Risks mounting for construction finance

Dual increases in construction costs and land prices will put the profitability of future developments at risk, warns one veteran broker

Risks mounting for construction finance



The combination of rising cost of construction and greed amongst land holders who sell at inflated prices to developers indicates mounting problems within the property and development industry, says one leading mortgage broker.

Dominic Lambrinos, commercial property finance advisor at private non-bank lender Chifley Securities, has warned that these trends have already impacted the profitability of construction projects, causing them to drop from around 30% three years ago to around 10% today.

In the past, higher costs associated with construction and land sales were absorbed in pre-sales, but this is not happening any more, especially in the high-rise apartment space, Lambrinos told Australian Broker.

“Prices are coming down, costs are going up, and profitability is coming down.”

Development projects have taken the slide from being profitable to being “just in the money”, Lambrinos said.

“There will come a time when it’s 'out of the money', where the return for a lot of developers is not good enough to warrant the risk.”

New-to-industry-developers may be more at risk as they have not had much experience, nor have they previously witnessed the effects of an economic downturn, he added.

Instead, more experienced developers are playing it safe by only taking on larger projects with a higher chance of profit as they wait for the upcoming readjustment in the market, he said.

On the contrary, demand from greater numbers of smaller developers is pushing up the price of land. This is compounded by the increased amount of funds available, he said.

“The market has been flooded with a lot of private lending in the past 18 months. When we first started three years ago, we were probably the only one doing this.”

These days, Chifley has 122 competitors, Lambrinos said.

“I’ve never seen so much private money in the marketplace as I see today. Certainly at the GFC there wasn’t as much as there is now.”

While he doesn't think there is going to be another global financial crisis, there will be a national readjustment on the back of these trends, he said.

“Business opportunities are by their very nature fuelled by greed. It’s when that greed gets out of hand that the opportunity for someone else to make enough of a dollar isn’t there. Then, it’s no longer a business opportunity.”

There was a definite need to recalibrate and bring back the notion of a business opportunity within the development space, he said.

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