Why Small-Scale Property Development Avoids The Usual Business Pitfalls. Hello everyone, I hope you are well. In today’s post, I will be sharing a guest post from Ritchie Clapson CEng MIStructE, co-founder of propertyCEO. Ritchie will explore why small-scale property development is the type of business most likely to succeed. On average, around 20% of UK businesses fail during their first two years, which rises to 45% after five years and 65% after ten years. Yet every one of those entrepreneurs had high hopes of success when they started. So, what do people routinely get wrong when creating a new business? And is it possible to find a business model that doesn’t suffer from the usual challenges that affect most businesses?
Why Small-Scale Property Development Avoids The Usual Business Pitfalls
It’s fair to say that not everyone has an inner entrepreneur trapped inside them, just waiting, like June, to bust out all over. Most people would be much happier with a regular pay cheque, reliable hours, five weeks of annual leave, and a decent pension pot if they’re lucky.
And while there’s a lot to be said for playing it safe, it means that most people are unlikely to achieve the scale of financial freedom that successful business owners can achieve, which is why there’s always a significant minority who look to change things up a bit. Successful entrepreneurs not only supercharge their income while they’re working, but they can also ultimately go on to sell their businesses for six, seven, or eight-figure sums before walking off into the sunset.
Last year, over 750,000 new companies were registered, a slight reduction from the 800,000+ the year before, but still a significant number. Which perhaps isn’t surprising given the upside of business ownership. But I don’t need to tell you that entrepreneurship can have its downsides too. Starting a business is one thing, but keeping it going profitably year after year is quite another.
On average, around 20% of UK businesses fail during their first two years, which rises to 45% after five years and 65% after ten years. Yet every one of those entrepreneurs had high hopes of success when they started. So what do people routinely get wrong when creating a new business? And is it possible to find a business model that doesn’t suffer from the usual challenges that affect most businesses? Well, bear with me because I’d like to propose an answer to both of those questions.
The Business Model
In my view, the business model that makes the most sense to start in the current market (and it has done for a while) is a small-scale property development business. Now, when I say ‘business’, please don’t imagine you’ll be creating a new Persimmon Homes or Taylor Wimpey. I’m talking about little old you deciding to turn an old shop or office building into a few new flats, something much more manageable and frankly not much further up the property development ladder than doing a flip or a refurb. Such a project should comfortably net you a six-figure profit, and it’ll likely take 18-24 months from when you acquire the property to when you bank the proceeds.
One of the rudimentary requirements of any new business is that there must be a market for the product or service it will be introducing. How many of us would like to have been descended from the inventors of things like cat’s eyes, post-it notes, or the slinky? What were our parents and grandparents doing with their time when they could have been getting creative and setting up their progeny for life? But it’s very easy to get this bit wrong. Remember the Sinclair C5, Betamax video recorders, and sprayable cheese? These are all products that are memorably bombed, but there are millions of other less memorable ones.
Is There A Demand For The Product?
According to the UK Government, there is a massive housing shortage in this country. The government’s targets require us to build 300,000 new homes every year, and in recent years we’ve not come close to hitting this figure. And, of course, if we only build 150,000 in one year, the target for the following year must increase to 450,000 to make up for the shortfall. So, if you’re building homes of pretty much any shape or size, it’s fair to say there’s a very healthy demand for what you’re selling.
Linked to this is another critical advantage that property development has related to technology. If you decide to play it safe and launch a product or service with a strong demand, you usually have to differentiate. Otherwise, why would anyone buy your product over the current market leader? There’s a massive global demand for mobile phones, but if you decide to launch your handset, it would have to be different from or better than the current offerings from Apple and Samsung; otherwise, no one will be interested.
But with property, not only is there very little new technology (we still build houses by glueing bricks together with mortar), but there’s also no requirement for a new home to be built any differently from the millions of other homes that exist all over the country. You might have a few more USB charging points and some underfloor heating in the bathrooms, but the house you build today is, in some ways, no more advanced than the stuff we built years ago. You don’t even have to build it differently from the developer building a similar project.
Barriers To Entry
If I want to open a dental practice, I’ll first need to study to become qualified to practice dentistry, which takes several years. Then I need to work for several more years in practice to get experience. Only then could I think about establishing my practice? However, I then run into the usual start-up issues that every entrepreneur must consider, which an employee never needs to consider. Where’s the best location for my practice? Where will I get the money to buy the premises and equipment? How will I get new customers and recruit dentists to work for me? The list goes on. But none of these barriers to entry exist in property development.
If you decided to develop property today, you could find a property or piece of land to buy from a commercial agent (or look on Rightmove or Zoopla). Providing that the deal stacks up, getting commercial finance and private investment to fund both the purchase and the development work is relatively straightforward because there is so much money out there looking for a good home. And when it comes to the skills needed to develop a property, you hire these in.
Architects, Project Managers, Structural Engineers, and Contractors are all guns for hire and readily available. And, of course, they already know how to develop a property. As a developer, you need people, organisational, management, and decision-making skills. And I’d be amazed if you didn’t have these already. Now, don’t get me wrong – I’m not suggesting for one minute that you should dive into property development without getting trained first. But you can see how highly leveraged it is from a skills perspective compared to many other types of business.
Customers like to trust a new business before they engage, but how do you get this trust if you’re brand new? The first point to make here is that your end-user customers (i.e., those living in the homes you’ve built) don’t really care about your credibility or experience as a developer. Impressing property agents, commercial lenders and private investors would be best. The critical point to remember is that no one expects you to lay bricks or produce plans.
You have a contractor and an architect on your team who will do that for you. And if you add up all of the years’ experience of your entire team and the number of projects they’ve worked on, you’ll discover that your business is already hugely experienced. The football team may have a new manager (you), but the players on the pitch have been doing their stuff for years, giving you credibility in spades.
Overheads And Margins
We should also consider employees with associated costs, responsibilities, and regulations. Well, not so in property development. Yes, you might employ a virtual assistant to help you with some of your routine tasks, but because the model is so highly leveraged, the people that do most of the work are employed by someone else, like your contractor. You’re unlikely to end up hiring anyone yourself.
One of the things that kills many businesses is high fixed overheads and a lack of cash flow. As a developer, your running costs are minimal, plus you can take a break between projects without continually feeding the overheads.
Another consideration should be your margins. Every business has to be profitable, but some industries have tighter margins than others. In property development, you’ll typically target a margin of 20% of the gross development value (GDV), i.e., what you sell your finished homes for.
For example, convert a shop into ten flats worth £100k each, then your GDV is £1m, and your target margin is £200k. You don’t set this 20% margin to figure yourself – it’s a requirement of your commercial lender, who will lend you most of the funds to acquire the property and pay for its development. They don’t want you to lose money on the project, so they’ll ensure you’ve got enough profit to ride out a few storms and still end up in the black. You’ll also have a not-insignificant contingency fund for unexpected costs, protecting you against shirt-losing scenarios.
A final consideration for any new business is whether the government incentivises you to get started. In the case of property development, the government is desperate to get more new homes built and has discovered that the lowest-hanging fruit is converting the many thousands of unused shops and commercial buildings all over the country. They’ve recently expanded the number of permitted development rights to convert these buildings into residential use without full planning permission, making it easier to borrow money, dodge the vagaries of our broken planning system, and get out of the blocks.
Of course, there are many more things to consider when starting a new business. The key lies in ensuring you’ve done your homework and selected a business type and model that takes as much risk out of the equation as possible. And with small-scale property development, providing you’ve got some training before you start, I think you’ll be ticking all the right boxes.
I hope you enjoyed that.
About The Author
Ritchie Clapson CEng MIStructE is an established developer, author, industry commentator, and co-founder of leading property development training company propertyCEO. To discover how you can get into property development, visit www.propertyceo.co.uk