In the real estate developer sector, there is uncertainty about whether demand for first homes will remain consistent in certain markets over the next few years. Generational changes about the priority of purchasing a home and restrictions on mortgage borrowing that transcend replacement demand is leading residential developers to explore ways of collaborating with funds that specialise in investing in complete residential lettings buildings.
The big residential developers are looking to close agreements with these investors, allowing them to accelerate their business plans and increase their ROCE by commissioning large urban development land sites in prime and secondary zones. This would solve the problem of having to wait years to start new residential developments and avoid having to compete with those hoping to develop the same sites in the next three years, which would increase their ROCE and enable them to achieve their forecast returns and business plans.
The funds focusing on this opportunity are mainly a combination of managers/investors with extensive experience of designing and managing residential letting properties, together with providers of capital, usually international insurance companies with an extremely low cost of capital and very long-term (10-15 year) investment horizons.
The main barrier to realising these opportunities, known in European markets as Build to Rent (BTR) schemes, is the risk of changes in construction costs of future developments and commitments to develop portfolios of 500-1500 units.
In our experience, these agreements require two important milestones to be specified. A general agreement framework about a specific portfolio that sets out the funding methods for the developer, the specifications and other financial aspects; and specific formulas for implementing this agreement regarding buildable land, the construction project for residences specifically designed to be rented, and a fixed price for the construction costs as a result of tendering a specific project that can be immediately executed.
From the general agreement to the realisation of a project, a safety margin needs to be built in for both parties that helps to ease the untenable pressure of forcing one of the parties to fulfil its commitments regarding unviable projects due to a rise in construction costs during drawn-out periods for obtaining licences.
BTR is an extraordinary opportunity for the residential developer sector and for accelerating the production of sufficient supply of residential rental properties.
The catalyst that enables these opportunities to be developed, agreed and then effectively closed is a combination of market intelligence and flexibility in planning these agreements.