What Is Development Finance?
Utilizing the future value of your project to fund ongoing costs reduces expensive delays and provides a more workable property development finance option than most traditional solutions. If you’re wondering, what’s development finance all about? Or even if you’re an experienced developer who’s sick of getting short-changed by banks and other traditional commercial development finance lenders, this article will help.
Borrowing against the future value of projects is probably the most logical way to fund property development, and yet, most commercial development finance lenders out there don’t operate that way. That can be highly frustrating when trying to keep an action ticking under the typical pressures. For most developers, no matter how experienced, commercial development finance lenders who ignore or don’t fully consider end value don’t make much sense. They work on various projects, from hotels to apartment blocks or housing estates and shopping malls, but property developers all have one thing in common. Projects are all designed to take advantage of an opportunity to exploit development potential. It can be about adding value by improving an old building or constructing something entirely new on a vacant block. To be a successful property developer, you have to look beyond what exists and utilize insights about everything from the area, its people, the property market, and what’s currently in demand. It’s about developing a vision and using that to produce a return on investment. That’s likely why so many property developers find their funding choices baffling. Banks tend to largely ignore the future value of projects and lend based on the here and now. Failure to appreciate the future value of development means borrowing restrictions need to be tighter. Consequently, many projects get off the wrong foot, meaning the entire development process is more challenging.
Gross Realisation Value: How do private mortgage managers assess projects?
GRV is an abbreviation for gross realization value. It means how valuable your development or construction project will be when complete. GRV can be helpful for property developers, but traditional lenders and banks ignore it. So, does that mean GRV presents risks for developers? Is there a problem with financing a building project using GRV? These are good questions for developers to ask, and the answers might surprise some of them. What’s development finance all about? Return on investment is the answer, and GRV-based funding options don’t ignore anything banks use to assess projects. To qualify for property development finance with a private mortgage manager, you’ll still need to show your project is well-planned, has everything required to complete works, and your financial track record is good. You’ll need to demonstrate you have a viable exit strategy, that there’s a market for what you intend to build, and that you and any investor can expect a healthy return on investment. As far as traditional development finance lenders, banks, and private mortgage managers go, that’s where the similarities essentially stop, however. Banks will look at a project and base an assessment of their risk pretty much solely on the existing situation. They’ll consider the value of your land and the total cost of development (TDC), and then if they decide to fund the project, they’ll make an offer based on that. For example, a bank may offer to invest 70% of your TDC, but they will likely specify pre-sales. Pre-sales are when you sell off-the-plan before construction begins – and there are a couple of reasons you might not want to do that, as we’ll explore later. Banks can specify you achieve 50% or even more in pre-sales before they’ll agree to fund a portion of your TDC. Luckily, there’s a better way than getting property development finance from a bank. When you approach a private mortgage manager for development finance, they’ll look at your project just like the baker did and satisfy you, and your task is viable. They’ll also assess your development proposal more as a developer would. Private mortgage managers use GRV as a basis for making an offer. In many cases, the upturn in value produced during the project can allow them to advance all of the cost of your land, plus a big chunk, if not the entire cost of doing the work. Not only that, but depending on the scope and specifics of your project, funding might come with little or no pre-sales requirements.
GRV Versus TDC: What difference does it make?
The answer to that question is that the difference between GRV and TDC can be tens of millions of dollars depending on what you’re developing. Let’s consider again what the two different terms mean. TDC: is nothing more than the total costs you’ll incur to get from start to finish with your project. It includes your property purchase costs and the cost to build what you intend to sell, such as townhouses or apartments. TDC also takes development finance interest rates into account. You can include council rates and insurance, the costs of marketing your apartments or houses, and real estate agent charges, too. TDC covers every expense you’ll meet from the day you purchase a site to the minute you hand over the keys to your last buyer. It can represent a substantial amount, but it’s typically no match for GRV.
Example of TDC:
A client approached Prudential Custodians about purchasing an ocean-side block of land in the Eastern Suburbs of Sydney. The land cost was estimated to reach $8, and the developer planned to construct eight luxury apartments, each with an estimated selling price of $3. The cost to build the apartments and all the associated expenses like real estate fees and marketing, insurance, development finance interest throughout the one-year project, plus the land cost, was $16, which equated to the TDC. A traditional development finance lender had previously offered to fund just 70% of that ($11.2M) with a requirement for 50% pre-sales, or four apartments sold off-the-plan. Apart from significant pre-sales, the client was worried about a gradual and restrictive release of funds throughout the project, with a mandatory inspection by the bank after the site clearance, groundworks and slab, framing, and lock-up phases. GRV: is the gross realization value of your development. Unlike traditional commercial development finance lenders, private mortgage managers appraise the total value of a project upon completion beyond just working out the cost of the product. Let’s look at how Prudential Custodians worked with the Sydney client to provide a more effective development finance solution:
Example using GRV:
The client planned to build eight luxury apartments, each with an estimated value of $3M, meaning the GRV for the project was $24M. With the total cost to develop being just $16M, Prudential Custodians was able to design a funding package that covered the total cost of buying the building plot and all the ongoing construction expenses during the one-year project. Not only that, but the client was free of any requirement for pre-sales. This aspect of any funding was vital to the developer because operating primarily in that locality and producing luxury properties meant the company tended to achieve higher prices once potential buyers could visit apartments or houses, fully appreciate some stunning locations, and see the quality of finishes.
Commercial development finance lenders: How to use the future value of projects
As surprising as it may seem, most traditional development finance lenders will leave you with the prospect of providing a sizeable deposit, even when the value tied up in a project is considerable. While it doesn’t make sense, finding an alternative can offer developers and builders several benefits beyond funding the day-to-day development costs. Cash flow is vital for developers. Time-consuming bank inspections required before a gradual release of funds can spell disaster. Using GRV to unlock realistic funding can put an end to delays and diminished profits, but it also provides additional advantages:
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Seize opportunities:
Have you ever missed out on a potentially lucrative project because you couldn’t secure funding in time? If that’s the case, you’re by no means alone. Applying for property development finance with banks or similar development finance lenders can result in a long, drawn-out process. Disregarding future value means there are many more boxes to tick, and that good piece of land could be sold before you get a chance to act.
Prudential Custodians can help you arrange the funding you need precisely when you need it.
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Exploit DA uplift:
DA applications are a pretty unavoidable aspect of many development projects, but that doesn’t mean you can’t turn them to your advantage. After a time-consuming application, you’ll experience an uplift in value, and you can leverage that to fund development costs. We’ll advance the difference between your purchase price and newly approved land so you can get tools and workers on-site faster.
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Exiting and starting a new project:
Traditional development finance lenders can prove highly counterproductive when moving between projects, yet one of the keys to success as a developer is being productive year-round. The trouble with traditional development finance options is their lack of versatility. Banks tend to base agreements on specific projects, and there are zero crossovers. You can use the equity in a completed project to start a new one with a private mortgage manager.
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Residual stock equals potential ROI:
When the end of a project arrives, the bank will be preoccupied with the repayment of your development finance. Yet, it’s a time when you’ll have your mind on maximizing the return from your project and achieving a profitable exit. Banks often force developers to sell stock at discounted prices to settle finance. With a private mortgage manager, you can unlock the value of unsold inventory and get more time to achieve higher prices.
Your Bottom Line: Private mortgage managers provide versatile funding without compromising ROI
The bottom line is, when you’re a specialist operator like a property developer, you need specialized funding solutions – and that’s what Prudential Custodians can bring to your project. Many of the problems with banks and other traditional lending providers are that they sell products across various verticals. Banks sell everything from car loans and leases to personal loans, residential mortgages, and insurance. It’s a great one-stop shop if you want to buy a new vehicle or use the equity in your home to take a holiday, but it’s hardly a fit-for-purpose solution when you need to get a development project off the ground. When you talk with a private mortgage manager at Prudential Custodians, you’ll get a fair project appraisal and unlock access to a range of solutions that not only get you from start to finish on a project they can also help you exit, achieve your projected ROI, and use equity to get a new project off the ground. There’s no good reason to settle for funding solutions that are unfit for purpose and ignore the greatest asset of your development project – its future value. Before you get your subsequent development underway, talk with a mortgage manager who speaks your language and gives Prudential Custodians a call today.
