Defining what we mean by HBU is very important. Although it is useful to have a common understanding amongst professionals in the industry, the definition can be limiting in terms of realising a property’s full potential.
The Australian Property Institute (API) defines HBU as “The use of an asset that maximises its potential and that is physically possible, legally permissible and financially feasible”. However, as margins are squeezed through onerous legislation, global competition and volatile markets, we find that HBU can be insufficient to meet shareholder expectations. There are times when “Highest and Best” is simply not highest and best enough. When this occurs the decision maker can either move on or alternatively leverage off APP’s extensive experience to see what can be done.
In determining HBU, there are four commonly recognised tests that APP undertakes in the evaluation of the site.
Test 1 – Physically Possible
The first test is to determine what the site is physically capable of in terms of development potential. A site’s physical constraints can preclude several development options and therefore immediately shortlist the candidates for development. Soil type, typography, lot size/shape and location will readily determine what is possible as well as the surrounding context. In some cases, these may present as constraints which may appear to disqualify or limit the potential for certain uses. APP will investigate options for overcoming or mitigating these constraints and the associated costs.
APP has established a business from the management of thousands of development projects all over Australia. Often our clients push the envelope in regard to finding clever and innovative solutions to the many issues with which they are confronted. The chances are that if a problem has been encountered, we have been there before.
APP has also been involved in the development of many new ways to develop projects from innovative design solutions to new technologies and materials. Thinking outside the box enables us to collaborate with our clients and technical advisors and consultants to determine what is possible and how that may impact the project in terms of approvals, cost, revenue and risk.
Test 2 – Legally Permissible
The second test primarily relates to the existing planning controls, including zoning and local and/or state scheme provisions and legislation. This test typically relates to what is currently permissible, however should a rezoning process or scheme amendment be well underway, the site may be considered in the context of future planning controls. If the development can be physically built, and legislation allows it to be built, we can progress to the next test.
APP has a dedicated in-house planning team that work closely with our feasibility team to determine where planning approvals can be obtained, and strategies implemented to enable amendments to zoning and/or planning controls. Just because a concept is not permissible, doesn’t mean this can’t be changed and APP has done exactly that on countless projects in many sectors across Australia over the past 30 years, thereby adding significant value to our client’s property assets.
Test 3 – Financially Feasible
In determining financial feasibility further investigation will need to be undertaken to determine land use design options, assessment of the market for those uses, costs to develop, costs of capital and timeframes to complete to determine typical assessment metrics such as Net Present Value (NPV) or Internal Rate of Return (IRR).
Those options where results of the financial feasibility modelling meet required hurdle rates, can be considered financially feasible and the third test is completed. However, we now have a list of development options that have passed the first three tests but may not necessarily be considered like-for-like regarding risk.
APP’s in-house development feasibility team undertakes research, coordinates technical inputs and ultimately crunches the numbers. This team tailors the feasibility assessment in accordance with the stage of the project, from initial high-level indicative numbers to fully developed business cases, incorporating discounted cashflows that clients can take to their boards and financiers. APP’s team has extensive development experience which is critical to understanding project opportunities, constraints and risks.
To determine which option is the HBU for investment decision making purposes, one further test is required.
Test 4 – Maximising Potential
In determining which option is the HBU, risk must be considered and priced accordingly in the financial feasibility. A high return may simply reflect a significantly higher risk. Once such risk is priced and considered in the feasibility analysis, it may well become a less attractive option than the alternatives which generate a lower return on face value. By including risk in the assessment we can determine an appropriate ranking of the options to ultimately arrive at the HBU for the site.
APP’s team has a background in property development from feasibility all the way through to delivery and sales. This understanding gives us a strong appreciation for project risk, including development of mitigation strategies and how to price them accordingly. APP’s experience in writing and presenting robust business cases for public and private sector clients, often results in consideration of options that weren’t initially on the table.
Ultimately it is important to have a recognised definition for HBU as it is a commonly used industry term and important concept in investment decision making. However, APP has built a reputation in challenging the accepted parameters of Highest and Best Use to assist clients in pushing the boundaries to derive greater returns from their property assets.
Steve’s expertise covers master planning, property acquisition and divestment, business case development, feasibility analysis, project financing, syndication, joint venturing, due diligence, project implementation, development and repositioning, design management, construction delivery, sales and marketing for residential, industrial, commercial, education, health and hospitality / leisure projects. Contact Steve
Aidan’s background in Property Economics, and experience in due-diligence and value-enhancement, enables him to provide expert advice on the financial impact of potential risks and the long-term commercial viability of development. Contact Aidan