Sell, Co-Develop or Self-Develop

Do you have a nice property in town that you don’t know what to do with? Current prices developers might offer for premium locations might sound interesting but the fast decline of the Birr’s purchasing power means it’s not quite a straightforward decision as to what to do. On the other hand, trying to develop a real estate project (self-develop) is a tall order holding a lot of risk for even organized developers.

Selling = Fast, Simple & Lowest ROI

Selling is no doubt the simplest option of all.  The only open questions will be how to achieve an optimal price point and just as importantly, how to reinvest the proceeds once the sale is complete.  However, a direct sale is not likely to provide the best possible return from a property in strictly financial terms.  Furthermore, the follow on (or waterfall) purchases from the proceeds will also play a significant role in determining your ROI.  Overpaying (or perhaps even worse) for your waterfall purchases can easily negate the most optimal sales price for your property.  If you are not in a hurry for recognizing proceeds from your property (keep in mind that even rental income will go away if you choose to develop on it), you have a sentimental attachment to the property and/or you want to maximize your long term returns from the property, then it may be worth your while to consider other routes.

Self-Development = Complex, Risky, Highest ROI

On the other end of the spectrum, undertaking a real estate project is a complex prospect although it will probably provide the best return from your property.  However, it does hold more risk owing to the many variables that must be navigated from design to construction and through sales.  In fact, if pre-selling must be involved in order to fund the construction, this option holds a great deal of risk and should not be attempted unless you know exactly what you’re doing.

A big part of assessing the risk in building a real estate project yourself rests with how you’re going to finance it.  If you have the funds to build the project out entirely on your own, then the risks are minimal although your own equity is typically the most expensive type of funding you can use for this purpose.  Loan facilities will mean you have to be careful about planning for repayment whether you’re renting or selling.  Finally, pre-sales require advanced financial modeling and management with specific knowledge of how this market operates within that context.  To reemphasize, a project that utilizes pre-sales as a significant part of the funding mix, needs a robust and experienced management framework to avoid the significant pitfalls which can be associated with it.

Co-Development – an increasingly familiar approach

Co-development – an approach by which the owner contributes the property to an established developer in exchange for finished real estate at the completion of the project, perhaps with some cash payments – may be the dominant form by which premium properties are now acquired for development.  It is in a sense a good compromise approach by which the property owner leverages the experience and gravitas of a developer in order to secure apartments on the completed project that will likely represent at least a marginally improved ROI than an outright sale.  Unfortunately, the experience of property owners with this approach has been uneven at best with delayed construction, sub optimal build quality and low ball contracts some of the common complaints heard.

Co-development is usually done not via joint venture (rare, but not unheard of) but by transferring the property over to a developer in exchange for the promised delivery of finished units.  Thereafter, the original property owner is limited to the value of the committed units when they are eventually finished.  This is typically after many years and one of the pain points experienced with this modality is that there is usually not much disincentive for a developer to drag its heels on implementation.  There are tools to help deal with some of the uncertainty – for example that of a developer either defaulting or delaying on project implementation – but at the end of the day, your returns will have a ceiling on them in accordance with the percentage of completed built up area already agreed to.

Another Way?

Yet another way may be to undertake an assisted Self-Development path by which execution of the project (and all of its ancillary components) are undertaken by a professional firm with experience in real estate development.  This has the benefit of maximizing overall ROI to the property owner within the context of minimizing the attendant risk otherwise especially where preselling is involved.  Fees, commissions and even profit sharing may be involved (the latter probably even advisable as part of an overall compensation package) but a property owner would come out significantly ahead of most other options in the general case.  The problem is, there aren’t too many firms which practice this kind of development at the moment.