Development appraisals Flashcards
(32 cards)
How do you carry out a sensitivity analysis? What variables might you change and why?
L1
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.
What sources of information do you use when undertaking a development appraisal?
How do you calculate developer’s profit?
L1
GDV - (Construction Costs + Land Value + Professional Fees + Letting/Sales costs + Contingency + Finance Costs + Planning obligations) = Developer’s Profit
How do you calculate GDV/NDV/finance costs/project costs/project timescales etc?
L1
Gross Development Value (GDV) - the value of the complete project - comparable method - forecast revenue or sale anticipated from completed development scheme
GDV net of transaction cost (legal fees, marketing, agency fees) gives the Net Development Value (NDV)
Finance Costs - bank base rate + return for risk, based on client figures or market rates
Project costs - hard, soft, marketing, contingency
Project timescales - mobilisation, launch, main works, handover
What other metrics can you produce from a development appraisal?
L1
RLV
GDV
Total Development Costs
Profit on Cost (%)
IRR
NPV
Sensitivity Analyses
What is an S curve?
L1
An S-curve is used to model the cumulative cash flow of a project over time. It reflects the reality that costs and progress don’t occur evenly. Spending accelerates during peak construction and slows at the beginning and end. In a development appraisal, it determines finance costs by applying interest to the timing of expenditure, rather than assuming all costs occur evenly or at once.
What is the difference between a residual valuation and a development appraisal?
L1
- Development appraisal calculates the viability and profitability of the scheme
- Residual valuation calculates the value of land (output of development appraisal)
Tell me about software you have used.
L1
Estate Master
Argus Developer
What is profit on cost/profit on GDV?
L!
The developer’s profit in relation to the costs invested (Developer’s profit/Costs)
The developer’s profit in relation to the anticipated GDV (Developer’s profit/GDV)
What is internal rate of return?
L1
IRR is a discount rate that makes the NPV of all cash flows equal to zero. IRR measures profitability of the project after accounting for all projected cashflows and time value of money.
What is viability?
L1
Project Viability - likelihood that the Project can be successfully developed and provide the Products required for the specified period.
What are lenders’ current requirements in relation to gearing?
L1
Gearing ratio compares owner equity (or capital) to funds borrowed.
Debt to Equity - most common.
A gearing ratio higher than 50% is typically considered highly levered (or geared).
As a result, the company would be at greater financial risk, because during times of lower profits and higher interest rates, the company would be more susceptible to loan default
A gearing ratio between 25% and 50% is typically considered optimal or normal for well-established companies.
A gearing ratio lower than 25% is typically considered low-risk by both investors and lenders.
Tell me about a development appraisal you have carried out.
L2
Development Land, Zayed City
Development Land, DHCC 2
Land Plot Al Manhal (Delma)
Development Land (Dubailand)
Tell me about a sensitivity analysis you have carried out.
L2
Delma plot - Adjusted by +-2.5% discount rates, costs, lease/sale rates, occupancy
Tell me about where you source information and data from for development appraisals.
L2
Construction Costs: in-house from cost management team, information provided by the client and stored in the system, research - AECOM publications, Turner and Townsend
Sale, rental rates, absorbtion - Property Monitor / Quanta
Discount Rates - IRRs shared by developers
Tell me about how you would assist in the selection of appropriate sources of development finance.
L2
Check the cost of borrowing from central bank of UAE (EIBOR), check the typical cost of borrowing in the major banks in UAE.
What sources did you check the construction costs?
L2
Construction Costs provided by the client;
Checked with cost management team if these were reasonable with the market for proposed developement.
Cannot advise on costs, outside of my comptenecy.
When do you adopt WACC?
L2
WACC is the weighted average cost of capital, representing the blended rate a developer or investor must achieve to cover both debt and equity funding. In a development appraisal, I calculate WACC based on the assumed capital structure (debt/equity ration) and costs of debt and equity. I then use this as the discount rate to assess the NPV or to test whether the project’s IRR exceeds the WACC.
WACC can serve as a discount rate for development appraisal.
In Red Book market valuations, the discount rate should reflect market-based investor expectations rather than internal WACC.
What do you mean by absorption period?
L3
The appropriate time it would take to dispose the units in the current market
depends on the developer’s track record, supply and demand, location, investors’ appetite.
What was the impact of the IRR?
L3
Dubailand development land: in Scenario 2, the longer absorption period was reflected in the lower NPV due to time value of money which did not exceed the costs of the proposed development - outcome is negative profit or IRR.
Delma plot: in Scenario 3, the cost to rebuild/refurbish the existing office building exceeded the GDV from a built to lease strategy.
How did you calculate IRR?
L3
DCF valuation - all future cashflow discounted to valuation date, calculate what is the exact discount rate at which NPV is zero.
IRR is the discount rate at which the NPV of all project cash flows equals zero.
What was the impact of the sales period on the cash flow?
Longer sales period, lower NPV due to time value of money
How did you calculate the total finance cost?
L2
Loan amount (D/E ratio), drawdown profile (S curve), interest rate (cost to borrow), project duration.
Did you consider the approval and planning risks inherent in scenario 2?
L3
Development land, Dubailand - yes, the valuation of scenario 2 was subject to a Special Assumption that the use is permitted for mid-rise residential apartments as of the valuation date.
Tell me about how you have used a sensitivity analysis to produce a reasoned analysis of risk.
L3
Delma plot - 5 scenarios with a different development brief.
Sensitivity on Construction costs
Sales rates
Lease rate / Occupancy levels
Discount rates, adjusting one variable at a time by 2.5% up and down. Discount rates and construction costs were the most sensitivies variables which materially moved the viability.
By using scenario and sensitivity testing, I was able to present the client with a range of potential outcomes, highlighting key issues and the most sensitive assumptions.
