Development finance new world order: Resetting your expectations for success

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Currently we are seeing a constant barrage of articles from all sectors of the press and social media regarding the onset of an impending financial readjustment or even a collapse, with some arguing it will be worse than the last GFC.

There are many areas being pointed to as the likely root causes or triggers for this financial Armageddon and most are driven by international triggers well beyond our control, however the potential ramifications on our markets are being touted as devastating and even their potential occurrences are impacting our day to day business confidence.

One key area of influence that we have touched on previously is the impact of the post GFC capital requirements on our banks and how that impacts their appetite for construction lending. It is important to understand why this is happening but of more importance is what you need to do to ensure your business is not adversely impacted.

While the changes in bank policies towards construction lending will fluctuate within certain low risk parameters, these overriding regulatory requirements are not temporary responses to a specific event; they represent an ongoing constraint that will impact the pricing and structure of all future loan transactions and represent a new world order in construction finance.

Fundamentally this is because Australians have an expectation that their savings accounts will always be there when things get tough and they expect their politicians to ensure that this is so. No political leader wants to be explaining why they allowed unscrupulous lenders to lose the hard earned savings of their Mum and Dad depositors.

Accordingly, Governments of both persuasions continue to apply pressure on the major banks via the available regulatory levers to ensure that their contingent exposure to underwriting a portion of the banks deposit funds is appropriately controlled and that the banks risks are “well managed”.

History tells us that during booms, lenders can get over-excited and sometimes leads to being careless in the race to secure a share of the profits being generated as markets run hot, and then as it peaks and the signs are there that risks are increasing, the temptation to do “one more deal” often leads to losses.

The regulatory requirements being imposed on the banks are designed to minimise this risk and this is demonstrated by the recent changes seen their attitude towards construction lending that has been substantially pared back to ensure that they maintain appropriate capital reserve exposures.

Putting aside the question of the profitability of these types of loans to the major banks which we have also addressed in a previous paper, all bank loans of this type are now assessed on deal-by-deal basis with all the relevant factors input into a complex risk model in order to monitor the banks risk profile as prescribed by ASIC. As a consequence, there are far fewer “discretionary” decisions available to your bank manager when he deals with your application, which also reflects the lower risk appetite now prevailing amongst the major banks.

As a result of all this, developers can no longer expect their regular bank will provide the necessary funding just because “they have always done it in the past”. 

As many are learning, the fact that you may have had a 30+ year sound relationship with your bank is of no consequence and does not guarantee they will lend you money when you ask them for it, or on the terms they previously have.

With the banks limiting their exposure to the sector and pricing risk far more keenly than in the past, there is now a wide range of alternative providers of debt, equity and all the permutations between entering the market.

The challenge for tody’s developer is identifying which ones best fit both their business and specific project needs. This in turn requires a readjustment of expectations as to what constitutes an appropriate finance cost when assessing project viability.

While all this sounds like the industry has become a lot more complicated, and in some ways it has, it also means there are far more options available to Developers, enabling them to fulfil their project ambitions and maximise their available capital.

As a consequence, knowledge of all these competing options is a critical prerequisite to getting the best outcome. Even more importantly, engaging the right finance consultant who can navigate your transaction through to a successful conclusion, just as you would with any specialised requirement such as town planning or engineering solutions, is the key to securing funding and ensuring a profitable outcome for your next development.

As always, your success is directly related to how well you adapt and deal with change and as the saying goes, there is nothing surer than change. So make sure that you are setting your expectations at the appropriate levels and getting sound advice.

This article was written by Dan Holden of HoldenCAPITAL, who are a bespoke construction finance firm, they arrange construction finance and invest in projects through their equity fund, Queen Street INVEST. To discuss your project finance requirement please call (07) 3171 4200 or visit HoldenCAPITAL here.