John explained that, while there was nothing new about part-built developments, there had been a dramatic change in the last decade in the type of companies typically funding such schemes.

In the aftermath of the 2008 crash, many Avison Young clients were large clearing banks and overseas funders who essentially wanted their money back – and as quickly as possible.

More recently, as those institutions had pulled out of development lending, the space had been filled by new entrants; from challenger banks and short-term lenders to peer-to-peer networks and family office funds.

Typically, these clients wanted to see their distressed schemes built out not so much to maximise their returns, John explained, but to minimise the impact ontheir balance sheets. However, there was a lot of strain in the sector, and four such finance providers had already gone into administration.

The main cause of problems leading to part-built developments were cost over-runs. These used to be about changing values or time constraints but were increasingly about irregularities in planning and works.

John cited three instances where developers can run into problems:
  • A borrower gets planning, starts on site, but then makes changes which could invalidate the terms of the legal charge granted by the lender.
  • A developer makes such large changes to their scheme that it requires a whole new planning permission, not just a simple variation.
  • A builder makes changes to previously agreed plans, is served an Enforcement Notice by the planning authority, but simply carries on.
John stressed the importance of maintaining an objective and realistic approach when a lender proposed a distressed scheme be built out. He suggested that detailed research should be completed into all aspects of the borrower’s background, sector knowledge and experience.

“Quite often, I’ve seen cases where the borrower says one thing, but the professionals say another, so it’s vital to interrogate everyone concerned, and to speak to other agents, not simply the proposed seller,” said John.

Market research

Another common theme was for borrowers to fail to adequately research if target buyers were present in sufficient numbers for the property they intended to deliver, ensuring the spec was right for both potential owners and the surrounding area.

It was also important to assess how the proposed product’s price would fit within the current Help to Buy ceiling.

“We were appointed on a scheme where the developer had exchanged 90% or so of the units, taken all the exchange monies and put that into the development, which they’re entitled to under the terms of the contract,” recalled John.

“However, they still ran out of money and went back to the prospective buyers to ask for more funds. So, when we come to sell the units, we can’t get 100% of the sale price, and won’t even get 90% as the money’s already been spent.”

Even if the distressed scheme appeared viable in terms of price, target buyers and spec, other considerations must be resolved before construction can restart, he warned. These included:
  • Can the incumbent contractor build out the properties? Are they also the borrower, and is there a surplus to help keep them on board and focused on completing the scheme?
  • If a new contractor is required, do they know the location, are they experienced in that type of development and will future build costs be fixed – or liable to fluctuate?
  • Either way, are all the required insurance provisions valid, and is the contractor’s financial covenant solid? An experienced professional team must also be put in place.
The financial viability of the lender itself was another issue with potential to cause difficulties, so receivers must determine their ability to provide a meaningful indemnity and cover future cost overruns.

It was also essential to examine the fine detail of the planning permission, especially the attached conditions (which can be very lengthy) and to assess if each condition would be viable.

Other elements which must be considered were the potential impact of S106 or Community Infrastructure Levy payments on cash-flow, the existence of up-todate records concerning building control inspections, and the willingness of the existing warranty provider to stay on board.

Warranty provision

"I'm advising on a case where the incumbent provider is walking away because of multiple problems with the development, including a landslip which the contractor tried to address via the use of (costly) mini-piling, and an enforcement notice from the Health & Safety Executive," said John.

"We're now addressing the reasons why the provider is leaving and will then approach different providers in a bid to secure alternative cover. But it underlined the importance of early discussions about current and future warranties."

Site access and egress from the public highway, for pedestrians, construction traffic and other vehicles must be studied in detail, as must the health of the local economy.

If, for example, a major employer had announced closure plans, that might well affect the viability of the scheme even before practical construction was reached.

Of all the potential risks, the absence of an appropriate contingency fund was one of the largest. Developers who claimed they never needed one should be advised that they do – if they intend to stay on the scheme.

Finally, John said, after the research was completed and results carefully analysed, the question must be asked: will the completed part-built development achieve an acceptable profit margin?