Development funding ready for a rethink, developers agree

30 September 2019

Pre-sales are no longer the key decision point for development financing, and an era of smarter, more flexible funding is emerging.  This was one of the key messages coming from the Developer Roundtable that Qualitas hosted in Sydney recently.

The event featured a number of mid-size developers with strong presences in Sydney and Melbourne.

In recent years, development financing decisions hung on the number of pre-sales achieved. Without 100% debt cover, financiers – both banks and non-banks – were unlikely to extend finance.

In a rising market, this wasn’t a significant issue. Buyers snapped up properties at an enthusiastic rate – sometimes in just hours.

In a post-boom market, however, consumer credit has been tightened and confidence dented. Without the ‘fear of missing out’ driving decisions, buyers have been slower to buy off-the-plan. As a result, both developers and financiers need to rethink their approach.

According to one participant, taking presales out of the conversation requires both developers and lenders to take a view on the quality of the project.

“Without pre-sales, you need absolute confidence that the product you’re building has a market. A small number of presales helps in this regard, as it proves the concept, but often, it’s just not realistic to pre-sell a majority of apartments in the current market.”

One developer questioned whether waiting for pre-sales achieved the goal of risk reduction: “If the principle is to reduce risk, but you have to wait another year or more, doesn’t that just create a different set of risks?”

Another participant pointed out that “not all pre-sales are created equal”.  This is true from a settlement risk perspective, with some developers more rigorous in vetting their sales than others.

However, it’s also true that some types of projects are more suitable to sell off the plan. Downsizers, for example, want to see, touch and feel the home for their next stage in life. They also want certainty around timing, given the complexities of selling their existing home.

In this environment, lending decisions need to be flexible, with the capital provider taking their own view of the project’s risks. The roundtable attendees agreed that quality of the design and build, and relevance to the local market, are just as important – if not more – than the number of sales achieved before construction.

One developer pointed out that a granular knowledge of the suburb in which a development is situated is crucial to ensuring a project is successful, as even within a locale like the ‘Eastern Suburbs’, there are micro-markets, each with their own demographic and aesthetic profile.

Host of the lunch, David Oudshoorn, Senior Director, Real Estate Investment at Qualitas, said, “A good lender should be able to look at the development, project the demand, and take a view on the risk that way.

“The ability to look at opportunities deal by deal, based on our own deep expertise and market knowledge, is what gives us an edge over the big banks. Private, discretionary capital can cope with complexity.”

The conclusion reached in the discussion is that the market is at an inflection point. Innovation, flexibility and a focus on quality are all key to the future of development finance.