The residential development market’s turbulence in recent years has been well publicised. This volatility has been underpinned by a variety of factors, from tax reform to funding limitations, not to mention the Brexit vote.
Developers have had to adapt continuously to survive, with few able to return to the kind of profits they experienced in the lead-up to 2007.
With the aim of remaining profitable, some developers have moved into different use classes such as retirement or multifamily housing. Others have changed the locations they operate in. Despite or maybe even because of this, a key trend in London has been the increase in demand for the unconditional sale of development sites without planning permission.
Unconditional deals have always been popular because of the simplicity of the structure, ability to release capital quickly to landowners and opportunity for developers to purchase at a lower price. But recent evidence suggests a surge in interest for such deals, with some sites receiving more than 20 or even 30 bids. So what is driving this surge?
A primary reason has always been that developers prefer to design and build to their own guidelines and unit types to achieve maximum profit. When inheriting a planning permission, they often have to compromise on the design and sometimes go back to planning to tweak layouts or even resubmit plans. Increased competition for new homes sales has amplified the need to get it right, so developers are less able to compromise on design.
Uncertainty in the market has led some investors to take a more cautious approach to residential. The adverse effect on the prime central London market from stamp duty changes has been widely documented and some believe Greater London has yet to feel the full impact, especially when factoring in the tax changes for buy-to-let investors.
Add to this increasing construction costs and it is clear that the margin for error in development appraisals has been eroded. So developers are looking to increase their profits to act as a buffer against any upsets to the process. The risk and cost of achieving planning permission should not be underestimated, but buying a site unconditionally tends to allow for a higher profit as a reward.
The number of private funds active in the development market has increased, partly as a reaction to the lack of traditional bank lending. Private funds often have a greater appetite for risk, which suits the profile of unconditional sales without planning. They can be more flexible in their finance arrangements and can sometimes help unlock otherwise unavailable sites.
A number of other circumstances are also driving demand for development sites without planning permission. Perhaps the key point is that we repeatedly meet landowners that have underestimated the importance of getting the correct permission – it has become make or break.
There is no doubt that today’s market dynamics offer a real opportunity, but the land market will not become more normalised until the UK’s political uncertainty diminishes. Acquire well, or prepare to face the consequences.