Fancy being a property magnate? Our final guide to diversification outlines the pleasures and pitfalls of building for the market – and offers some old-fashioned sales nous.
Housebuilders HAVE a lot TO SMILE about. Prices are high and demand is strong. So it’s no surprise some housing associations want a piece of the action.

At the moment, about 20 large associations build a significant number of homes for

full-price sale, while others do a little as part of mixed-tenure developments. Most do it because profits can be pumped back into social housing. Others say it gives them more control of mixed-tenure sites, rather than being in hock to a private developer.

There are risks out there, though. Housebuilders build for a different market, have no subsidy (for now) and need to make a profit. Here’s how to avoid the biggest pitfalls …

1. What to build and for whom

Most decisions a commercial developer makes will be dictated by the sites they buy. What they build – executive pile or first-time buyer flat – will be driven by the location. Research is needed to find out who is buying what in an area. Who is the site attractive to? Estate agents or local knowledge are useful here. Chris Heath, managing director of Prospect, the private development arm of Riverside Housing Group, offers this example. Take two sites: one in Ealing, west London, and one in Northwood, a little further out in Middlesex. The Ealing site is close to restaurants and public transport, the land is costly so the developer needs to get maximum value for money, there are plenty of flats in the area and plenty of demand for more of them. Northwood, on the other hand, is further out of London so is more attractive to drivers and people with children and there is more demand for houses. What if there is equal demand for flats and houses on a site? The developer needs to look at which scheme will generate the greatest land value. “You take what the end value of the development would be, from that you deduct the cost of construction, fees, sales costs and the cost of finance along with the desired profit margin, and in theory you are left with what you can afford to pay for the site,” says Heath. There is a catch, however. A flat cannot be sold until the block is complete. But while the flats are being finished, the developer is shelling out for architects, engineers and planning consultants, paying building costs and racking up interest on loans without having sold a property. In the meantime the market could collapse. The extra risk means the developer would expect higher returns from the flats, says John Weir, managing director of consultant Haute Future, which has advised a number of housing associations on market sale projects. On the other hand, if the developer builds houses it can build a few, sell a few and, if the market still looks good, build more. This is very different from the approach associations take when they build social housing, warns David Shaw, group director of development and procurement at Places for People. “We try to build to order, not build lots of homes and then try to sell them,” he says. “When I was in the private sector I saw RSLs build 50 houses and then try to sell them. That’s a short, straight road to disaster.”

2. Buying the land

What sorts of site are going to be available for a private developer backed by an RSL? This is where reality kicks in. RSL firms might not be able to compete with the volume builders on greenfield sites but could go for sites with planning uses requiring a creative solution. To find out what sites are coming up, the firm needs to get on the agent and housebuilder grapevine. This can be tricky when a firm starts up. “When I joined the company in June 2001 we were a new name and nobody had heard of us. In essence, we acquired land in the first 18 months of operation, not on the back of the firm’s name but on the back of people I knew from being in the development business,” says Heath. Other alternative sites include those being disposed of by English Partnerships and those that have not yet been spotted by other developers. “If EP is making a land disposal and wants some element of for-sale housing and if they are looking for an RSL partner you could build the social and for-sale housing, perhaps get some form of gap funding and maybe not have to pay for the land upfront,” says Keith Carey, partnering director at architect HTA and a director of Guinness Trust’s new private development company, Guinness Homes. If a developer can see potential in a site nobody else has spotted, they can get the site more cheaply. Teresa Borsuk, director at architect Pollard Thomas Edwards, describes a project the firm is working on. “We are doing a scheme in Islington, north London, with a small triangle site next to a school on two sites. We got planning consent and decided to amalgamate our site with theirs so we built a new school on the footprint of the old one and also built flats above it.” The next step is the bidding and it’s fast and furious. This is where it becomes apparent that the association-backed developer is competing with private housebuilders. “If an association is doing a social housing deal it might get a longer period of time to decide but if we are trying to buy land, we are competing with organisations who make decisions to buy in 24 to 48 hours. It has been important to streamline our decision process,” says Heath. As a new name in the business, a housing association-backed firm needs to perform in this area or agents will sell land to someone else and not deal with them again. There’s also planning to be considered. Housing associations are usually the beneficiaries of section 106 agreements but once they enter private housebuilding, the boot is on the other foot. They have to provide not only social housing but also transport, education, health and so on. Before buying the land,the firm will need to find out what planning gain is required and calculate how it affects the scheme’s profit margins.

The shoppers’ guide

  • Go for the sites the big housebuilders haven’t spotted – perhaps brownfield sites with planning issues or sites that can be expanded with the cooperation of neighbouring owners
  • Develop on English Partnerships sites acquired by your parent landlord
  • Get on the housebuilder/land agent grapevine
  • Hire a team with connections in the industry
  • Make quick decisions on whether to buy a site – private housebuilders can approve a purchase in 24 to 48 hours
  • Find out what planning gain contributions are required and how they will affect the cost of the development.
  • 3. Minimise risk

    The land is the key to much of the financial risk the developer takes. “If you pay too much for land, you are stuffed,” says consultant John Weir. “If you design something too expensive to build, you can cheapen the construction. But land is 40-50% of the value of the product so if you pay too much, you cannot get round that.” And if the firm builds the wrong type of property for a location, it could be left with stock that takes ages to sell – while it forks out interest on its building loans. At the moment, of course, private developers don’t get any grant. They need to borrow from banks or the parent RSL to start the firm and the only way to make money is to sell the homes. A prime way to minimise risk – and persuade the banks to lend start-up cash – is to assemble a team with a track record in the private housebuilding business. As David Shaw says: “Banks will back you if you have a track record but you can’t get a track record until you see the money. If you have people who have worked in the private sector, it helps with the banks.” In his case, it also helped that the RSL parent – Places for People – had plenty of experience in shared ownership and the new division – Emblem Homes – was aiming for the starter home market. To cushion the risks in residential development, Riverside’s Prospect arm has branched out into commercial property. It owns three office blocks that it rents out to businesses on five or 10-year contracts, which gives the firm’s balance sheet a boost. Firms could get out of speculative development altogether and sell existing stock on the open market, a smaller and less risky operation. On the upside, RSL private development arms do not have to deal with shareholders. This can give them a little headroom when they set prices for their homes. The big housebuilders tend to sell homes for as much as they can get in order to boost profit and share price. Some associations say – although this is hotly debated – they are more cautious in their pricing. Carey says: “A better measurement [of success] is return on capital employed, which says you are better off going for lower margins but getting a better volume of sales. It’s better for the cash flow. If you are hanging on for big values you are probably not getting the rates of sale. You would have empty homes racking up costs.” The main recommendation is caution. If the parent association has lent money to start the private development firm, it’s important that it does not put the parent association at risk. This is an unlikely scenario but new ventures have gone awry in the past.

    How Emblem Homes balances the books

    Return on capital
    14% in 2002/3
    35% anticipated over the next five years
    Homes built
    26 in 2002/3
    60 in 2003/4 (projected)
    150 in 2004/5 (projected)
    500 in 2008/9 (projected)
    Investment
    £1m share capital from its parent Places for People
    £2m borrowed from Places for People
    £6m-£7m (likely future loans) from Places for People
    Pre-tax profits
    £544,000 in 2002/3
    £1m-plus 2003/4 (projected)
    £3m to £6m over next five years
    Cash flow
    £3m (will absorb cash to about 2005 when loans reduce)

    4. Designing the homes

    When building homes for sale – homes that must attract consumers on the open market and make a profit – RSL-backed developers can tear up their design rulebook. To decide, for example, whether to specify en-suite bathrooms, think about who the buyers are. Heath says: “If you are building in a location where people buy as an investment and rent to two people sharing, you might want two big bedrooms and a bathroom and en suite to make it appealing to investors. “If you are in a location where you are selling to owner-occupiers, you might say that – as much as they would like an en suite – they only really need a family bathroom. This will mean you build less so it costs less and you generate more profit. Give people what they want.” Remember also that privately owned property is often under-occupied compared with social housing. A three-bedroom flat in a social housing scheme will usually be a family home on the ground floor; in a private scheme, it might be the penthouse sold at a premium to a single person or a couple, says architect Teresa Borsuk. Under-occupancy also affects the robustness of private properties. A social housing kitchen will need to withstand years of use from lots of people; a private kitchen will have fewer people using it and will be replaced by its owners. In addition, the kitchen can be a selling point of a private scheme so attractiveness, rather than robustness, is paramount. Borsuk also points to the importance of communal areas. The maintenance of communal spaces, window cleaning and so on is usually paid for through a service charge. “People expect to pay a service charge because they expect to be looked after and this can affect the design of communal space. Housing associations tend to reduce communal areas and things that increase service charges,” she says. Consequently, in a private scheme, an RSL developer may opt for more communal space or specify windows that might cost a little more to clean if the maintenance can be recouped through a service charge.

    5. Marketing and selling the homes

    Marketing is a far bigger component of private development – people are buying a product, rather than receiving a public service, and they have more choice over who they buy from. Places for People’s private housebuilding arm Emblem Homes spends 4% of its income on marketing. Although any RSL with experience of shared ownership will have done some marketing work, it will have to contend with a range of new demands. Private housebuilders need to woo bulk investors and smaller backers as well as would-be owner occupiers and sell homes off plan. Advertising and PR campaigns have to be managed. As well as being a new challenge for association marketing departments, it could be a new area for the association’s lawyers, says Tim Seward, marketing manager at Circle 33. He recommends finding a firm that is familiar with aspects of private development such as drawing up exclusivity [??] and investor deals. The development firm must also play Laurence Llewelyn-Bowen and set up a show home. There are plenty of tricks of the trade to show off the home to best advantage. For example, small rooms can be made to look bigger by using under-sized furniture, removing internal doors or the judicious use of mirrors. Although most RSL private development arms employ an estate agent, there are a few tricks of the trade for showing prospective buyers around …

    The estate agent’s tricks

    Agents are legally obliged to give both sides of the picture about the property – the good and the bad. But Jack Reid, sales negotiator at Oak Estates in south London, has a few tips for presenting your property:
    • use bright lightbulbs or mirrors to increase light and feeling of space
    • move the furniture around to make space – perhaps move a sofa into an alcove
    • take clutter out of the kitchen – just have things that a buyer would see as useful
    • open windows, it gives a feeling of space
    • avoid big plants that take up space
    • show homes often have small sofas
    • magnolia walls add warmth
    • bookshelves give a personal touch
    • body language is important when showing a viewer round the house – gestures can draw people into the conversation
    • create a picture of the property in the viewer’s mind so they remember it after seeing other homes. Ask questions as you show them around – this will help them to remember.