Development Appraisals

Question 1

What is a development appraisal?

Answer 1

• An objective financial viability test of the ability of a development project to meet its costs including the
  cost of its planning obligations, whilst ensuring an appropriate site value for the landowner and a
  market risk adjusted return to the developer in delivering the project.

Question 2

What is the residual method?

Answer 2

• The residual method recognises that the value of the scheme is a function of many different elements.
• A valuer will seek to check the valuation against any market evidence where available.
• A valuer can assess the level of return generated from the proposed project and also establish the
  residual site value by inputting pre-determined levels of returns.
• Where a planning obligation reduces the site value to the landowner and return to the developer below
  an appropriate level, land will not be released or development will not take place so a development
  appraisal is of pivotal importance.

Question 3

When is a development appraisal useful?

Answer 3

• To establish the level of affordable housing.
• To assess the level and nature of planning obligation contributions.
• Reviewing land uses.
• To inform a potential purchaser prior to acquisition of the site.

Question 4

What are the key stages of the residual method?

Answer 4

• Establish the development or redevelopment potential within the market for that parcel of real estate in
  that location.
• Assess the value of the completed scheme.
• Assess all of the development costs, including an amount for normal profit, allowing for risks and
  timing of the project, and for the finance costs and interest charges on the capital needed to fund the
  whole of the scheme.
• Deduct the costs from value to arrive at an estimate of the land value.

Question 5

What is a sensitivity analysis?

Answer 5

• Sensitivity analysis is where you re-calculate the appraisal with different assumptions on inputs, for
  example an increase in build costs or a decrease in gross development value to identify what effect this
  has on the potential profit and residual land value.

Question 6

How would you calculate the sum of money available to purchase the
land?

Answer 6

• The sum of money available for the purchase of land can be calculated from the value of the completed
  development (GDV) minus the costs of the development process (including profit).

Question 7

What are the key components of a site acquisition strategy?

Answer 7

• Instruction of land agents to identify new sites or investigate the possibility of acquiring existing sites for
  future development.
• Undertake market research to ascertain the surrounding population mix of potential sites, their
  adjoining owners, adjoining uses, comparable rents, any interested parties and the potential for
  obtaining planning consent.
• Carry out a development appraisal options analysis to select the most suitable site for development.
• Select the site that best meets the development criteria.
• Obtain the developer’s approval to engage in negotiation with the existing landowner.
• Commence negotiations with the landowner regarding purchase.
• Acquire or take out an option to purchase the land and or existing buildings for development.
• Confirm the development agreement with the landowners, investors & stakeholders.

Question 8

What are the main inputs required to complete a development
appraisal using the Residual Valuation method?

Answer 8

• Completed Development Value – This is the market capital value of the completed development
  which would be calculated using the comparison or investment method as appropriate depending on
  the type of property.
• Development Costs including:
  o Construction Costs.
  o Site Acquisition Costs and Fees.
  o Finance Costs.
  o Land Costs.
  o Developers Risk & Profit.
• The Development Costs are deducted from the Completed Development Value to arrive at the
  Residual Value that could be paid for the existing site or property.

Question 9

What are some of the disadvantages of the Residual Valuation
Method?

Answer 9

• Inflexibility in dealing with the precise timings of costs and revenue results in inaccuracies.
• Single best estimates hide uncertainty and the main variables cannot always be estimated with accuracy.
• Small changes in some of the variables can have a significant impact on the final residual value.

Question 10

How much would it cost to build an office, industrial and retail building?

Answer 10

• Office £2,500/m2-£5,000/m depending on specification and location.
• Retail Warehouse £1,100/m2-£3,500/m2 depending on specification and location.
• Industrial £1,100/m2-£2,500/m2 depending on specification and location.
• Retail Shop £3,500/m2-£7,500/m depending on specification and location.

Question 11

What key market conditions would you highlight when providing
Development Appraisal advice to a client?

Answer 11

• I would highlight the importance of considering current rising interest rates and high levels of inflation
  that result in the following:
  o Rising borrowing costs depending on the financing model being adopted for the development
  could mean a lower level of return.
  o Falling demand for commercial office space following the impact of Covid-19 and a shift
  towards home working could result in lower levels of rental income, longer void periods and a
  reduction in the Gross Development Value.
  o There has been recent pull back of borrowing products from specialist lenders who are
  withdrawing competitive borrowing rates and being much more selective.
  o High levels of inflation and a strong demand for specialist labour and building products has
  resulted in building costs remaining high resulting in increased build costs and lower levels of
  return for developers.

Question 12

What are the key stages of a typical development programme?

Answer 12

• Pre-Construction comprising:
  o Site Identification.
  o Financial Modelling & Viability.
  o Development Appraisal.
  o Site negotiation & Acquisition.
  o Design.
  o Financing.
  o Planning.
  o Contractor selection.
  o Contract Agreement.
• Construction:
  o Site enabling works.
  o Main Construction of sub-structure, superstructure & external works.
• Post Construction
  o Building Handover.
  o Identification of tenants and letting of building.

Question 13

Please explain the difference between a Development Appraisal and a
Residual Valuation?

Answer 13

• A residual land valuation considers the potential Gross Development Value of the site less all associated
  costs of the development including the accepted level of developers profit in order to arrive at a
  residual land value that the site can be purchased for (GDV minus Build Costs, Fees, Finance,
  Developers Profit = Residual Land Value).
• A development appraisal considers the potential Gross Development Value of the site less all
  associated costs including the land purchase value in order to determine the level of developers profit
  that remains (GDV minus Build Costs, Land Purchase Value, Fees, Finance = Developers Profit).

Question 14

What would you deem to be an acceptable level of profit for a
Developer?

Answer 14

• In reasonable market conditions, I would expect the majority of developers would target a Gross margin of around 15%-25% expressed as a percentage of the Gross Development Value.

Question 15

What Development Appraisal Software have you used previously?

Answer 15

• I have used Argus Developer which allows the development appraisal to be compiled using a series of
  input screens.
• It also allows for sensitivity testing to be carried out by adjusting variables such as build cost, finance
  costs and development timescales.
• Different scenarios can be presented to the client in a customised report so they can assess the financial
  viability of the development against their expected level of return and any project specific risks.

Question 16

Please explain the steps undertaken when preparing the Development
Appraisal for your client?

Answer 16

• As part of my clients planned acquisition of a brownfield site based in Darlington, I was instructed to
  prepare a development appraisal to assess the financial viability of the site that had recently obtained
  planning permission for an industrial development,
• I calculated the GDV of the site by compiling market data to estimate a realistic ERV (Estimated rental
  value) based on £17 psf.
• I estimated the GDV of the site based on a capitalisation rate of 7% of net operating rental income.
• I then undertook a sensitivity analysis based on different levels of build and finance costs to determine a
  best and worst case for potential developer’s profit.
• After deducting the Build Costs, Professional Fees, Land Costs, Finance Costs and Contingency from
  GDV the remaining developers profit percentage was below my clients target of 18%.
• Because of this the decision was made to reapproach the vendor of the site to determine whether they
  would be open to negotiate on the land sale price.

Question 17

Please explain your understanding of the term ‘Placemaking’?

Answer 17

• Placemaking is a wholistic approach to the development of public spaces that considers planning,
  design, implementation and management.
• This aims to deliver public spaces that offer unique value to their occupants such as:-
  o A greater sense of belonging.
  o Increased security.
  o A unique atmosphere.
  o Inspiration and experience.
  o A sense of pride in community.
• The concept is thought to result in an improved quality of life to occupants, greater happiness, better
  work productivity and a possible increase in property values.

Question 18

What is the community infrastructure levy?

Answer 18

• The Community Infrastructure Levy is a charge which can be applied by local authorities on new
  developments in their area that involve the creation of new dwellings, residential and warehouse
  developments.
• It is an important tool for local authorities to use to help them deliver the infrastructure needed to
  support development in their area.
• CIL is charged at a flat rate per square metre with rates set out in the CIL charging schedule.

Question 19

What is your understanding of the term ‘Right of Light’?

Answer 19

• In England and Wales, a ‘right to light’ is an easement that gives landowners the right to receive light
  through defined apertures , such as windows, in buildings on their land.
• Landowners cannot disrupt their neighbours’ rights to light. For example, they can’t erect a building in
  a way that blocks the light, without their neighbours’ prior consent.
• Right to light applies to all properties that have received natural daylight for more than 20 years.
• It guarantees landowners their qualifying buildings will continue to receive natural light.
• If not they will be awarded compensation for their buildings’ loss of light.