Early and late stage development viability reviews
Viability assessment is a means of determining whether a proposed development of a site is financially viable. It involves an assessment of whether the value to be generated by a proposed development will be more than the cost of developing it, giving the developer sufficient return on investment to justify the risk involved in development. Determining the viability of a scheme is by no means a straightforward process, but it is critical, since viability may influence the package of obligations to be secured by any s.106 obligation required in connection with the grant of planning permission. Where the initial financial viability appraisal (FVA) produced at the application stage shows that a scheme would not be viable if fully policy compliant, the local planning authority (LPA) may agree to waive or relax certain commitments prescribed by policy. Often this will not, however, be the end of the story. The LPA may insist that the final s.106 obligation includes provisions requiring ‘early stage’ and ‘late stage’ viability reappraisals, which may show that the proposed development is more viable than previously assessed and can therefore deliver more planning gain.
Early stage reviews in s.106 obligations are generally triggered on ‘substantial implementation’. This reflects a stage of development being reached, perhaps the casting of the first floor slab, within a period of time (e.g. 36 months from the grant of planning permission). If the development has not reached the required stage by the required date, then development viability will need to be reassessed. This generally focusses on whether the development can afford any more affordable housing, specifically whether: any of the market units can be converted to affordable units; or higher value affordable units (shared ownership) can be converted to a lower value social housing tenure.
When it comes to negotiating early stage review provisions, the key is for the developer to have contractor input on the build programme, which should be provided to the LPA. This way the parties are more likely to agree a realistic stage of construction and time period for triggering any early stage review. There is little value in the developer agreeing to a trigger that it knows it cannot beat, meaning an early stage review will be inevitable. The aim, of course, should be for construction to proceed as planned, so that an early stage review is avoided. If unforeseen circumstances delay construction, then the developer may be able to extend the 36 month date by relying on the force majeure events clause we discussed in Part 1 of this series.
Late stage reviews are generally triggered when a fixed percentage of market housing has been sold/occupied. The aim for the developer should be for the initial FVA approved at the application stage to be re-run, but this time using actual costs and revenue figures, rather than estimates. Some LPAs will seek to take a formula based approach, rather than a full re-run of the FVA, which often limits the late stage review to an assessment of construction costs only. This means stripping out all other cost classes, yet requiring all revenues (excluding affordable disposals) to be included. A formula based approach may achieve a fair result on smaller developments, but on more complicated builds and multi-phase projects, it is likely to have the effect of artificially suppressing costs, which means that the ‘surplus profit’ in the development is highly likely to be overstated. The only fair approach is to re-run the original FVA. Whilst it may take longer for this to be agreed than the application of a formula, it should lead to a more robust and accurate result. The LPA can of course reasonably insist that its own viability adviser reviews the new FVA at the developer’s cost.
Delays in agreeing the new FVA or agreeing the inputs into a formula should ideally be resolved by reference to a dispute resolution clause in the s.106 obligation. In this regard, the late stage review provisions should allow the developer to trigger dispute resolution after a fixed period. This is particularly important, because often s.106 obligations will provide that the outcome of the late stage review (usually the payment of an affordable housing contribution if there is ‘surplus profit’) must be paid before a fixed percentage of the market housing is occupied. The difference between the percentage that triggers the late stage review (say 70 per cent) and the percentage requiring payment of the contribution (say 85 per cent) may only be the difference of a handful of units on smaller schemes. Accordingly, providing the developer with the ability to have the FVA independently determined via dispute resolution is vital to ensuring that occupation of further market units is not prevented by delays whilst viability assessors wrangle over details”