Want to Build Condos - General Questions

General Real Estate Investing
1

Hello,
This is actually my first post on this site, so if i have not posted in the right place, please let me know. (yes i did read the intro material). If you have real experience building / developing, please don’t hold back and give it to me straight. Thanks in advance!

              My situation is as follows:

  • My father is a small time builder / landlord and he has been in the business for 30+ years (in Ontario, Canada). He’s not a hot shot builder by any stretch of the imagination… in fact if you saw him on the street you might want to give him some money for his next meal. But he has always had a love for real estate and has built a pretty nice portfolio for himself (considering where he has come from)

  • I have been around real estate / construction my whole life, so I understand the basics, but I’m not a pro by any stretch. I have recently developed a passion for development and building myself and I can’t stop consuming information on it (my brother and I are going to be taking over the family business, and we are serious about taking it to the next level)

I’ll get to the point…
-My father own a particular property that I would like to develop and potentially build condos on. Here is what I know based on my research:
-The area is booming, and condo’s now account for 1 out of 5 homes sold here.
-Warehouse to Condo conversions sell for 305/sqft and new developments (in that specific area) go for upto $365/ sqft.
-Across the street in front of our land they are building two condos totaling 300 ish total units (literally across the street)
-The zoning for our property is zoned for high density, multi-residential (thats what we call it here), meaning, yes we can develop condos on our site.
-I have 2 condo developers (associates of mine, not necessarily friends), who have offered to work with me on the development, but I am getting conflicting information from each of them, which concerns me cause I don’t know how honest they are being, or if there is just more than one approach to do a deal.

SO MY QUESTIONS ARE AS FOLLOWS (Im trying to put the pieces together, so bear with me):

  1. Would you suggest to hire a builder as a General Contractor or as a Development Manager? The main difference I understand is that a GC will makes money by bringing the project in under his cost that he quoted me, where as a DM or CM would allow the developer(me) to me more involved in hiring trades and there is an agreed upon markup that he builder will make on the project cost - so it’s more of an open style accounting.

  2. Should I be weary of a builder (regardless if they GC the project of they Manage the project) who refers me to “his architect” - not employed by him, but someone he has a relationship with. I have read there can be a lot of favors between the two? Please advise.

  3. Do I need to have an architect do an initial drawing to determine how many units or how many sell-able sqft we can get on the property? - or can this be done by talking with the planning department at the city? Will an architect charge for an initial drawing to find out the max use of the land?

  4. Lastly, I want to use this first development to learn the business, so I’m trying to find a way to develop/build the property while at the same time be “mentored” through the process - from design to market and sell. Both of these “associates” of mine own companies that have successfully built Condo’s before, so I think I will have more opportunity to learn the whole process from beginning to end. Is this wishful thinking that these guys will take me under their wings and let me learn the business, or is it possible that we can both profit from the process?

I have traveled around the world for my own business, so Im not a fool. I have made $ and lost lots too, so I have been schooled on life. You won’t be hurting my feelings if you tell it to me straight.
Thanks again, in advance.

2

Hi,

You and I have a lot in common as I am a third generation construction professional, I have a professional background in construction management. I am a successful business man who among other things owns businesses in commercial development and tract home building!

I am not up to speed on building codes, entitlements, planning and zoning or environmental compliance in Canada, however I would assume it is much like the US!

I don’t know your financial abilities and don’t know your ability to carry cost’s to build a big project including hard and soft cost’s, carrying cost’s and overhead, however remember the larger the project the more at risk you will be in the project!

The first conflict of suggestions between your condo developer associates is whether to put the project out for “Hard Bid” which basically has someone taking a contract to take the reins and building your project under a set budget on a set schedule or do a “cost plus” contract agreement which allows you to have more control over choice of subcontractors, the contract wording, the scope of work and the schedule and allows you to control quality better and ensure a more consistant project!

The problem is most lenders want to loan on a set perameter so they prefer a qualified contractor at a set price, with a set schedule and a known quantity, where doing a project cost plus should allow for working the bid price for the best price, working extra’s and creating a tighter contract, allow you to stack the schedule to optimize your carrying cost’s and reduce overhead and allow you to achieve better and more consistent quality from unit to unit, and may give you sales and delivery advantages!

I would choose an independant architect outside of a construction manager, project manager or general contractor, however if a general contractor is recommending a specific Architect and has no involvement in your project those kinds of recommendations can be good, but don’t take recommendations from someone who you potentially would have working to manage or general contract your project that will be in a place of responsibility to the financial success and schedule of your project!

To be a successful developer you need to know the building codes, the entitlement, planning and zoning requirements, fire / life / safety code and how to value engineer and theoretical design your space so if your lacking in this knowledge you will have problems ahead!

If you want to learn the business you had better joint venture with a successful developer or hire a professional to your team who has experience because you will lose your proverbial a____ in this!

                        GR
3

Thanks for the great reply GR, I really appreciate it! Its refreshing getting some unbiased advise form people who have nothing to gain from the project.
I hope you won’t be offended if I pick your brain with a few questions:
(im assuming you have built Cond’s before)

-Do you have any regrets perusing the development / building industry? Meaning do you wish you were doing something else?

-Can there really be some serious money to be made in the business? I have no fantasies of being the next Trump, but I do have options to make 12-15% on my money with relatively low risk…in other words, I do mind risk, but calculated risk. I really want to take my game (my personal success/business life) to the next level and begin creating profits in the millions, and not hundreds of thousands…(I hope you see this is a very serious question).

-What are the top couple of mistakes you have made in your career that you would advise someone entering the development business to take serious note of. ?

-My relationship with my GC friend is as follows: He owns a General contracting company, that mostly does commercial jobs, plaza’s banks, etc. But he himself used to live in Florida where he did Project Manage condo developments (he is a registered GC in Flordida…he now lives in Toronto). His experience is not in question (at lest in my mind). Our conversations was that he would “Project Manage” the condo from inception to final sales, guiding me through the whole process for a 10% piece of my profit - Nothing upfront. To me, that sounded like a fair deal… but the part i didn’t like was when he said that he would be using his GC company to build the project. His words were that he only makes 3-5% GC’ing job anyways. So to me this seems like a conflict of interest. I would feel more comfortable if we did not use his company at all and hire trades separately… How can you represent the developer and the contractor at the same time… it’s like a lawyer representing two opposing clients in the same case! Am I missing something here, or do you see something wrong with the picture.

Again, your advise is greatly appreciated.

4

Hi,

I grew up in the construction industry, my dad was a real estate developer when I was a teenager, I spent time learning construction from the time I was 8 or 9 years old, my siblings pursued other careers and different paths in life, I had no idea as a kid I would end up in construction as a career!

I enjoy what I do, they say “Do a job and do what you like and you will never work a day in your life!”
I really like what I do, so I have no regrets and if I had a choice would probable do it all over again!

I have built Condo development projects however I would rather do Townhouses or single family homes or small condo projects because generally speaking condo’s are built enmass within the confines of a single structure, which requires a developer to build the structure, hallways and finish out a percentage or all of the complex before being able to legally sell a single unit!

That means carrying a lot of upfront cost and overhead against finally coming to a point of being legally allowed to sell inventory and produce cash flow! I prefer townhouses for medium / high density projects as they can be built in more manageable 2, 3 or 4 unit buildings and here in the states when we build 4 units or less we are not required to install and pay the cost of fire sprinkler systems!

There is serious money to be made down the road, starting out it is better to stay in projects that are 6 or 8 to maybe 20 units to keep cost’s manageable and to mitigate risk! You are better off managing multiple small projects in different locations and price ranges than to try to start risking everything in something big where the potential to fail is larger and the ability to succeed requires a strong cash position to hold and pay cost’s against an unquantified sales market!

The biggest mistake I made early on was allowing an architect to design a complex without value engineering and staying within the scope of the existing market, I did a project where if it had been designed more cost effective could have taken advantage of more in shared utility runs, waste and drain, and gas fireplace flues!

But instead it was put together requiring almost all individual chases, the boxing and sophiting to allow individual floor plans to function required tens of thousands of dollars in additional unneeded cost’s! We had tried to add square footage that increased cost’s and put our project in the top of the markets price range, which made it slow selling and reduced our profit margins!

Value engineering is important as you can build a very clean, high quality product very cost effectively using the right building products and finishes!

I think it’s fine to work with your friend but you need to hire an independant GC to actually build the project and you and your friend work together to construction / project manage the project for you as developer above that GC! The GC is probable looking at somewhere around a 10% to 15% profit and overhead margin to build the project (Construction Cost’s) where you as the developer should be able to clear 10% to 15% of the gross project value in profit!

On this first project make everything hard cost so you can control exactly what needs to be borrowed and what is expensed in the project, it will give you a better advantage to being successful!

                         GR
5

hi gold river, you say you’re an experienced builder, i have 3000sq ft of land in a city neighborhood on the east coast purchased it for $1,000 from city 20 years ago assessed value today is $45,000 other parts of the neighborhood land is being developed into condos starting at $280,000 for 2 bd 1 bth to $320,000 for 3bd 2bth i would like to do the same to my land, but i do not have the cash to start with, it is approved for 4 units lets say $280,000 a unit i approach a builder and say to him partner with me and split the difference.

6

John, just a little unsolicited advice, it might be better to start a thread your asking someone’s advice with something other than “you say your an experienced builder”,people on this board are sharing their experience and giving advice for free,not to be questioned by someone about credentials

7

Hi,

Andy I appreciate your comments, however I think John is lacking understanding of a builders or developers position in this kind of project!

John lets take your statement that new developments are popping up all over the neighborhood and units are selling for $280k 2 bed / 1 bath and $320k for 3 bed / 2 bath. Most good developers average a gross income to build and develop a project of some 20 to 25%, now this number includes profit and overhead for the project! The real profit is maybe 8 to 12% of gross income!

Now if on your lot a building could be developed that meets all the legal requirements and let’s say has 4 units, those 4 units are worth $1,120,000 dollars, if the hard and soft cost’s including overhead amounts to 90% minus selling and closing cost’s, so the project is some 81.5% of $1,120,000 so the cost to develop amounts to $912,800!

The builder is lucky to borrow 70% of estimated sellable FMV as shown in the plan appraisal, so the developer / builder has to come up with a minimum of roughly $129k in cash, and could need to come up with 5% more at 65% LTV ($195k roughly) depending on what percentage of the project the construction loan is approved for, now your lot is worth $45k so if you put the lot up to the project with nothing down and subordinated to new construction financing the developer / builder still needs all of the $129k to $195K to fund cost’s while under construction.

Your land helps the project without paying anything upfront for it! But why would a developer / builder partner with you in this project? What would you bring to the table? If the actual profit is 12% the gross revenue is about $135k or roughly $33k per unit!

Now I suppose if you had good credit and income to sign on the loan? Had some or half of the required cash? (And the lot) Or had construction management experience? Or were a licensed real estate broker? You would bring something to the table!

But considering the cash and credit requirements of the developer / builder why would he not just go down the street and buy a lot from good old Gold River? Or go out 10 miles from the city and buy a lot from good old Gold River? Why for $45k in cost that I can finance 65 to 70% of or roughly $30k would I want a partner who would share the $135k with me??

Now if your lot was 300,000 sq. ft and worth $4.5m then it would be worth partnering on, even maybe a 30,000 sq. ft. lot worth $450k would maybe be worth partnering on depending on the financials?

                        GR
8

GR,
I intended to thank you last week for taking the time to answer my questions. As you indicated in your last post to John, Im learning to understand the “understanding of a builders or developers position in this kind of project”.
Can you help clarify a few points:

  • You mentioned that a good developer (not the builder right) could average a return of 20-25% of the gross income, but that number included overhead of the project. Could you give some examples of what a developers overhead would be?.. outside of some basic communication, transportation and office costs (I know how ignorant I sound right now, but my understanding is that the builder and the architect would have most of the overhead? or are there some fixed costs that are not considered part of the building budget).

-On that same note, I have read that if a developer cant make a minimum of 25% profit on a deal, they should walk away… I guess they may have been referring to the 20-25% gross income that you mentioned earlier. Is this industry standard?

-From the perspective of structuring a “deal”, it seems like ownership of land is only valuable if the replacement cost of the land is too high or its very difficult to find a replacement, right? If the land owner is not contributing to the financing, or brings “value” to the deal, he really doesn’t hold as many cards as I initially though.

-Can you give some insight on how Pre-Sales work? My understanding from my father who met with the bank himself ( I have to clarify myself) was that they would finance 100% of the project if we had 80% pre-sales. However I don’t know if that financing was for Hard Building Costs only, or if that included soft costs as well. I guess before I was even able to get to the point of “pre-sales”, I would have already put some money into soft costs such as architecture, marketing, city fees, legal, real estate, soil test, etc. Do all these fees such as architecture or city fees, get paid in full up font, or does the developer have the ability to pay a portion of it after construction is completed?
-Also with Pre-Sales, do you know if we are able to actually use the pre sale $$ for the project, or does that sit in trust somewhere as a security for the bank?
-If a developer can achieve 80% pre sales, does the bank consider his initial soft costs (on architecture and other preliminary fees) as his equity in the project?, or do they always want the developer to have cash a cash equity stake in the hard costs of the building? Do they consider the market value of the land as equity in the project?
Any thoughts on this would be great!

  • Would the bank or the builder for that matter insist they I subornate my land as security? Won’t a builders bond cover this, or am I missing something here? What are the risks on both sides - for the builder and the land owner?

Thanks for your input GR.

BTW, what state are you in? Have you felt any effects of the US housing problems in your area? Ontario has been on a steady climb… Toronto especially is still in a multiple offer situation on everything. It’s really crazy here.
Look forward to your reply

9

Hi,

Your quite welcome as long as I have the time to answer, and some weeks I am lucky to even get on much less answer questions but I have enjoyed the occasional distraction from my 80 or 90 hour  weeks!

As a developer / builder you should make a margin of somewhere between 20 and 25% of the gross sales price of your project / units! If you need to have someone build for you, you are likely to pay between 10 and 15% of building cost’s to the General Contractor and as the developer you are likely to margin about 10 to 15% then of the gross sales price as profits!

Most of your big home builders for instance Centex, DR Horton, Standard Pacific Homes, Shea Homes, etc. both act as developer and builder, these companies gross maybe around 25 to 27% of gross sales price, but there overhead margin building in bulk may only be 5 or 6%, but when you start building you don’t have the benefits of utilizing professional people to handle bit’s and pieces of projects when required and you don’t recieve discount of scale!

Actually DR Horton, Centex and Standard Pacific are publically traded, go over to there web site’s and look at there 2010 annual report, there not making a 25% profit on there operations, sorry to tell you that! Yes, around 25% for the big boys for gross net sales income is about the industry standard!

Ownership of land is a quantity of scale, if your working on a small parcel and your just beginning as a developer / builder having a land owner willing to take a small down payment and subordinate to new construction financing can be a big benefit, however when you get past that first or second project or just have extra cash something small is pretty easy to handle!

Now I have projects were looking at and performing due diligence on that are $10m, $15m or $20m dollars, we would bend over backwards to get the land owner to put up the property to the development and take there property value, interest and a percentage of profit against the gross value of the development because of the value of the land in relation to the scope of the project!
This of course is relative to cash on hand, size of project and value of land!

When you do a pre-sales you have to have your environmental assessment completed, site survey, planning and zoning approvals, entitlements, and a set of designed and engineered blue prints in hand and in some jurisdictions you can actually start pre-selling units once you have applied and submitted your blue prints for building permit approvals, in other jurisdictions you may be required to wait for the building permit to actually be approved before you can start pre-selling units!

When you initially start pre-sales you may have 6 months of site utilities work, on and off site work and grading and excavation to do before you ever get pad compaction testing and a blue line certification for your site! During this time you can take deposits which are held in escrow, then once you have a building that is dried in and weather tight, has basic utility runs to each unit and has hallway walls completed and is essentually a working building you can then ask for an increase of the deposit and convert these deposits to non refundable earnest money for pre-approved mortgage holders as you start construction on there units!

At this point the non refundable earnest money can be released to the builder in most states, in some states it has to remain in escrow until closing regardless of non refundable status!

Yes, you will have cost’s to cover upfront as you can not recieve financing until you have all the approvals and building permits! Your special assessments can be negotiated with most cities to pay some upfront and some at closing of each unit, permit fee’s will probable have to be paid in full along with tap fee’s and off site cost’s!

Money from pre-sales sits in an escrow / title / attorney closing trust until it can be released from escrow! The upfront cost’s can be considered part of the developer / builders upfront contribution to the project! Anything you pay upfront in cash was accounted to cash on hand for the project!

If you own the land outright it will need to be contributed to the project and your construction lender will place there lien in first position on the land! If the land is owned in the most part by a third party they will have to agree to subordinate there position to construction financing putting the construction lender in first position and the land owner in a fractional second position note!

If you actually own your land you will have to put up your deed to the project and allow your construction lender to record in first position!

The builders bond if your lender requires it will protect your lenders difference in a short fall to either finish and sell or sell off the unfinished project to recover there principle and interest! (A guarantee to your lender)

                  GR