- Estimating Costs
- Projecting Revenue and Profit
- Conducting the Analysis
- Identifying Risks and Contingencies
Step 1: Estimating Development Costs
Key Costs in Property Development
The areas of costs in property development remain fairly constant. The amounts will vary from project to project depending upon size and complexity. When performing your analysis you will need to consider:
- Land acquisition costs: purchase price, legal fees, and stamp duty.
- Construction costs: materials, labour, contractor fees, and site preparation.
- Council fees and approval costs: Development application fees, permits, and compliance costs.
- Holding costs: Loan interest, land tax, and maintenance costs before completion.
Many projects have failed due to optimistic cost numbers. You must be realistic and thorough. Make sure that you consider all possibilities. Be conservative.
How to Accurately Estimate Costs
It takes knowledge and experience to complete an accurate feasibility analysis. We recommend that you:
- Work with someone who has done this kind of analysis numerous times.
- Use property development feasibility tools like those available online and in our courses and mentoring program.
- Always include a 10-15% contingency buffer for unexpected costs.
Step 2: Project Revenue and Profit Forecasting
Understanding Revenue Streams
The major revenue from your project will be at the final sale. You can also generate revenue via rental in some circumstances. Understanding all the potential revenues streams is key to your analysis.
Factors to consider include:
- Selling off-the-plan: Pre-sales can improve cash flow and help secure project funding.
- Project duration: Will the market change if the project runs long?
- Government grants: Is the government offering incentives that you can claim?
Your analysis needs to include all forms of revenue. Don’t forget tax deductions and any other no-so-obvious items.
Calculating Expected Profit Margins
There are two key numbers you must know to determine your project’s potential profitability:
- Gross Realisation Value (GRV): The total estimated value of a property development project once it is fully completed
- Project Profit Margin (PPM): GRV – costs, presented as a percentage
The quick formula is (GRV – Total Costs) ÷ GRV × 100 = PPM (%)
What is the ideal profit margin? We suggest aiming for a PPM of 16-20% on development costs.
Step 3: Conducting a Feasibility Analysis
Put simply, the financial feasibility analysis collates all outgoings and revenue and calculates the likely outcome of the project.
A solid analysis – while based on estimates – uses data from previous development projects and recent local results. It is the best possible assessment of the potential of the project.
Using Financial Feasibility Software and Tools
There are numerous tools available to help you conduct a solid analysis. A quick search will present options like (these are not recommendations):
You may prefer to work with spreadsheets rather than online tools (that’s what we do with our own proprietary calculator).
Whichever tool you choose, make sure it accounts for all of the numbers. Not all tools are made equally. And, finally, a guiding hand by a mentor or trusted advisor can really help you complete the best ‘feaso’.
Step 4: Risk Management and Contingency Planning
Outside of the numbers related directly to the costs and revenues, you must also consider the other numbers that may affect your project.
Common Financial Risks in Property Development
Whist you likely cannot predict what will happen, you do need to account for the range of possibilities in your analysis. The following can have a significant impact on the viability of your project:
- Market Fluctuations: Declining property prices or slowing sales.
- Interest Rate Changes: Impact of higher borrowing costs.
- Unexpected Construction Delays: Cost overruns due to material shortages or labour strikes.
Strategies to Mitigate Risk
As you can’t know for certain what will happen in the greater market, you must take steps to protect yourself and the project, you might:
- Include a financial buffer for cost overruns and delays.
- Use pre-sales to reduce exposure to market downturns.
- Diversify investment strategies (e.g., a mix of build-to-sell and build-to-rent)
Conclusion: Ensuring Profitability Through Financial Feasibility
The financial feasibility analysis is an essential step in the property development process. It helps you decide whether to pursue a project or move on to something else.
As a simple rule: look for projects with a projected profit margin greater than 15%.
We recommend using a proven feasibility tool. Enter accurate data based on logic not emotion. Be conservative, and let the numbers drive your decision.
Want more?
Listen to Episode 189 of The Property Mastermind Podcast.
