Industry tries to persuade lenders to build out ’distressed’ projects they acquired before the recession
An increasing number of construction firms are offering their services to banks that have found themselves saddled with uneconomic housing sites.
Land prices in some areas have risen 20-30% since their nadir in 2008, despite housing market uncertainty in the past month. Analysts say this has prompted banks to look at ways of capitalising the land on their balance sheets.
Firms are offering a number of solutions, ranging from assessing a site’s potential to building it out for low cost and risk (see below). The total value of the market is unclear, but it is thought to be large. Jan Crosby, head of construction at KPMG, thinks their total exposure is in the region of £15bn. Savills estimates the value at £22.5bn.
Suddenly the value of land has hit a point where the banks are not losing money if they sell
Jan Crosby, KPMG
Banks’ exposure to “distressed” residential land comes in many forms, either as investment in, or loans to, individual developments, or, in the case of HBOS, investments in and loans to housebuilders and developers themselves.
Crosby says: “We’re at an inflexion point. Banks mostly now know what’s on their balance sheets, and suddenly the value of land has hit a point where they’re not losing money if they sell. They’ve also got their heads round the kind of joint ventures they can set up to work the land out.”
However, so far they have shown little inclination to do anything with it. The problem is that if they sell the land, they have to write down the value on their balance sheet, and this will be about 20% less than their return if they developed it. On the other hand, if banks do opt to develop their land, they have to invest more money in a project that is already underwater, at a considerable cost in staff resources.
The firms moving into this market are trying to come up with sophisticated responses to the banks’ dilemma. This is partly to stimulate them into doing something with their land: up to now they have preferred to leave sites with their present management.
Yolande Barnes, research director at Savills, said that is partly because the banks, which acquired much of the land as they were making redundancies, took a long time to get a sense of what they owned. She said:
“Last year, vulture funds were all over the place, but they only wanted to pay 30p in the pound. The low interest rates meant that, for the banks, it was much better to roll debts over than to foreclose.”
When the floodgates open this will be huge. it could create another whole industry
James Byrne, Ardmore
However, in places where the relationship between a bank and the developer has collapsed, or where the management refuses to co-operate with what is effectively the winding down of the business, banks may be looking to bring in outside help.
A joint venture between contractor Ardmore and regeneration developer First Base is one of those bidding for work. James Byrne, director of Ardmore, said the firm was working with an Irish bank on two schemes and is making contact with Nama, the “bad bank” set up by the Irish government to take on foundering projects. “When the floodgates open this will be huge,” he says. “This could potentially create another whole industry.”
The main question is whether the banks are ready to act. Russell Legg, director of housebuilder DeVirgo, which was created to take advantage of these kinds of opportunities, believes they are.
He said: “The banks have assessed everything they have and put it in order - essentially they have a funnel and the sites which are easiest to do will come out the bottom first. Some sites, maybe with permissions for flats in areas of overload, won’t be developed for five years. But where the permission is relatively low-level and straightforward, we can do that now.”
DeVirgo has a joint venture with RBS and is building out 150 plots this year, mostly on land in the South-east owned by Frontier Homes, which sold its 1,000-plot housing business back to the bank in 2009.
The rise in house prices mean that many sites bought before 2007 can be built out without a loss. The key is for the bank to be able to do this with minimal additional investment or risk, which is why joint ventures are being sought. Crosby says: “If they go for a joint venture it enables the bank to de-risk the build out. If you can get someone to manage it on your behalf and it can generate a pot of cash, then it’s a no-brainer.”
Crosby added that the planning hiatus that followed the election was making sites with planning permissions more attractive.
However, some are sceptical about whether banks will move en masse to develop distressed land. For Savills’ Barnes there remains the question of the sites that were bought at such high values, and with such different density expectations, that they will never be able to be built out without huge writedowns.
“The question is how much of the really toxic stuff there is - the stuff that is so underwater there’s really nothing you can do.”
There’s also the question of how convinced the banks are that the industry is ready to respond; they have proved sceptical of ventures that look opportunistic.
Role Housebuilder set up to develop uneconomic sites owned by banks.
Who’s in charge Russell Legg, formerly regional director at Crest Nicholson.
How it works DeVirgo has a model it says can get stalled sites built out without any further cash from the owner. It targets
low-rise traditional housing, and uses the sale of affordable homes to a housing association to fund the construction of market units. It then ensures the payment of section 106 contributions can be delayed until later phases. By tightly managing construction relative to weekly sales, it builds the site out, using the profit to invest in further development and pay off the debt on the land. By the end, the bank should make minimal losses or a small profit.
In their words Russell Legg: “Banks are looking for someone to take equity. However, there are some sites they’ve got where you think: they’re never going to get out of jail with that.”
Ardmore first base partnership
Role Contractor/developer joint venture originally formed to bid for work from the Homes and Communities Agency.
Who’s in charge James Byrne, Ardmore director, and Phil Wade, First Base operations director.
How it works It was set up as an independent firm with the aim of combining the residential construction expertise of Ardmore and First Base, which has proved adept at getting mixed-use residential-led regeneration schemes to market in the past few years. It is also working on the Olympic Village as part of the management group that will take on the homes after the Games. It will offer banks contracting and development management services to build out schemes.
In their words James Byrne: “We were expecting these to come through last year, but now it’s looking promising. We’ve had significant bank interest.”
Ladygrey property advisers
Role Consultant set up to optimise value of distressed sites
Who’s in charge Formed as a subsidiary to architect Assael by founder John Assael (pictured). It includes his lawyer brother, Robin, chartered surveyor Alison Rankin and fellow Assael founder Russell Pedley.
How it works Offers a range of services, from design, planning and value engineering to project management. It reports on the options for the site and then can deliver those if required. Ladygrey has deliberately remained independent of contractors in order to make an impartial assessment of options. It is already working for Scottish banks, including on a half-built residential scheme.
In their words John Assael: “Banks need a new type of business that can see all the way round complicated mixed-use schemes. Someone independent and detached who can give you an overall sense.”