By Victor Kumar
Property development can be lucrative – for those who have completed the necessary education along the way.
When I say education, I mean working your way up to bigger projects, not just jumping straight into trying to build a 25-lot townhouse development.
That is a recipe for financial disaster.
To help you take the necessary steps, in the first two parts of this series, I have discussed simple and strata subdivisions.
However, now it’s time for a bigger slice of the pie – multi-unit developments
Too much too soon
One of the most common mistakes with multi-unit developments is attempting them far too soon.
Generally what happens is first-time developers get too easily swayed by what agents are telling them.
“You can easily fit 12 units on this block. No problem at all. Council is a joy to work with, too, so just think of the returns!” they say.
It’s no surprise that greed then comes into play and the end result is generally not a good one.
Educated developers understand that the first part of the process must always be finance.
First-time multi-unit developers often struggle to secure finance because they have no significant runs on the board.
Financiers want to see experience and that’s where the first steps in becoming a property developer come into their own.
If you’ve successfully completed a cosmetic renovation, a simple subdivision and then a strata subdivision you literally do have experience – and results – to present to lenders.
That way, they are much more likely to finance your project because you’re not classified as a high-risk, unknown quantity.
When it comes to finance, however, many novice developers don’t factor in funds for infrastructure, including surveys, road works, and connecting power to the lot.
Those funds are vital and banks generally will not lend you the money for these necessities.
Banks will only fund a proportion of the end value of the project and some may actually want 100 per cent of the development sold beforehand.
In other words, you need to have contracts locked in before the bank will give you any money.
A sound strategy to use is to complete the development in two or three stages.
Stage one could be that you buy properties over a period of time.
An example is a street where I have been quietly buying houses in different entities for the best part of 12 years now. It’s a game of patience really.
So far I have bought five homes and I have one more left before it becomes a major 120-lot development site.
If you pre-plan the development, like I have, you can reduce your buying costs.
I haven’t paid a premium for any of the houses so far – I’ve paid about $185,000 to $250,000 – however I will probably have to pay a premium for the corner block now, which might be about $600,000.
However, if you consider the average across all of those properties, it has been relatively cheap.
And that is another point, before you attempt a multi-unit development, you must understand what your average per-site cost is going to be.
Now what I mean by that is that each lot that you create will have a base figure on it based on the purchase price.
A good development – depending on the area – would have a per site cost of between $50,000 to $90,000, of course, this figure is dependant on the area. For example, in regional areas you may have a site cost that is significantly less.
You must also factor in a smaller number of lots being approved by council.
If your research shows 20 lots, you should actually calculate your figures on 17, in case council asks for more green space – that way you can’t go wrong.
Most first time multi-unit developers also think construction will start much sooner than it generally does.
The reality is it is likely to be a one- to three year-period before the first sod is turned.
Then the construction may take you a further two years.
So that means you need to have at least five years of holding costs.
That is a common mistake that novice developers make – they don’t have enough money for the many years it may take for the project to be completed.
An ideal development site is actually one that has been held over at least one cycle – like my one mentioned above.
That way, the properties have increased in value along the way so you have more equity and the banks will be more friendly to you, too.
An easier way
Another strategy, however, is to not actually develop at all.
That might sound odd, given this blog is about developing, but sometimes it’s better to offload.
The reality is the actual construction route is full of risk and, of course, the higher the risk, the higher the profit.
And sometimes the higher risk is because of your ego, which means the risk is you.
You need to evaluate the risk – is the risk the project or is the risk you?
If you do develop, you’re subject to market forces or you may run out of money.
Alternatively, you can take a lesser profit by putting a Development Approval on it and selling it.
Let someone else take the risk of building it.
The point is you’re still making a profit.
Here’s the bottom line – you can’t go broke making a profit.
That’s one of the mantras I live by – a profit is a profit at the end of the day.
I have offloaded plenty of projects over the years because of the risk levels or the numbers no longer added up.
I’ve then been able to use that money elsewhere.
Another common misconception among newbies is that all developers are rolling in money when the reality is they’re usually surviving on the equity they’ve created.
It’s not real money – it’s just temporary cash flow.
Many developers also take a massive salary during the project, but if it stalls, they’re in trouble.
Any profits they make they roll into the next project – or they simply spend it.
If something goes wrong, that’s that, they’re done.
The truth about multi-unit development is that you must devote yourself full-time to the project or engage an expert.
If you’re working with expert project managers, you must select a professional who you can talk to when needed.
On my developments, I always talk to them on a Friday because I am available and have no distractions.
You also need to remember that most developers have land-banked the property over several cycles.
Conversely, new investors or developers buy a property and develop it straight away.
Experienced developers take their time.
Patience can be a profitable enterprise when it comes to property development in my experience.
If you missed the first part of this special series click here to read all about simple subdivisions.
If you missed the second part of this special series click here to read all about strata subdivisions.