Risk is an important component in assessment of the prospects of an investment. Most investors while making an investment consider less risk as favorable. The lesser the investment risk, more lucrative is the investment. However, the thumb rule is the higher the risk, the better the return.
There are risks associated with investing in securities. Investing in stocks, bonds, exchange traded funds, mutual funds, and money market funds involve risk of loss. Loss of principal is possible. Some high risk investments may use leverage, which will accentuate gains & losses. Foreign investing involves special risks, including a greater volatility and political, economic and currency risks and differences in accounting methods. A security’s or a firm’s past investment performance is not a guarantee or predictor of future investment performance.
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Due Diligence
1. Guidance Notes
Good guidance notes for the development make it easy for your buyers (and their solicitors) to understand precisely what they’re purchasing – reducing queries.
It sounds obvious but these must be drawn to a recognized scale with a north point clearly marked.
Energy Performance Certificates are a legal requirement before any property can be sold or rented. EPCs contain information about a property’s energy use, typical costs and recommendations on how to reduce energy usage and costs. An EPC for each unit being sold will be needed.
Our solicitors will need to see planning permission for the development.
Any separate Gas Safe/FENSA Certificates (if appropriate) will also be required.
Has the local authority granting planning permission imposed any conditions? If so, have they been discharged? Our solicitors need to see written confirmation of this – including evidence of any Community Infrastructure Levy payments and copies of all relevant notices.
Has the local authority ordered infrastructure enhancements – such as road widening or a new roundabout – as a condition of the development? We need a copy of this Section 106 agreement.
Have you insured yourself against breaching any restrictive covenants attached to the development site? We need a copy of the insurance policy. If you haven’t looked into this then we can assist.
Alternatively, you may have been released from covenants. However, please note that it is vital to seek legal advice from us before contacting anyone benefiting from any covenants.
Is it a large development? The buyers and their solicitors will want to see a copy of the approved estate plan layout. We can assist with obtaining Land Registry approval if you have not done so.
Please provide us with a copy of the build guarantee documentation and confirmation of registration as soon as possible.
How much will home buyers be expected to contribute to the upkeep and maintenance of any communal areas, gardening/landscaping? Will they need to contribute to a sinking fund? A statement setting out the first year’s anticipated expenditure post completion is very useful.
Where will all the utilities run? We will need to see a plan of all the planned new electricity cables, gas mains, water pipes, drains, telecoms/broadband cabling.
Have you nominated anyone to sign important documentation on your behalf? We need to see copies of the powers of attorney and so will your buyers and their solicitors.
Solicitors in our commercial property team will prepare these for you – we can draft documents including contracts, leases for residential leasehold flats and transfers of freehold property. We can also assist with setting up management companies and advise on the best way of maintaining common areas post completion.
These are official copies of the documents held by the Land Registry. We can help with these.
Common Risks with property investment and property development
1. Time Overruns
One of the first types of risk in property development you need to be aware of is time overruns.
We’ve all heard the horror stories and some of you may have even had some bad experiences.
Residential development projects running overtime is all too common. It’s the type of risk in property development that can be super costly if you don’t have the right risk management mechanisms in place.
The key to managing the risk of your project running overtime is to get your builder to commit to significant but fair liquidated damages in the projects build contract.
Liquidated damages are non-negotiable for all of our build contracts here at Little Fish. No matter how big or small the project or how well we know the builder.
It’s critical you find a builder that is happy to back up their time commitment in the building contract by utilising the liquidated damages clause.
For us, we work out how much rent we would lose on each dwelling per week and times that by the number of dwellings.
That’s the amount we expect all our builders to commit to on every project. It’s fair and significant enough to give your builder every reason to get the project done timely.
Running overtime even with liquidated damages in the contract is still no fun. But at least the funds you’ll receive will absorb some if not all of the financial pressure due to the overrun. Ultimately it could even be the difference of getting your project to the end.
2. Cost Overruns
Make no mistake experienced townhouse builders, contractors and suppliers can be extremely crafty with cost variations.
Especially if you’re a newbie, variations have the power to bring you to your knees if you aren’t careful.
Mitigating the risk of cost overruns comes down to your construction documentation and build contract.
First off you only ever want to enter into a fixed price contract. You also need to eliminate all “assumptions” from the contract before you enter into it.
There should only ever be an assumption or allowance for underground earthworks. Even then you need to be on top of what they have allowed to ensure it’s reasonable.
Builders love “assumptions” they’d litter the entire contract with them if they could. Assumptions means they don’t need to commit to a price.
By the time that they do they’ve already got you on the hook, there is nothing holding them to account.
Apart from fixed-price contracts the second thing you need to do is ensure you include detailed fixtures, fittings and finishes schedules in the contract. You need to make sure nothing is missed.
If you want something to be included in your build then it needs to be specified clearly in the contract and supporting documentation.
Never assume something is included. If it’s not outlined clearly in your construction documentation I can assure you it won’t be included and will become a variation.
A final tip to minimise cost overruns is to allow a contingency for earthworks when figuring out your build cost. This is good practice and will mean you have accounted for absolutely everything.
Once your project is out of the ground there should be no reason for variations if you’ve nailed your front-end planning.
If you are looking for information on development costs, check out this trusty article where we share actual development cost examples.
3. Your Builder Going Bust
The third significant types of risk in property development is your builder going bust mid-project. Or going bust any time after you’ve entered into a contract where money has exchanged hands.
Remember Murphy’s law, if it can happen it will happen so don’t allow yourself to think otherwise.
Do as detailed due diligence as practically possible on your builder before entering into a contract. No matter how they present.
At the very least make sure you get references from previous customers. Paying customers are going to give you honest feedback.
Also, head out to the site and check their work and talk to contractors. Do anything you can that will give you the confidence you need to move forward with a builder.
4. Trusting Third Parties
The fourth type of property development risk is trusting third parties. As the property development project manager, it is your job to have extensive knowledge across all aspects of your project.
At Little Fish, we trust no one for anything. We always do our own research.
We’ll talk to relevant professionals and gather as much information as we can. Ultimately we don’t hitch our wagon to any third parties ever. We put the time, effort and resources into our own research because the stakes are too high not too.
You either pay now or you pay later. Either way, you will have to pay so put the time and effort into learning everything you can.
Don’t rely on one source find as many sources as you can and challenge anything and everything because paying later is always more expensive.
At the end of the day you need to trust in yourself (and your team if you have one) and your ability to figure things out on your own.
All decisions you make you need to make them with complete confidence.
5. Rubbery Numbers
The fifth type of risk property developers need to be aware of is working with rubbery numbers.
One of the fastest ways to lose money as residential property developers is by working with numbers that have no science or merit behind them.
Numbers are a massive part of developing. At the end of the day, we are developing for a profit so it’s beyond critical that you get them right.
It’s all too easy to throw numbers around without any science or merit to back them up.
Don’t become a developing statistic, learn what numbers are important and put the time, effort and resources into understanding them.
A key here is to never round your numbers. Financial projections, budgets and feasibilities littered with rounded numbers is a perfect example of rubbery numbers.
Making high-risk decisions based on rubbery numbers is a one-way ticket to project failure.
That’s five types of risk in property development as promised but I’m going to throw in a bonus sixth because it’s too important to leave out.
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