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How Do I Decide Which Development To Do?
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You may have heard me say that 90% of the sites out there that are developable are not profitable. My “Rough Cut Feaso” methodology is one way to make short work of finding the 10% of sites that are profitable. But what happens when you find two or more development sites with clear upside? How do you choose between deals?
The key is to figure out which deal will make the most amount of money, for the least amount of hassle, in the least amount of time.
The key is to figure out which deal will make the most amount of money, for the least amount of hassle, in the least amount of time.
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I once made $190,000 in three months by knocking a house down, and then selling two blocks of land.
I could have held onto the site for another nine months or so and spent that time project managing the build of two brand new homes. I did the calculations and worked out I might have made another $30,000 on the sale of each block. That’s not a lot of additional profit when you look at what I cleared in the first three months. With that project timeline and that profit on cost, it was clear my money wouldn’t be working as hard as I would like. I was better off getting out of the deal early and quickly getting my money into a new, more profitable deal.
I could have held onto the site for another nine months or so and spent that time project managing the build of two brand new homes. I did the calculations and worked out I might have made another $30,000 on the sale of each block. That’s not a lot of additional profit when you look at what I cleared in the first three months. With that project timeline and that profit on cost, it was clear my money wouldn’t be working as hard as I would like. I was better off getting out of the deal early and quickly getting my money into a new, more profitable deal.
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The best way to compare projects of different sizes, or to choose between exit strategies (for example sell after subdivision, or after building?) is to annualise your profit forecast.
For my money, I look for a minimum of 15% on a project that takes less than 12 months. If it’s going to be a two or three-year deal, I might go as low as 10%.
Once you’ve set your profit expectation, you can quickly work out which deal is worth investing in.
For example, if a project is going to take two years and generate a 20% return, that equates to an annualised return of 10%. Compare that with a shorter-term project that takes 12 months and generates a 15% return. In this instance, your money's working harder. So it's a much better deal from a how-hard-is-your-money-actually-working perspective. A simple strategy that takes three months and makes an 8% return equates to a 32% annualised return, which means your money is working double-time.
I reckon in 50% of cases, Developers who get their sites DA-approved have not secured the highest and best use for that site. Usually that’s because the person who put that DA together didn’t really study the market and the market demographics before doing their DA. That’s why there are so many stale DA sites: inexperienced Developers thinking they can do a quick flip and make a lot of money without understanding what sits behind a profitable deal.
You’ve got to do the right DA flip in the right area.
That means you’ve got to leave money on the table for the next guy. Whenever I’m doing a DA flip I look at how much money the next guy needs and I’ll work backwards from there to figure out what I need to sell my site for, and then backwards from there to what the development costs will be, and therefore how much I can afford to buy it for at the outset.
For my money, I look for a minimum of 15% on a project that takes less than 12 months. If it’s going to be a two or three-year deal, I might go as low as 10%.
Once you’ve set your profit expectation, you can quickly work out which deal is worth investing in.
For example, if a project is going to take two years and generate a 20% return, that equates to an annualised return of 10%. Compare that with a shorter-term project that takes 12 months and generates a 15% return. In this instance, your money's working harder. So it's a much better deal from a how-hard-is-your-money-actually-working perspective. A simple strategy that takes three months and makes an 8% return equates to a 32% annualised return, which means your money is working double-time.
I reckon in 50% of cases, Developers who get their sites DA-approved have not secured the highest and best use for that site. Usually that’s because the person who put that DA together didn’t really study the market and the market demographics before doing their DA. That’s why there are so many stale DA sites: inexperienced Developers thinking they can do a quick flip and make a lot of money without understanding what sits behind a profitable deal.
You’ve got to do the right DA flip in the right area.
That means you’ve got to leave money on the table for the next guy. Whenever I’m doing a DA flip I look at how much money the next guy needs and I’ll work backwards from there to figure out what I need to sell my site for, and then backwards from there to what the development costs will be, and therefore how much I can afford to buy it for at the outset.
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Generally speaking, most people are looking for a 20% profit on a raw site from start to finish. So if someone is only taking on the construction, they might be happy with 15%. That leaves a 5% uplift for you on the initial purchase price. So you’ve got to work out if that’s enough money to cover all of your property development costs including the property purchase, stamp duty, holding costs and DA fees.
In the case of my three-month deal above, I did my due diligence and my research told me buyers of the cleared site would likely be an Owner-Builder rather than a Developer. The suburb held appeal for buyers keen to build their very own dream home where they’ll put down roots for the next 20 years. Unlike other areas, the demographic here wouldn’t pay a premium to have all the hard building work done for them, which explains why it wasn’t worth keeping my money in the deal for a relatively low return on the additional investment.
In the case of my three-month deal above, I did my due diligence and my research told me buyers of the cleared site would likely be an Owner-Builder rather than a Developer. The suburb held appeal for buyers keen to build their very own dream home where they’ll put down roots for the next 20 years. Unlike other areas, the demographic here wouldn’t pay a premium to have all the hard building work done for them, which explains why it wasn’t worth keeping my money in the deal for a relatively low return on the additional investment.
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This same concept shows how important it is to pay close attention to product selection. If I’m in an area designed for multi-residential, I have choices. I can do units or townhouses; I can do one, two or three bedrooms, I can do an economical or a high-end product. Don’t take a stab at what you think buyers will want. Spend time researching the demographics of the area, find out what’s selling and for how much and that will point you towards the right product type. Drill down to the make-up of your building. Look at the profit forecast if you build 10, two-bedroom units and compare that with a profit forecast of building five, three-bedroom units and two, one-bedroom units.
The cost to create these might be the same, but the sale of the finished product may be completely different and if you choose the right product to suit the local buyer, you may get a massive uplift in your return. For example, you might build two, two-bedroom villas that will sell for $500,000 each delivering revenue of $1 million, but if the market is crying out for four-bedroom villas, you might build one, four-bedroom villa and net $1.2 million because people are willing to pay a premium for a product with low stock availability.
So, the learning here...don’t just jump on the first deal you find that promises a profit.
Make your money work as hard as possible: figure out which deal will make the most amount of money, for the least amount of hassle, in the least amount of time.
The cost to create these might be the same, but the sale of the finished product may be completely different and if you choose the right product to suit the local buyer, you may get a massive uplift in your return. For example, you might build two, two-bedroom villas that will sell for $500,000 each delivering revenue of $1 million, but if the market is crying out for four-bedroom villas, you might build one, four-bedroom villa and net $1.2 million because people are willing to pay a premium for a product with low stock availability.
So, the learning here...don’t just jump on the first deal you find that promises a profit.
Make your money work as hard as possible: figure out which deal will make the most amount of money, for the least amount of hassle, in the least amount of time.
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