A Guide to the Basics of Viability

If you want to be lonely at a property related networking event, a great way is to start talking about Development Viability – a guaranteed method of clearing the immediate area! A niche subject that many do not want/wish to understand, but one that can have significant impacts on land value and the deliverability of a development.

Most of us Viability consultants spend our time in darkened rooms, only briefly emerging to present our reports and data to a planning committee or client and we rarely get the chance to speak to people about what Viability really is…this article introduces the basics of Viability (typed in my darkened room!).

Previously Viability has had a bad name with accusations such as “it’s just used to get one over the Local Authority” / “it’s just a way for greedy developers and landowners to reduce Affordable Housing and increase their profits”. Some of the above may have been true but thankfully now we are in a much more transparent Viability world, with all of our workings available for public scrutiny and all Viability consultants required to be MRICS, many of the previous accusations (some noted above) are not relevant anymore.

The Basics

The planning practice guidance (PPG) paragraph 010 defines the viability process as ‘looking at whether the value generated by a development is more than the cost of developing it. This includes looking at the key elements of gross development value, costs, land value, landowner premium, and developer return.’

In layman’s terms – can a proposed development financially deliver the planning obligations required by policy?

So, in essence, we are looking at a Residual Valuation. We then compare the result of the Residual Valuation (the Residual Land Value) against the Benchmark Land Value (the value of the site in its current use – but we will cover this later) of the site. It should be noted that we appraise the proposed development as of the present day (both costs and values), and don’t allow for growth in either costs or values – thus making it a relatively theoretical exercise.

Residual Land Value

A Residual Land Value (RLV) consists of:

Gross Development Value less Costs = RLV

Breaking the above down, the Gross Development Value is the value of the completed scheme inclusive of residential/non-residential values. These tend to be based upon comparable evidence.

The Cost element of the equation consists of Build Costs which, for standard sites (new builds rather than refurbishments as a rule), would be based upon Building Cost Information Service (BCIS) data, plus abnormal costs/external costs/contingencies/professional fees. In addition, we allow for sales/marketing costs, legal fees, finance, and developer profit. The intricacies of each of these inputs are too numerous for this introduction but there are various ranges we work to for each of these inputs for standard sites.

We take the Costs from the GDV to give us the Residual Land Value. This is then compared against the Benchmark Land Value.

Benchmark Land Value

The Benchmark Land Value is where Viability starts to get complex (and people start finding excuses to leave the conversation at the networking event!). Price paid for a site is not a reasonable justification for a Benchmark Land Value. We will usually be required to utilise Existing Use Value+. This methodology effectively removes “hope value” from the equation. The RICS state that “It is the amount above existing use value (EUV) that goes to the landowner. The premium should provide a reasonable incentive for a landowner to bring forward land for development while allowing a sufficient contribution to fully comply with policy requirements.” This is a very simplistic breakdown. I could write a whole other article on EUV+ alone. What the “plus” is, is the $60,000 question!

The Process

If we run an appraisal for the proposed policy compliant scheme (inclusive of Affordable Housing/CIL/S106 etc) and the RLV is below the BLV, we have a problem.

If all other avenues have been tested (reduced build costs where possible or a re-jig of the scheme for instance) then a reduction in Affordable Housing/other planning contributions may be the only way to make the proposed scheme stack up. Further sensitivity analyses are undertaken to calculate the level of planning obligations the development may be able to sustain.

When should viability be discussed?

Simply – as soon as possible.

It is recommended that if the Developer feels there may be an issue regarding the delivery of affordable housing or other planning contributions, then engage with the Local Authority early in the planning process and ensure that the viability study is attached to the planning application. This study will be scrutinised by the LPA’s independent advisor (at the Developer’s cost!) and (hopefully) an agreed position will be arrived at. In certain areas of the UK, a review mechanism may be required at a later stage in the process to ensure that any “super profit” (from lower costs or higher achieved values than initially expected) are shared between the LPA and Developer.

Takeaways

For landowners, it is imperative to understand that the price paid for a site must reflect a policy level of affordable housing/planning contributions. When comparing sites, a note of the level of policy contributions provided by those comparables is important, otherwise you may be comparing apples with pears in terms of achievable rates per acre/per proposed unit.

If you have any worries about the delivery of a scheme/value of your land, my advice is at the earliest opportunity is to find a Member of the Royal Institution of Chartered Surveyors (MRICS) viability specialist to discuss what options you may have. We will try not to bore you too much!

Written by:

Steven Pozerskis
Deputy Head of Viability (Southern UK), Strutt & Parker