How to avoid real estate projects that fail

That real estate has grown rapidly in the past decade is obvious.

In fact, the sector has become the country’s fifth largest contributor to the gross domestic product (GDP), with its contribution growing from 4.8 per cent in 2010 to 8.4 per cent in 2016.

This is higher than that of larger markets like the US and China, where the sector contributed 6 per cent and 6.5 per cent respectively to the GDP in 2016, according to Kenya National Bureau of Statistics (KNBS).

The growth of real estate has been fuelled by infrastructural developments that have opened up new areas, especially around Nairobi. A 2017 economic survey by the KNBS says that the value of annual building approvals rose from 135.1 billion in 2012 to 308.4 billion in 2016.

This has led to a glut of both commercial and residential space, leaving investors stuck with projects. Investors in commercial developments, in particular, are recording lower profits than anticipated as a result of reduced occupancy and low uptake of spaces, with tenants spoilt for choice unwilling to commit for long periods.

A report released by Cytonn Investments on December 24, 2017, says there was an oversupply of 3.2 million square feet of commercial office space in 2016.

Yet despite this glut, more residential and commercial buildings keep coming up all around the country, especially in major urban and growing towns opened up by the advent of devolution, and an urbanisation rate of 4.4 per cent.

Developers in the major urban areas, and especially in Nairobi, are at a loss as to what to do with property for which there are no takers.

But just how did the sector get to this point? Dr Ojiambo Oundo, the director of Roack Consult Ltd, blames the woes bedevilling the investors on their failure to conduct studies to establish whether there was a market for their products.

He says an investor should carry out such a study and if the results are not promising or indicate minimal benefits, they should abandon the project and think of something else if they are serious, or risk being saddled with property that will take long to sell or rent.

“Failure to sell is a symptom that there was no feasibility study to identify the market. An investor must first identify a market and to so this, they must conduct a study,” says Dr Oundo.

“It is the most important factor before committing to any development. Once you have conducted a study and are sure there is a market, you can go ahead with your development”.

He adds that a market study reveals three critical factors: the location of the project, the catchment population, and the income of the project’s likely takers.

He points out that the factors to consider in regard to location should be where people go to work and the nearby social amenities, and not necessarily as a factor of distance but of accessibility.

He adds that the demographic profile of the catchment population determines the likely takers, which in turn inform the financial package to be fashioned by the investor to accommodate the target buyers.

Mr Simon Ng’ang’a, a property consultant and the managing director of Granite Capital Kenya Ltd concurs, noting that there has been a shift in the market, such that those who expected apartments to cost them between Sh15 million and Sh20 million can get them considerably cheaper, leaving developers asking for higher prices stuck with unoccupied buildings.

“It makes no sense for anyone to get into a commercial or residential development without a feasibility study. It is what informs you in terms of the kind of market you have,” says Mr Ng’ang’a.

He says that the study reveals the type of likely buyers, adding that an investor should design a building with the clients in mind.

This includes factors such as ensuring accessibility to the property from the street, providing adequate parking space and emergency systems for the clients’ convenience.

“For example, it would make no sense to build a mall in a place like Ongata Rongai if I’m looking for a business that, ideally, should be located in the city centre.

Nobody will rent from me as the tenant will ask, ‘How accessible is this place to my client?’ It is no longer just about putting up a building; such factors come into play,” he says.

Mr Ng’ang’a adds that location is also a major factor in relation to the size of the target market, saying that buyers who have many clients, for instance, would want their office space located where there is a high concentration of their target market.

He notes that in this regard, commercial development is more sensitive than residential – where people are willing to commute as long as they feel a sense of ownership – because convenience plays an important part in commercial development.

“If I am going to live in Kitengela in a house I can afford, I am willing to wake up at 4am to go to work. It also makes a lot of sense to put up a commercial building in a place like Thika rather than in a place like Olepolos,” he says. “The only time you are likely to get a client for a business that is in a far away location is when dealing with an IT firm, whose clients who are not static.”

Dr Oundo notes that a market study helps you decide on the pricing and financial viability of a project with regard to the capital invested in relation to the projected receipts from sales or rental income and the likelihood of attaining the returns.

Meanwhile, Mr Ng’ang’a says an investor must competitively price his/her her property in order to attract more clients but explains that the price is determined by the construction costs. To reduce the overall cost, he says, investors can buy land when it is cheap and use advanced, cost-effective technologies.

“Pricing is important. Can the clients afford it? It must be competitively priced to make sense for the one buying it,” he points out.

He adds that the cost of land affects pricing so if the land is costly, then the investor’s only option for lowering costs is in the materials he/she uses to make the investment affordable, which should be equivalent to the rent one would pay for a house in the same neighbourhood through mortgage.

“The cost is fixed. It determines the type of housing you can construct because if the land is expensive, then you have to recover that cost, which will be included in the cost of the house,” he says.

The property consultant says that technical aspects like design, which should be captured in the market study, play a huge role, especially for middle- and upper-income clients, pointing out that most buildings in Kilimani, Hurlingham and Westlands attract many clients because people look for convenient designs — whether the building has an elevator and how green it is — to reduce their own expenses.

“Investors used to just construct buildings and that was it, but all of a sudden potential clients are looking at buildings that are energy-efficient and have a good eco system; that is why upscale areas are becoming more popular with buyers as they have eco-friendly buildings that reduce operation expenses,” Mr Ng’ang’a offers.

Dr Oundo agrees, adding that the study will also inform the technical aspects of the design of the development, such as whether it should be a bungalow, a maisonette or a block of flats, plus the facilities to be provided.

“The study will tell you what the market wants with regard to the design,” he says, noting that timing is the next most important factor to ensure fast sales of both residential and commercial developments.

He notes that commercial developments, unlike residential developments, are dependent on the economy of the country, adding that ideal time to deliver a commercial property to the market is when the economy is doing well since commercial spaces are taken by business people who do not start a business unless there is an opportunity for growth in the economy.

In addition, he says the investor must balance between supply and demand and project what the demand and supply will be like at the time the construction is completed.