Property development can be a risky business, especially if one is not familiar with issues such as subdivision, the process of liaising with council, utilities and relevant authorities to obtain building approval, managing builders, architects, applying for finance / development loans, obtaining accurate cost estimates, timing the market, building the right products for the right location and the list goes on.
Some investors take to property development because they feel that it may be “cheaper” than buying a property by paying retail price. Through small renovations, extensions and building new dwellings, they can “manufacture” new equity through the profit margins of the new development and hence, pay wholesale price. This thinking is logical provided the entire spectrum of property development principles are successfully carried out to minimise the risk involved.
One simple rule that I follow is the 2-4-4 property development rule. I withered down extensive research on articles and books about successful property development, attending seminars by respected property investors such as among others, Michael Yardney, Steve McKnight and Ian Hosking Richards who have had decades of personal experience and have built up multi-million dollar property portfolios and successful property related businesses. One particular book that I would recommend is An Intelligent Guide to Australian Residential Property Development by Ron Forlee.
Importantly, I have also spoken and had in depth discussions with architects, builders, surveyors and project managers who are experienced in the specific location that I choose to develop and also have relevant contacts with planning officers in those local councils. By educating myself and getting into the details whilst maintaining a sense of the big picture, that is the end result of the successful development, I am able to minimise and alleviate substantial risks involved by applying this simple 2-4-4 property development rule.
My simple 2-4-4 property development rule says that in order to be successful, I must always keep strict control of the 3 largest elements of a project – profit margin, site / land cost and building cost in the proportion of 20%, 40% and 40% respectively. This rule always ensures that I should walk away from a potential development if it is not met.
A profit margin of 20% allows me some buffer for unforseen circumstances such as a sudden change in market conditions, new rulings or factors which are purely beyond my control. In such situations, this 20% margin still allows a fair return and minimise the risk of losing money. Depending on the location, the cost of the development site should be no more than 40% of the project’s completed sale value. Therefore, if the completed sale value of your project is $1 million, then the cost of the development site must not exceed $400,000, and likewise with the building cost.
This 2-4-4 property development rule is simple but can prove difficult to follow and implement. If implemented successfully, then risks are substantially minimised and margins better assured.
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