Simon Cox, managing director of Walter Cooper, explains how the viability crisis needs to be addressed for there to be any chance of boosting housing delivery.
The debate around housing delivery in the South East often centres on planning reform, land supply and developer behaviour, yet there is a more fundamental issue that is increasingly being overlooked: viability.
For all the discussion about housing targets and accelerating delivery, the reality is that large parts of London, the South East and indeed much of the country are facing a genuine viability crisis. If we want to understand why housing starts are slowing, why developers are becoming more selective, and why institutional investors are looking elsewhere, we need to confront the economics of development head on.
Most residential development appraisals are built around a target developer profit of around 20%. This figure is frequently criticised as excessive, but it is important to recognise what it represents. Residential development is a high-risk business. Developers commit significant capital years before a scheme generates any income. They carry planning risk, construction risk, sales risk, financing risk and, increasingly, regulatory risk.
A 20% margin may sound attractive when viewed in isolation, but it reflects the level of return required to justify those risks. Without the prospect of an acceptable return, capital simply flows elsewhere.
The challenge today is that, for many schemes, that margin is becoming increasingly difficult to achieve.
Build cost inflation over recent years has been substantial. Depending on the location and type of scheme, many in the industry would estimate that construction costs have risen by between 30% and 50% compared with pre-pandemic levels. At the same time, the sales market has weakened. Households continue to feel the effects of inflation, mortgage affordability remains stretched, and buyers are understandably cautious.
This creates pressure at both ends of the development process. Costs are rising while revenues are under strain. Schemes take longer to sell, which in turn increases finance costs and delays the return of invested capital. Every month a development remains unsold adds further pressure to already squeezed margins.
It is therefore no surprise that some of the country’s largest housebuilders have recently raised concerns about viability. Nor is it surprising that institutional investors, pension funds and other sources of capital are becoming increasingly selective about where they place their money. Residential development is competing for investment against other property sectors and entirely different industries.
This matters because housing delivery depends on investment. Developers cannot build homes without access to finance. Publicly listed companies must generate returns for shareholders. Private developers must satisfy lenders and investors. Profit, ultimately, is the mechanism that attracts the capital required to deliver new housing in the first place.
It is important to be clear that many recent requirements have been introduced for understandable and often laudable reasons. Building safety improvements, biodiversity net gain, affordable housing obligations, flood mitigation measures, future home standards, Section 106 contributions and the Community Infrastructure Levy all serve legitimate public policy objectives.
The issue is not usually any single requirement on its own, but the cumulative burden created when all these obligations are layered onto a scheme.
Each additional obligation adds costs to development. Across many schemes, industry professionals estimate that the cumulative burden of regulatory and planning requirements can add tens of thousands of pounds per plot. In some cases, the additional cost can be considerably higher. At a time when build costs have already increased sharply and market conditions remain challenging, these obligations are having a profound impact on viability.
The uncomfortable reality is that every stakeholder in the development process is seeking a greater share of the value created by new housing. Local authorities require infrastructure contributions, affordable housing requirements remain significant, and environmental standards continue to rise. Utility providers, contractors and consultants all face increasing costs. Yet when viability is tested, it is often assumed that the developer can simply absorb the difference, and, in many cases, that assumption is no longer valid.
If policymakers are serious about increasing housing delivery, then viability must become a central part of the conversation. We cannot continue to demand more homes while simultaneously increasing the costs and obligations associated with delivering them.
The choice is not between development and higher standards – the challenge is finding a balance that allows both to be achieved. If we fail to do so, fewer schemes will come forward, fewer homes will be built and the housing shortage will become even more acute.
The housing crisis is rightly receiving renewed political attention, but unless we address the viability crisis sitting beneath it, ambitions for increased delivery will remain just that: ambitions. Homes are not built by policy alone – they are built when development is viable, investment is available and risk is rewarded appropriately.
