An Introduction to Commercial Property Finance, Development and Investment

About the book

This unique book is a first for South Africa and for Africa, providing a broad coverage of topics in property finance, property development and property investment. There are specific chapters on commercial property finance and risk assessment, property economics, financial statement analysis, property tax, property law, property valuation, property development, market analysis, feasibility analysis, investment analysis and property management. These topics are addressed from the point of view of commercial property finance.

By necessity, the coverage is therefore very broad, and at an introductory level. However, because this is also the first South African book that addresses the full range of topics covered here, other readers will find this to be more of a valuable resource.

This is a 3 in 1 reference guide covering commercial property finance, development and investment.

About the author/s

• The authors are experts in their respective fields: accounting, law, finance, taxation, economics, construction, valuation, feasibility, development, investment and management.
• Tony Collins has been involved variously with the construction, real estate and banking industries for more than 40 years. Tony holds a master's degree in quantity surveying and an honours degree in real estate. He is a registered quantity surveyor and associate valuer, and an internationally known speaker and author.
• Valmond Ghyoot has been involved with the construction and real estate industry for more than 40 years. He holds a doctorate specialising in real estate, a masters degree focusing on project management and a bachelors degree in construction. He is a registered valuer and is an internationally known speaker and author.

Table of contents

Acknowledgements

List of Figures

List of Tables

List of Abbreviations

Chapter 1

An introduction to commercial properties and investments

1 INTRODUCTION

2 CHARACTERISTICS OF A SPECIFIC BUSINESS AND TYPES OF PROPERTIES COMMONLY DEALT WITH BY CPF DIVISIONS OF BANKS

3 PROPERTY TYPES

3.1 Residential property
3.2 Commercial property
3.3 Industrial property
3.4 Specialised property
3.5 Agricultural property

4 PROPERTY CHARACTERISTICS

5 IMPORTANT LEGAL CONCEPTS

5.1 Movable and immovable property
5.2 Ownership
5.3 Public legal circumscription
5.4 Private legal circumscription
5.5 Limited real rights

6 PROPERTY INVESTMENT: AN INTRODUCTION

6.1 Benefits and limitations of commercial property as an investment
6.2 Investment and trading strategies

7 CONCLUSION

Review questions for Chapter 1

CHAPTER 2

An introduction to commercial property finance and risk assessment

1 INTRODUCTION

2 COMMERCIAL PROPERTY FINANCE

2.1 Why banks appear so risk averse
2.2 Loan to value
2.3 Ability to generate cash flow

3 RISK ASSESSMENT: AN OVERVIEW

3.1 Assessment of a property’s net income stream
3.2 Property-related risks
3.3 Defining client risk from the bank’s point of vie w
3.4 Matching the facilities offered with the risk
3.5 Future risks influencing bank lending criteria

4 CPF IN PERSPECTIVE

4.1 Typical commercial property finance clients
4.2 An international perspective
4.3 A historical perspective on the South African CPF mark et
4.4 Current South African macro CPF market dynamics
4.5 The Repo rate

5 LIQUIDITY AND GEARING

6 RISK FACTORS TO CONSIDER FOR INVESTMENT DECISIONS

6.1 Location risk
6.2 Purchasing power risk
6.3 Institutional risk
6.4 Interest rate fluctuation risk
6.5 Financial risk

7 CREDIT AND CPF

7.1 The client
7.2 The property
7.3 The economy
7.4 Size of the loan
7.5 Importance of client equity contribution
7.6 Property cash-flow

8 SURETIES, COVENANTS AND CESSIONS TO BACK FINANCE ARRANGEMENTS

8.1 Sureties
8.2 The client’s overall financial position
8.3 Collateral security
8.4 Covenants
8.5 Cessions, pledges and undertakings
8.6 Cash flow

9 INSTRUMENTS OR PRODUCTS OF FINANCE

9.1 Mortgage bond
9.2 Leaseback agreement

10 FINANCING METHODS

10.1 Analysing the financing needs of the client
10.2 Commercial loans
10.3 VAT financing facilities
10.4 Bridging loans and overdraft facilities
10.5 Flexi-reserve facilities
10.6 Loan repayment structures

11 INTEREST RATE CHARGES AND OTHER PRICING MECHANISMS

11.1 Charging fees
11.2 Charging interest
11.3 Fee structures
11.4 Bare dominium properties
11.5 Lease discounting

12 SOURCES OF FINANCE

12.1 Commercial banks
12.2 Participation bond schemes
12.3 Insurance companies and pension funds

13 OTHER SPECIALISED METHODS OF FINANCING
COMMERCIAL PROPERTY

13.1 Money market instruments and derivatives
13.2 Caps, floors, ceilings, collars and fixed rate loans
13.3 Structured debt versus structured finance

14 EQUITY FINANCE AND JOINT VENTURES

15 PROPERTY SYNDICATIONS

16 THE LISTED SECTOR

16.1 Listed property types
16.2 Overview of the listed property sector
16.3 Lending to listed property companies

17 PORTFOLIO EVALUATION

18 SECURITISATION

19 NON-FINANCIAL REQUIREMENTS OF THE INVESTOR

20 CONCLUSION

Review questions for Chapter 2

CHAPTER 3

Property economics

1 INTRODUCTION

2 SOME BASIC PRINCIPLES

2.1 Business cycles
2.2 Inflation
2.3 Government spending and taxes
2.4 The balance of payments
2.5 Foreign exchange rates
2.6 Money, monetary policy and interest rates
2.7 Supply and demand
2.8 Macro and micro economics

3 EXAMPLES OF ECONOMICS IN PRACTICE

3.1 Inflationary spending, the balance of pa yments and foreign
exchange movements on interest rates and the property market
3.2 Tracking the money market instrument rates
3.3 The use of projected economic figures

4 PROPERTY CYCLES

5 BASIC CONSIDERATIONS IN REGIONAL ECONOMICS

6 CHARACTERISTICS OF PROPERTY MARKETS

6.1 Market types and participants
6.2 Factors that affect property markets
6.3 Demand and supply of property

7 ECONOMIC CHARACTERISTICS OF PROPERTY

7.1 Scarcity
7.2 Utility and adaptability
7.3 Desire
7.4 Potential in terms of highest and best use
7.5 Immobility
7.6 Creation of value
7.7 Property has value as an economic product
7.8 Productivity of property

8 FACTORS THAT AFFECT PROPERTY VALUE

8.1 Subjective value of buyers and sellers
8.2 Investor value versus market value
8.3 The productivity generating factors of property
8.4 Other value influences

9 MOST PROBABLE LEGAL AND ECONOMIC USE

10 RESIDUAL LAND VALUES

11 LOCATION INFLUENCES ON NEIGHBOURHOOD PROPERTY VALUES

12 CONCLUSION

Review questions for Chapter 3

CHAPTER 4

Financial statement analysis

1 INTRODUCTION

1.1 The meaning of profit
1.2 The purpose of profit and profit expectations
1.3 Bookkeeping versus accounting

2 HOW TO KNOW WHETHER THE BUSINESS IS ACHIEVING ITS PROFIT OBJECTIVE

2.1 The income statement
2.2 The balance sheet
2.3 The cash flow statement

3 FINANCIAL STATEMENT ANALYSIS

3.1 Objectives of financial statement analysis
3.2 Limitations of accounting
3.3 Approaches to financial statement analysis

4 RATIO ANALYSIS OF FINANCIAL STATEMENTS

4.1 Debt management ratios (solvency/leverage ratios)
4.2 Liquidity ratios
4.3 Asset management ratios
4.4 Return and profitability ratios
4.5 Market value ratios
4.6 Limitations of ratio analysis

5 OVERTRADING

6 CONCLUSION

Review questions for Chapter 4

CHAPTER 5

Time value of money

1 INTRODUCTION

2 APPLICATION OF THE TIME VALUE OF MONEY

2.1 Terminology
2.2 Timelines
2.3 Simple interest
2.4 Compound interest
2.5 Discounting
2.6 The discount rate
2.7 The use of financial calculators
2.8 Nominal versus effective interest rates

3 INVESTMENT MEASURES

3.1 Present value of an income stream
3.2 Net present value (NPV)
3.3 Illustration of NPV
3.4 Internal rate of return (IRR)
3.5 NPV versus IRR

4 LEASES

5 LOAN REPAYMENT STRUCTURES

5.1 Amortising repayments
5.2 Interest only structures
5.3 Future dated repayments
5.4 Stepped repayment structures
5.5 Fixed equal capital repayments with reducing interest
5.6 Stepped capital repayments with reducing interest
5.7 The use of balloon payments

6 USING SPREADSHEETS IN TIME VALUE OF MONEY (TVM) CALCULATIONS

6.1 PV – present value
6.2 FV – future value
6.3 PMT– payment
6.4 IPMT – interest payment
6.5 PPMT – payment on principal
6.6 Rate – interest rate
6.7 NPER – number of periods
6.8 NPV – present value
6.9 IRR – internal rate of return

7 CONCLUSION

Review questions for Chapter 5

Exercises for Chapter 5

CHAPTER 6

Property tax

1 INTRODUCTION

2 PURCHASE AND SALE OF PROPERTY

2.1 Basis of taxation
2.2 Gross income
2.3 Capital or revenue nature

3 CASE LAW

3.1 CIR vs STOTT (3 SATC 253)
3.2 JOHN BELL & COMPANY (PTY) LTD vs SIR (38 SATC 87)
3.3 GREENBAND PROPERTIES (PTY) LTD vs CIR (43 SATC 151)
3.4 NATAL ESTATES LTD vs SIR (37 SATC 193)
3.5 BEREA WEST ESTATE (PTY) LTD vs SIR (38 SATC 43)
3.6 ITC 1481 (52 SATC 285)

4 PURCHASE OF PROPERTY

5 SALES BY PROPERTY DEALERS OR DEVELOPERS 182
5.1 Debtor’s allowance – Section 24
5.2 Township expenditure and allowance – Section 24

6 DESIGN OF BUILDINGS

6.1 Designing factory buildings
6.2 Hotels – Section 13bis
6.3 Farming
6.4 Housing schemes

7 PROPERTY MANAGEMENT

7.1 Repairs and improvements
7.2 Other expenditure

8 VALUE ADDED TAX

8.1 General
8.2 The mechanics of VAT and property
8.3 Agents and brokers
8.4 Rental organisations
8.5 Related matters
8.6 Deemed input credit
8.7 Zero rating
8.8 VAT and transfer duty
8.9 Mixed enterprise
8.10 Share-block and sectional title transactions

9 CAPITAL GAINS TAX 195

9.1 Inclusion rate
9.2 Disposals
9.3 Base cost
9.4 Valuations
9.5 Exclusions
9.6 Disposal of small-business assets – excluded from CGT
9.7 Primary residence exclusion
9.8 Roll-overs

10 CONCLUSION

Review questions for Chapter 6

CHAPTER 7

Property law

1 INTRODUCTION

2 LAW OF CONTRACTS AND ARBITRATION

2.1 Law
2.2 Essentials of a valid contract
2.3 Arbitration

3 LAWS RELATING TO SECTIONAL TITLE AND SHARE BLOCK COMPANIES

3.1 Sectional title
3.2 Share block schemes

4 A SUMMARY OF PROCEDURES RELATED TO PROPERTY AND

RELEVANT CLAUSES IN ACTS

4.1 Conveyancing and terminology
4.2 Town planning
4.3 Summaries of acts
4.4 Various items of applicable legislation
4.5 Exchange control
4.6 Forms of property investment vehicles

5 CONCLUSION

Review questions for Chapter 7

CHAPTER 8

The fundamentals of property market valuations

1 INTRODUCTION

2 BASIC CONCEPTS

2.1 Valuer’s role
2.2 Defining market value of fixed property
2.3 Defining other values
2.4 Valuers, appraisers and surveyors
2.5 Conditions where a market valuation may be required
2.6 Factors that affect property value
2.7 Time and its effect on the valuation
2.8 Highest and best use

3 THE MARKET VALUATION PROCESS

4 THREE MAIN APPROACHES TO VALUATION

4.1 Reconciliation of the three approaches
4.2 Method of comparable selling prices
4.3 Income method
4.4 Cost method

5 DEVELOPMENT COSTS FOR DEVELOPMENT LOANS

6 VALUATION REPORT FORMAT

6.1 Report content
6.2 Bank valuation report format

7 IMPORTANT SOURCES OF INFORMATION

8 VALUATION OF NON-MARKET PROPERTIES

8.1 Non-market properties defined
8.2 Historically significant properties
8.3 Special uses due to owner restrictions
8.4 Special uses due to un-saleable property
8.5 Special uses due to being state owned
8.6 Value in use
8.7 Conclusion on non-market valuation

9 REMODELLING AND REFURBISHMENT (ADAPTIVE USES)

10 CONCLUSION

Review questions for Chapter 8

CHAPTER 9

The property development process

1 INTRODUCTION

2 THE PARTICIPANTS IN THE DEVELOPMENT PROCESS

2.1 The developer
2.2 The bank
2.3 The consultants
2.4 Contractors

3 THE KEY STAGES IN THE DEVELOPMENT PROCESS

3.1 Stage 1: Initial planning
3.2 Stage 2: Acquiring the land (with or without existing buildings on site)
3.3 Stage 3: Developing the land
3.4 Stage 4: Constructing the buildings
3.5 Stage 5: Marketing and leasing the space
3.6 Stage 6: Property management and maintenance

4 CONCLUSION

Review questions for Chapter 9

CHAPTER 10

Market analysis : practical examples
1 INTRODUCTION

2 EXAMPLE 1: OFFICE AND RETAIL DEVELOPMENT

2.1 The subject property
2.2 Structure of the analysis
2.3 Sources of information
2.4 Regional analysis
2.5 Neighbourhood analysis (1992)
2.6 Site analysis
2.7 Demand analysis (1992)
2.8 Supply analysis (1992)
2.9 Report conclusions and recommendations

3 EXAMPLE 2: NEEDS ANALYSIS FOR MINI STORAGE DEVELOPMENT

3.1 Introduction
3.2 The mini storage industry
3.3 The subject property and its trade area
3.4 Competitive supply in the market area
3.5 Unmet demand at the subject property
3.6 Report conclusion and recommendations

4 CONCLUSION

Review questions for Chapter 10

CHAPTER 11

The property investment process

1 WHY INVEST AND IN WHICH MARKETS

2 A RATIONAL APPROACH TO INVESTMENT ANALYSIS

3 ANALYSIS OF THE NEEDS, REQUIREMENTS, OBJECTIVES AND RESOURCES OF THE INVESTOR

3.1 Investor needs and objectives
3.2 Resources of the investor
3.3 Return on capital to investor

4 INVESTIGATION OF THE AVAILABILITY AND PRICE OF BORROWED CAPITAL (FINANCING POSSIBILITIES)

5 PHYSICAL INSPECTION OF A SELECTED PROPERTY OR SELECTED PROPERTIES

5.1 Land and improvements
5.2 Location
5.3 Institutional attributes
5.4 Due diligence

6 QUANTIFICATION OF THE PRODUCTIVITY OF A SELECTED PROPERTY OR SELECTED PROPERTIES

6.1 Qualitative analysis
6.2 The market (macro and micro trends)

7 INVESTMENT VALUE TO THE SPECIFIC INVESTOR (QUANTITATIVE ANALYSIS)

7.1 Calculation of net normalised operating income
7.2 Calculation of before-tax and after-tax cash income
7.3 Calculation of the actual annual inc ome over a projection period
7.4 Resale return to the investor (reversion and PV of the project)
7.5 Calculation of the before-tax and after-tax proceeds from the sale
(reversion)
7.6 Calculation of the justified present value of equity capital and of
the project
7.7 Decision making ratios – measures of property investment
performance

8 EVALUATION OF THE MARKET AND EXTERNAL FACTORS

9 DECISION MAKING

9.1 The investment decision
9.2 Qualitative decision making
9.3 Effects of interest rate movements on finance
9.4 Quantitative decision making using decision ratios

10 FINAL EVALUATION

Review questions for Chapter 11

CHAPTER 12

Feasibility analysis

1 INTRODUCTION

2 DEFINING FEASIBILITY ANALYSIS

3 THE DEVELOPMENT PROCESS AND POTENTIAL PROBLEMS

3.1 Key stages in development
3.2 Why real estate projects fail
3.3 Improving the quality of feasibility studies

4 THE FEASIBILITY ANALYSIS PROCESS

4.1 Framework for total feasibility analysis
4.2 Objectives of the parties
4.3 Macro and micro market trends
4.4 Market segmentation
4.5 Legal political constraints
4.6 Aesthetic-ethical constraints
4.7 Physical-technical constraints and alternatives
4.8 Financial constraints of proposed enterprise form

5 THE INVESTOR’S FINANCIAL CRITERIA

5.1 Commercial projects
5.2 Residential projects

6 THE RESIDUAL LAND VALUE METHOD

7 CONCLUSION

Review questions for Chapter 12

CHAPTER 13

Residential, large scale and specialised developments

1 INTRODUCTION

2 PURCHASING LAND IN LARGE UNITS

2.1 Options and purchase contracts
2.2 Release clauses
2.3 Site information: The basics for planning

3 RESIDENTIAL DEVELOPMENT

3.1 Developing vacant land into townships
3.2 The township development process
3.3 Timeline for the development
3.4 Developing existing sites into new blocks of flats/apartments
3.5 Converting other uses such as offices or a house on a lar ge erf
into flats/apartments
3.6 Converting single title blocks of flats/apar tments in the rental
market into sectional title blocks f or sale of the individual units

4 OFFICE PARKS AND CLUSTERS

4.1 Office parks
4.2 Office clusters and multi-use structures

5 SHOPPING CENTRES

5.1 Types of shopping centres
5.2 The convenience and neighbourhood centre
5.3 The community centre
5.4 The regional and super regional centre
5.5 Retail warehouses and access parks
5.6 Principles of rental determination
5.7 Definition of the areas referred to in lease agreements
5.8 Parking
5.9 Special features
5.10 New shopping centres and the local economy
5.11 Shopping centre potential
5.12 Shopping centre planning

6 STEPS AND STAGES IN SHOPPING CENTRE DEVELOPMENT

6.1 Feasibility analysis
6.2 Site evaluation
6.3 Site planning
6.4 Market analysis
6.5 Determining the type of centre
6.6 Anchor tenant selection and commitment

7 INDUSTRIAL PARKS

7.1 Benefits to industry
7.2 Benefits to community
7.3 Limitations of the industrial park
7.4 Developing the industrial park

8 SPECIALISED DEVELOPMENTS

9 CONCLUSION

Review questions for Chapter 13

CHAPTER 14

Fundamentals of the property management function

1 INTRODUCTION

2 THE MANAGEMENT PLAN

2.1 Regional analysis
2.2 Neighbourhood analysis
2.3 Site and property analysis
2.4 Market analysis
2.5 Investment analysis
2.6 Implementation of the management plan
2.7 Management agreements and records

3 MARKETING AND LEASING

3.1 Factors that affect marketing strategy
3.2 Types of advertising
3.3 Economics of advertising
3.4 Renting techniques
3.5 Renewal techniques
3.6 The lease document and its contents
3.7 Checking the leases
3.8 Types of leases
3.9 Types of tenants

4 TENANT ADMINISTRATION

4.1 Tenant selection
4.2 Tenant relations
4.3 Rental collection
4.4 Dealing with non-paying tenants
4.5 Eviction of tenants

5 MAINTENANCE, OBSOLESCENCE AND VALUE

5.1 The maintenance process
5.2 Maintenance activities

6 BENCHMARKS AND PROPERTY MANAGEMENT INDICATORS

7 PRACTICAL PORTFOLIO MANAGEMENT

7.1 Portfolio risks
7.2 Comparing and analysing portfolios

8 CONCLUSION

Review questions for Chapter 14

CHAPTER 15

The property financing process

1 INTRODUCTION

2 MARKETING

2.1 Defining the marketing function
2.2 The unique characteristics of the property market
2.3 The research function
2.4 Planning the functional/operational marketing strategy
2.5 Concluding remarks on marketing

3 SALES

3.1 Initial client contact
3.2 Closing the deal

4 THE VALUATION

4.1 The CPF valuation process
4.2 Types of valuation

5 CREDIT SUBMISSION AND APPROVAL

5.1 Client and property requirements
5.2 Undertaking a risk assessment

6 COMPLIANCE WITH LOAN CONDITIONS

7 COMPLIANCE FOR DEVELOPMENT PROPERTIES
7.1 Certificate of identity for the property
7.2 Contractor’s all risk insurance
7.3 Waiver of builder’s lien
7.4 Proof of borrower’s contribution
7.5 Approval from the Department of Agriculture
7.6 Approved township layout plan
7.7 Approved surveyor general plan
7.8 Approved site development plan
7.9 Approved consolidation diagram
7.10 Approved building plans and specifications
7.11 Approved engineering designs
7.12 Signed services agreement with council
7.13 Proof of development contribution paid to council
7.14 Engineer’s geo-technical certificate
7.15 External services installed to boundary
7.16 The NHBRC requirements
7.17 Approved building plans
7.18 Architect: building plans per building regulations
7.19 Priced bill of quantities
7.20 Projected cash-flow
7.21 Bar chart showing expected progress
7.22 A signed copy of the JBCC or o ther building and/or civil contractor’s contract such as the GCC (or other contract) used
7.23 Certified copy of payment guarantee
7.24 Construction guarantee (a performance guarantee) or retention fund
7.25 Who is the developer and who is the contractor?
7.26 Environmental legislation
7.27 Legal rights in terms of limited real rights
7.28 Approved conditions of establishment
7.29 Foundations correctly positioned
7.30 The right of access to the sit e
7.31 Zoning certificate
7.32 Section 7(6) (certificate to commence)
7.33 Proof of professional qualifications
7.34 Professional indemnity insurance
7.35 Duty of care letters from professionals
7.36 Occupation certificate
7.37 Monthly progress certificates
7.38 Practical/final completion certificate
7.39 Electrical compliance certificate
7.40 Approved sectional title plans
7.41 Pre-sales
7.42 Pre-letting
7.43 Section 82 certificate issued in Gauteng – on successful completion
7.44 Cash flow problems
7.45 Removal of restrictive conditions
7.46 Sub-division
7.47 Valuations
7.48 Leases
7.49 Loan agreement requirements

8 PROGRESS PAYMENT MANAGEMENT

8.1 The bank project manager’s duties
8.2 Managing payment of loans on developments

9 CONCLUSION

Review questions for Chapter 15

References

INDEX