How to get into property development? Part 3 of 14
Property Development due diligence
This is part 3 of a 14 part series on How to get into Property Development?
Getting started in property development requires a lot of things, Due Diligence is one of the most important skills that you need, when you are embarking on your property development journey.
How to get started in property development with a carefully selected site after stringent due diligence?
Following a due diligence system that you can REPLICATE, over and over again.
This article discusses, the Property Development Due Diligence process that you must following when getting started in property development.
Location Analysis covers more than just the site. It is everything about how your site is located relative to amenities that your prospective buyers perceive as desirable. Let me explain, for instance, everyone needs to travel for work, so if your site is located near a train station or public transport, it is perceived as desirable by the end buyer. Another example would be, proximity to schools, shopping centers, shopping streets, groceries, infrastructure and various other activity centers desired by investors and or first homebuyers.
Determining the demand and supply in the area is paramount for location analysis. You can do so by contacting the local council’s website to find out the development pipeline.
As a thumb rule, I have always developed projects within a 200m radius of activity centers. In fact, I have filters in place to flag prospective sites that fall in my selection criteria. This leads into a discussion about Supply and Demand. The more desirable the location of your property development project will be, the higher the demand for the units you can expect. In other words, when getting started in property development you must have the skill to conduct a rock solid location analysis.
Here are some projects that I have developed and their proximity to amenities:
- 9 Apartments – with a bus stand right in front of the development and 6 minute walk to the train station.
- 2 Townhouses – 1 minute walk to Eastland Shopping centre
- 3 Townhouses – 180m from train station
- 4 Townhouses – 50m from the beach.
- 16 Apartments – with a walkscore of 97%
- 12 Townhouses – opposite the train station
- 6 Townhouses – 175m from train station
Has everything to with the actual site. Making sure that the site is not on a slope is the first thing that I look for in a site. A sloping site for me means more costs in retaining walls, which means lesser profit. A sloping site may also attract various other costs that you should avoid when starting out in property development. The second thing that I look for in site analysis is the tree(s) on the site. More trees could mean either of three things for me and I like to avoid them as much as I can, if not completely.
- More Costs
- A compromised design i.e. I cannot achieve the highest best possible use of the land.
- An uphill battle with the neighbors, if they object or a battle with the local council.
Two other important things that I am always wary of are the width of the site and the depth of the site. The reason being that they both directly impact the ability to maximize the site.
Zoning and Overlays
Zoning defines the permitted and prohibited use of land. Zoning determines whether a block of land can have High, medium or low density design. In simpler terms, it stipulates the FAR or Floor area ratio. It is important, because it tells us whether we can put townhouses on a block or a we allowed to develop apartments, just increasing the population density on that block of land.
It is imperative for any property developer to find out the zoning for a potential site, as this information forms the basis of calculating a sites’ yield. All financial feasibilities are then based on the yield.
Overlays are mapped within local planning schemes and they provide more information about the land. There are various kinds of overlays, like Design and Development Overlay, Vegetation Protection Overlay, Heritage Overlay etc. if your site falls within an overlay, you will be required to meet other planning requirements for your site.
Highest best Possible Use
This is all about gathering all the above information first, and then maximizing the foot print and the height of your development to accommodate the maximum number of saleable units, apartments or townhouses that meet the planning scheme requirements. This is a vital skill that you must know when getting started in property development. If you don’t know what how to do this, you must engage and town planner and architect who work together to maximize the land utilization so you can get the best possible returns. In my property development course, I discuss various examples of maximizing the land so you are not leaving dollars on the table.
Now you may ask why do I need that?
Well, this is so you can determine the end sale value of what you are planning to develop. That value is then used in your financial feasibility to find out whether or not your project works on paper. This data collection would include collecting sales history within 500m-1km of your site for last six months, it would include the ON SALE data for similar units around your site and it would also include a list of properties that are available for rent around your site to determine what you could rent them for or use the same data in your marketing efforts to show prospective buyers a list of comparable sales in the area.
Spatial Analysis is optional, but a solid property development system, would not leave any stone unturned. So I take the extra step to plot all the data that I have collected on a map to figure out where my site is at in relation to the comparable sales around it. This helps me to ascertain visually what I can approximately hope to achieve for my development.
Two-Minute Financial Feasibility
I have developed various financial feasibility calculators to run numbers on my potential property development sites. My financial feasibility applications are included in my property development course. There are two different versions of financial feasibilities that I do for any project.
- Two Minute Financial Feasibility – the above image shows a screenshot of my two-minute feaso. This feaso tells me what I can expect to make for each unit. For example, the above image is from my recent 12-townhouse development. So if you look carefully, I have designed this financial feasibility to quickly tell me what I should be paying for land in order to achieve the Target DM (Development Margin) %. It is so easy to use that even people starting out in property development can use easily; there are only 10 input fields that you may have to fill out to get answers. So as you can see, it is ridiculously simple to run numbers using my financial feasibility applications.
- Full scale financial feasibility – involves a lot more details and helps break down costs further in lot more detail. It also takes in to account the time value of money, for example, the cost of interest is calculated based on the time it is injected into the project rather than a flat per annum rate.
If you are in property development, it is simply unavoidable to have no risk at all. Let me put it this way, there are inherent risks when driving on the road. However, we all take those risks everyday, to the point we don’t even think about the bad the stuff that can happen on the road when leaving our house. We do that because, we follow a system, we that because we are going to follow rules. Property Development is no different. There are rules and systems to follow at each step to manage risks. In fact, everything that I have discussed in this article is to manage risk, avoid it, minimize it or contain it. But above all, you must always have an exit strategy from your project at hand. Following is a list of various types of risks that everyone should be aware of when getting started in property development. Not all of them apply to all developments and it is your responsibility as a property developer to identify them and mitigate them for each project.
Decline in Property Values
- Market could take a down turn and the end value of your development may not be the same as in feasibility.
Obtaining Planning Permit
- There is a possibility that the council may
- Decline the planning permit application.
- Add conditions to the planning permit, which may add costs that may not be included in the feasibility study.
- There is a risk that cost overruns may exceed the contingency amount or that the builder is bankrupted during the course of construction.
Economic and Political Risks
- In the course of the development, the property developer could be exposed to the direct and indirect consequences of political, economic and social changes in the investment environment.
Legal, Tax and Regulatory Risks
- Legal, tax and regulatory changes in the Australian investment environment, or otherwise, may occur during the investment term which could have adverse effect on the return of the development.
- Time delays, building disputes, unforeseen litigation, planning and environment controls, loss of sales, competition for similar developments, adverse market conditions are just some of the problems which may confront the project.
- Development approvals, slow decision making by counter parties, complex construction specifications, changes to design briefs, legal issues and other documentation changes may give rise to delays in construction completion, loss of revenue and cost over runs.
- Other time delays that may arise in relation to construction and development include supply of labor, scarcity of construction materials, lower than expected productivity levels, inclement weather conditions, land contamination and unforeseen environmental issues and industrial action that may arise from Occupational Health and Safety issues, which may give rise to difficult site access and industrial relations issues.
- Objections raised by community interest groups, environmental groups and neighbors may also delay the granting of planning approvals or the overall progress of a project.
- There is a risk that design problems or defects may result in rectification or other costs or liabilities which cannot be recovered.
Risk of counter parties
- There is always a risk that, notwithstanding appropriate safeguards, parties with whom you as a developer has dealings with, may experience financial or other difficulties with consequential adverse effects for the relevant project or asset.
Force majeure risks
- Acts of terrorism and events of force majeure may affect projects and insurance may not fully cover these risks.
So before you get started in property development, make sure that you understand the Due Diligence process in it’s entirety. Watch the video above to understand these concepts in detail.
If you would like to learn more and get a better understanding of the complete Due Diligence process, I would highly recommend that you checkout one of my property development courses that can help you get started in property development.
So to conclude this post, here is what is important to get into property development:
- Location Analysis – make sure you understand the suburb that you planning to invest into thoroughly.
- Site Analysis – a thorough analysis on the actual site to make sure that you are not buying a lemon is essential.
- Understanding zonings and overlays is essential to determine the highest best possible use of the site. i.e. determining if you can accommodate the maximum number of units that make you profit on a site is the basis for any financial feasibility.
- Data Collection and Spatial analysis go hand in hand. Gather and organizing data visually that speaks to you about the past sales, rental information and currently on sale properties will help you determine the end value of the units you are planning to develop.
- Risk Mitigation – always have an exit strategy and make sure that you have identified all risks and have a plan for each one of them.
Click the link, if you missed out Part 1 of 14 on How to get into property development? Or check out my 26 Question Due Diligence checklist here.
Next week, in the Part 4 of How to get into Property Development, I will discuss the various elements of financial feasibility.
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