So you want to develop? What to look out for...
If you’re a Local Authority in the early stages of re-engaging with housing development activity, then you know you’re not alone. At least half of UK authorities have already started, or are actively pursuing, delivering their own homes again after changes in Government policy.
There are questions you need to consider before developing;
- Why do we want to do it? This should never be ‘because we can’ or ‘because everyone else is doing it’ or ‘because we’ve been told we must’
- What targets do you have to meet? What are these and will developing help you meet them?
How you answer the whys should have a major influence on how you set about developing as it’s far too risky and complex as there are so many things that could go wrong if you don’t have the right expertise at your disposal.
Make sure you understand what’s happening in your local housing market and how that fits in with national trends.Consider what might happen if you just left it to the market.
What are the problems you’re trying to solve?
Perhaps you need to generate some income, perhaps you have a growing homelessness problem. It could be that you have a proven need for market rental homes in your area but a smaller than average private rental sector (PRS). On the other hand, you might have plenty of shared ownership properties coming through S.106 Agreements, but not enough Social or Affordable Rent to meet the needs of your waiting list. Others have little or no affordable housing being built, either because of viability issues or stalled sites.
Are there any types of activity that you definitely would not do? Why not?
For example, under what circumstances, if any, might you consider a compulsory purchase? Perhaps there’s a decent sized site within your boundaries that is zoned for housing or even has an existing consent, but a developer is sitting on it. Are there any circumstances in which you’d consider attempting to force their hand?
The chances are, you’re facing a combination of issues that you’d like to tackle and there are probably a variety of solutions open to you. It could be that each problem has a choice of solutions and delivery mechanisms. At the same time, it’s also probable that your resources are limited and you’ll need to prioritise. Don’t be tempted to have a go at everything in a scattergun approach, as you’re much less likely to succeed without organised focus.
Look at your local metrics and itemise your most pressing issues. Then prioritise those issues in order to generate clarity about how you’re going to employ your resources to best effect. Progress a reasoned strategy and get the widest possible buy-in to it before you commence any development activity in earnest. Don’t be tempted to skip this part, or wait until later, or let it evolve at random. It’s too easy to get side-tracked into pet projects that eat your resources without delivering what you most need.
Are you a leader or a follower?
There are always new ways to do things, and only some of them are better. Some of your peers have already been through this process ahead of you and will be prepared to share what they’ve got right and wrong so far. Be prepared to do some myth-busting too. You may be working with senior colleagues or local politicians who aren’t up-to-date with policy and legislation changes and may need updating on what and how they can develop. You could be proposing to spend big money, and it’s important that the carefully calculated and sensitivity-tested investment rewards are presented alongside the proposals to take out a large Public Works Loan.
Your circumstances will differ depending on whether you’ve already done a stock transfer, you have an Arms Length Management Organisation (ALMO) or you still own and manage your own housing stock. How you go about setting up will be informed in part by this. If you don’t want your new stock to be eroded through Right to Buy, then you will want any new homes to be owned by a separate entity to the Council. However, the Council may be the major investor in the new homes so will need to have sufficient control to protect that investment, including ensuring good quality; cost-effective management and maintenance are in place. Once you have a clear idea of what you want to deliver and why you’ll need the services of an experienced legal advisor to decide on the most appropriate set-up mechanisms.
You or your delivery partners should invest in an industry-standard financial appraisal system (such as SDS ProVal or SDS LandVal software products and training) and make sure your decision-makers have a good grasp of what they’re looking at when you’re presenting financial summaries. A financial appraisal will allow you to model a variety of potential changes (such as build costs or rental values) and assess their impact so you can make informed decisions. It will also allow you to look at the development period and long-term cash flow, and build in whole life costings. You may be happy to invest more capital in order to deliver lower running costs for your occupiers, and it would make a lot of sense to invest up-front in exchange for lower long-term maintenance liabilities.
Ask yourselves what your Authority’s risk appetite is. How much can you afford to speculate? Just as you might have cautious colleagues to convince, it’s just as possible that you will have a few more ‘gung-ho’ collaborators who might get a bit carried away without fully understanding all of the implications. Having access to the right expertise is essential in order to ensure a sufficiently robust review and challenging approach. Make sure you rapidly acquire or have good access to people with expertise who can assist you in guiding the process at an officer and member level.
You need some proper procedures in place tailored to this type of activity, and these need to mesh with your Financial Regulations and Standing Orders. You could be committing substantial sums as custodians of public money, so structure an appropriate decision-making hierarchy. SDS offers a Housing Development Manual as an annual subscription service which has been specifically put together for Local Authorities. This gives you lots of information and supporting documents to guide you through the development process. It will also help less experienced staff gain a better understanding of what needs to be done and considered through the life of a project.
Working in partnership can be a great way of combining your needs and strategy with the skills and capacity of others. This could be through a Development Agency arrangement with a locally active Registered Provider (housing association), or some form of Joint Venture.
If you are externally resourcing the bulk of your delivery efforts, then you should aim to be a ‘good client’. Of course, you will be open to advice and guidance, but you need to have formed the clearest possible idea of what you want and be able to convey that to your partner organisation(s). In the early days, you won’t have your own housing specification or ‘Employer’s Requirements’. You may be comfortable to adopt those of your partner, but make sure you know what you’re getting. It can be excessively expensive to change items or layouts mid-building contract. Make sure your housing and maintenance colleagues have been sufficiently involved at the early stages so that any particular requirements they have been incorporated up-front. Equally, those colleagues need to understand the consequences of intransigence. It is wise to incorporate a ‘design freeze’ stage into your projects and have a named project sponsor or ‘lead client’ who has the final say.
Depending on your strategy, you may be inviting approaches from developers to work with you to bring the delivery forward of new homes on sites. This can have multiple benefits for your Authority. As well as getting homes delivered more quickly, construction is great for the economy and offers the opportunity to incorporate local labour requirements and apprenticeship opportunities. Once word gets out that you’re keen to work with builders and developers, you should be keenly aware of what you bring to the party and make sure your negotiation fairly recognises the contribution of all parties. Once again, you will need experienced people acting for you in this type of negotiation.
Perhaps a developer controls some housing development land but is holding off on commencing construction because they don’t anticipate sufficient consumer demand. You could become a guaranteed purchaser for an agreed proportion of the homes up-front, which de-risks a chunk of the developer’s outlay, making the scheme much less risky for them to proceed with. As part of that deal, you might agree to make stage payments during the construction period, further reducing the developer’s interest costs. They will also avoid incurring marketing costs or sales incentives on the homes you’re buying, and the risk of sales delays. In this case, it is best to negotiate your purchase price from a ‘cost plus’ rather than ‘market value discount’ basis. This could be an open-book calculation.
There might be a piece of land with high up-front infrastructure costs that are stalling progress. In this case, you might offer a loan to the developer that only becomes repayable once the scheme reaches a sales stage. In this case, your contribution has created an opportunity for the developer to bring forward profits and perhaps grow their company more quickly that than they could have otherwise done. Your loan rate is likely to be significantly lower than standard bank lending rates for this type of activity. As well as realising a fair return for your investment, you will also need to carry out appropriate due diligence to satisfy yourself that the proposal is sound and you have full confidence in the developer’s capacity to deliver.
Another way of tackling a site that has stalled due to infrastructure costs would acquire an interest in it and deliver all of that infrastructure yourselves. You could then sell it as serviced plots to developers, which may also provide an opportunity to break the site up into smaller sections. This could have the added benefit of creating opportunities for smaller local developers, and give you more control over the speed of delivery.
You have various sources of funding open to you (Homes England, Public Works Loans, Local Enterprise Partnerships) and they will all come with their own set of funding conditions that it’s important you keep track of and comply with.
The Homes and Communities Agency administer a wide variety of funding streams as grants or loans. They have a large document online called the Capital Funding Guide, as well as a fairly rigorous annual audit process. Even experienced Registered Providers can fall foul of these requirements from time to time, and these sorts of mistakes can have serious consequences (including having to repay grants or access to future funding being withdrawn). In order to meet the relevant funding requirements, there really is no substitute for experience, and this applies from the very start to the very end of the development process.
You may also be able to fund projects through partnership or sale and lease-back arrangements with other investors such as pension companies or hedge funds. There are already schemes in management that have been delivered through these routes, but it is by no means a mature market. If you are considering these types of options, make sure you carry out a thorough analysis of the deal. These options can have a lot of appeal. The development process could be entirely delivered outside of your organisation, avoiding the need for you to carry internal expertise. You may be offered full nomination rights to the homes provided for, say, 40 years and then be able to acquire them outright for next to nothing at the end of that period. The flipside of this is that you have to commit to paying an inflation-proofed rent for those 40 years, and you will have to take a view on what is likely to happen to rental rates relative to overall inflation rates. If the rents you can collect should ever fall below the rent you have to pay, how will you mitigate for the difference?
There’s a lot of interest in PRS (Private rented sector) schemes at the moment, particularly driven by a growing acceptance that many ‘Millennials’ will never be able to afford homeownership and will be ‘Generation Rent’ for much or all of their lives. This may well be right, but in the shorter term, thought should be given to any and all medium to large-scale PRS proposals. There’s a world of difference between a block of 80PRS flats in a city centre near a transport hub, and a block of 25 PRS flats in a smaller town several miles from the bus or train station. You may need to phase lettings to cope with the workload, allow for the practicalities of multiple move-ins and not crash your own local rental market. Will you use probationary tenancies at the same time as a promising long-term security of tenure? How will you deliver cost-effective management and maintenance?
There are some hidden dilemmas in all of this. House prices are widely unaffordable due to lack of new supply. Therefore it follows that a big boost in supply should improve affordability. It must be remembered that affordability is the other side of the same coin as house values and rent levels. It can be argued that affordability is such a chasm that we are a very long way away from reaching an impasse. However, if you were to be wildly successful in your area, you should at least consider any potential impacts on your future income stream, and on the wealthier members of your local electorate.
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