Question 2

Hypothetical development to determine land acquisition

An investment fund has approached you with a pre-commitment to purchase a leased ‘factory outlet’ centre at an 11% yield provided the minimum gross building area is 5,000m2. You have identified a suitable showroom/warehouse-zoned site that will accommodate the new building, and with 85% building efficiency, it can house the following:

• 29 wholesale supplier tenants in gross lettable area (GLA) of 100m2 each at a rental rate of $500/m2 p.a. and outgoings recovery of $30/m2 p.a. (i.e. homemaker stores). Average tenant turnover is $700,000 p.a.

• two bulky goods tenants in GLA of 1,000m2 each at a rental rate of $250/m2 p.a. and outgoings recovery at $50/m2 p.a. (i.e. whitegoods suppliers). Average tenant turnover is $2,500,000 p.a.

The building is assumed to be 100% tenanted at opening with outgoings costing an ongoing $65/m2 p.a. of the total, or gross building area (GBA). The time frame for building is 18 months with the cost of construction being $1,250/m2 of GBA. Consultant fees are 10% of construction costs and council fees $5,000 for every 100m2 of GLA created.

Costs of construction funding (including consultant and council fees) will be 8.5% p.a. at a drawdown rate of 75% over the building timeframe.

Assume an acceptable profit margin (profit on costs) for the development is 25%, and that the land is 100% equity funded.

Note:

• The total land acquisition cost includes all legal and stamp duty charges.

• Building efficiency is based on GLA/GBA

• Show workings for all your calculations.

(a) Calculate the profit margin amount.

(b) Calculate project delivery costs (inclusive of construction funding).

(c) Calculate the land acquisition cost.

(d) Based on a comparison of the expected occupancy cost ratio (OCR) for the smaller and larger tenants, which tenants might have the greater scope for future rent increases?

Planning and building improvements

Following the site purchase, it is suggested that you lobby council to change the use. By reducing a number of the 100m2 tenancies, you can fit 30 discount fashion outlets of 30m2 each within the same space GLA. These rent for $1,000/m2 p.a. with outgoings recovery of $50/m2 p.a. However, to obtain approval by local council, you are required to spend a further $600/m2 on constructing each new 30m2 tenancy GLA in once-off building improvement costs (Note: Include for all other associated costs at the same rate as above e.g. consultants).

The same revenue and cost parameters as indicated in ‘Hypothetical development to determine land acquisition’ apply with these suggested tenancy alterations; however, your profit margin, which you calculated in ‘Hypothetical development to determine land acquisition’, now remains a fixed dollar amount.

(e) Calculate the revised net realisation.

(f) Calculate the revised project delivery cost (inclusive of construction funding).

(g) Calculate a prospective land acquisition cost.

Windfall gain (capital uplift)

After obtaining a revised council approval, a local shopping centre conglomerate protests to the government that your proposed fashion outlet use is unfair and that you have obtained a financial advantage (i.e. an immediate gain) by being permitted a change in use on land intended for other purposes.

(h) In analysing this case, discuss and justify how you would calculate the windfall gain. Calculate the windfall gain.