being
proposed. When undertaking the comparison approach then consideration should be given to a large
number of variables, as well as each variable’s varying level of contribution to value, which will affect
the value of each property.
A starting point for undertaking this comparison is to consider the two main variables in the
property development, namely (a) the land component and (b) the building component. The
investment yield is viewed as a measure of risk and return and will reflect the property investor’s
perception of (a) the future rental growth against (b) the risk of future uncertainty. In general terms the
higher the level of rent growth expected in the future then the lower the yield an investor is prepared to
pay at the outset. However the level of perceived risk in an investment can have an adverse effect on
the property itself and therefore risk factors also need to be identified and then factored into the model.
The level of yields tends to change with variations in the patterns of rental growth or investor demand.
Generally retail developments tend to attract the lowest yields while industrial developments often
attract higher yields as based on their previous history of rental growth.

4 Purchaser’s costs
Regardless of whether the developer intends to retain the completed property development as an
investment or sell the property upon completion, the final completed development value needs to be
expressed as a net development value to allow for purchaser’s costs including stamp duty, agent’s fees
and legal fees.

5 Development costs

(A) LAND COSTS

The land cost includes the land purchase or acquisition price being either the price already negotiated
with the landowner or, as in this example, the price being sought by the landowner. All costs and
expenses associated with acquiring the site must be included. Accordingly the acquisition costs and
fees will include stamp duty or tax as a percentage of the land purchase price, legal fees associated
with acquiring the site and the real estate agent’s introduction fee if applicable. In many regions the
applicable stamp duty (tax) is not a flat rate irrespective of value but rather can be separated into
graduated bands based on the land price. Fortunately many government authorities have online tax
conversion tools freely available on their website. Note for the purposes of this simplified example in
Example 3.1 the stamp duty rate is assumed to be a flat 1%. Legal fees are often between 0.25 and
0.5% of the land price, depending on the complexity of the deal. Often the real estate agent’s fees are
between 1% and 2% of the land price and depend on whether the agent is to be retained as the letting
and/or funding agent.
Other considerations will affect the modelling process for each unique property development where
complications may arise in certain jurisdictions with regards to stamp duty, property tax and
land/investment tax if applicable. For example if the project is being forward-funded by a financial
institution then the developer may have to allow for payment of double stamp duty on the land cost if
the developer purchases the site prior to completing funding arrangements with the financial
institution. This is because stamp duty will be incurred on the initial purchase of the land by the
developer and also on the subsequent transfer to the financial institution.

(B) BUILDING COSTS

Building costs are estimated by the developer’s quantity surveyor and are usually expressed as a ‘per
unit’ cost, such as the overall rate per square metre (or square foot). Then this ‘per unit’ cost is
multiplied by the gross area of the proposed building. The building costs are estimated at the time of
the proposed implementation of the development project. In many cases no allowance is made for cost
increases (e.g. due to higher inflation) during the building contract period, although some developers
may inflate building costs in their appraisals based on informed assumptions and forecasts by third
parties. This will be particularly relevant in periods of rapidly rising building costs or if the
construction period covers an extended period of time and there is a level of uncertainty about future
building costs.

(C) PROFESSIONAL FEES

These fees are normally calculated as a percentage of the total building costs and include fees for all
professional services employed in the completion of the development. Often this includes the
architect, quantity surveyor, structural engineer, mechanical engineer, electrical engineer and the
project manager. The actual rates per professional can vary considerably in accordance with factors
such as the size of the project, the capital outlay and complexity of the task. When the total costs of
professional fees are not standardised they are often in excess of 10% of the total building costs, say
about 12–13%. These professional fees are either calculated on a ‘flat fee’ basis or based on (a) the
‘scale of fees’ or charges for each profession, (b) a negotiated percentage or (c) a fixed fee.
The percentage agreed with each member of the professional team depends on factors such as the
nature and scale of the property development, as well as the relationship/goodwill between the
developer and each professional to some extent. Small refurbishment schemes normally attract higher
percentages than larger, complex development projects due to the economies of scale. Perceived high-
profile or ‘blue ribbon’ developments may cause competition between industry professionals who are
more than willing to be a part of an important project to raise their professional profile, which in turn
may equate to a lower rate. If a developer is to appoint other professionals, such as a traffic engineer, a
landscape architect or a party wall surveyor, then these additional costs must be included in the final
evaluation of the project.

(D) SITE INVESTIGATION FEES

These fees include costs allocated for ground investigation and land surveys. Especially with reference
to residential developments, all potential land contamination must be identified and rectified. There are
many examples of a building/s being constructed on contaminated land (i.e. with the contamination
not originally identified in the initial site survey) although this error of judgement later necessitated the
new building/s to be demolished prior to the site being decontaminated. Other more knowledgeable
developers were possibly aware of this added risk and bypassed the particular development land for
this reason. The importance of a thorough site investigation to reduce exposure to risk of the unknown
cannot be over-emphasised.

6 Planning fees
These costs relate to the government fees required to make a planning application and secure consent
for the property development project. Many developments necessitate a change in the use of the
property from a previous land use, such as from previous industrial to future residential land use,
where the highest and best use of the land and surrounding properties has changed over an extended
time period. For example this may be due to a lower demand by light industry and higher demand by
newly settled residents. This cost normally only includes the fees paid to the relevant government
planning authority with the total cost based on the scale and nature of the scheme. A list of the relevant
fees and charges can normally be obtained from the government planning authority and usually varies
depending on the size of the development.
In the above example the planning consent has already been obtained. However in a situation when
obtaining planning permission may prove difficult and especially where there is a substantial change
in use, a developer has to allow for planning consultant fees. In the event of an appeal there will be
additional costs such as fees for solicitors, counsel and expert witnesses. The allocation of additional
time will need to be reflected in the interest costs associated with the extended holding period for
which the developer is directly accountable.

7 Building regulation fees

Usually these costs are calculated using a sliding scale and based on the final total building cost.
Details of such fees are available from the building control department of the relevant government
authority.

8 Funding fees
Most financial institutions and lenders charge various fees when arranging development finance. These
fees are related to the costs associated with arranging development finance and will vary on the
method of finance. To illustrate this point, Example 3.1 is bank financed so the developer will need to
pay the bank’s arrangement fees, solicitor’s fee and surveyor’s fee. These fees are a matter of
negotiation but usually reflect the size of the required loan and may equate to between 3 and 10% of
the value of the loan (note: see Chapter 4 for further details).
If the property development is to be ‘forward-funded’ by a lender or financial institution then the
developer will pay the fund’s agent (if appointed) and associated solicitor’s fees, as well as their own
agent (if appointed) and their own solicitor’s fees. The developer may also have to pay the fund’s
building surveyor’s fees to monitor the construction of the building on behalf of their client.

9 Finance costs/interest
Interest costs for borrowed funds are a critical element of the appraisal and often have an adverse
effect on the overall viability of a development proposal. These costs reflect either (a) the actual cost
to the developer of borrowing money over time or (b) the implied or notional opportunity cost
reflecting an alternative investment opportunity forgone; in other words according to the concept of
opportunity cost the capital could be earning money elsewhere at a comparatively higher return but not
necessarily with an added level of risk.
The actual cost of the finance/interest is affected by many factors including the loan-to-value ratio
(LVR), the risk in the specific land use sector and the location (e.g. a new retail development located
in a different area), the established relationship between the borrower and the financier/lender, as well
as the borrower’s estimated risk that the borrowed funds will be completely repaid in full by the due
date. With reference to the calculations in Example 3.1 the development company will borrow money
from the bank and, as a condition of the loan, will provide some financial capital from its own
resources. It is assumed here the level of interest rate charged by the bank and the opportunity cost of
the developer’s own money are both identical.
In order to calculate the interest costs the developer must estimate the total length of the
development. Normally the cash inflow will commence either (a) when the completed property
development is let to a tenant/s and therefore becomes income-producing or (b) is sold as is usually
the case in residential schemes, where property is often sold before the development is completed.
This enables the developer to use this income to fund the balance of the scheme and reduce the cost of
borrowing finance to build the scheme. This decision depends on whether the developer seeks to or is
financially able to retain the scheme following completion or not. In addition the developer must allow
adequate time for all the preparation work required after the site has been acquired but prior to the
commencement of the building contract. Furthermore there must be a careful estimation of the time
period required to either let or sell including a vacancy/void period; this is based on a prediction of
prevailing market conditions at a future point in time.
In Example 3.1 the development timetable is assumed as shown in Table 3.2 and Figure 3.1.

Table 3.2 Development timeline

Site acquisition, preparation and pre-contract 6 months

Building contract 12 months
Letting period 6 months from completion
Investment sale period 6 months from letting
Total development period 30 months

Figure 3.1 Development timeline

 The site acquisition is the first commitment and requires a major capital financial outlay. As this
payment is at the very beginning of the development, interest is calculated on all site acquisition costs
over the entire development period. This is the longest time span within the development period and is
incorporated from the date of acquisition to the final letting/sale of the building. The total timeframe of
the development in Example 3.1 is 30 months. In some circumstances there may be additional
expenses incurred prior to the site acquisition; an example is the costs associated with searching for
potential sites. However these costs are usually not considered to be substantial capital outlays that
attract a high interest cost. Once the building contract is signed off then most other costs will be
incurred at various different times over the building contract period, where in Example 3.1 this period
is 12 months. Note that the actual timing of the individual cash-flows does vary and are often difficult
to accurately quantify. Accordingly, a ‘rule of thumb’ simplistic method of calculating the interest is
adopted for a straightforward short-term development based on an assumption the costs are incurred
evenly over the entire contract period. Therefore all costs, with the exception of promotion and letting
costs, are divided in half and then the interest is calculated on that sum over the whole period. In
Example 3.1 this time period equates to 12 months.
After the building contract has completed then the interest costs payable will continue to accrue on
all the building and other costs spent (with the exception of some of the promotion costs and
letting/sale fees) until the date when it is assumed the building will be eventually sold or let. In
Example 3.1 it is assumed the building is leased within six months of final completion and then on-
sold to a third party investor within 12 months of completion. It is further assumed a rent-free period
of six months is granted to the tenant. If it were to be assumed some rental income was received prior
to the sale of the investment then this income would be included in the appraisal and also offset
against the interest calculation. In Example 3.1 the interest is calculated by using the Amount of ($)
(£)1 formula for compound interest since it is commonly accepted in the real estate analysis discipline.
In order to calculate compound interest on a quarterly basis the interest rate of 8.25% is divided by 4
to obtain the quarterly rate of 2.06%, which then produces a compound interest formula of (1.0206)n
where ‘n’ represents the number of quarters over which the interest is calculated.

10 Letting agent’s fees

These fees relate to the cost of the agent letting the building to new tenants. The actual amount will
vary depending on factors such as the number of letting real estate agents competing for the letting
rights (e.g. the profile of the development in the marketplace), as well as the demand by tenants to rent
space in the development. If joint agents are involved then these fees are usually 15% of the rental
value achieved at letting. If only one real estate agent is involved then the fee is reduced to 10% of the
rental value achieved at letting. In some circumstances the developer may negotiate a fee with the real
estate agent on an incentive basis. At times the tenant will pay the developer’s legal fees relating to the
completion of the lease documentation.

11 Promotion costs
The developer needs to make an assessment of the likely sum of money to be spent on promoting the
project in order to let the property; very often this element of the evaluation is underestimated at the
initial stage (note: see Chapter 10 on ‘Marketing and sales’ for further details). This amount will be
affected by the perceived level of demand for the development (e.g. where a high-profile development
may be in higher demand and require less promotion) and the location of the prospective tenants (e.g.
the use of advertising via the internet or direct marketing via email).

12 Sale costs
All costs associated with selling the completed development need to be included if the developer
intends to sell the building after it is fully let. These will include any real estate agent’s fees together
with those of the developer’s solicitor, often equating to between 1% and 2% of the Net Development
Value (NDV).

13 Other development costs

The inclusion of other costs within the evaluation will depend on the nature of the development and be
specific to the project. For example this may include inter-tenancy party wall agreements, planning
agreements with the government planning authority and rights of light agreements.
If the developer anticipates there may be a void/vacancy in the time period between completion of
the development and letting the property, then associated costs relevant to maintenance and insurance
must be included. If a lengthy void/vacancy period is anticipated then an allowance will be made for
additional costs such as maintenance and management expenses. If the property development scheme
has been forward-funded by a financial institution then, under the terms of the funding agreement, rent
may be payable to the fund until 100% occupancy of the completed development is achieved. Refer to
Chapter 4 for further details.

14 Contingency allowance
In reality there are relatively few property developments completed exactly on time as originally
planned nor are they likely to adhere exactly to the initial budget forecast. This is partly due to
assumptions about variables incorporated in the original planning phase including forecasts about
future expenses and rental levels. Therefore it is essential to include a contingency allowance to cover
any unexpected costs. However the actual contingency itself is an assumption and will vary between
each project depending on variables such as the risk profile of the developer, the developer’s ability to
plan and execute an accurate development plan, the associated time period, the level of risk/return
built into the proposal and the level of flexibility. In Example 3.1 a flat contingency allowance of 1%
is adopted.

15 Developer’s profit/risk allowance

The residual in an appraisal model is often the developer’s profit/risk allowance and usually expressed
as a percentage of the total development costs or as a percentage of the net development value (NDV).
In accordance with standard economic theory, the level of profit a developer requires will depend
largely on their exposure to risk for the same property development scheme. A higher level of risk will
be commensurate with a higher level of return and vice versa. It is difficult to generalise here but often
developers will seek between 15% and 25% of the total cost. Note that this proportion increases in
correlation with the level of perceived risk. The profit may also contain an element for contingencies
rather than a separate allowance for contingencies.
If the developer is an investor wanting to retain the development after completion, then profit may
be assessed by reference to the yield on development cost (in Example 3.1 it is 9.93%). The yield or
return on cost is the total development cost (excluding profit) divided into the first year’s rental
income. The resulting yield needs to be higher than the yield applied to obtain the net development
value (NDV) (which is comparable to the yields on other similar standing investments) since the
difference between the two yields represents the profit to the investor.
In Example 3.1 the land price used in the evaluation is the asking price and remains unchanged.
However in most scenarios the developer needs to establish what the land price actually is so they can
achieve a fixed target rate of profit. At the same time the landowner or vendor will be seeking to sell at
the highest sale price and may not even quote an asking price. In Example 3.3 we assume the
developer wishes to ensure a rate of profit (risk/return) of 20% on total development costs, so a
residual land evaluation is undertaken to determine an affordable land price.

Example 3.3 Alternative residual valuation

£$ £$
(a) Net Development Value (NDV)
(i) Estimated Rental Value (ERV)
Net lettable area 46,274 ft2 (4,299 m2) @ £$33 per ft2 (£$355.21 per m2) 1,527,048
(ii) Capitalised @ 8.0% YP in perpetuity 12.50
19,088,097
(iii) less purchaser’s costs @ 2.75% 524,923
Net Development Value (NDV) 18,563,175
(b) Development costs
(c) Building costs
Estimated building cost
Gross area 49,500 ft2 (4,599 m2) @ £$145 ft2 (£$1,561 m2) 7,179,039 7,179,039
(d) Professional fees
Architect @ 5% 358,952
Structural engineer @ 2% 143,561
Quantity surveyor @ 2% 143,561
M & E engineer @ 1.5% 107,686
Project manager @ 2% 143,581
897,380
(e) Other costs
(iv) Site investigations - say 21,175
(v) Planning fees – say 7,260
(vi) Building regulations 36,300
64,735
(f) Funding fees
Bank’s legal/professional fees - say 72,600
Bank’s arrangement fee 108,900
Developer’s legal fees – say 60,500
242,000
(g) Finance costs

(i) Interest on (c) building costs, (d) professional fees, (e) other costs and (f) 356,651
funding fees divided by a half (= £$8.38m/2) over building period of 12
months @ 8.25% compounded quarterly = (1.0206)4
(ii) Interest on (c) building costs, (d) professional fees, (e) other costs and (f) 713,303
funding fees (£8.38m) over void period of 12 months @ 8.25% compounded
quarterly = (1.0206)4
1,069,954
(h) Letting and sale costs
Letting agents @ 15% ERV 229,057
Promotion 135,000
Developer’s sale fees @ 1.5% NDV 278,448
642,505
Net total development costs excluding land costs and interest on land costs 10,095,613
(i) Developer’s profit
@ 20% on net total development costs (£$10,095,613) excluding land costs and 2,019,123
interest on land costs
(j) Net Total Development Costs (NTDC) 12,114,735
(k) Residue i.e. NDV less NTDC 6,448,440

This residue is made up of the following elements:

Land price = 1
plus cost of acquisition @ 2.5% 0.025
1.025
multiplied by cost of interest of holding land for development period and void 1.226
(30 months) @ 8.25% compounded quarterly (1.0206)10 =
Total land cost 1.257

multiplied by profit on total land cost @ target rate of 20% 1.2

1.508
The residual land value i.e. the price the developer can afford to pay to ensure
the target rate of profit, is therefore derived as follows:
Residue 6,448,440
Divided by factor (calculated above) to take account of land price, acquisition 1.508
costs, interest and profit as calculated above
Residual land value 4,276,210
Say 4,276,210
This calculation can be checked as follows:
Land price 4,275,000
plus cost of acquisition @ 2.5% 106,875
Total land costs 4,381,875
multiplied by interest for 30 months @ 8.25% compounded quarterly = 992,426
(1.0206)10 = 1.226
Total Land Cost (TLC) 5,374,301
plus Net Total Development Cost excluding profit 10,095,613
Total Development Cost (TDC) 15,469,914
Net Development Value, as above 18,563,175
Less Total Development Cost (TDC) 15,469,914
Developer’s profit 3,093,261
Developer’s profit on cost 20.0%
Note: this result confirms that at a land price of £$4,275,000 the target level of profit of 20% can reasonably be expected
to be achieved.

Discussion point
What is the relationship between risk and return from a developer’s perspective?
3.2.2 Cash-flow method
The conventional method of evaluating a proposed property development, as shown in Examples 3.1
and 3.3, has two basic weaknesses and requires further discussion. The first weakness is being
inflexible regarding the handling of timing relating to when both the expenditure and revenue actually
occur. As a result the calculation of interest costs is inaccurate and may vary substantially. In other
words the evaluation is incorrect unless the projected time period is the exact same length in reality.
Second, by relying on single-figure ‘best estimates’ this hides the uncertainty and assumptions that lie
behind the calculation.
The problem associated with inflexibility as stated in the first point can be overcome by carrying
out a cash-flow appraisal or evaluation that enables the flow of expenditure and revenue to be spread
over the entire period of the development. Therefore the model can present a more realistic and
accurate assessment in tracking development costs and income against the variable of time. As
commonly accepted the amount of compound interest accrued over an extended period of time can
have an adverse effect due to the time value of money and also a compound interest on interest
scenario. Therefore the conventional evaluation shown in Example 3.1 can be presented as a cash-flow
appraisal as shown in Example 3.4.

Example 3.4 Cash-flow approach

Monthly 0.680%
Interest
Rate
Months 1 2 3 4 5 6 7 8 9 10 11 12 13
Cost (£
$000)
Land cost 4,305
Building 200 226 336 541 684 556 563
cost
Professional 58 53 79 50 51 66 105 101
fees
Other fees 10 9 9 9 13 9 6
Funding
fees
Letting fees
Promotion
Sale fees
Tax paid 682 2 0 8 0 46 45 84 50 89 107 109 97
Tax 0 0 0 −682 −2 0 −8 0 −46 −45 −84 −50 −89
reclaimed

(a) Sub- 4997 10.65 0 −606.7 −1.65 99 246.1 388.9 401.3 635.8 782.3 725.4 672.7
total
(Month)

0 5,031 5,076 5,110 4,534 4,564 4,694 4,974 5,399 5,840 6,520 7,352 8,132
(b) Balance
B/F

(c) Total (a 4,997 5,042 5,076 4,504 4,533 4,663 4,940 5,363 5,801 6,476 7,302 8,077 8,805
+ b)

(d) Interest 34 34 35 31 31 32 34 36 39 44 50 55 60

Balance 5,031 5,076 5,110 4,534 4,564 4,694 4,974 5,399 5,840 6,520 7,352 8,132 8,865
C/F (c
+d)

In Example 3.1 by enabling the expenditure to be allocated more accurately over varying timelines
then a better assessment of interest costs is possible. The ‘rule-of-thumb’ conventional evaluation
assumes that building costs would be spread in this way. However in practice the building and other
development costs are seldom spread evenly over this period. In Example 3.4 some of the
development costs are incurred before or at the start of the building contract period, e.g. funding fees
and some of the professional fees. Often the majority of professional fees are incurred during the pre-
contract stage and early in the building contract period since most of the design and costing work is
completed then. Note that in Example 3.4 only 40% of the building cost has been incurred after six
months of the contract, which is the half-way point. The building costs actually follow a normal ‘S’-
curve irregular pattern of expenditure as shown in Table 3.3.

Table 3.3 Normal S-curve irregular pattern of expenditure

Months 1 2 3 4 5 6 7 8 9 10
% Total 3 10 14 22 31 40 48 60 73 85
Costs

The remaining 3% of the costs represent the standard practice of holding a retention sum under the
building contract, usually for a period of six months. The retention sum and period may vary and is
often perceived as ‘insurance’ on the overall property development process.
In normal practice a quantity surveyor is engaged to assess the timing of building costs. Computer
programs are used to accurately calculate the ‘S’-curve for a particular project and then convert these
amounts into expenditure flow. The project manager can assist in assessing the flow of other costs
directly related to the building costs. The timing of all other costs should be capable of assessment by
the developer based on experience.
The cash-flow method enables the developer to budget for an irregular pattern of costs, therefore
allowing for a more explicit presentation of the flow of expenditure and an accurate assessment of
interest costs. It is the nature of property development that the timing of cash-flows is irregular and
uneven. For example a capital outlay for a parcel of land is usually unavoidable as most buildings
cannot be constructed unless the land is owned outright in the first place. In Example 3.4 the total
interest figure (£$2,053,000) is higher than calculated in the conventional evaluation (£$2,049,725) in
Example 3.1. However if based on a different pattern of expenditure with professional fees and
funding fees being incurred later on, then the total interest figure may be lower than shown in Example
3.1.
It is not possible to generalise or include additional assumptions since the conventional ‘rule of
thumb’ method is simplistic but at the same time relatively inaccurate. In this cash-flow example the
interest is calculated on the outstanding balance (including the interest component) at the end of each
month at the rate of 0.68% per month being calculated as12√.00847 in order to equate to the effective
annual rate of 8.47% per annum in Example 3.1.
In this above example the project is a single office development and therefore cash inflows, in the
form of final sale or rent to a tenant, would not generally occur until the entire building is constructed
and ready to occupy. The advantages of the cash-flow method are more clearly demonstrated in
relation to developments where receipts or cash inflows occur during the development period and prior
to final completion of the scheme, e.g. a development of phased industrial units, a major retail scheme
and a residential scheme. Another example would be a large and complex mixed-use development
scheme taking a number of years to complete and therefore could be developed in individual stages. In
this case it may be possible to let or sell the early stages while construction for ensuing stages
continues.
For most businesses the maintenance of a regular cash-flow is critical due to the higher costs
associated with repaying borrowing funds and the effect of compound interest over an extended period
of time. The option of developing a property in stages can be a major advantage in ensuing the overall
viability of the project. Recent developments in construction technology have assisted many building
types to be developed and released in phases. For example some offices in high-rise buildings can be
let or even sold-off therefore allowing the new owners to occupy the lower floors, even though the
upper floors or other sections of the building are still under construction. This example applies to
larger scale projects that can take years to complete where the developer has been creative in their
project management with a desire to commence cash inflows at the earliest available opportunity.
There are other advantages when adopting the cash-flow method. For example this model enables
the developer to easily adjust for variations in the level of interest rates over the development period or
for different sources of finance within the appraisal. In addition, this method requires the developer to
think carefully about the nature of the cash-flow of the project. It highlights, where applicable, the
need to delay outgoing payments and bring forward receipts or cash income. In addition it shows the
developer that cash-flow is an important tool in identifying a competitive advantage over competitors,
which can be achieved both by maximising profitability and reducing the cost of borrowing.
A developer will normally have to produce a cash-flow appraisal to meet the requirements of
potential finance providers where a detailed ‘business case’ is a standard request prior to funds being
advanced. In reality many developers actually use both conventional and cash-flow techniques. They
will use the cash-flow method to calculate the interest cost and input the resulting figure into a
conventional evaluation for presentational purposes. In addition the cash-flow method will be used
throughout the development period to constantly evaluate the project as costs are gradually incurred
and influencing variables vary, such as changes in the level of interest rates in the broader economy.
It is important for the developer to assess the impact of taxation on the project since this may
involve many separate charges for different government authorities and is constantly subject to
change. Rates of taxation are also likely to vary depending on the type of developer and also the type
of scheme under consideration. Furthermore different developers will adopt different vehicles for the
operation of their business. For example a smaller developer may be operating as a private operator
under their own personal name, rather than forming a private company with limited shareholders.
Larger development companies may list on the equities market where shareholders have an option to
buy shares in the company. There are also considerations for insurance and public liability relating to
the decisions about which organisational structure to use, where a company structure may provide
some distance between the company and the personal assets of the developer.
Due to the complexities associated with taxation it is essential for a developer to remain fluent and
up-to-date with all taxation implications or government restrictions relating to money and financial
decisions. The property developer should enlist the services of an accountant, financial advisor and/or
legal advisor to ensure they avoid paying additional taxation costs that could otherwise be minimised.
The objective here is tax avoidance rather than tax evasion. A developer paying higher tax than a
competitor, when other variables (e.g. land cost, building costs, interest rates) remain unchanged, will
be unable to compete in the marketplace and be unable to generate a healthy profit to ensure their own
longevity.
Taxation costs can have a distinct impact on the cash-flow in different stages of a development
project. In some regions it will be possible to recover the tax paid on land transactions and
construction costs if the developer, when subject to approval, elects to then pass on the tax assessment
to occupiers either upon final sale of the completed building or on the rent received from the letting of
the completed building. However a cash-flow implication may occur since there could be a delay
between the initial payment of tax and its subsequent recovery. In Example 3.4 there is a three-month
delay in recovering the tax from the final occupier. In this model the delays have no effect on the
overall interest figure since on larger schemes the delay in repayments will almost certainly impact on
the interest calculation due to the leverage involved. Tax legislation is a very complex area and beyond
the scope of this book to examine all of the implications for each region and country in detail. It is
important to emphasise that a developer must fully assess all tax implications and the direct or indirect
effects on a particular development project when undertaking an appraisal.

3.2.3 Discounted cash-flow methods

A discounted cash-flow (DCF) can analyse and evaluate detailed cash-flow models since they are all
discounted back to the present day using a present value formula to a common point in time to
facilitate an even comparison or analysis. The discounting component acknowledges the relationship
between time and money being especially relevant in property development. For example there is
usually an extended period of time between when the land is purchased and when the building is
completed and cash inflow actually commences.
The ‘cash-flow approach’ in Example 3.4 calculates interest on a month-by-month basis to reflect a
normal development pattern so at any point in the development programme the developer can
determine the level of outstanding debt at that particular time. The time periods can be modified to suit
any time period, such as days or years depending on the intended complexity of the DCF. In addition
to this ‘cash-flow approach’ there are two other cash-flow techniques available, namely the ‘net
terminal approach’ and ‘discounted cash-flow’ (DCF) methods. As Example 3.5 shows, the ‘net
terminal approach’ simply calculates the interest in a different way but produces basically the same
result as the normal cash-flow method. The interest is calculated on each month’s total expenditure
until the end of the development period, i.e. when the development is let or sold and the debt is fully
repaid plus an allowance for profit and risk. Note that the ‘net terminal approach’ will overstate the
amount of debt outstanding at the end of each month and has no advantage to the developer over the
normal cash-flow in Example 3.4. The model displayed in Example 3.4 is in the format of a traditional
cash-flow where the time periods are on the X axis and the variables for each time period are assigned
to the Y axis.
The DCF method is distinctly different as it does not calculate interest on the monthly expenditure.
It sums the income and expenses for every month and then discounts the amount for each month back
to present-day equivalents to determine the value of the profit in today’s money, as opposed to
aggregating at the end of the development. The discount rate used equates to the cost of borrowing the
money and the formula used to convert costs and values to the present day is known as the ‘Present
Value of £$1’, which is 1/(1+i)n (or alternatively (1+i)-n), where i represents the prevailing interest
rate (e.g. 0.075 for 7.5%) and n represents the number of periods (e.g. in months). This formula is the
reciprocal of the amount of £$1 used for compound interest.

Example 3.5 Net terminal approach

Months Cash-flow (£$000) Interest until completion at 0.68% Total (£$000)
1 4997 1.2255 6124
2 10.65 1.2172 13
3 0 1.2090 0
4 −606.67 1.2008 −728
5 −1.65 1.1927 −2
6 99 1.1846 117
7 246.05 1.1766 290
8 388.85 1.1687 454
9 401.3 1.1608 466
10 635.8 1.1529 733
11 782.3 1.1452 896
12 725.4 1.1374 825
13 672.65 1.1297 760
14 828.85 1.1221 930
15 804.1 1.1145 896
16 948.65 1.1070 1050
17 606.65 1.0995 667
18 432.95 1.0921 473
19 −91.3 1.0847 −99
20 −7.2 1.0774 −8
21 −1.25 1.0701 −1
22 405.4 1.0629 431
23 286.45 1.0557 302
24 590.8 1.0486 620
25 −6.6 1.0415 −7
26 0 1.0345 0
27 −75.9 1.0275 −78
28 0 1.0205 0
29 0 1.0136 0
30 278 1.0068 280
Total Development Cost 15,403,006
Net Development Value 18,563,175
Profit 3,160,169

Using the same figures as those contained in Example 3.4 it is possible to build a DCF as presented
in Example 3.6.
Example 3.6 Discounted cash-flow approach
Months Cash-flow (£$000) Interest until completion at 0.68% Total (£$000)
1 4,997 0.9932 4,963
2 10.65 0.9865 11
3 0 0.9799 0
4 −606.67 0.9733 −590
5 −1.65 0.9667 −2
6 99 0.9602 95
7 246.05 0.9537 235
8 388.85 0.9472 368
9 401.3 0.9408 378
10 635.8 0.9345 594
11 782.3 0.9282 726
12 725.4 0.9219 669
13 672.65 0.9157 616
14 828.85 0.9095 754
15 804.1 0.9033 726
16 948.65 0.8972 851
17 606.65 0.8912 541
18 432.95 0.8852 383
19 −91.3 0.8792 −80
20 −7.2 0.8732 −6
21 −1.25 0.8673 −1
22 405.4 0.8615 349
23 286.45 0.8557 245
24 590.8 0.8499 502
25 −6.6 0.8442 −6
26 0 0.8384 0
27 −75.9 0.8328 −63
28 0 0.8272 0
29 0 0.8216 0
30 278 0.8160 227
31 −18563 0.8105 −15,046
Net Present Value (Profit) −2,561
Net Present Value with interest @ 0.068% for 31 months = 3,160,169

The main advantage for a developer employing this approach is where it allows for a subsequent
calculation of the ‘internal rate of return’ (IRR) since this is the barometer used by most financiers and
developers to assess the profitability of a proposed development. Most importantly the IRR considers
both the timing of all individual cash-flows and also the magnitude of each cash-flow. This is in
contrast to examining only a percentage return on overall cost without full consideration to the actual
timing of the cash-flows or alternatively examining the present value of the profit since it doesn’t fully
consider the initial financial outlay and the amount of risk the developer is exposed to. Therefore the
DCF method is more likely to be used by investors wishing to retain a development in their portfolio
and also seeking to analyse the return on their investment.
To calculate the IRR the discount rate is varied by trial and error to identify a rate used to discount
all the future costs and income back to a present value of zero. In other words this is the percentage
return when the project does not make or lose any money after the initial outlay. The IRR is also ideal
when comparing different potential property developments with their own variations in the timing and
size of the cash-flows; for example comparing a small residential development with a large multi-story
office building with both having different construction costs, time periods for construction and final
values. However the disadvantages of this method include that the DCF method does not usually show
the outstanding debt at a specific time and the profit is displayed in today’s value rather than in the
actual sum that will be received at the end of the development.

3.3 Role of uncertainty and risk

Although the relatively simple cash-flow method allows a somewhat accurate and explicit form of
calculation, it does however rely upon a set of fixed variables. The variables acknowledged as the
important components in the calculations, such as building cost and final rent or sale price, are
presented as ‘best estimates’ although without giving a true indication of the range or variance from
which they have been selected. If closely examining a basic example of a conventional evaluation as
set out in Example 3.1 then we can observe that this model is based on a considerable number of
variable factors as listed below.

1. Land costs
2. Rental value
3. Building area based on square footage or square metres
4. Investment yield
5. Building cost
6. Professional fees
7. Time including pre-building contract, building and letting/sale periods
8. Short-term rates of interest
9. Real estate agents’ fees
10. Promotion costs
11. Other development costs.

In this example the land purchase price is fixed and so these 11 variables can be reduced down to the
four main groupings listed below since they will mainly affect the overall profitability of a
development project:

1. Short-term rates of interest

2. Building cost
3. Final rental value or sale value
4. Investment yield.

It is important that the financial information entered into the cash-flow model is as reliable as possible.
In many instances the level of reliability depends on the developer’s experience and assumptions
behind the sources of information the developer uses. Recent developments successfully completed by
a property developer are often a good starting point, however allowances must be made for changes in
supply levels and costs occurred over the time period since the development was completed.
 To a large extent each property developer relies on the professional advice of their development
team to estimate the cost of the main variable groupings outlined above. For example the quantity
surveyor and project manager possess the qualifications and expertise to advise on building costs and
other related costs. The agent will advise on current market rental value and investment yield as well
as the potential final development value. Ultimately the final decision rests with the developers who
must form their own judgement about an estimate of each variable factor. They have to assess the
likely risk of the main variables changing when deciding on the required level of return in the
evaluation process. Therefore it is the property developer who has the largest exposure to risk.
It is essential that the developer uses current and up-to-date rental values and accurate building
costs to reflect income and expenses in every development appraisal. Whilst it is possible to value the
present or historical value of an asset, what happened yesterday is often referred to as ‘driving a car
forward using a rear vision mirror’. What was historically on the road behind us is of little relevance
to what is in front of us now. Therefore future changes in property and rental values will always
remain uncertain due to complexities in the property market and the interaction of many variables and
influencing factors. Accordingly it would not be advisable for a developer to predict future rental
values, even when building costs in the appraisal are inflated at current inflation rates, since this would
expose the developer to a higher level of risk. It cannot always be assumed that increases in building
costs during the period of a development, which is a standard practice approach due to rises in
inflation levels, will be equally met by increases in the final value of the property. The links between
inflation and the property market are very weak.
The rental income, investment yield and building costs are usually the most sensitive variables and
are commonly subject to external fluctuations outside the control of the property developer. In order to
fix the level of rent for the development upon completion, the developer may be able to secure a pre-
let commitment with a tenant. On the other hand to fix the investment yield if the property
development is to be sold on completion, it may be possible to pre-fund the scheme with an
appropriate institutional investor. Either one or both of these options may be achieved before or during
the period of the development project. With this approach, as opposed to the developer placing the
emphasis on the financial risk with the property development, they can now focus on the project
management aspects such as ensuring the project is built within budget and on time. Much of this will
depend upon the quality of project management, but in some cases a fixed price construction or
building contract may be secured. The downside to adopting either one or both approaches is that by
reducing or effectively sharing the risk then the developer must also expect to share the profit, thus
limiting their potential reward.
An understanding of the complexities of risk is essential for a successful developer. This is not to
be overstated. Risk is embedded throughout the property market and is the starting point for every
analysis involving property and practically all investment decisions. The two major types of risk
affecting a property are broadly referred to as either systematic (i.e. market) risk or unsystematic (i.e.
property-specific) risk. Most importantly a developer should never underestimate the effect of risk
therefore the level of risk in every development scheme should be carefully identified and, if possible,
contained or reduced. It is important to remember that as the development process progresses then the
developer’s commitment increases and the possibility of variation decreases, where these both equate
to a higher degree of uncertainty and associated risk.

Land cost
As previously discussed in Chapter 2 the purchase price of the land, either vacant or partially
improved with an existing structure of some form and condition, is usually the first major financial
commitment. In order to reduce exposure to risk a site should not be purchased until the appropriate
planning permission has been obtained and the detailed building cost confirmed. If this is not possible,
the developer should try to negotiate a conditional contract subject to the obtaining of a satisfactory
planning consent; this approach is standard procedure for many property sales. If the outcome of the
planning application is uncertain at the date of agreement then it may be possible to negotiate an
option to purchase the land before a future date once planning permission has been obtained. On the
other hand a joint venture arrangement might be entered into with the landowner whereby the land
value plus any accumulated additional ‘notional’ interest might be calculated at a future date during
the development period.
Once the land is purchased then the developer is fully committed to a particular location and cannot
be changed, which in turn has a major influence on the highest and best use of the land. In other words
the value of the land and any new property development scheme constructed upon it may be affected
by external physical factors such a new road or rail network. Depending on market conditions the
developer may be able to make a profit by simply selling the land prior to the commencement of the
development scheme. Once planning consent has been obtained then the value of the scheme can be
established, although further applications may be made to improve the value of the site. Planning
applications take time and any improvement in value that might be obtained needs to be balanced
against the costs of holding the site over an extended period of time. To gain some cash-flow some
developers acquire short-term incomes via the use of carparking or providing areas for takeaway food
trucks.

Building cost
The building construction cost is the second major financial commitment or capital outlay in
combination with a number of other costs (e.g. professional fees) relating directly to the final sum.
After signing the building contract then the developer is committed to certain construction costs that
invariably will trend upwards although rarely downwards, partly due to the effect of inflation over the
construction time period. Furthermore many of the cost increases incurred during the development
period result from the developer’s variations or late production of information by the professionals
responsible for the design. These are matters over which the developer must exercise very tight
control. There are ways of making the building cost more certain including passing some or all of the
risk and design responsibility onto the building contractor, although greater certainty of cost usually
means a higher building cost. These aspects are described in greater detail in Chapter 7.
Project management skills are of vital importance when preventing both increased building costs
and time delays, as well as decreasing the risk the builder may pay additional penalty rates for a late
handover, i.e. the date of the handover is substantially longer than the agreed contract date. In many
instances the employment of an experienced project manager is strongly advisable. Furthermore it is
important that the developer and/or project manager constantly monitor every aspect of the building
contract in order to identify and contain any problems before or when they arise.

Rental value
It is essential to obtain the most reliable up-to-date estimate of rental value. Due to the relatively large
space and net lettable area (NLA) of some property developments, any small errors in the rental
estimates on a rate per m2 basis can have an adverse effect on the final estimated aggregate income. A
reliable estimate of rental value must be undertaken via a thorough analysis of the prevailing market as
well as in consultation with the nominated real estate agents if they are to be appointed. However the
level of uncertainty associated with achieving an estimated level of rent can be removed if a pre-
letting to tenants upon completion is achieved.
Due to the nature of the property market when the development is eventually completed there may
be an over-supplied market and the property may be difficult to let. There is no central register of
developments in a decentralised property market so a competing development could commence
anytime. Some developers might not proceed with a particular development until a pre-letting is
achieved to reduce a considerable element of the risk involved. For example a developer of an office
business park scheme or a large industrial scheme may initially provide all of the necessary
infrastructure and landscaping and then build each additional element as required on a pre-let or a
‘design and build’ basis in order to meet demand. At times a property developer may build one or two
speculative units to show potential occupiers the type of building that could be provided and then
adapted to suit their individual requirements. Quite often the developer of a major shopping scheme
needs to secure the major tenants or anchor tenants for larger units at an early stage in order to later
attract other retailers to invest in the smaller ‘unit’ shops. Financiers and lenders are often reluctant to
commit to lending money unless there has been a substantial level of pre-let or pre-commitment in
order to reduce the perceived leasing risk.
The developer needs to evaluate the benefits of achieving a pre-letting, and therefore reducing risk,
against the opportunity costs of achieving a potentially higher profit in a rising market. For example
during the period of time it takes to complete the development scheme the level of market rents may
increase. Alternatively there may be higher tenant demand when the development is nearing
completion and therefore a prospective lessee can actually visualise the lettable area, rather than just
using architectural drawings or 3D visualisation. In the case of anchor tenants in a shopping scheme
the developer may have to pay a ‘reverse premium’ to the retailer to secure a pre-letting and ensure the
overall property development will receive approval from the financier. Clearly the cost of such a
premium must be accounted for in the development appraisal. An additional advantage of securing a
pre-letting is to reduce the overall development timetable before any income is received, since the
building will be handed over on completion without the added risk or uncertainty of a void/vacancy
period and unknown additional interest payments.

Short-term interest rates

Unless the property development scheme is being entirely financed by the developer, funding
arrangements need to be in place before any major commitment is made. In obtaining the essential
finance to acquire the land and build the scheme, the developer will be exposed to fluctuations in
short-term interest rates. However, at a cost, the developer has the option to either fix or restrict the
level of interest rates (see Chapter 4). If the developer agrees to an agreement with a lender based on
the forward-funding of a property development scheme, then the interest rate agreed with them may be
fixed.

Investment yield
Investment yields are dictated by decisions of stakeholders in the property investment market, being
the relationship between the total value of the completed property developments (including
improvements) and the total annual rent received. This relationship may vary at any particular point in
time according to market factors such as the supply of competing developments, investor
demand/sentiment and rental growth. However the uncertainty of the yield changing over the period of
the development can be removed if the scheme is pre-sold or pre-funded. If a development scheme is
pre-sold to an owner-occupier then the developer is actually performing the role of project manager.
With a pre-funding the developer secures both short-term and long-term finance by agreeing to sell the
completed and fully let development scheme to the financial institution/lender. Although the developer
still bears the risk of securing an acceptable tenant on satisfactory terms and controlling building costs,
as with pre-letting, the terms negotiated prior to the commencement of the scheme are likely to be less
favourable to the developer than those negotiated at the end of the project. The developer’s chances of
securing pre-funding substantially improve if a pre-letting is undertaken.
 When a developer is evaluating how to reduce their exposure to risk, a balance needs to be struck
between profit and certainty being commonly referred to as the ‘risk/return ratio’. In general terms the
greater the level of certainty then the lower the amount of potential profit. This scenario can be
observed throughout society from gambling on horse racing to evaluating the odds of success with
teams in sporting events. The level of risk a developer is prepared to accept will depend largely on
their motivation at that specific point in time. Occupiers, contractors, financial investors and the public
sector involved in the property development process will each be seeking to reduce risk as low as
possible, although property development companies typically will often be willing to accept a much
greater degree of risk in return for higher rewards. Risk is accepted as a major part of the property
development process.
The level of risk is usually directly related to the complexity and scale of the proposed
development. For example at one extreme there is a small self-contained office block pre-let to a major
corporation, which therefore represents a very limited degree of exposure to risk by the developer. At
the opposite extreme there is a substantial degree of risk involved in assembling, over a substantial
period of time, a large town centre site suitable for a comprehensive mix of uses including shops,
offices and residential. In instances where a high degree of exposure to risk is perceived it is common
for a developer to seek additional development partners in order to share both the risks and rewards.
Uncertainty to some degree is unavoidable in the process of appraising development opportunities
and substantial attention is given to pre-project evaluation to identify and evaluate the optimal balance
between risk and reward. The fewer assumptions to be relied upon will directly reduce the overall risk
associated with a particular development scheme, which in turn will increase the likelihood of
successfully completing a development scheme. The cost of a detailed evaluation and the additional
time requirement usually leads to greater savings of cost and time. However the additional time
available to the developer at the pre-project evaluation stage is usually very restricted, especially in a
competitive tender situation. In this type of scenario the developer’s judgement and expertise are
critical.
Establishing the economic viability of a proposed development scheme and the particular
characteristics of the marketplace, prior to committing to the major financial liabilities associated with
land and building costs, is essential. Only after this evaluation has been prepared and closely examined
by the development team can a decision be made as to whether or not it is prudent to purchase or lease
a particular site and, if so, under what terms and conditions. Often a financial component of a property
development, such as the initial land purchase price, may be higher than initial market expectations.
Any additional money outlaid for the land purchase must be deducted directly from the developer’s
profit, which in turn may result in the project not being viable. It is essential for individual variables in
the assessment to be accurate and each variable reflects current market value since the income
components will be based on their current market value.

Discussion point
Why is risk considered to be unavoidable in a property development?

Sensitivity analysis
A critical question within the evaluation process relates to how a developer measures the level of
uncertainty involved in a particular property development scheme and therefore how much profit is
required to balance the resultant risk. Developers are often criticised for not sufficiently understanding
and analysing their exposure to risk. This is a valid criticism as property developers can underestimate
the level of risk and therefore a project may not reach completion due to unforeseen problems. As a
result it may remain half-completed and will perhaps have a negative value since it needs to be
demolished. On the other hand a developer cannot afford to be too conservative as they may never be
successful in securing a site. A careful balance has to be struck that relies entirely on the developer’s
judgement and experience. It is important to identify and examine possible methods of analysis
currently available to assist the developer to accurately quantify the level of risk.
Once the land price is confirmed then the main variables of the evaluation can be identified
including the short-term rates of interest, building cost, rental value and investment yield. In most
cases the financial outcome of the development is more sensitive to their variability than to the
variability of the other factors previously stated since they are the highest proportional values/costs in
the evaluation. For example a 10% increase in the interest rate is likely to have a larger overall impact
on profitability than a similar increase in building costs.
The common reference allocated to the procedure for testing the effect of variability is ‘sensitivity
analysis’. Given the nature of the property market with many variables constantly in a state of change,
the assessment of a potential project must acknowledge this risk and have an in-built capacity to adapt.
Accordingly if one or more factors in the evaluation or appraisal model can be varied then the effect
on the viability can be measured and recorded. This procedure can then be repeated with the different
outcomes compared. For example if we take the appraisal set out in Example 3.1 then we can carry out
the sensitivity analysis shown in Table 3.4.

Table 3.4 Sensitivity analysis and effect on adjusted developer’s profit

Original value less Original value plus
Variable (original value) 10% 10%
Land price (4,200,000) 25.02% 16.72%
Interest rate (8.25%) 22.45% 19.04%
Building costs (£$1,421 per m2) 28.33% 13.98%

Rent (£$322.92 per m2) 9.02% 32.37%

Gross area and net lettable area (4,599 m2 / 49,500 ft2 and 4.299 m2 15.90% 24.99%
/46,274 ft2)
Professional fees and other costs 21.59% 19.89%
Capitalisation rate (8%) 33.88% 9.94%
Funding fees 20.95% 19.95%
Letting and sale costs 21.02% 20.45%
Developer’s sales fees 20.95% 20.51%

This analysis confirms the outcomes of the appraisal model are most sensitive to changes in
investment yield, rent and building cost. For example if it is assumed a change in investment yield is
unlikely over the total development time period then it is possible to concentrate on the effect of
possible variations in rent and construction costs. Suppose the range of possibilities a development
team considers appropriate is a range of rents between £$330 and 380 per m2 per annum and a range
of building costs between £$1,300 and 1,800 per m2. At this stage the discussion is about
‘possibilities’ and not ‘probabilities’ where the range of each is likely to be rather wide. The matrix in
Table 3.5 shows the level of developer’s profit expressed as a percentage, i.e. profit as a percentage of
total development value.
The potential range of possible outcomes for the developer’s profit is extremely wide and varies
between +9.02% and +33.88%. The next step for the developer is to narrow the focus by concentrating
on the most likely or most probable outcomes. For example as a result of discussion among the
development team, the outer limits of the ranges of rent and building cost are excluded as being
possible but unlikely. The developer can now concentrate on a narrower range of outcomes in Table
3.5.

Table 3.5 Level of developer’s profit expressed as a percentage (i.e. profit as a percentage of total
development value)

Rent (£$) per square metre

330 340 350 355.21 360 370 380
Building cost (£$) per square metre 1,300 24.82% 24.87% 32.11% 34.00% 35.74% 39.37% 42.99%
1,400 19.76% 23.27% 26.77% 28.59% 30.26% 33.74% 37.22%
1,500 15.10% 18.47% 21.84% 23.59% 25.20% 28.56% 31.91%
1,561 12.43% 15.73% 19.02% 20.73% 22.30% 25.59% 28.86%
1,600 10.78% 14.04% 17.28% 18.97% 20.52% 23.76% 26.99%
1,700 6.78% 9.92% 13.05% 14.68% 16.18% 19.70% 22.42%
1,800 3.06% 6.09% 9.12% 10.69% 12.14% 15.16% 18.17%

Although this approach seeks to narrow down the focus to what is more probable, the actual range
of possible outcomes still remains wide. A developer’s profit ranging between +3.06% and +42.99%
gives an indication of the real uncertainty behind the appraisal model. The developer must now try to
evaluate all possible outcomes and assign to them, either objectively or subjectively, some level of
probability for each estimate of rent and building cost. However the original ‘best estimates’ of £
$355.21 per m2 per annum rent and £$1,561 per m2 building cost in the final model may be selected
since the context of possibility and uncertainty is now better understood. On the other hand an attempt
may be made to fix one of the variables in one of the ways discussed above. For example if a pre-
letting contract is agreed at £$340.00 per m2 per annum this will narrow the range of likely outcomes
to between +6.09% and +24.87%. Based on these figures the maximum profit of +34.00% decreased
to +24.87% however the minimum level of profit only decreased from +10.69% to +6.09% and the
degree of uncertainty has been reduced. It is this evaluation of trade-off scenarios made possible by
using a sensitivity analysis and by the understanding of probabilities, particularly when they are
matched to the use of cash-flow appraisal models.
This was an introduction to the concept of sensitivity analysis based on relatively simple examples.
When conducting a sensitivity analysis in the initial evaluation stage the developer evaluates the
relationship between risk and reward. The level of uncertainty in the project is therefore a very
important factor. Uncertainty can be reduced if it is possible to improve any of these above-mentioned
four identified variables.
Conventional methods of evaluation do not provide any indication of the uncertainty that is an
inherent part of the development process. Whilst cash-flow methods of appraisal overcome the
inaccuracies of the conventional approach, they still only represent a ‘snapshot’ of the viability of the
scheme. Conducting a sensitivity analysis is an important tool the developer can utilise in the decision-
making process to provide a reliable measurement of the risk of the development scheme. It ensures
the developer is very specific about the assumptions and estimates made in its role as a decision-
support tool. Note it assists but does not replace a balanced and informed decision-making process.
There is a danger of relying too heavily on the output figures produced in the financial evaluation of
a scheme. A developer must avoid the danger of using this evaluation process to justify a development
project that may look good on paper, often referred to as listening to their own warning signals or their
‘gut’ feeling. Although an evaluation modelling process must be thorough and based on the best
information available it should be approached from the point of view of downside risk or worst-case
scenario, i.e. what can possibly go wrong can therefore actually go wrong. Even if the figures indicate
a viable scheme the developer should always research the market for other proposed competitive
developments in the particular location (see Chapter 8).

3.4 Reflective summary

This chapter examined conventional methods of evaluation used by developers to assess the
profitability of a development scheme and/or identify the maximum initial purchase land price,
given a required return, for a specific site. It has been acknowledged that some aspects of the
conventional methods of evaluation are rather basic and inaccurate. This inaccuracy in the
calculation of interest costs can be addressed by using cash-flow modelling techniques including
the net terminal approach and the DCF. All methods discussed only produce a residual figure
based on best estimates at the date of the evaluation, therefore hiding the true level of uncertainty
regarding the final outcome of the completed development. Sensitivity analysis and
comprehensive modelling of underlying market conditions can improve the developer’s
understanding and provide important insights into the level of their exposure to uncertainty and
risk.

3.5 Case study: contaminated land risk – Barkly Street development

The risks associated with contaminated land, at times being quite substantial and expensive to
remediate, are usually not clearly visible on an initial site inspection as the contamination is located
beneath the land surface. If this contamination is ignored or underestimated in any respects, there may
be adverse effects on any future property development. As many property developments are usually
conducted on land that was previously in use (e.g. similar land use or alternative land use), including
rural land, it can be argued that practically all land in developed countries are contaminated to some
extent. Based on a worst-case example some level of contamination may later be identified after the
project has commenced, however decontamination can usually only be comprehensively undertaken
with vacant land (i.e. no structural improvements). Hence there would be a major problem with
rectifying this type of scenario. If a property development was nearing completion with accompanying
new structures erected, then to correctly decontaminate the land these structures would need to be
demolished prior to occupancy. Consequently the developer would need to provide funds for two sets
of new structures and the demolition of one structure, decontamination costs and substantial interest
costs over a long and extended period or many years. The end result would be a failed property
development where this scenario forms the basis for this case study.
This case study examines a large completed project constructed on a highly contaminated site that
was not adequately decontaminated prior to constructing structural improvements for the property
development. After considerable financial outlay over two decades, the development was eventually
completed some years later and all 65 residential units in the second development were then sold. For
this project the total time period included the initial construction of 49 residential units to final
completion stage by the first developer, demolition of these same buildings (before any occupancy), a
period of uncertainty and disrepair over some years, decontamination phase, followed by construction
of 65 residential units by the second developer and then the final sale. Note the final sale of the
development was recognised as an award-winning project by industry and claimed as a success by the
second developer (ID_Land 2020). The initial underlying contamination can be traced directly back to
the previous use of the site by a long-standing high-profile dry-cleaning business; therefore with this
‘red flag’ the site was never suitable for residential use without addressing the obvious contamination
question. In other words there were clear errors of judgement made in the initial property development
that should not have proceeded before extensive decontamination. Refer to the timeline of events in
Figure 3.2 that highlights the flawed decision-making process.

Figure 3.2 Timeline of events (note: not to scale)

(Status in 1992) A large, high-profile dry-cleaning business that operated for many decades ceased
operation on the development site. The dry-cleaning business potentially contaminated its own site via
chlorinated hydrocarbons and also degraded white spirit or naphthalene. Both contaminants are
extensively used in the dry-cleaning business.
(Status in 2001) Planning permit was granted to first developer for construction of 49 units.
Construction then commenced.
(Status in 2003 – see Figure 3.3) Construction was completed, however final approval to occupy
was not granted by government authorities due to the existence of contamination in the soil.
Figure 3.3 Status in 2003

(Status in 2006 – see Figure 3.4) In desperation the first developer attempts to sell entire
development of 49 units at a discount due to the existing contamination in the soil.
Figure 3.4 Status in 2006

(Status in 2007) The completed project remains unsold and then falls into a state of disrepair for
years. After an extended period of uncertainty the vacant development is vandalised and occupied by
squatters.
(Status in 2012 – see Figure 3.5) The original new structures were demolished and
decontamination then commenced. Deep excavation was undertaken to remove the decontaminated
soil.
Figure 3.5 Status in 2012

(Status in 2013 – see Figure 3.6) Eventual decontamination of the site was completed by the
second developer.
Figure 3.6 Status in 2013

(Status in 2014 – see Figure 3.7) A completed development consisting of 65 units was promoted
by the second developer following decontamination. Note this is an increase of 16 units over the
previous design.
Figure 3.7 Status in 2014

(Status in 2016 – see Figure 3.8) Completed award-winning development bysecond developer. All
65 units were marketed as ‘The Barkly’ and in high demand by prospective purchasers. All units were
fully sold within three months.
Figure 3.8 Status in 2016

This case study has highlighted the challenges associated with failing to undertake a thorough due
diligence process from the start of the development process. Most often if a property development
opportunity appears to be priced well below market value or the property has been on the market for
some time, there are unforeseen reasons for this. Clearly this particular site was never suitable for
development without (a) the previous owner acknowledging the need for decontamination of the site
and (b) the property developer allocating sufficient funds for the decontamination. In this case study
there were substantial indirect and unavoidable costs that can adversely affect the property developer’s
viability as well as their long-term reputation. Another downside is the overall uncertainty associated
with the development when seeking project closure. The length of this period could equate to years or
decades, resulting in a detrimental effect on holding costs and then cash-flow.
At times a contaminated property may have a negative value and may not be viable as a potential
development site without substantial external stakeholder (e.g. government) involvement. Some
contaminated sites may remain vacant over the long term until the market improves and a
development (including decontamination costs) becomes financially viable. The engagement of
specialised advice to examine the soil below the surface is essential since this expertise is clearly
outside the expertise of most property developers. A successful developer must fully consider all risks
associated with a site, both direct and indirect, prior to deciding to acquire a site or pass on the
opportunity. With contamination there are no shortcuts, as highlighted in this case study.

References and useful websites

BOMA (2020) BOMA Floor Measurement Standards, Building Owners and Managers Association International,
www.boma.org/BOMA/BOMA-Standards/Home.aspx (last accessed 29 April 2020).
Hudson, P. (2020) ‘The affordability of flood risk property-level adaption measures’, Risk Analysis, 40:6, pp.
1151–67.
I-Chun, C., Chuo, Y. and Ma, H. (2019) ‘Uncertainty analysis of remediation cost and damaged land value for
brownfield investment’, Chemosphere, 220, pp. 371–80.
ID_Land (2020) www.idland.com.au (last accessed 4 August 2020).
International Valuation Standards Committee (2019) International Valuation Standards, London,
www.ivsc.org/standards.
IPMSC (2020) International Property Measurement Standard, International Property Measurement Standards
Coalition, https://ipmsc.org/standards/ (last accessed 29 April 2020).
Lakshmanan, T.R. and Button, K.J. (2019) ‘Institutions and regional development’, in Handbook of Regional
Growth and Development Theories, 2nd edn, Edward Elgar, pp. 527–49.
Popovic, G., Stanujkic, D. and Karabasevic, D. (2019) ‘A framework for the evaluation of hotel property
development projects’, International Journal of Strategic Property Management, 23:2,
https://doi.org/10.3846/ijspm.20197435.
Puschel, V. and Strobel, J. (2019) ‘Real estate economics’ in Proceedings of the 26th Annual Conference of the
European Real Estate Society, 3–6/07/2019, Paris.
RICS (2020) RICS Property Measurement, Royal Institution of Chartered Surveyors, www.rics.org/uk/upholding-
professional-standards/sector-standards/real-estate/rics-property-measurement-2nd-edition/ (last accessed 27
April 2020).
Sari, Y. and Prayogi, L. (2019) ‘Application of value management by real estate development practitioners: a
review of enticing factors’, International Journal of Built Environment and Scientific Research,3:1,
https://doi.org/10.24853/ijbesr.3.1.15-20.
Yoe, C. (2019) Principles of Risk Analysis, 2nd edn, Taylor & Francis.
Chapter 4

Development finance

4.1 Introduction

The majority of property developments can only be undertaken with the assistance of funding from an
external third party source. This is because a developer does not normally possess 100% of the cash or
liquid financial capital readily available required to pay for all development costs incurred during the
lifetime of the development. This third party provider is most often a lender/financier, institution or
syndicate with funds to lend in return for interest on the capital plus administration costs. This capital is
required to fill the financial difference between the developer’s available equity, or cash equivalent, and
the total cost of the project including all associated expenses over the development period until
completion (Barnett and Sergi 2019).
There are two main forms of finance required for undertaking a property development:

a. short-term finance to pay for the initial development costs, i.e. land purchase, construction costs,
professional fees and promotion costs; and
b. long-term finance to enable a developer to repay their short-term borrowing/loan and either realise
their profit via selling or retain the property as an investment with tenants.

The decision about selecting one of these options depends on variables such as the developer’s
motivation, their financial situation and the prevailing market conditions. In this chapter we examine the
different sources of finance available to developers and discuss the various methods of financing a
development scheme via worked examples.

4.2 Sources of finance

Most developments are funded by a combination of equity (i.e. supplied by the developer) and finance (i.e.
supplied by the lender) (Parsons 2014). In these scenarios the lending institution has exposed their funds to
part of the risk associated with the development, although at the same time it also charges the developer an
interest and service charge expense designed to commensurate for the level of risk exposure, inflation (ONS
2020) and an allowance for profit (Reed 2014). As with other service providers there is a diverse range of
financial lenders of varying size and expertise where each financial lender will have its own acceptable level
for exposure to risk and may specialise in certain lending projects over varying timeframes. A developer must
consider their choice of financier carefully to ensure the type of funding is best suited to an individual
project. For example after the global financial crisis (GFC) the lending restrictions were tightened even
further due to the very high number of bad debts. As a result any borrowed funds were harder to obtain, were
more costly and also required a larger proportion of equity outlay from the developer.
In many countries the clearing and merchant banks have been providers of short-term development
finance where long-term investment finance was provided by financial institutions (e.g. insurance companies
and pension/superannuation funds) and property investment companies. At times financial institutions also
assume the role of short-term financier by forward-funding development schemes; for example where they
provide the necessary interim development finance to a developer and then agree to purchase the property on
completion of the scheme. Real Estate Investment Trusts (REITs) have increasingly been an additional and
alternative source of funding for property (LSEG 2020).

4.2.1 Historical perspective

The role of the development financier varies depending on factors such as the position of both the business
and property development cycle at any particular time in relation to the credit cycle. It is important to note
that financiers are in the business of making money where real estate is only one of a number of assets they
can invest in and also lend money against, with other competing assets including equities/shares and cash
(Brueggeman et al. 2018). However real estate generally offers the financier a relatively secure form of
investment since each financier can hold a binding mortgage or first claim over the land component including
any improvements affixed to the land. The real estate security is linked to restrictions placed on the property
title, where the property owner is unable to transfer or sell the land without first removing the mortgage and
any other temporary encumbrances on the title. In other words the first step for a prospective purchaser is to
undertake a search and ensure the property’s ownership title is clear and mortgage-free; this ensures a first
mortgage has a priority claim to be repaid even before money is received by the existing property owner.
Each of the various financier groups will have different motivations and liabilities, which in turn
influences their policy towards property as either an investment or as a security against a loan. Developers in
most countries have the ability to move from one financial source to another, depending on the
investor/lender’s attitude and lending policy at any particular time. Many decades ago the roles of the short-
term financiers (e.g. the banks) and the long-term financiers (e.g. insurance companies) were quite separate
where developers usually retained their completed developments as long-term property investments. Short-
term finance was typically provided by clearing or merchant banks in the form of loans secured against the
site and sometimes also the buildings. Long-term funding, often pre-arranged, can be provided by insurance
companies via the use of fixed-interest mortgages. In certain scenarios a development would not be retained
by the developer however sold as an investment to an insurance company or alternatively directly to an
occupier. With the exception of some merchant banks it is not common for the financiers to participate in the
profit or risk of the development.
Since inflation has become a permanent feature of the economy in many western countries (World Bank
2020), many insurance companies acknowledged the disadvantages of granting fixed-interest mortgages and
sought to benefit from the rental growth. At the same time long-term interest rates rose and developers were
faced with an initial shortfall of income over mortgage interest and capital repayments, often referred to as
the ‘reverse yield gap’, which has practically remained a permanent feature of property financing.
Consequently insurance companies were less inclined to grant mortgages forcing property developers to give
away some share of future rental growth in order to close the ‘gap’. In turn the insurance companies became
more directly involved with the direct ownership of property. In addition an increasingly active property
investment market emerged and the traditional division of the roles began to blur.
To initially attract the optimal investments available in the marketplace many long-term investors
competed with and took on the additional role of the short-term financiers. Simultaneously some of the
traditionally short-term financiers, such as the clearing banks and the merchant banks, began to seek a share
in the equity of the development itself. As the competition for the blue chip or prime investments increased
then some of the insurance companies and pension funds, either on a project basis or by the acquisition of
property companies, began to take on the role of the developer and accepted an additional element of risk in
return for a marginally improved long-term yield. The funding of developments on a long-term basis became
dependent on the property satisfying the criteria of investors so developers initially had a much wider choice
of financial sources.
Generally speaking, property markets are cyclical in nature and also increasingly globally interconnected
partly due to technological advances and the instant availability of information about other markets including
financial details. The provision of funding for property development has become more challenging since
banks and other financial institutions have been less willing to lend money than in previous cycles when it
was freely available. Following the lessons learnt in market downturns limitations and restrictions were put in
place in relation to development finance. The cyclical nature of the property market in the twenty-first
century, including the GFC, included periods when much of the proposed development was bought to an
abrupt halt and only those developments already in progress or with funding previously arranged were able to
continue. The reluctance on the part of investors to fund schemes in market downturns will continue to
prevent large-scale development and governments may also be less willing to invest in infrastructure to
support new developments. At times some developers will also face higher risk premiums and greater
constraints on proposed schemes. For example in some sectors the level of public sector spending has been
cut therefore developers can no longer expect financial support from the public sector. This has forced
developers to look elsewhere for development finance.
Despite institutional lenders’ risk-aversity and reluctance to fund new developments, the first two decades
of the twenty-first century witnessed a variety of new financiers entering the marketplace who were keen to
increase their market share, coupled with the availability of immediate up-to-date information via the
internet. In the present day there is a large amount of information available about different funding sources,
as well as third party organisations and websites reviewing the attributes of each option. Whilst the global
information age may offer an enormous selection of financiers who are not necessarily even based in the
same country, it is important for a borrower to be fully aware of the regional conditions attached to any loan.
For example, fee structures can vary considerably between financiers and the developer should pay attention
to the detail in the loan documents.
The increased level of competition has also opened up the lending market to a myriad of new products,
which in turn have associated lending fee structures and loan lengths. Whilst the borrower has benefited from
the wider choice and availability of different financial products, such as REITs, it still remains fundamentally
critical for a developer to spend adequate time reviewing the risk profile and suitability of each financier.
Over time there were variations in different sources of finance for real estate developments and it is
worthwhile to reflect on historical trends. For example in many instances the traditional banking sector was
the dominant source of finance during the late 1980s development boom being further encouraged by the
rapid increase in rents and capital values caused by occupier demand. This was during a period in the mid-
1980s when institutions reduced their lending for property investment in exchange for the superior
performance of other forms of investment such as equities (i.e. stocks and shares) compared with the poor
performance of property in the early 1980s. At the same time many real estate developers preferred to obtain
short-term ‘debt’ finance from banks to enable them to sell their completed development in a rising market.
Alternatively some real estate developers were able to secure medium-term loans or refinance initial short-
term loans so they could retain their developments as investments. It is commonplace, in accordance to
economic supply and demand principle, for new financiers to enter the commercial property market including
foreign banks, foreign investors and to a lesser extent building societies.
With a cyclical downturn in the property market occurring in 1990 there was reference made to the
combination of the economic recession, high interest rates and an over-supply of new buildings. This was a
similar scenario with the GFC in the early twenty-first century as well. In both scenarios the banks were
exposed to excessive ‘bad’ property debt and many development companies went into receivership. In turn
this had the effect of driving yields down, although there was a period of relatively stable yields in the next
phase of the cycle. This stability is due to numerous factors including increased competition for and lack of
availability of ‘prime’ stock, a tighter monetary policy and enhanced research information available to lessen
investment risk.

Discussion point
What is the relationship between property cycles and the availability of finance to real estate
developers?

4.2.2 Financial institutions

A ‘financial institution’ or ‘financier’ are the generalised terms used in the property and real estate industry to
describe pension or superannuation funds, insurance companies, life assurance companies, investment trusts
and unit trusts. These entities invest in property both directly and indirectly through the ownership of shares
in property investment companies and property development companies, being different from investment in
REITs as traded on the stock/share market. Direct property investment includes the ownership of completed
and tenanted/let developments, the forward-funding of development schemes and the direct development of
sites and existing properties.
Pension funds vary considerably in size and include the individual occupational funds managed
exclusively for the employees of former/present nationalised industries and large publicly quoted companies,
together with company and personal pension schemes managed by insurance and life assurance companies.
They invest the premiums paid by the clients to achieve income and capital growth in real terms so they can
meet the future payment obligations of pensioners on retirement. In many ways real estate is ideally suited as
this type of vehicle since it is a secure and long-term investment. Many pension funds and schemes have
been under pressure due to the approaching maturity of their schemes (i.e. the ratio of expenditure on
pensioners to income received from premiums is increasing), since this has placed the emphasis on cash-flow
and real income growth. In addition many pension schemes are linked to the final salaries of employees
therefore adding to this pressure as incomes have generally continued to rise above the inflation rate. Listed
in Appendix 1 is the level of CPI by country between 2010 and 2019. This table highlights the variations in
CPI on an individual country basis; for example in 2019 this ranged from a high of 60.50% (Angola) to
-379.85% (South Sudan). Reference should also be made to the volatility over this period for each country
and the subsequent effect on overall investment sentiment. Life assurance companies and insurance
companies invest premiums they receive from life and general insurance policies, respectively, to ensure
long-term income growth to meet payment obligations if and when they occur.
Unit trusts are typically managed by financial institutions offering investment management services, e.g.
merchant banks. A unit trust comprises of unit holders, such as smaller individual investors and institutions,
who are unable to take on the entire risk of direct investment by themselves. The trust will manage a portfolio
of shares on behalf of the unit-holders so they benefit from diversification and obtaining a reasonable spread
of risk. There are two types of unit trust specifically investing in property as follows:

a. authorised property unit trusts being unit trusts that are strictly regulated to ensure they invest in a
diversified portfolio of low-risk prime income producing property as part of a balanced portfolio, since
their investors include private individuals; and
b. unauthorised unit trusts being unit trusts that are unregulated, investing directly in a portfolio of
properties and therefore are attractive to tax-exempt financial institutions such as charities and small
pension funds.

The underlying primary goal of these financial institutions is to maximise returns to their shareholders whilst
at the same time minimising exposure to risk and adopting a conservative approach with every investment,
especially since they are trustees of other people’s money and are therefore under constant pressure to
perform. In other words the emphasis is placed on providing a return commensurate with a relatively low
degree of risk. They invest in property and real estate as an alternative to other forms of investment, such as
stocks and shares (equities), together with bonds and gilts (fixed-interest income). The extent to which a
financial institution or lender will invest in property largely depends on their investment strategy, the size of
the fund and the nature of liabilities in their overall portfolio. It will also vary according to the state of the
economy and the historical performance for property investments relative to other alternative investments.
Even though they are long-term investors they take a short-term view of performance, being strongly
influenced by the recent performance of each type of asset however they do forecast future trends.
We need to consider the advantages and disadvantages of investing in property from a financial
institution’s point of view. It is important to identify and appreciate factors influencing the investment
decisions of financial institutions since this affects the funding and also sale of completed development
schemes.
Hedge against inflation
One of the main reasons why an institution would initially enter the property investment market is because
property represents a ‘hedge against inflation’ (Reed 2014). In other words the level of rental growth for a
certain property may outstrip inflation and therefore represent an opportunity to achieve income gains in real
terms when the level of inflation is deducted. During periods where the consumer price index is relatively
volatile, price levels for goods and services grow rapidly and the direct costs associated with labour and
materials for constructing a new building also increased over the same period, which in turn adds to the total
cost of a new property development. As the level of the interest rate is linked to the prevailing inflation rate at
a given point in time, this also adds further costs to the project. However over the last couple of decades and
coupled with the heavy reliance on global technology then the level of inflation has been kept relatively
under control, being consistently below 5% in many western countries. This is due to a number of reasons
including the closer monitoring of inflation being an indication that governments acknowledged any sharp
increases in inflation (i.e. volatility) could have an adverse effect on the economy. Accordingly a property
developer in a low inflation environment is more likely to have less volatility with future building costs as
well as lower interest rates.

Institutional lease
A lease is a binding agreement enforceable by law where the property owner is guaranteed a future income at
an agreed rate with associated property rights, usually also with the ability to change the rent to reflect
current market conditions. Furthermore one of the principal advantages of real estate, as opposed to receiving
cash-flow from an alternative investment, is the existence of a binding long-term lease usually with rent
reviews therefore guaranteeing annual returns with increments. However this scenario also assumes each
tenant continues to pay their rent. The legal doctrine of ‘privity of contract’ ensures that in the event of a
default by any tenant (unless it is the original tenant) the landlord will normally be able to require the original
tenant, followed by any assignees in turn, to pay the outstanding rent. However some countries have taken
steps to alleviate this perceived heavy and somewhat unfair financial burden placed on the original tenant.
In many regions a tenant may assign their interest in the lease to a third party provided they have received
the prior approval of the landlord although it usually cannot be unreasonably withheld. The most common
test for such approval is the financial standing (i.e. covenant) of the tenant and typically institutions require
the potential assignee to demonstrate that their most recent trading profits (e.g. over the past three years)
exceed three times the rent payable. As a result a property investor is guaranteed a secure stream of income
over the long term with very limited risk of voids associated with tenant default.
Another reason why property has traditionally formed part of an institution’s investment portfolio is
diversity of performance risk. In other words if total returns from property are compared to equities and gilts
then this confirms property investment is not prone to short-term fluctuations. Note investors are fully
conversant of the exact returns from each investment category, as well as the corresponding levels of risk.

Illiquidity and indivisibility

When compared to other investment options there are always other factors to be considered when investing in
property, the most significant being the poor illiquidity of property. Each property represents a large single
investment in financial terms. One of its characteristics is being locked into a long-term investment since the
property market is not liquid, therefore if required a property cannot be sold quickly in response to market
trends. This is in direct contrast to the relatively short time period required to sell equities or stocks and
shares. It is common for the sale of a property to take months and it may not be possible to sell at all if the
market conditions are not favourable. In addition the sale of a property usually involves high transaction
costs such as an agent’s fees being often in the form of commission or a percentage of the total property,
solicitors’ fees and associated government charges/taxes. Other fees may also be applicable.
Another significant barrier in the real estate market also linked to illiquidity is the indivisibility or
‘lumpiness’ of every property. Many parcels of land, especially smaller allotments, are unable to be divided
into smaller portions and sold individually due to planning restrictions that dictate the minimum area
permissible. Therefore it is usually relatively impossible to sell off only a small proportion of a property to
increase cash flow, especially if the property development has not yet been completed. This is in direct
contrast to cash at bank where part of the funds can be withdrawn at any time and the remaining balance is
retained.
This investment characteristic alone reduces the involvement of the smaller funds being directly involved
in the property investment market. The indivisibility and illiquidity of property has become a major challenge
for stakeholders in the industry seeking to improve the attractiveness of property as an alternative investment
to equities as that market is both singular and divisible. Therefore direct property investment in high value
real estate, such as a multi-storey office building, is usually limited to large pension funds or syndicates
because of their illiquid and indivisible inherent characteristics. Such investors do not need a regular cash-
flow from all of their property.

No centralised marketplace
In contrast to equities traded on a centralised stock market where all buyers and sellers meet to carry out their
transactions, there is no common meeting place for buyers and sellers to transfer property. Buyers and sellers
generally meet via the co-ordination of an agent and agree to transfer ownership privately between each
other. Further complications can arise since there is limited knowledge about the current state of the market
and also information about what is the volume of trading or the current level of prices being achieved. At the
same time the lack of a centralised marketplace also places additional pressure on the seller to pay high
marketing expenses to advertise their property and ensure it reaches the attention of prospective buyers.

Management
Property investment is relatively labour-intensive as it also involves a high degree of management expertise
being measured in both time and cost. Advances in technology, access to information via the internet and
specialised computer programmes have greatly enhanced the role of the property manager, especially with
regard to monitoring payments and keeping up to date with the current market rent or capital values of
comparable properties. Although most management costs can be directly recovered from tenants under the
terms of their lease, they are generally viewed as a disadvantage to the investor. It is generally accepted that
active management of a property asset will improve the overall level of return received, at least in relation to
reducing vacancies and minimising expense costs.

Research and performance measurement

Research into property markets has grown rapidly in the first quarter of the twenty-first century, mainly
because this specialised information is highly sought-after by developers, investors, tenants and stakeholders
as well as being readily available via the internet. Many stakeholders, including financiers and banks,
acknowledge the value associated with providing property-related information to their customers. One of the
main differences between property and other assets is the manner in which returns are measured, therefore
making it challenging at times to accurately compare property with other alternative assets (e.g. equities) on a
‘like for like’ or ‘direct comparison’ basis. Two primary indicators of the current state of the property market
are regular returns in the form of rents and yields. The yield of a property investment is the relationship
between the total value and the rent, which is generally defined as the annual rental income received from a
property expressed as a percentage of its purchase price or capital value. In many ways the yield is a measure
of the property investor’s perception of the future rental growth and capital growth against future risk,
management expenses and illiquidity. Figure 4.1 highlights a comparison of returns between 1980 and 2019
for residential land use in Australia, Britain, Canada, New Zealand and the United States (based on The
Economist 2017). Although NZ provided the largest overall gain over this 39-year timeframe, there are other
important observations. For example the effect of the GFC is evident for all five countries, however Canada
recorded the smallest downturn, whilst the United States recorded a long extended downturn where prices
recovered after a decade of recovery.
Figure 4.1 Global House Price Index (1980 = 100) (Source: based on The Economist 2017)

Figure 4.2 highlights a long-term trend in industrial capital values between 2003 and 2019 where the
comparison is focused on the following markets: (a) Global; (b) Americas; (c) Asia Pacific; and (d) Europe,
Middle East and Africa (EMEA). In a similar manner to Figure 4.1 the effect of the GFC can be observed for
all regions although the Asia Pacific region recovered best post-GFC and maintained a similar level of
constant growth over the following decade. The Americas and the Global indexes tracked at a high level of
similarity over the entire period.

Figure 4.2 Global Industrial Capital Value Index (Q1 2003 = 100) (Source: based on CBRE 2019)

Prime yields are calculated by analysing market transactions in ‘prime’ properties. Such properties are
those conforming to the following specialised criteria:

1. modern freehold or long leasehold property;

2. good location and access to services and amenities including transport;
3. highest quality and specification; and
4. fully let and income producing to tenants with good covenants.

It should be noted that prime properties usually represent only a very small proportion of the aggregate
property investment market. The movement of ‘prime’ yields represents a benchmark against which the
yields of all properties can be measured and compared. In this scenario the movement of yields generally
represents market sentiment about a specific type of property where the better the perceived prospects for
either capital or rental growth, then the lower the yield or the ratio of higher capital values relative to income.
When making the actual decision about how much money to allocate to real estate in the overall portfolio,
often the financial institutions will pay close attention to the performance of both the property investment
market and the current proportion of property in their portfolio. Note that there are several established
performance measurement indices measuring the performance of institutional property portfolios.
With reference to expectations about levels of future performance, institutions hold regular meetings to
review performance forecasts and reallocate funds to different and alternative asset classes. However
investment in property is long term and not as flexible as other investment vehicles, therefore does not sit
easily with such a rapid review timetable. In addition the integration of property into a wider, multi-asset,
context generally is made more difficult and complex by differences in terminology and valuation practice
between property and other assets. This has partially been overcome by the increasing acceptance of
accounting based valuation techniques, such as the discounted cash-flow (DCF) approach in order to predict
the investment’s internal rate of return (IRR).
Previously the value of property or real estate was generally viewed using a relatively static approach,
being the ‘capitalisation of income’ approach, which in turn may affect the level of a fund’s assets held in
property. It could be argued that issues relating to the different terminology and valuation practices still result
in lower exposure to property by some fund managers than otherwise would be the case, although this
resistance has gradually changed over time and many investment firms now have a department focusing
specifically on real estate investment.
The integration of property into wider multi-asset investment policy is an accepted means of diversifying
to reduce exposure to risk. A typical portfolio would include equities, cash and a substantial property holding
due to the inherent stability of property as long-term asset and a ‘hedge against inflation’. This also permits a
direct comparison between property and returns from other alternative asset classes.
When a decision has been made about the proportion of money to allocate to property investment, then it
remains the responsibility of the property fund manager to make the decision about what type of property to
purchase and, importantly, in what location. Property investment policies are usually based on an analysis of
property type and region focusing on recent performance and future forecasts of growth. More importantly, a
major consideration is the different policies and investment criteria that each institution adopts. However
each strategy tends to seek a balanced portfolio of property types in order to diversify investment and reduce
risk, although the portfolio is usually weighted towards the property type performing well at a particular
point in time.
The actual decision about which property type to invest in is based on a large number of variables,
especially the task of predicting the future and also unforeseeable risks. This discussion commences with an
analysis of change in UK residential prices (via an annual index) over a 29-year period between 1990 and
2019 as shown in Figure 4.3. Many smaller property developers and investors can confidently develop
residential properties due to (a) their long-standing and mainstream knowledge about residential markets; and
(b) the perceived ongoing demand for residential by occupiers (i.e. either owner/occupiers or tenants) who
need to obtain shelter. Note that this is in contrast to other property types, such as industrial, which can
remain vacant for extended time periods due to specialised and limited demand. In Figure 4.3 it can be
observed that UK residential is generally correlated with the total returns for all property types in the UK,
although notably with less volatility since 2010 and also confirming a residential boom in the period between
1993 and 2003.
Figure 4.3 MSCI Annual Property Index: residential vs total returns (UK), 1990–2019.
(Source: based on MSCI 2020)

With analysing residential property returns it is important to view the market as two separate markets
competing for the same product, being (a) owner-occupiers and (b) tenants. The cost of mortgage borrowing
rates had a limited effect on the market in comparison to previous decades, however the largest overall driver
is population demand being linked to immigration, emigration, births and deaths. An analysis of
demographics in an area can provide a reliable insight into residential demand for the short to medium future.
Although residential is the most common land use, property developers also diversify into other land uses
including the retail, office and industrial sectors as shown in Figure 4.4. While each of these land uses have
their own supply and demand interactions, the levels of investment returns can differ. Most importantly they
are relatively independent; for example an office building cannot be converted into an industrial land use
when office demand is low, nor readily converting an industrial building into retail space. The level of
volatility (Figure 4.4) is pronounced for the industrial sector, being closely linked to activity in the
manufacturing sector, just as office demand is associated with the level of white-collar employment.
Generally speaking, retail land use is tied to both essential and discretionary household income although
these types of associations need to be fully understood and monitored by both property developers and
investors.
Figure 4.4 MSCI Annual Property Index: retail vs office vs industrial returns (UK), 1981–2019 (Source:
based on MSCI 2020)

In order to highlight returns from other property types, Figure 4.5 displays returns from (a) hotels and (b)
other land uses in contrast to total returns for (c) all land uses. While hotel investment is even more
specialised than investment in other sectors (e.g. industrial), this creates opportunities for property developers
who can also specialise in this area. This discussion about land use sectors is designed to broaden the
approach of property developers who may have traditionally limited their scope to only a single land use. In
other words this limitation does not apply to property investors who are able to successfully diversify away
some of their risk by investing in different land uses. Therefore a similar approach should be undertaken by a
successful property developer; for example when the residential sector is under-performing, then they can
focus their organisation’s attention on other performing land use sectors.
Figure 4.5 MSCI Annual Property Index: hotel vs other vs all segments (UK), 1981–2019 (Source: based on
MSCI 2020)

Figure 4.6 shows the annual accumulated index for all UK property types (less residential) between 1980
and 2019 where the index commenced at 100 in 1980. The largest total increase was for the hotel sector
where accumulated returns equated to nearly three times the next closest sector (industrial). In Figure 4.6 the
other three sectors (i.e. retail, office, industrial) displayed a relatively similar level of accumulation. A broad
statement can be made about the relationship between risk and return where hotel investment is often
considered higher risk, then followed by industrial and other sectors thereafter. The data presented in these
figures is limited to retain simplicity, therefore excludes reference to the size of each investment, the varying
grades of property (e.g. classifications of office) and the exact location of the property. How each property
sector reacts to a market downturn, such as lower demand due to the COVID-19 crisis, is a completely
separate consideration and discussion for property developers and investors. For example there will be
careful monitoring needed regarding the space requirements for office property; however a holistic approach
needs to be undertaken. For example with reference to office property, lower demand (due to increased
acceptance of ‘working at home’) may be offset by the increased requirement for social distancing in the
office building, i.e. equating to a larger space usage on a rate per square metre basis.
Figure 4.6 Accumulated Annual Property Index (UK), 1980–2019 (Source: based on MSCI 2020)

Most investors will also seek to spread their investments geographically. For example a retail investor will
often invest in shopping centres in different regions or countries rather than put all their ‘eggs in one basket’
in only one region or country. Most institutions tend to adopt very rigid selection criteria when making
decisions about exactly which property investments to purchase. Many will only search for ‘prime properties’
being those in demand and accordingly priced at the upper end of the scale. They will search for the best
located properties of the highest quality being fully let on institutionally acceptable lease terms to tenants
with good covenants. However, as properties falling within the definition of ‘prime property’ usually account
for less than 10% of all properties at any one time, institutions may have to compromise on one or more of
the following factors:

location of the property;

quality of specification and design;
lease terms including length of lease and security; and/or
tenant quality.

It is not always possible to obtain ‘prime property’ either because there is an under-supply or the asking or
‘for sale’ price is too high (i.e. market yield is too low) relative to the perceived levels of potential future
rental growth. Some investors may be willing to take a balanced view on a specific property via an analysis
on its own merits and then adjusting the yield they are prepared to accept in order to reflect any additional
risk. Other investors may allocate different weights to each of the above factors depending on individual
investment requirements. For example fund investors concerned with the security of income rather than
capital growth prospects will put a higher emphasis on the quality of the tenant covenant. The characteristics
of a good location in relation to the various property types have already been examined in Chapter 2. Some
institutions may be prepared to consider other options based on what may be perceived in the market as
‘secondary locations’, such as where there is an under-supply of quality stock although accompanied by
strong prospects of future potential rental growth.
 The risk associated with every lease needs to be fully evaluated. For example a higher level of flexibility
given to a tenant will equate to added risk for the investor. However many tenants demand increased
flexibility in recent times, such as shorter lease lengths as opposed to the extremely long leases (e.g. 20 years
or longer are available in some countries) and are resisting traditional upwards only rent reviews. In reality a
tenant would generally have to pay higher rent for such flexible terms and yields that in turn would increase
to reflect the added risk of fluctuating incomes.
As well as purchasing completed and partially/fully let developments as an investment, many institutions
also conduct their own developments or provide development finance. Some institutions primarily restrict
their development activity to the redevelopment of properties in their own portfolio. Involvement in a
development, whether directly or indirectly, will depend largely on a particular institution’s attitude to risk
and their perception of the development cycle at any one point in time. Once again the level of research into
the property market is a critical and essential task for a property developer and investor (see Chapter 8),
especially when the core objective should always be to decrease unnecessary exposure to risk where possible.
Undertaking a proposed property development is generally a riskier proposition than buying an existing
completed property as an investment. Building costs and land values are comparatively lower when
compared with the prices being currently sought for prime standing investments. In addition, undertaking a
new development provides the institution with an opportunity to specifically tailor a property to fill a gap in
the market for suitable property ‘for sale’ either now or in the near future. However it is important to bear in
mind that development only represents a small proportion of all institutional property investment held in their
portfolio.

4.2.3 Banks and building societies

Banks participate in the funding of property developments due to the potential for growth in capital and
rental values; in addition property offers a relatively secure and low-risk investment, especially when it is
‘prime’ property, i.e. with limited supply, high level of demand and premium capital and rental values.
Initially most bank loans provided only short-term finance, however the property boom in the late twentieth
century encouraged many banks to became involved in medium- to long-term loans. Due to exposure to bad
debts in market downturns they became understandably cautious about investing in speculative developments
and the trend is for most banks to restrict lending to high-risk borrowers to reduce their overall level of bad
debt. After a market downturn many property developments remain vacant or unsold for an extended period
of time, or eventually sell at a loss and declared a bad debt. Alternatively there may be a delay until the
market picks up again and such property can be sold, less interest and holding costs.
Following a major downturn each property developer may need time to re-establish trust amongst lenders
who also conduct due diligence on each property before advancing funds. In addition, most banks adopt a
‘hands-on’ approach to understanding the property development industry and are assisted by their own in-
house valuers and research teams. Also banks are very unlikely to lend on purely speculative development
without the provision of a sound business case with comprehensive and industry-supported market data and
reliable market forecasts. There has been a paradigm shift, especially since the GFC, where many financiers
will only lend on low-risk developments or where there is a significant pre-let, e.g. around 70% or more. If
the developer is unable to reach the agreed proportion of pre-let or pre-sold then the development may be
reconfigured to meet market demand. For example this may require modifying the quality or scale of a
development.
It is accepted that banks and financiers are in the core business of making direct financial gains from
lending money. Overall the lending of funds to property companies has been viewed as profitable, although at
times subject to market fluctuations. Bank lending may take the form of ‘corporate’ lending to a company by
means of overdraft facilities or short-term loans. Alternatively a loan may be made to enable a specific
development project to proceed or for a developer to retain a development as an investment. To reduce
exposure to risk the banks will use the development or the investment property and/or the assets of the
company as security for loans in case of default. Property is attractive as security for banks as it is a large
immovable and identifiable asset with a practically guaranteed minimum resale value, but importantly it
cannot be sold or transferred to a third party unless it has a clear unencumbered title of ownership.
 Due to the cyclical nature of property markets and the interaction of supply and demand, there will always
be periods where property values will increase and decrease. Accordingly a bank’s willingness to lend money
to developers is directly affected by varying factors such as their confidence in the property market and the
state of the underlying economy at any particular time. Another consideration is a bank’s exposure to
property as a proportion of their overall portfolio since this affects their risk profile and strategy.
In different property markets it is important for the real estate developer to understand how the market
operates and what the process is for obtaining reliable access to competitive funding. Based on a UK example
it has been observed that clearing banks, due to their large deposit base, were historically the major providers
of corporate finance loans to development and property companies. At the same time a limited amount of
project finance was provided by the clearing banks on small schemes developed by established customers.
The merchant banks, with some being subsidiaries of clearing banks and specialist property lenders, have
smaller funds but possess more property expertise. Accordingly they are more inclined to provide project
loans and because of their expertise will take on higher risk loans in return for an equity stake in a project.
Merchant banks on large development projects have previously assumed the role of the ‘lead’ bank and
assembled a syndicate of banks to provide finance. In this scenario a merchant bank may underwrite the loan.
In addition merchant banks at times also undertook investment management on behalf of institutional
investors through investment funds and unit trusts. However in this example it should be noted the respective
roles of both the clearing banks and merchant banks could overlap, particularly if they are associated with
each other. Many foreign banks are represented in major global cities throughout the world and also operate
in a similar manner to clearing banks. Financial intermediaries act as agents or financial advisers and
structure development finance with banks and other sources for a developer in return for a fee; for example at
say 1% of the total value of the loan. Several of the large global property and real estate firms offer different
services to clients in the form of consultancies as well as having financial service arms.
In some regions the building societies or similar entities have been allowed to provide corporate loans and
loans secured on commercial rented property, however this is usually based on the condition that such loans
comprise a relatively small proportion of their overall total loan portfolio. In the past some building societies
have been left exposed to substantial risk due to the ups and downs of property cycles, particularly with
residential developers, and as such have somewhat withdrawn from providing development funding. Other
societies are still willing to fund commercial property investments. Typically such funders restrict themselves
to smaller loans and tend to be less competitive than banks in relation to the interest rates they charge,
although this varies between regions and also between different societies or banks. The lender’s primary task
is to ensure a return on their loan to compensate them for their exposure to risk and organising the loan. The
risk evaluation will be primarily based on the possibility the borrower/s will (a) not be able to meet agreed
regular payments, (b) not be able to pay back any money whatsoever and/or (c) the minimum amount the
property could be sold for if the borrower defaults on (a) or (b). The financiers’ criteria for issuing loans will
vary depending on their own operating policy and a range of unique factors including the size of the
development company, the track record and history of the development company, the nature and size of the
development, the total length of the loan, the amount of deposit paid upfront by the developer and the
strength of the security being offered (often referred to as the loan-to-value ratio or LVR).
In assessing the risk associated with corporate loans a bank will be concerned with the financial strength,
property assets, track record, profits and cash-flow of the development company. In relation to loans on
specific developments the banks will also be concerned with the level of security of the development project.
The banks need to be convinced the property is well located, that the developer has the ability to complete the
project on time and the overall scheme is viable. An in-house team of property experts with additional
external advisers, if necessary, will conduct an assessment and valuation of the project in the form of due
diligence (RICS 2019). In the case of medium-term loans, where the developer wishes to retain the
completed property until the first rent review or alternatively loans on investment properties, a bank will also
be concerned as to whether the rental income will cover the interest payments. Previously in periods of
market upturns as part of the property cycle the banks were prepared to provide loans where the rental
income did not cover the interest payments, often referred to as ‘deficit financing’, since they were satisfied
both rental and capital values were rising rapidly. However following the inevitable downturn, this policy
changed to reduce risk and the banks are seeking to quantify their exposure to risk in both a buoyant and a
depressed market.
 In general the banks often tend to take a short-term view in relation to their lending policies, being
concerned primarily with the underlying value of the development company and/or development project.
Note they are focused on maximising the return provided to their shareholders on an annual basis, rather than
over five or ten years as per a conventional property development/investment timeframe. In some countries
there was substantial criticism of the banks’ lending policies during the late twentieth century with many
stakeholders apportioning blame upon their lending practices for the boom-bust situation. Some LTV ratios
were exceptionally high (100%+) whilst other lenders arguably did not pay enough attention to assessing the
risk attached to both borrower and the proposed property development itself. Some banks were quick to
blame the valuers whose opinions formed the basis for approving loans evidenced by the many negligence
cases against valuers. However, on occasion, the courts felt that lenders had partially contributed to their
financial loss through their own improvident lending policies.
To limit their exposure to risk in a constantly changing property market the banks and their advisers
constantly review their policies to reflect the current level of risk and prevailing market conditions, as well as
being supported by high quality research and forecasting methods including the use of detailed discounted
cash-flows (DCFs). The role of the valuation industry is also included in the debate from a risk perspective,
where the valuer is supposedly accountable for any difference in price between the final sale price and the
valuation amount stated when the original valuation was carried out at the commencement of the loan.
Property loans usually account for a relatively small proportion, as low as 10%, of all commercial lending
by the banks and financiers. During a downturn in the property market some unsuccessful development
companies default on loans and the value of their developments/properties can be less than their outstanding
debts. In this scenario a bank would obviously want to mitigate their losses, however, rather than force the
borrower to default the bank is often willing to restructure loans by a combination of measures such as
renegotiating loan terms, refinancing loans, swapping ‘debt’ for ‘equity’ (i.e. converting part of the debt into
mortgages) and also forcing the sale of assets in worst-case scenarios. During the last market downturn many
companies, particularly those with large development programmes and specific projects, went into
receivership. Trader developers were particularly vulnerable and of those remaining, many were tightly
controlled by their banks.
In a severe market downturn where the banks decided to stand by and support a developer or a specific
project, then the problem of vacant or over-rented property continues until the next market upturn occurs. An
additional complication occurs when institutional investors are not interested in purchasing over-rented or
secondary vacant property. Accordingly many banks often have to make major write-downs after a downturn
and have become increasingly reluctant to be exposed to this type of risk in the future. More recently the
banks have also developed a flexible range of different financing products in order to meet the changing
demands of the market and in response to an increasingly competitive financing environment.

4.2.4 Property companies and the stock market

There are two broad categories of company who participate as a funding stakeholder in property
development, namely investors and traders. The investor type of company, usually referred to as a property
company, is also a source of long-term finance as some purchase property investments for their portfolio as
well as retaining their own developments. Their capacity to purchase property depends largely on their ability
to raise finance. Property companies and development companies alike are partly financed by their own
capital and also from their shareholders, as well as partly financed by borrowing money either as short-term
or long-term loans. The level of acceptable ‘gearing’ (i.e. relationship between borrowed money and the
company’s own money) varies between companies. Property companies, in contrast to ‘trader’ development
companies, tend to have a lower level of gearing due to the strength of their asset base.
Property companies vary from small private firms up to large publicly quoted companies. Some specialise
in a particular geographical location, such as a quadrant in a city, while others hold large portfolios of a cross-
section of property types in international markets. Their prime objective is to make a direct profit from their
investment and development activities, although others will take a long-term view in relation to the extent to
which they ‘trade on’ their investments and completed developments. Most importantly they always have a
responsibility to their shareholders to ‘increase shareholders’ wealth’ by maintaining a respectable share price
and providing regular dividends. Property companies view property investment both as a source of income
and also as an asset providing security for borrowed money. Property companies, particularly the larger ones
quoted on the share/stock market, will tend to concentrate their investment activities on prime and good
secondary properties. However, in contrast to the institutions, they consider the management aspects of
property investment to be an advantage. Therefore they have both the management and development skills
in-house to improve the value of properties. Also they are not averse to multi-let properties provided they are
well located and of high quality. They may purchase investment properties that are not fully let or are nearing
the end of the lease with redevelopment potential.
Shareholders of property companies are typically a combination of financial institutions and private
individuals. Financial institutions invest in property company shares instead of or in addition to their direct
property investments. However it is not always tax-efficient for pension or superannuation funds to invest in
property company shares when compared with investing in direct property. This is usually because
corporation tax is paid on the company’s profits before dividends on the shares are paid and capital gains tax
is paid on property sales. Tax-paying shareholders will be taxed on the dividends and on any capital gains
from selling the shares. The tax implications are very different for each region and an accountant should be
consulted to ensure the optimal taxation structure is achieved.
With a quoted or listed property investment company the shares are commonly valued by the stock market
below the value of the assets of the company attributable to the shares, also known as the NAV or ‘net asset
value’ per share. This discount to asset value is due to the tax disadvantage of the company since capital
gains tax might be payable on the sale of their assets. Importantly the amount to which shares are discounted
varies with stock market conditions and the state of the property market. However the value of property
company shares fluctuates more widely than the value of property, regardless of the state of the property
market. Other factors affecting the value of the share price of property companies are the financial strength of
the company, including its level of gearing as evidenced by the balance sheet, as well as the perceived
strength of the management team. In a similar manner to other companies listed on the stock market, the
‘price-earnings’ ratio (P/E) is the main yardstick used to assess the market’s perception of the future earning
potential of property trading companies.
Equity finance can be raised by issuing various forms of shares in a company where investors directly
participate in the profit and risk associated with the company. New property companies may float on the
stock/share market and raise money by selling shares, often referred to as an IPO or ‘initial purchase
offering’. Quoted companies can issue new ordinary shares or preference shares to raise equity finance for
their development activities, however depending on stock market conditions, the overall performance of
property company shares and the NAV per share of a particular company. Such finance may also be used to
repay bank borrowings and other debts, or alternatively to retain strategic developments in an investment
portfolio. Furthermore different companies can also raise debt finance using various methods via the stock
market. Long-term debt finance is capital borrowed from investors and usually involves fixed interest and
may be secured on the company or unsecured. Debt finance usually has to be repaid by a certain date or
converted into shares (i.e. equity). Debt finance instruments became popular as an alternative means of
providing long-term finance to hold developments as investments.

4.2.5 Real Estate Investment Trusts (REITs)

Real estate investment trusts, commonly referred to as REITs, have been a successful vehicle over many
years for the securitisation of property or real estate in many countries including the United States, UK,
Australia and Singapore. The increased popularity of REITs is linked to many advantages including taxation
incentives and the availability of up-to-date information about the REIT and being traded on the central stock
market (KPMG 2015).
In contrast to the United States, REITs were introduced into the UK on 1 January 2007 in accordance with
the Finance Act 2006. The UK REITs have many of the benefits of other REITs including greater flexibility
and liquidity. However one of the most sought-after benefits was from a taxation perspective. For example
UK REITs are treated as normal corporate vehicles and require an election to confer exemption on taxation
from relevant company profits; in return the REIT must withhold tax from distributions paid to shareholders
out of these profits. The requirements to qualify for a UK-REIT are as follows:
 the company is a UK tax resident (and not dual resident);
listed on a recognised stock exchange;
it must not be a ‘close’ company;
not an open-ended investment company;
the only shares it can have in issue are a single class of ordinary share capital and various classes of
relevant preference shares;
distribute 90% of its net taxable rental profits (not capital gains) during the relevant accounting period
or within 12 months of its end;
derive at least 75% of its total profits from its tax-exempt property letting business;
at least 75% of the total value of assets held by the REIT must be held for the tax-exempt property
letting business;
it must not be party to any loan where the results are dependent on the profits of the business; and
additional conditions also apply (LSEG 2020).

To qualify as a US REIT a real estate company must have the bulk of its assets and income connected to real
estate investment and be organised as follows:

must be formed in one of the 50 US states or in the District of Columbia and be an entity that would be
taxable for federal purposes as a corporation;
be managed by a board of directors or trustees;
have shares that are fully transferable;
have a minimum of 100 shareholders after its first year as a REIT;
have no more than 50% of its shares held by five or fewer individuals during the last half of the taxable
year;
invest at least 75% of its total assets in real estate assets and cash;
distribute at least 90% of its taxable income to shareholders annually in the form of dividends;
derive at least 75% of its gross income from real estate related sources, including rents and interest on
mortgages financing real property;
derive at least 95% of its gross income from such real estate sources and dividends or interest from any
source;
have no more than 25% of its assets consist of non-qualifying securities or stock in taxable REIT
subsidiaries; and
a REIT cannot own, directly or indirectly, more than 10% of the voting securities of any corporation
other than another REIT, a taxable REIT subsidiary (TRS) or a qualified REIT subsidiary (QRS). Also a
REIT cannot own stock in a corporation (other than in a REIT, TRS or QRS) where the value of the
stock exceeds more than 20% of a REIT’s assets (U.S. Securities and Exchange Commission 2020;
NAREIT 2020).

Although REITs have been widely accepted as a vehicle for funding properties via listing on the stock
market, some limitations need to be acknowledged. For example the expenses associated with listing on the
stock market are substantial including marketing and statutory charges, being additional to a risk the IPO will
not be fully subscribed by investors. Also investment in direct real estate in a buoyant market may offer a
higher yield at times, therefore a REIT could struggle to offer a competitive yield regardless of tax
advantages. Over time many property developers have evolved from relatively small organisations and are
now large enough to be listed as a global REIT (e.g. Multiplex, Westfield).

4.2.6 Overseas investors

The property market now operates within a truly global economy. In today’s real estate market the overseas
investors have become substantial participants in the property investment market. No longer is demand for
property limited to a prospective purchaser’s geographic locat