Now that you’ve completed Step 1: Assessment, only potential developments with a Medium to High level of Confidence should proceed.
The goal of this step, Step 2: Strategy, is to produce a Strategic Business Plan that:
- Quantifies your profit
- Re-interrogates the brief, and
- Documents your Strategy
Note: If you haven’t already, it may be worthwhile reading Property Development 101: Introduction before reading this article.
Property Development Step 2: Strategy
At this point, you have pertinent information uncovered in Step 1: Assessment that provides significant constraints for your development: Legals, Planning, Existing Conditions and your Client Brief. You may even find that these constraints alone will provide a good idea of the type of development to pursue.
1. Quantify your profit
Now its time to quantify the potential profit of the proposed development by using recent, comparable sales data. By this we mean:
- Recent: within the last three months, and
- Comparable: the same type of development, within the immediate vicinity (same street if possible, same block is still excellent)
Of course, you may have to broaden the scope of your data. Just be aware that the further afield you go for comparable sales data, the less authoritative your data will be.
No matter how optimistic you may be about your project, you must ‘think like a valuer’. By this we mean:
- Substantiate and source all figures, and
- Be conservative.
If you can’t support your figures with hard data, it is an indicator that you may have difficulty obtaining development finance. For this reason, we recommend using commercial property data services as often, this is the same data that your financier’s valuers are working from. We choose REIV’s Property Data Online subscription service (which also incorporates Valuer General data) for Victorian sales data and RPData’s Postcode Sales History reports for interstate sales data.
Use this data to setup a table of recent comparable sales. Depending on the quality of the data available, this table should provide a good picture of what the likely sales range would be for properties in your development in today’s market. The sum of these figures will be your supportable End Sales Figure (S) for your development.
Support any hard data you provide with ’soft’ data – relevant market commentary sourced from local real estate agents and property managers who specialise in the same type of development you are proposing. Be sure to get as much information (eg. sales appraisals, existing market rents, opinion on rental demand, presale rate estimate) in writing and preferably on company letterheads. Collate both the hard and ’soft’ data into an appendix that will support your business plan.
Next, its time to estimate Development Costs (D). For further insight in estimating building costs, read our previous article about the 3 Critical Factors in Home Building Costs. For this article suffice to say that your estimation should include factors like: Land/site purchase cost (L), holding costs, architecture & design fees, council fees & levies, consultant costs, build costs and construction finance. Also be sure to factor in GST and a contingency percentage.
Once again, think like a valuer. Substantiate all figures as best you can and be conservative.
Finally all of these figures should allow you to calculate the Profit (P) of your intended project. Keeping things simple:
Profit = End Sales figure – (Land Cost + Development Costs) or,
P = S – (L + D)
Once you have your profit figure you can derive other development feasibility figures, such as your Return on Investment (ROI) and Cash on Cash return. Commercial investors may also expect the more detailed and time sensitive, Internal Rate of Return figure.
2. Re-interrogate the brief
Once you have calculated your development feasibility, re-interrogate your original brief with as many vested parties (your development team – eg. planner, architect, builder) as possible. With profit typically being a significant constraint, this is usually a good time to be clear about the project “wants” versus “needs” (referring again to the “Size-Finish-Cost” triangle). No doubt, with your team members involved in the decision making process, areas where costs can be cut or budgets need to be raised can be identified.
Be prepared to make tough decisions here with your team and go through several iterations of the calculations in a spreadsheet before arriving at a combination of Size, Finish, Cost and other associated development costs, that work within the known constraints to produce the targeted profit. Once again, make sure all vested parties are in agreement that the project as defined in the now refined client brief can proceed legally, physically, planning-wise and for the ballpark figures specified.
3. Document your Strategy
Formalise the hard work into one Strategic Business Plan that can be passed on (in whole or in part) to any project partner – financiers, valuers, investors, architects, builders, real estate agents. Your Business Plan should include an Executive Summary, Project goals, the Client Brief, parties involved, Step 1 & 2 findings/learnings, outstanding risks and mitigation strategies, Profit and Return calculations, desired project plan including any important dates/timelines known at this point as well as an appendix of supporting documentation.
How much detail should one include? Imagine that your Strategic Business Plan should contain enough detail to give a financier who knows nothing about the project the confidence to finance the project. Larger, advanced projects should also include cash inflow/outflow timing and presale projections.
Be sure to work through your Strategic Business Plan with your accountant and solicitor. They may have important legal entity/structuring and accounting advice that may require actioning before you proceed with any site acquisition or commence any work on the project.
As projects typically last over several months, if not years, the Strategic Business Plan will always be a useful reference to come back to.
Conclusion
In summary, Step 2: Strategy involves a a significant amount of research, collaboration and documentation:
- Quantify your profit
- Re-interrogate the brief
- Document your Strategy
We will investigate in the next article, Step 3: Concept, how you can use your Strategic Business Plan to lay the foundation for any Concepts that you commission.
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Related links:
- Real Estate Institute of Victoria (REIV) Property Data Online
- RPData Property Data Reports
- Valuer General of Victoria
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