Tag: land value

• How much is development land worth?

  

  As we have talked about many times before, the best answer to this question is that it’s worth whatever money is left in your pro forma once you’ve accounted for everything else. This is what is called the “residual claimant” in a development model. And it means you start with your revenue, you deduct all project costs, including whatever profit you and your investors need to make in order to take on the risk of the development, and then whatever is left can go to pay for the land.

  This is the most prudent way to value development land; but of course, in practice, it doesn’t always work this way. In a bull market, the correct answer to my question might be, “whatever most market participants are willing to pay.” And sometimes/oftentimes, this number will be greater than what your model is telling you, meaning you’ll need to be more aggressive on your assumptions if you too want to participate. (Not development advice.)

  Given that determining the value of land starts with revenue, one way to do a very crude gut check is to look at the relationship between land cost and revenue. This is sometimes called a land-to-revenue ratio. And historically, for new condominiums in Toronto, you wanted a ratio that was no greater than 10%. Meaning, if the most you could sell condominiums for was $1,000 psf, then the most you could afford to pay for land was $100 per buildable square foot.

  However, this is, again, a very crude rule of thumb. I would say that it’s only really interesting to look at this after the fact. Because in reality, things never work this cleanly. For one thing, there is always a cost floor. Don’t, for example, think you can buy land in Toronto for $80 pbsf and sell condominiums for $800 psf, because this will not be enough to cover all of your costs. You will lose money.

  Secondly, there are countless variables that have a huge impact on the value of development land. Things like a high required parking ratio, development charges and other city fees, inclusionary zoning, and so on. All of these items are real costs in a development model, and so they will need to be paid for somehow.

  Typically this happens by way of higher revenues (in a rising market), a lower land cost (in a sinking market), or some combination of the two. But in all of these cases, it means your land-to-revenue ratio must come down to maintain project feasibility. This is why suburban development sites typically have a lower ratio — too much loss-leading parking, among other things.

  Of course, there are also instances where the correct answer could be a land-to-revenue ratio approaching zero, or even a negative number. In this latter case, it means your projected revenues aren’t enough to cover all of your other costs, excluding land. For anyone to build, they will require some form of subsidy. And this is basically the case with every affordable housing project. They don’t pencil on their own. (For a concrete example of this, look to the US and their Low-Income Housing Tax Credits.)

  So once again, the moral of this story is that the best way to think about the value of development land is to think of it as “whatever money is left in the pro forma once you’ve accounted for everything else.” Because sometimes there will be money there, and sometimes there won’t be.

  Photo by Jannes Glas on Unsplash

  2024.10.13

• Land and improvements

  

  At a high level there are two components to the value of a house. There’s the value of the land and there’s the value of all the improvements. That is, the bricks, wood, and other stuff that form the actual house. When a media outlet runs a sensational headline about some shack in Toronto selling for, oh I don’t know, a million dollars, what it actually means is that the land in this particular area was just valued by somebody at this number. In fact, if the property is very clearly a “knock down” the improvements sitting on the land become a liability/cost rather than anything of value. Because whoever buys the land will almost certainly need to remove the improvements before they can build whatever it is they want to build.

  This distinction between land and improvements is a valuable one for many reasons. Here’s one example. In cases where the improvements aren’t some shack, you may be faced with a scenario where a property can be valued in two different ways. You can value it based on the development potential of the underlying land or you can value it based on the income (either in-place or potential) that the improvements are generating, or could be generating with some hard work on your part. If the development value is greater than the value of the improvements, then there will be pressure to redevelop. Conversely, if the opposite is true, it is likely that not much will happen other than maybe capital expenditures applied to the existing building(s).

  Of course, you could also run into a scenario where there’s little development potential and there’s zero ability to invest in the existing improvements, either because the market rents are too low in the area or because they’re capped and/or controlled in some way. In this scenario, it’s likely that not much will happen other than the normal and expected depreciation of the improvements. Maybe one day the development/investment math will work. But in the interim, you probably won’t be seeing any of those sensational media headlines.

  Photo by Andre Gaulin on Unsplash

  2020.09.12

• The value of Champagne

  

  Westmount Gaurantee hosted a Champagne tasting event for its clients this evening. Obviously it took place over Zoom. It was a great event and I learned a few things about Champagne. As most of you will know, sparkling wine cannot be called Champagne unless it’s from Champagne, France — a region that, as of 2008, included about 76,000 acres of vineyards and 319 villages. But as I started thinking about this acreage, the developer in me couldn’t help but wonder: “How was the boundary for the Champagne region established? Is it based on unique soil conditions that can’t be found anywhere else in France and the world, or is this a way to artificially control the supply of Champagne and fix prices?”

  As you might imagine, the answer is complicated. (See the Champagne Riots of 1910-1911.) The viticultural boundaries of Champagne were legally defined in 1927. And the entire area is compromised of five wine-producing districts. But there have been revisions to this boundary. In 2008, the production zone was increased from 319 communes to 357. (I’m sure this was highly controversial.) And since the value of land is dependent on what you can do with it, this would have had a dramatic and overnight impact on land values. Yesterday you couldn’t apply a Champagne label, but today you can. According to this article from 2008, we are talking €5,000 a hectare to €1 million per hectare because of a simple boundary change. That is the value of “Champagne.”

  Photo by Lomig on Unsplash

  2020.06.25

• A question of land value

  

  Let’s say that we have a piece of development land worth $100. That is the market value of the land based on its highest and best use at this particular point in time. Now let’s assume that the land was just encumbered with a new burden: inclusionary zoning. All of a sudden there is now a requirement to make available X% of any residential units built at 50% of average market rents for the area.

  Technically, the land is now worth less than $100. And there is a school of thought out there that, in instances like this one, the price of all land should automatically reset downward to offset and account for the inclusionary zoning burden. But as I have argued before on the blog, land prices tend to be fairly sticky, unless the owner is distressed and really needs to sell.

  So what can often happen is that the land owner will stubbornly cling to the original $100 number. The thinking being, “I was once told that my land is worth $100 and so that’s the minimum price I’m willing to accept.” In this scenario, you may need a broad increase in rents in order for a transaction to occur. This way the market rate units might be able to fully subsidize these new affordable units, preserving any margins and justifying the original $100 number.

  Of course, the impact of inclusionary zoning is a hotly debated topic and there are a number of variables to consider. And so I will leave it at that for today. The real purpose of this post is to consider another permutation. Let’s once again say that we have a piece of development land worth $100. But instead of being owned by 13 siblings — and 3 cousins that live abroad and can’t be reached other than by fax — it’s owned by the government.

  In this case, the government wants to sell the land and is considering two options. It can either (1) sell it for $100 and maximize immediate taxpayer revenue or (2) it can sell it for $80 with the condition that the buyer agree to deliver X% of affordable units (and a bunch of other goodies and positive externalities). I would also add that this fictitious town is experiencing what some might call a housing crisis.

  If you were a private sector actor, you would probably choose option 1. You would take the additional $20 and retire to Florida (I’m off by a few zeros). But this is the government we’re talking about and presumably the government is thinking about the broader public good. Which option do you think is better at maximizing that?

  2020.05.08

• Sidewalk Toronto advances to the next phase

  In June of this year, Sidewalk Labs released its draft Master Innovation and Development Plan (MIDP) for Toronto’s eastern waterfront. I wrote about it here. It was a draft document that was subject to further discussion and refinement, with October 31, 2019 being an important deadline for a lot of that to happen.

  Some of the critical issues included project scope (just Quayside?), the possibility of a Waterfront LRT (needs to happen), data governance (who owns and manages the data that will be generated by this new smart city?) and, of course, land value. How much is Quayside worth?

  A number of these key issues have now been “realigned,” including the land value piece. Waterfront Toronto and Sidewalks Labs have agreed on a fair market value of $590 million (before accounting for any investments that will be required in order to achieve Waterfront Toronto’s goals).

  For a summary of the critical issues and what has been agreed to, click here. With these items now firmed up, Waterfront Toronto’s board voted unanimously to proceed to the next phase. The next critical date is March 31, 2020, which is when the project will seek final approval. Mark your calendars.

  2019.10.31

• Thoughts on land-value taxation

  Yesterday I wrote about a new book that was just released called The Next Urban Renaissance. 

  The first essay in the book, written by Ingrid Gould Ellen of New York University, is centered around three ideas to help cities deal with the affordable housing problem. This is something that successful cities all around the world are grappling with.

  The first idea is land-value taxation, which is also known as a “split-rate” tax. I’ve touched on land-value taxation before on ATC, but I never really dug into it. So this was a good reminder to do that.

  The idea behind land-value taxation is to split property taxes into a land tax and an improvements tax (i.e. the building), and then shift more of the burden over to the land side. Economists tend to really like this model because taxing buildings/improvements can discourage property investment and development, whereas taxing land doesn’t impact supply. The supply of land is fixed.

  So in the context of affordable housing, land-value taxation is thought to be a way to encourage more development and to increase the supply of new housing – which is usually a good way to keep home prices in check.

  Here’s how Ingrid Gould Ellen described it:

  …a land tax would discourage speculators from hoarding
  undeveloped land and incentivize them to develop their parcels to the
  full extent allowable. Regardless of whether a parcel sits vacant, houses a
  partially occupied, one-story retail strip, or holds a 30-story apartment
  tower, the annual tax bill would be the same. By switching to a land tax,
  a city could therefore increase the supply of housing and, by doing so,
  reduce prices across the board.

  But I can’t help but wonder if this isn’t more applicable to cities or areas that are currently struggling to encourage development. For instance, would boom town Toronto really benefit (in terms of affordable housing) from a tax change that ends up encouraging more high-rise development?

  It also strikes me as being exceptionally difficult to implement, particularly in city like Toronto that is growing and changing so quickly. Is it reasonable to ask the owner of a small downtown parking lot to being paying property taxes as if a 90 storey supertall had been built on top of it? Because that is the reality in some parts of this city.

  And if we opted to phase in this new land tax, would it then become a game of arbitrage where developers look for properties with the lowest land taxes but the highest achievable densities?

  Finally, I wonder if it wouldn’t exacerbate some of the problems that already exist in rapidly growing cities, one of which is the preservation of smaller heritage buildings in centrally located neighborhoods:

  In the case of a split-rate tax,
  the losers will be owners of parcels with high land-to-building value
  ratios, or owners of small buildings on valuable, centrally located parcels,
  who will likely see an increase in their tax bills after the switch to
  a split-rate tax.

  Land-value taxation is something that I’ve been thinking about for a number of months now. But I am struggling to come up with a decisive position. If you have any thoughts on this, it would be great to hear from you in the comments.

  2015.10.13

• Stuck in condoland?

  Toronto Life recently published an interesting article called Stuck in Condoland. A lot of people have mentioned it to me, so there seems to be a lot of interest in the topic. It basically profiles the lives of a few young families who live downtown and are trying to raise young children in relatively small condos (think 700 square feet).

  I thought it was interesting because I like the idea of small and efficient living. The average post-war bungalow in Toronto was probably less than 1,000 square feet. And so this modern notion that you need a big house in order to properly raise a family is a relatively recent phenomenon. Although we’re a richer city today and that’s what happens when people become wealthier: they consume more.

  But the article also makes it seem that developers only want to build small condos and that larger condos and single-family homes just aren’t profitable enough. Thus the reason all these families are being forced to into tiny shoeboxes in the sky. But that’s not really true.

  Look, just like every other for-profit business on the planet, developers are concerned with making money. And so they will always look for ways to increase efficiency, drive down costs, and so on. But there are certain realities of the market that developers don’t have control over.

  First, developers aren’t building new single family homes in the city (at any sort of meaningful scale) because there’s no land to do so. And because the land use policies in place and the current thinking around how we can more sustainably build our cities for the future dictate that we should be building more intensely. In other words, building up. So it’s not a question of developers not wanting to build single family homes; it’s a question of not being able to.

  Second, trust me when I say that if the market wanted large 3 bedroom family units, developers would build them. Mandating them is a useless exercise if people don’t want them or are unable to afford them.

  The challenge we face is that a reinforced concrete condo tower is more expensive to build than a wood-framed single family house. So until land values get to a point where single family homes become the more expensive option (compared to condos), I don’t think we’ll see a huge rush towards 3+ bedroom suites.

  This is my hypothesis at least. Because when you buy house, you’re really buying two things: the house itself and the land. If the house itself (wood) is cheaper to build on a per square foot basis than a condo (concrete), then the variable that will make a difference is the land. And as people like to say: “buy land, they ain’t making any more of it.”

  So what I’m saying is that I just don’t think the situation is as simple as: “developers are bad, all they want to do is build tiny condos and make lots of money.” It’s more complicated than that. But I do believe the question of how families are going to live in the city is an important one.

  2014.06.21