The best development finance lenders will scrutinise your property deal when deciding whether to partner with you and what loan rates they’re prepared to offer. But, as the developer, it’s very much in your interest to stress test the deal yourself – before you approach funders.
Here are 4 key metrics to stress test, so you put yourself in the strongest possible position to achieve the returns you’re anticipating.
Market depth and absorption
When putting together a property finance deal, it pays to know the market depth and market absorption. Basically – how many units can you sell, and how big is the market in that area? These will be different for a development in central London versus a block of 20 flats near a market town high street or a small rural scheme.
This means you need local knowledge to stress test these metrics. Analysing Rightmove and speaking to local agents will give you a good idea of how many units are selling per month, so you can assess local supply and demand. You should also look at market comparables using tools like REalyse and the Government’s Housing Delivery Test.
Don’t just assume you’ll be able to sell units in line with your assumptions. Are you building the right stock in the right location for the right target audience? Stress test what happens to your exit route based on different levels of unit sales over different time periods.
Also, consider your ability to refinance if needed. What would pricing be like? How much leverage can you get? Speak to brokers and banks, and look at how this affects the business case for the deal.
Build costs and profitability
You need to stress test how achievable your budget is and how reasonable your profit projections are. What’s the cost per sq. ft? What’s the GDV per sq. ft? Compare these metrics with data from BCIS.
Then, see what happens if your GDV and/or costs go up or down 5 to 15%? Do you make enough to pay back your investors and development lenders?
This doesn’t mean you need to fixate on achieving certain levels of profitability (like getting leveraged return on costs of at least 20%, which is something you see bandied about a lot). It’s about looking at the project and commercials holistically to make sure your deal will deliver – returns should be considered in percentages, multiples and what you’ll make in pounds.
The fourth key metric to stress test is how long your project will take. You need to determine how duration (and any delays) will affect you. Will you be able to pay back loans? How will interest accrue? What happens if a loan expires before you’re finished? What happens if you have to miss payment deadlines because of delays?
Make sure you build in enough of a buffer so you can go on site every day without worrying about the implications of missed deadlines. The best development finance lenders will scrutinise your timelines anyway, so it’s to your advantage to be realistic.
Of course, there are many factors that go into obtaining the best development finance rates. But if the deal is strong based on these 4 metrics, you’ll be in a robust position to secure the property development finance – and the profits – you’re looking for.
These are great tips for financing property development.