As Australia grapples with significant population growth amid the COVID-19 pandemic, the strain on an already tight housing market intensifies. This influx of population, coupled with a housing shortage, has precipitated a marked increase in property prices in major cities post-pandemic. Developers are now navigating a maze of rising land costs, escalating construction expenses, sales price volatility, and the increasingly arduous task of securing financing from major banks.
The Five Key Factors Banks Consider in Development Deals
- Sales Price Valuation: An assessment of the potential sales price of the developed property.
- Construction Costs Confirmed by a Quantity Surveyor: A precise estimation of construction expenses.
- Return on Total Development Costs: Targeted at approximately 18% to 20%.
- Loan to Value Ratio (LVR): Loans not exceeding 75% of the total development costs or 65% of the net realization value.
- Pre-sales Volume: Adequate to cover the repayment of all debts.
Current Challenges for Developers
- The uncertainty around construction costs has made developers hesitant to sign pre-sale contracts.
- Builders are wary of entering fixed-price contracts due to the unpredictability of transaction costs.
Alternative Financing Strategies
To overcome these hurdles, developers are increasingly turning to non-bank loans and mezzanine financing:
- Non-Bank Loans: These offer developers the flexibility to adjust sales prices upon project completion or in response to recent market changes. Though this option offers greater flexibility, it typically comes with higher interest rates and additional financing costs.
- Mezzanine Financing: Provides an additional source of capital, bridging the gap between traditional senior debt and the developer's equity. Positioned between senior debt and equity, mezzanine loans are considered higher risk, thus attracting higher interest rates. Despite the higher costs, mezzanine financing delivers the essential funding for development projects, especially when budget overruns occur or additional funds are needed to ensure timely completion. This financing option offers developers greater financial flexibility, enabling them to manage the uncertainties of construction costs and project delays. However, leveraging mezzanine financing requires developers to have substantial industry experience and accurate market insights to ensure project success.
By leveraging non-bank and mezzanine financing, developers can find new pathways to fund their projects in today's challenging market environment. This demands a deep understanding of the market, precise risk and reward assessments, and efficient project management and execution.