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Input costs and supply chain issues have impact on development financing

Input costs and supply chain issues have impact on development financing

While there is significant demand for new housing stock in the UK, there are currently substantial headwinds faced by developers, in particular SME house builders. Macroeconomic pressures and geo -political instability have placed significant upward pressure on construction input prices which is having an impact on housing development viability.

According to the latest Construction Output Price Indices released by the Office of National Statistics, costs for new housing in the UK increased by 9.9% over the last 12 months. However, the average new house price was £312,000 in Q4 2021, which was the same as the first quarter of 2020, just before the pandemic took hold in the UK. This has led to an incremental decoupling between cost to build and sales prices which is currently challenging the viability of many SME development projects.

This dynamic, together with extended supply chain timeframes and a significant increase in energy prices due to the war in the Ukraine, is creating downward pressure on the profit margins of new housing developments. Cost increases mean that developers must ensure that their financial appraisals are accurate and current, when seeking development financing. Lengthening supply chain timeframes are resulting in development programmes exceeding project timelines and budgets. Financiers are factoring in price increases and lengthened timelines which can result in pressure on leverage ratios and restrict funding availability certain projects. In addition, contingencies are being fully utilized and lenders are increasingly require developers to have up to 15% to 20% contingency built into the loan to ensure funding for anticipated cost overruns.

At Assetz Capital, we have been working with our existing and new customers to find flexible ways to ensure that project profitability is maintained, while at the same time, appropriate contingencies are built into the deal structure to ensure that there is sufficient liquidity to complete the scheme. In some cases, we have been able to rely on a cost over run guarantee from a contractor of strong financial standing and good experience, with a fixed price JCT contract in place, to top up the contingency in a transaction. We have also been able to push leverage up in situations where the developer is willing to provide a higher personal guarantee or has been able to secure a certain level of reservations pre development commencement. These are all strong mitigants to the current pressures being exerted on development funding structures. Our new development exit product has also been particularly helpful in ensuring that developers have enough time to get the best sales price for their product. At Assetz Capital we take a bespoke approach to each project, acknowledging that every development and SME is different.

- May 19, 2022