Here’s 10 of most common mistakes made by property developers and how to avoid them.
Property development is a high-risk, high reward business. Ensuring success in this game is to be well-armed with well-researched information and follow some basic rules and of course not to make mistakes along the way. Below are some of the top 10 mistakes that property developers make.
Mistake 1. Not focusing on the needs of the market
Successful property developers respond to market needs in our society. Their success depends on their ability to determine the needs and desires of consumers, and they create and finance a cost competitive product that satisfies this need. They have the vision and an uncanny way of predicting future trends. They plan well in advance to supply the right product at the right time. How do they acquire these instincts? It is not merely by trial and error but through understanding the fundamentals of how the market functions.
Before embarking upon any development project, you should have a good understanding of the market, and it is essential that you ask the following key questions:
- When is the right time to develop?
- Why do people move?
- Who are the likely buyers?
- What are buyers looking for
To predict when to develop and sell, keep an eye on the real estate market and the economy in general and watch for the early warning signs that will tell you when the market might be readjusting.
Mistake 2. Failing to buy the correct property
As a property developer don’t let your emotions get the better of you. Buy with your business mind and not your emotions. It is not every day that a buyer who successfully purchases just the right property on the first attempt. Often, it’s persistence and patience that wins the day. Never adopt a ‘do or die’ approach to securing a property. Be prepared to buy or lose the property based on prevailing values and your best price.
The best time to buy is when the market bottoms out. This is when the best bargains are available. During this period, there is a lack of buyers, and motivated sellers will reduce their asking prices once they become more realistic about precisely what market values are. The time to sell is when the market is rising and moving toward its peak. For the same reasons, you do not want to purchase property during this period; you want to sell to someone else who is afraid of missing the boat. Additionally, make sure to diversify your portfolio to hedge your bets and keep adequate cash reserves to carry you through the downward market cycle.
Always do your research by checking recent sales results of directly comparable properties in the immediate area of the property for sale. A lack of market knowledge means you have no reliable benchmark with which to compare your desired purchase. That means your negotiations are based merely on a ‘gut feeling’ rather than actual data.
Mistake 3. Failing to estimate development and building cost
In the early stages of a development when enthusiasm is high, inexperienced developers tend to underestimate the building cost in their feasibility. This often leads to nasty shocks after the project design and documentation is completed and the final tenders from the selected builders arrive, only to find that the total construction cost has exceeded the budget set in their feasibility study. What do they do from here? Do they shelve the scheme, or do they revisit the plans and look for alternative ways in reducing the cost?
In my experience, not all tenders received are within 100 per cent of the budget; some are within 10 per cent above and below the set figure while some are a lot higher than expected. Therefore, if the prices are beyond your budgets, then you and your development team should analyse each aspect of the design for potential ideas. These ideas will be re-priced and presented for evaluation. Listed below are possible costs saving ideas:
Reduce the amount of site works
- Revise and balance cut and fill calculations
- Reduce the amount of retaining walls and use natural banking
- Use natural drainage techniques
- Reduce the amount of paved surfaces
- Keep as many natural areas as possible
- Locate building for shortest distance for service connections
- Build using the natural contours of the land
Construction of the exterior of the building
- Consider other alternative finishes for the exterior façade
- Consider other alternatives for the roofing material
- Use sloped system instead of flat roofs and parapet walls
- Redesign complicated details and simplify to suit standard construction techniques
- Reduce the size and amount of glass
- If gutters are not necessary, eliminate them or devise less expensive ways to control the water
- Check if an interior fireplace flue can be used instead of an expensive brick one
- Choose alternatives for exterior construction, which require less installation time.
- Re-design the floor plan so that there are less exterior perimeter walls
- Using less planting and smaller planting will often reduce these costs.
Construction of the interior of the building
- Use more economical floor finishes such as carpet, which can be used instead of wood or slate or whatever you are using
- Reduce the floor to ceiling height
- Use less expensive toilet fixtures
- Use less expensive door hardware
- Change the type of specified accessories
- Consider using less expensive alternative to heating and cooling
- Stack the plumbing fixtures within the building vertically to minimise distances for the plumbing of water and sewer
- Use paint instead of wallpaper
- Re-design the floor plan to minimise doors and length of walls
- Use a different kind of door
- Change the window treatment – use blinds instead of curtains
- Re-select paint colours for less expensive paint
- Reduce the number of electrical outlets
- Select equipment not requiring separate circuits for the electrical
- Eliminate skylights
- Use standard cabinetry instead of custom design
Mistake 4. Failing to organise the right finance package
Things can go wrong. Interest rates increase, the property market dips, your builder goes into liquidation, there is a delay in your planning approval, there is blow-out on your budget, your builder does meet the occupation deadlines, your purchaser fails to meet the settlement date etc. It is difficult to forecast these unfortunate mishaps, and they could happen through no fault of yours, but they could occur in any property development. It is therefore wise to arrange your finance package that allows you to flex the payments if necessary.
In ensuring an excellent financial package always try and negotiate flexibility into your development finance with your lender. Always prepare a well-conceived financial package as it can undoubtedly improve the returns of a development. If the charges to the service, the development loan are lower then there will be more money in your pocket. In evaluating the financial risk, the structure of the loan will play a vital role, especially if the development fails to perform as projected in the initial assessment.
Mistake 5. Trying to develop and build everything on the cheap
What makes a development more successful than its competitors? Is it the location or the price? However, what if they are adjacent to one another and in the same location and what if they are priced the same? In my experience, I have found that the answer is the architectural design and attention to detail. Yes, price does have an influence on the final purchasing decision but this would be a determining factor at the lower end of the market, but at the middle to upper level, price is not always the ultimate factor, as people can see value for money – especially if a competitive development has a better design although marginally more expensive.
As an architect, I have seen many developments fail to sell because the developer has tried to do everything on the “cheap”; they shop around for the cheapest design and drafting fee from a draftsperson without design experience, and they incorporate the cheapest building materials in the hope that they make a bigger profit margin. These developers ultimately fail as consumers can see an inferior product and in a competitive market will purchase elsewhere. By not selling his development, the developers holding cost would increase which ultimately erodes his “fat” profit.
To be a successful developer and to beat your competitors you should aim at achieving good cost-effective design portraying excellent value for money. If you don’t have the experience, then the simplest way to accomplish this objective is to look for a good architect or designer who has the credentials and extensive experience in developments.
Mistake 6. Using development funds for another development
Developers are entrepreneurs and are continually looking for new opportunities and are therefore invariably offered new land by real estate agents. In taking advantage of a good opportunity, these developers tend to use the funds for another development in the belief that the profits generated will pay for the new project. In doing this, the developer can and will end up in financial difficulties, as there are always possible delays or mishaps, which can affect cash flow. Therefore, do not commit funds from the sale of one property development to finance another until they are fully realised -too many ‘sure deals’ have an uncanny habit of not coming through. This has been the collapse of many developers.
Financially, each development should be able to stand on its own and not rely on finance from other developments as this may affect the cash flow and eventual failure of the project. Always view and analyse each new development opportunity independently. That is, arrange its own financial structure and package. In addition, make sure that you do not run short of cash and always have a backup plan. This means having a contingency fund or some other source of finance if your project goes sour.
Mistake 7. Developing for personal taste
Never let emotion or ego get in the way of good business sense. Don’t buy a property that will suit personally, purchase one that will appeal to the broader market. Don’t be swayed by architects or designers who want to create their own edifice. I am not preaching that one should develop cheap and nasty buildings, but a good architect should be designing pleasing architectural buildings within the budgets set in the viability study. If an inspirational design has been created and one that would appeal to the market, work on it until it complies with the construction budget.
Mistake 8. Failing to control cost and budgets
Cost overruns in property development can be a death Nell to a developer. Be strict with your budgets and ensure that there is a profit to be made at the end of the project. Your feasibility should determine how much to spend and where to spend it. If you make any changes during construction and this always a possibility, ensure that these variations are within budget range and always get these variations in writing. There is nothing worse than finding out at the end of the project that your profit has been eroded by variations that have not been accounted for.
It is necessary that in all aspects of your life that you know what your financial position is at any given time. This becomes significantly important when one is involved in property development. By not knowing what your cash flow position, your budget restrictions and your bank balance can land you in hot water and to financial ruin.
Mistake 9. Failing to get the best advice
There are no short cuts in property development, and you should seek the advice of a professional to discuss your proposals. When it comes to property development, treat it like buying your first home and consult the experts. A development should only start after assessing your current financial position, after examining how the development would fit into your overall business strategy and after you have received expert advice from professionals. In order to save money, some developers have not sought such professional guidance and have subsequently made bad decisions, which in turn have cost them more than they would have saved in the end. Below is a list of consultants that can assist in the planning and feasibility of your project.
Property covers a broad and diversified range of buildings with associated features. This need has created specialist consultants operating in specified areas. Before appointing a consultant, ask for a profile of the person or company to ensure that they have the knowledge, expertise and experience of the type of project you intend building. For example, it is pointless to hire a small architectural practice that has only designed residential buildings to design a multi-million-dollar shopping centre; besides not having the background expertise, the smaller practice would not have the staff to service the development. Only appoint consultants on the following bases:
- Who is best qualified for the job?
- Who is working or has worked on similar projects to the one you are proposing?
- Who has the staff qualified to support the size of your project?
- With whom you have worked with in the past and therefore know their capabilities.
- Who has been referred to you by another professional?
- How long has the company been in business?
- Through a selective tendering process.
Mistake 10. Allowing greed to overtake reality
If your first development project makes a good return, don’t let the success get into your head, as it will cloud good business sense for your next development. For example, when negotiating a sale and if you are insistent about your asking price or rental, you may find yourself in a precarious situation several months down the track and especially during a downturn in the industry. Unless you are developing without debt, this may not be a problem, but still, this may be money lost while the building remains empty. Empty buildings have a negative impression on the marketability of the development, as people will think that there is something wrong with the project. Therefore, always look at any offer and do your sums as you any be losing twice the amount (interest plus loss of rent) of money by not accepting a lower but genuine offer.
In addition, don’t grab every development opportunity that is offered to you, as may stretch your financial resources. Calculate the viability of the projects offered and choose only those that will suit your present management and financial capabilities. There will always be more opportunities around the corner, and one must exercise patience and not greed.