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What is this week's blog about?
This blog article discusses the Development Appraisals technical competency, which relates to the ‘commercial and/or public assessment of a property or infrastructure based development scheme and its appraisal from inception through to completion’.
Specifically, we will be looking at the structure of a development appraisal and some of the key inputs. Candidates may also find our blog articles on the following helpful:
It is essential reading for RICS APC candidates on a wide range of pathways, including Environmental Surveying, Minerals & Waste Management, Planning & Development, Land & Resources, Commercial Real Estate, Management Consultancy, Property Finance & Investment, Residential, Valuation, Project Management and Taxation Allowances.
What is a development appraisal?
In the RICS Guidance Note Valuation of Development Property, a development appraisal is defined as ‘a financial appraisal of a development’. Typically, the output is development profit (on cost or on GDV), although other output metrics can be used.
Development appraisals are, on face value, similar to residual land valuations. However, candidates must know the differences and make this clear within their written APC submission and interview questioning. In the Development Appraisals competency, candidates should discuss only development appraisals; not residual land valuations.
What can a development appraisal be used for?
Development appraisals are used for a wide variety of purposes, including:
Analysis of a scheme to consider whether the level of required planning obligations is viable
Assessing whether a development is viable or not based on the level of profit achieved
Assessing the best and highest use for a property or to compare different schemes or proposals
Assessing affordable housing requirements
How is a development appraisal typically structured?
GDV – input costs - fixed land cost = profit metric
Development appraisals can also be based on a discounted cash flow approach, if more complex explicit assumptions, client requirements or timings need to be incorporated.
Development appraisals can be carried out using spreadsheets or with proprietary software, such as ARGUS Developer. The ARGUS Developer user manual is a helpful resource for further information on development appraisals.
How is Gross Development Value (GDV) calculated?
GDV is essentially the value of the completed scheme. This will be assessed based on market comparables using an appropriate valuation method, e.g. comparable method for a residential dwelling or the investment method for an office or shop which is to be let out.
This requires consideration of the proposed scheme, covenant strength and lease terms (if to be let out), specification and construction.
What costs are deducted from GDV?
There are a wide range of costs that might be factored into a development appraisal. These include, but are not limited to:
Build costs – these can be based on client figures, cost databases (e.g. BCIS or Spons) or input from a building or quantity surveyor. They will differ based on the use, specification, construction and location
Professional fees – these are typically 10-20% of the build cost, relating to fees for professionals such as an architect, quantity surveyor, structural engineer and CDM coordinator
Planning fees – including Section 106 and Community Infrastructure Levy (CIL) contributions
Marketing, letting and disposal costs
Contingency – typically 3-10% of build cost depending on the level of risk and market conditions
Finance costs – based on client figures or market rates. Candidates need to be aware of the use of an S curve to reflect the pattern of construction costs
Other site specific costs, such as demolition, site preparation or specialist surveys
Fixed land cost
What is the output of a development appraisal?
Typically, this will be profit on GDV or on cost, depending on the level of risk and client requirements. Other metrics that can be calculated include Return on Capital Employed (ROCE), profit erosion and rent cover.
What is sensitivity testing?
Sensitivity analysis is a method of quantifying risk. Changes are made to individual inputs, e.g. build cost or sales values, to see how these affect the profitability or viability of the scheme. This can be used to provide reasoned advice to a client, including the modelling of various scenarios.
Other risk analysis techniques include Monte Carlo simulation, massing analysis and SWOT analysis.
Conclusion
Candidates undertaking development appraisals must be very familiar with client and market inputs, together with how development appraisals can be used to advise clients on viability or profitability.
Candidates wishing to improve their knowledge and application of development appraisals should work through the development appraisal tool walkthrough on the Government website.
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Stay tuned for our next blog post to help build a better you.
N.b. Nothing in this article constitutes legal, professional or financial advice.