Understanding development appraisal A guide for housing associations i
UNDERSTANDING DEVELOPMENT APPRAISAL: A GUIDE FOR HOUSING ASSOCIATIONS All rights reserved. No part of this publication may be reproduced, stored in a retrieval system, or transmitted, in any form or by any means, electronic, mechanical, photocopying, recording or otherwise, without the prior permission of the publishers. While all reasonable care and attention has been taken in preparing this guide, the National Housing Federation regrets that it cannot assume responsibility for any errors or omissions. National Housing Federation ISBN 978 0 86297 586 9 First published in December 2015 by the National Housing Federation Lion Court, 25 Procter Street London WC1V 6NY Printed in Great Britain by Typecast Colour, Hop Pocket Lane, Paddock Wood, Kent TN12 6DQ ii
Contents Acknowledgements Foreword vii viii 1 Introduction 1 1.1 Financial appraisal the basics 2 1.2 Tenures to be appraised 4 1.2.1 Social rent 5 1.2.2 Shared ownership 6 1.2.3 Affordable rent 7 1.2.4 Outright sale/private sale 7 1.2.5 Rent to buy/rent to Homebuy/try before you buy 8 1.2.6 Market rent/private rent 8 2.1 Calculating development costs 9 2.2.2 Credit interest 15 2.2.3 Variable interest rates 15 2.3 Income grant, sales and direct subsidies 16 2.3.2 Grant tranches and regulation 18 2.3.3 Sales income and interest 18 3 Long-term forecasting general principles 23 4 Long-term forecasting of the net rent 28 4.1 Rent 29 4.1.1 Rent projection assumptions 30 4.2.1 Future void projection assumptions 33 4.3 Management 35 4.4 Maintenance responsive and planned/routine/cyclical 37 iii
UNDERSTANDING DEVELOPMENT APPRAISAL: A GUIDE FOR HOUSING ASSOCIATIONS 4.5 Future void assumptions 40 4.7.1 Calculating the Recycled Capital Grant Fund 50 5.1 First year measures cost/value per cent, net yield, 5.1.1 Cost/value per cent 55 5.1.2 Net yield 56 5.1.3 Interest cover 56 5.2 Long-term loan repayment break-even, peak debt and payback rolling repayment 57 5.2.1 Break-even year 57 5.2.2 Peak debt 58 5.2.3 Payback 59 5.2.4 Break-even using detailed life cycle costs 60 6 The Net Present Value unlocking the mystery of discounting 65 6.2 The Present Value of income in Year 10 67 6.3 Present Value of the net rent 69 6.4 Net Present Value 70 7 NPV assumptions, IRR and other considerations 73 7.1 NPV sensitivity to discount rates 73 7.2 Internal Rate of Return 75 7.3 NPV per unit 77 7.4 Discounting other considerations 77 7.4.3 Variable discount rates 78 7.4.4 Discount periods (NPV periods, appraisal periods) 79 7.4.5 Different discount rates for different tenures 79 8 Phased projects NPV at completion or at start? 81 8.1 Adding NPV surpluses together 82 8.3 Calculating the NPV at project start 85 8.3.1 Calculating PV of costs back to project start 86 8.3.2 PV of net rents back to project start 87 8.3.3 NPV at project start versus completion 89 iv
9.1 Subsidy of affordable/social housing 93 10 Valuing land and s106 units 103 10.1 Valuing land for private sale projects 103 10.2 Valuing s106 units 106 10.2.1 The politics of spreadsheets planning and site viability 108 10.4 Other commercial and valuation considerations 119 10.4.1 Residual land values using other measures 119 10.4.3 Modelling joint ventures 119 10.4.4 The role of professional valuers 120 10.4.7 Housing associations as private developer 11 Financial appraisal of existing stock 125 12.2 Out of the blue the impact of recent government policy on development appraisals 132 12.2.1 Proposed rent drop 132 12.2.2 The abolition of s106 obligations and grant on rented units 134 12.2.4 The Right to Buy 135 12.3 Conclusion 136 Appendices 1 Financial assumption benchmarks 138 A1.1 Rent assumptions 138 A1.2 Void assumptions 138 A1.3 Management assumptions 139 A1.4 Maintenance assumptions 141 A1.5 Major repairs assumptions 143 A1.6 Shared ownership initial sales and staircasing assumptions 145 A1.7 Discount rates and discount periods 147 v
UNDERSTANDING DEVELOPMENT APPRAISAL: A GUIDE FOR HOUSING ASSOCIATIONS 2 Microsoft Excel and the NPV calculation 149 A2.1 NPV Net Present Value 149 A2.2 xnpv xnet Present Value 151 3 Glossary 153 vi
Acknowledgements Many thanks to Paul Flowers of M3 for authoring this publication. Special thanks to everyone who helped with the production of this guide: Liz Circuit M3 Dave Treanor M3 Matt Snuggs M3 Laurie Wright Stonewater Housing Group (Chair of Pamwin Plus user group) Karen Sheedy Metropolitan Housing Group Paul Circuit General reader Eamonn O Domhnaill General reader Hannah Flowers General reader. vii
UNDERSTANDING DEVELOPMENT APPRAISAL: A GUIDE FOR HOUSING ASSOCIATIONS Foreword are calculated and what they actually represent. This publication aims to plug that gap. It will guide development staff step-by-step through all including the mathematical principles behind them. with less fear of the numbers and a better chance of spotting errors, leaving more time to get houses built. David Orr National Housing Federation viii
CHAPTER 1 INTRODUCTION Chapter 1 Introduction You don t have to know the workings of the internal combustion engine to pass a driving test or own a car, but even the least mechanically-minded of drivers understand deep down that their amazing machine runs thanks to machinery, oil, water and petrol not magic. A With appraisal systems or spreadsheets the development department are usually the drivers, it actually meant. The principles of appraisal are common across all businesses, but how they are applied After reading this guide you should have some idea of what happens behind the front sheet of your appraisal system, even if you never need to look at its spreadsheet calculations in detail. have taken to appraisal, and how it delivers the overall strategic aims for your organisation. 1