Which Of The Following Best Demonstrates Cash Flow From Operations A New Property Development Model Is Challenging The Big End of Town

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A New Property Development Model Is Challenging The Big End of Town

Real estate development – Changing the financing model

Australia’s property market is a potential ticking time bomb with residential investors increasingly focused on raising capital for returns, while commercial property transactions have actively gravitated towards yield-based investments over the past 12-18 months. The real estate market appears to be fueled by strong interest from offshore investment and local cash-in investors and developers. The short- to medium-term outlook for interest rates appears to be positive, but in the longer term interest rates are expected to rise – banks are stepping up interest rate tightening and access to development finance is not as rosy as it once was.

Limits on institutional lending will become a growing problem as major banks must reduce exposure to prime real estate markets. The market is also adjusting to tightening foreign buyers and global policy changes happening around capital outflows such as China. China-backed developers bought 38% of Australian residential sites in 2016, according to Knight Frank.

Developers/builders – a challenge

Developers appreciate the still significant opportunities in the market, but the challenge now lies in accessing capital and potentially seeking non-bank sources of capital. Key aspects will be development design considerations, building services and fabric costs. Reducing development costs to these figures may present an opportunity to expand the funding budget and potentially consider specialized sources of funding.

The cost of financing could rise on the debt side, but if investor capital is expensive, the increased LVRs available from private financiers could lead to a net reduction in the overall cost of capital. Being able to access this funding without pre-sale quotas makes it a desirable option for smaller developers.

Buildings are usually designed and built to minimum standards, removing all costs to maximize the profits of builders and developers. Less attention and emphasis is placed on ongoing operations and new development commitments.

New model

What if we could put all these extras in to create better performing assets with lower operating costs, but not have to increase the capital budget – in fact reduce capital costs by accessing green structured finance (GSF), long-term finance available, subsidized by specialist product finance. This new loan/debt will be serviced by operational savings achieved through improved technology and products.

As an example, a developer builds and owns a mixed-use site for $50 million. We consider the design and energy consuming technologies for the site (ie lighting, solar, metering/integrated grid, thermal insulation, glazing effect, energy efficient white goods, hot water, HVAC).

SFG estimates the current life cycle costs of these technologies. We then create a package that describes which products have an attractive return on investment based on projected energy costs. For this example, $5 million was set aside from the project’s capital cost for the enhanced package. This will reduce the developer’s capital and operational expenditure, improve cash flow and return on profits. This reduction of USD 5 million or 10% can be used on other projects or contribute to improving the project’s LVR and financial composition.

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