Site Development No Longer the Job of UK Homebuilders

Homebuilders used to do all the work: Buy land, achieve a use change and build roads, then build and sell the homes. But now land investors do that -- here’s why.

The good news is that homebuilding in the UK in the first quarter of 2013 was at its highest in five years. The Chancellor of the Exchequer, George Osborne, is given partial credit for providing equity loans up to 20 per cent of the value of newly built homes. This “Help to Buy” program is available to purchase homes valued at or below £600,000, and can be accessed by both first-time buyers and people who have previously owned property.

It only makes sense, after all. With a growing population (up 7 per cent from 2001 through 2011, according to Census 2011 data) concurrent with the economic downturn, there has been a dearth of new home construction that has affected a generation of would-be homebuyers. Credit access for buyers has blocked many from buying, creating pent-up demand.

Another problem that has confronted homebuilders has been diminishing margins. The business has traditionally been capital intensive: they would need to acquire land sites that were appropriately zoned for housing (or slated to change, per the local planning authority), develop the streets and utilities infrastructure, then find buyers for homes they would build. The amount of upfront cash and the time frame over which all development took place forced significant carrying costs and risks on the homebuilder.

Now, however, the business model has shifted somewhat. Land investors are taking on the risks and rewards of site acquisition, zoning changes and site preparation, adding streets and public utility services, as needed. Once that is done, homebuilders buy the land, build houses and then sell them.

Why does this arrangement work? It’s about doing what one does best. Land investors and site development specialists bring a certain expertise and resources – knowledge on how to strategically acquire and prepare sites, which a homebuilder may lack. Subsequently homebuilders, who are expert in constructing the type of housing that the market needs and wants, then focus their skills there. Capital is invested in each phase, but the risks are better understood and the time frames shortened (which also mitigates risk).

Implicit in all of this of course is the complexity of each task. The business of site preparation isn’t for the dilettante. This is why land investors are increasingly turning to specialists who know the process and the pitfalls. Land investment groups are generally attuned to the government’s housing delivery initiatives and localism agendas. They are able to mitigate planning risk such that they can target per annum returns in the double digits.

In the end, all players in the equation should be able to thrive in the months and years ahead. The inexorable increase in population is creating ever-growing demand for housing, which is unlikely to be satiated anytime soon.

Individuals who consider alternative investments and who plan to invest in land for development into housing are encouraged to work with an independent financial advisor. Land investment comes with its own set of risks that specialists understand; how the risk fits individual portfolios needs to be evaluated one individual at a time.

Advisory: None of the information contained on these pages constitutes personal recommendations or advice. If you are unsure about the meaning of any information provided on this website, then please consult your financial or other professional advisor.

New UK Housing Sector Investor Advice

As institutional investors venture into the rental market after a half-decade’s absence, private investors are considering how to-let housing might work for them, too.

The news in March 2013 that Prudential Property Investment Management Division UK was growing an investment residential property portfolio signalled an important and interesting shift in both the housing and investment sectors. “The Pru” spent £140 million to purchase 500 homes from Berkeley Group, a national homebuilder; this was the single largest transaction by an institutional investor in to-let housing since the financial crisis of 2008.

Other institutional investors are being encouraged to similarly invest in the rental market. Chancellor George Osborne announced earlier in 2013 that they will increase the budget to fund build-to-let property from £200 million to £1 billion. Reportedly, Legal & General and Aviva are investigating these opportunities.

The market demand for housing of all kind is certainly still there. The paucity of building – only 110,000 homes were built in 2012, while the UK population growth and replacement of deteriorated housing demands that 240,000 homes be built every year – is well understood. Younger buyers in particular are finding it difficult to summon the deposits required to make a purchase, and banks were stringent in their lending standards during the recession.

Consequently, private investors are now looking at rental housing for capital growth investments, and many financial advisors believe doing so can complement a diversified investment portfolio.

For the individual, there are two ways to go about this: either on a property-by-property basis, or in joining with property fund partners, such as with raw land purchases for development. A third method is a real estate investment trust (REIT), however most of those focus on the commercial market (one REIT was launched in 2013 that focuses on student accommodations in London and two others are reportedly in formation).

The “Money” section of the Daily Mail online provided a list of tips for individual to-let housing investors, emphasizing how this is far from a passive investment. Among the advice provided were the following:

Know the market: Rents will range widely depending on neighbourhoods, features and amenities. Investigate this relative to your ownership expenses. Surprisingly, the best returns do not necessarily come from the most expensive properties – a survey of 50,000 rental properties found better profits in Wales (fetching a 6.7% yield, calculating rent as a percentage of property price), the North and the Midlands, as compared to Central London and the South East.

Know the trends: Figure out where people, particularly younger working adults, are moving. Access to good transport and well-rated schools each increase the value.

Mortgages and rent equations: Be a savvy mortgage shopper, opting to use a broker if you prefer. But aim to get a monthly mortgage payment that is about 80% of what the likely rent will be.

Don’t be overzealous: Most built properties have been properly valuated and will not see the same run-up in value as it happened during the bubble period of ten years ago. Expect a slow value increase in properties, with perhaps your best asset growth coming from improvements you make to the property. This is where you can negotiate the best price and achieve an increase in value by doing the work your self or hiring professionals within a set budget.

Do more/make more: While you can contract out almost all services required of a landlord, the landlords who do some or all of the work required will save more and perhaps have better control of the investment overall. A rental agent and maintenance people can be hired, but if you are willing to spend evenings and weekends showing, painting and repairing a property feature, you’ll keep more of the rent money for yourself.

The alternative, something such as a land investment fund, is a different engagement altogether. With an investment of £10,000 or more, you would be joining with other investors, who in turn hire land development specialists (among the biggest upside in real estate today is in getting land use designation changes for raw properties in strategic locations). It’s a much more passive engagement, even though the actual transformation of land to housing is tracked through the course of the investment.

Whether an investor chooses to get involved in a property, to invest through market-driving REITs or join in a capital growth investment fund that specialises in land, it should be done with a holistic look at the overall portfolio. The counsel of an independent financial advisor is strongly recommended.

What Are the Risks of Real Assets as an Investment?

All investments, including property funds and other real assets, carry risk.

Following years of poor performance by market-traded securities, investors are choosing real assets as an alternative. But all investments are subject to risk.

Battered by an economic downturn over several years, investors in the United Kingdom are, like their counterparts in the European Union and the United States, looking for investments that maximise asset growth. Traditional market-traded securities (stocks and bonds) in particular have underperformed, leading investors to look at alternative investments.

Alternative investments range from the opaque (short only funds, ultra short funds, absolute return funds, market neutral funds, hedge funds) to the transparent, such as real estate investment trusts (REITs), private equity and venture capital. A subset of alternative funds includes real assets, including land, developed real estate, rarities (art, antiques, stamps, fine wine, coins, antique cars), precious metals (gold, silver, platinum, palladium) commodities (energy sector fossil fuels, plus agricultural goods such as wheat and corn) and even renewable energy products (biofuel crops, solar panels and wind turbines).

This last category, real assets, holds great interest after the disappointments of exotic and complicated investments such as derivative assets. Art can be appreciated with the eyes, much like antiques. Fine wine can be held, traded or even consumed (a reckless investment act, but sometimes a celebratory gesture of something of even greater significance). Land can be traversed, formed, beautified and turned into human habitat. Precious metals are sometimes adornment, or held in bulk in safety vaults. We feel good when we invest in energy to power industry, perhaps even more so when it is from renewable and non-polluting sources. An antique car might be driven for very special occasions – carefully and responsibly.

But real assets such as these carry their own risks. While insurable, rarities such as art and antiques can be utterly eliminated by fire, natural disaster or theft. Commodities are subject to market forces that can, under some circumstances, cut value to a net loss.

Land investment and land development are also subject to external forces. But professional advisors control variables in strategic land investments with methods that include the following:

1.    Choose land that will likely appreciate – Experienced land investors (many investors join small-group funds with professional advisors) search for property that is ripe for development (usually for housing) to accommodate the U.K.’s growing population. Such properties are typically slated to become part of a town plan. The investors – who at a minimum invest £10,000 – do not blithely wait for the planning process to play out but actively ensure their land investment progresses on a timely basis.

2.    Infrastructure investment (where appropriate) – Some land investments benefit from the building of roads, the installation of utilities and water and sewage removal. This makes the property ready to build for construction firms.

3.    Expertly time the land sale – All strategic land development follows a pre-set timeline. This is important to the investor, as he or she can know when to expect a distribution on the eventual sale profit.

Still, even well managed property funds investments come with unknown variables. Would-be investors who want to learn more about strategic land should consult with an independent and qualified personal financial advisor.

Understanding Strategic Land Partnerships

The cumulative leverage that multiple investors achieve through strategic land partnerships enables them to make optimal acquisitions.

Strategic land partnerships are essential to most investors who wish to participate in land development but who lack the expertise or capital to do so individually.

What many land investment professionals recognise is that the present opportunity is ripe and rare. Land prices are depressed as a result of the recession, and yet many municipalities are interested in promoting development as the recovery progresses. A partnership of investors, working through a strategic land fund, can pool resources to make optimal acquisitions.

The parcels of land in a strategic acquisition will be situated in an area that is ready for growth. The partnership will process a change-of-use/rezoning designation, increasing the value of the property before it is sold to residential or commercial developers for construction. Real asset growth from such partnerships generally outperforms the alternative, real estate investments trusts (REITs), because these partnerships are less subject to volatile trading prices.

The nature of real estate, where every property is unique, defies typical valuation comparisons that investors try to analyze when, for example, choosing a company stock. This underscores the value of strategic land partnerships in that the managers who work for the partnership bring strong expertise to the enterprise. They know how to identify where opportunities are strongest, including where local conditions are favourable to development – and where they are not. They are able not only to identify the opportunities but also to analyse risk and to plan how to take the land to development-ready status.

What are Strategic Land Advisors?

Because investing in real estate requires parcel-by-parcel study, strategic land advisors serve an important function for land investors.

Investing in land under current real estate market conditions is attractive to many individuals and institutional investors. But unlike other investments that allow apples-to-apples comparisons of such things as P/E (price-to-earnings) ratios, multiple variables associated with any property require close familiarity with all parcels.

This work is typically undertaken by strategic land advisors, who put together world-class teams of such professionals who make highly detailed analyses of any opportunity ahead of acquisition.

What the advisors – who generally manage strategic land funds or joint ventures – bring is an expertise in asset growth in real estate. Specifically, strategic land investing requires a skilled selection of property that holds promise for development. Such properties should be situated geographically where growth is likely – through housing or commercial development, in particular. That land also should be ready for change-of-use rezoning, with enthusiastic support of the local governance structure, such that homebuilders or commercial construction firms will find it attractive to purchase. A qualified strategic land advisor should also be able to determine where demand for housing and commercial property exists.

The alternatives for land investors include real estate investment trusts (REITs), which function much like the markets for stocks and bonds. While it enables greater liquidity for the investor, a REIT tends also to be subject to the ups and downs of the markets. Returns from an investment in REITs, consequently, are muted.

Where Does Strategic Land Rank Among Alternative Investments?

Alternative investments such as strategic land should be comparatively evaluated.

While fraught with apples-to-oranges comparisons, would-be property funds investors should consider all alternative investments.

The Reuters news agency reported in October 2012 that the lustre of hedge funds is diminished. The reason, according to one prominent financial advisor cited in the story, is that hedge funds basically became too popular. They attracted institutional investors that have effectively reduced risk taking. While hedge funds gain on market inefficiencies, those inefficiencies are effectively “ironed out” by the proliferation of participants in this type of asset – ironically reducing the net return from the funds.

The primary reason investors went to hedge funds in droves over the last several years is because of the poor returns they were finding in traditional market-traded stocks and bonds. So what about other alternative investments? Do land, developed real estate, precious metals, art and antiques (including antique cars and rare coins), commodities, energy or natural resources yield managed risk and above-market returns? Consider the news on each (as of the third quarter 2012):

• Gold – After rocketing to historic highs in mid-2011, the only investors who are assured a good return on their investments are those who purchased the precious metal in 2008 or earlier, according to the head of a private banking firm.

• REITs – Real estate investment trusts are tied to large portfolios of developed or developing properties, primarily commercial buildings. The natural fortunes of REITs rise and fall with the markets, tied both to vacancy rates (which roughly correlate with the market) and the general performance of stocks and bonds.

• Undeveloped land – Strategic land investments, approached as property funds, allow small groups of investors to work with a land development advisor to convert unbuilt tracts to more productive uses. With the UK population increase (7 percent in the last decade) and housing shortage, market demand for housing should buoy asset growth in this category.

• Antiques, rare coins, art and antique cars – For the aficionado, rarities such as these can be an enjoyable avocation as well as a good investment – spectacularly good in some instances. Emerging wealth in China and India is placing upward pressure on the finite supply of rarities. But each investment must be made with expertise. Whole movies have been produced around art heists, rare book forgeries and falsified provenances of Stradivarius violins, telling the sad tales of rarities investments gone wrong.

• Agricultural commodities – Climate change is a significant factor relative to agriculture, with drought plaguing some areas and excess rain, shortened growing seasons and premature spring hitting others. FarmingUK.com reports, “The poor [2012] UK harvest compounds a series of challenging weather events for farmers around the world, most notably drought in North America. The resulting tight supplies of many feed grains have driven up the prices of agricultural commodities around the world. These UK harvest results will do little to alleviate the global dynamics of commodity prices, with the prospect of relatively high commodity levels through to 2013." What is bad for consumers may be better for investors, but the inherent uncertainty of weather is unnerving to many investors.

• Energy – Volatility defines the world price of petroleum, and uncertainty has led key players in the offshore wind industry (General Electric, Doosan Power Systems and Vestas) to shelve plans in 2012 to build turbine capabilities in the UK. “Renewable energy in particular needs the policies that are investment grade,” says Dr. Rob Gross, director of the Imperial College Centre for Energy Policy and Technology, who argues that carbon pricing will not be sufficient to drive demand for renewable energy development. Political factors cloud one’s vision as to what might happen next.

Alternative investments can provide significant asset growth, but clearly one needs to approach them with expertise. Every investor’s goals, timing and wherewithal varies, therefore it makes sense to weigh personal variables with the advice of a personal financial counsellor.