Is your property development idea feasible?
Published 5:19 am 19 Oct 2018
So, you think you have a great idea for a property development. That’s terrific news, but before you take another step, invest in a feasibility study advises DG Institute Founder and CEO Dominique Grubisa. It could be the difference between failure and success.
When starting their property development path, one of the biggest mistakes first-time property developers make is rushing into a project without doing the proper due diligence. A tract of land comes on to the market or a friend offers them a deal and with the blood rushing in their head they charge in and commit themselves. It’s a completely human mistake that has led to countless investors getting their fingers burnt.
Unless you see property development as some kind of cash-neutral hobby, the ultimate goal of every development you undertake should be to make you money. There is zero point investing your blood, sweat and tears into a project if you are not going to be rewarded for your efforts. You might as well be flushing your hard earned cash down the drain.
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This is where a feasibility study becomes essential. In simple terms, it’s an economic analysis that should be undertaken before any development project takes place, whether it’s subdividing your backyard block or building 1000 new units. A feasibility study is where you take a hard look and work out whether you are likely to make a profit? And, just as important, is it the kind of profit you will be satisfied with for the amount of work and finance you are about to put in?
A good feasibility study will examine each and every stage of the development process and consider the likely costs incurred and revenues raised. What will it cost to get the plans through council? What will the quantity surveyor fees be? What will the interest costs be? How much will each unit sell for? How much tax will be payable?
There are some great software products around to help you undertake a feasibility study, listing all the items that need to be taken into consideration. If you’re a first timer, it may well be worth your while getting help from professionals who put together feasibility studies every day.
Assessing Your Property Development Feasibility
In a nutshell, before you get started on your property development journey, you’ll need to undertake the following steps to assess the project feasibility.
1. Determine the gross revenue
The first thing you’ll want to do is determine the gross revenue you can expect after selling the proposed development. There’s no concrete formula to finding this out, but your process should involve looking at what’s already around in the area you’re planning to build. Examine any similar properties, review recent sales using property websites and data analytic tools, talk to local builders and real estate agents, and try to network with other developers. Putting together all the information you gather can give you a clearer picture of whether what you’re planning is viable.
2. Now determine the project costs and gross income
It’s no good taking $4 million in revenue if the project costs you $5 million. You’ll next need to determine all project costs. Compile a list of every cost associated with the project including the cost of the land, design professionals, construction, and any finance charges to give you a total project cost. Your gross revenue minus project costs gives you the expected gross income.
3. Finally, determine the remaining costs and ultimate profit
In addition to project costs, your feasibility study must take into account any other costs associated with selling the project such as marketing or agent’s commission. It is also a good idea to allow a contingency, say five per cent, for unexpected costs. These can include anything from a rise in interest rates, a plunge in the property market, a builder going into liquidation or missing contract deadlines, delays in planning approval, budget blow-outs, or a purchaser failing to meet a settlement date. Subtract these costs from the expected gross income and you have your net income before tax. Finally, subtract taxes to hopefully give you a profit.
How did your project do? You should be aiming to achieve a 20 per cent minimum return (or equity gain) at the completion of a project.
Try to make sure you’ve covered all contingencies, and that you’ve calculated your return on investment accurately. And don’t just throw it in the file when it’s done. A good feasibility study will keep evolving as the project progresses and you’ll need to keep updating it as the numbers change and your situation changes.
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