UK Development – Autumn 2019 Disruption in SPOTLIGHT Savills Research development

The impact of political, fi nancial and environmental disruption on the development industry

Savills_Dev_p01-08_cover.indd 2 04/10/2019 11:31 Disruption in development Disruption in development

Talk about disruption and people typically think of a new product or manufacturing method that transforms an industry. Housebuilding appears ripe for such change. There have been repeated calls for the industry to diversify to meet housing demand. With government and private investment in modern methods of construction, housebuilding appears to be on the verge of a tech-driven revolution. However, focusing solely on technology would be to miss the wider financial, political and social changes that will shape demand for housing. In this low interest rate global environment, institutional investors are after steady income streams. Residential will be an attractive asset, particularly if it can provide a long-term, index- linked income, such as affordable housing. For this to happen, developers must understand the priorities of large investors and adjust their product accordingly. Politically, there are increasingly interventionist policy debates around how to meet the UK’s housing needs. Coming to the fore are the issues of land value capture and the provision of social housing. Both could have a big impact on financial models, putting pressure on developer margins and land value. Finally, the development industry can’t ignore the challenges posed by environmental change. Meeting carbon emission goals will require radical change in how we plan and deliver housing. This report investigates how these forces will interact, and identifies the methods Ready-made developers can adopt to deliver resilient and sustainable revolution housing in an ever-more unpredictable market. Political, financial and environmental

Patrick Eve forces are collectively disrupting the Head of Regional future of housing delivery. Could modular Development, 01865 269 071 methods of construction be the next big [email protected] leap in mitigating these influences?

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Savills_Dev_p02-3_intro v2.indd 2 04/10/2019 14:13 Savills_Dev_p02-3_intro v2.indd 3 04/10/2019 11:32 Technological disruption Technological disruption

About 10% of new build homes are delivered using MMC, equating to around 20,000 homes each year. We estimate that capacity is up to 27,000 homes a year

Most houses are still built utilising the MMC is well makes it possible to create a database that most banks have a cap of around 10% of stock same materials and techniques that have placed for fast would store and track all data about the built being built using MMC. This isn’t yet a major been used for at least a century. There is a delivery, ease of environment. This will allow the full lifecycle barrier as so few MMC homes have been built: perception among policymakers that this management and costing and management of homes to be only 14% of housing associations build more needs to change, and there have been several consistency of undertaken with much-increased accuracy than 25% of their new homes using MMC. But initiatives to boost the adoption of Modern product – especially important for institutions and 50% expect to be doing so in five years’ time. Methods of Construction (MMC). But the housing associations that will be owning industry has remained largely resistant. and managing properties for the long term When will the balance tip? Perhaps that is because these traditional in relation to their returns and valuations. At present, only about 10% of new build homes have primarily been built for sale to This is of huge value to investors in Build homes are delivered using some form of MMC, individual owner-occupiers or small-scale to Rent and housing associations, who are equating to around 20,000 homes each year. landlords. If that were to change towards looking for greater consistency of product, We currently estimate that manufacturing a greater share of new homes being built lower and more predictable operating costs, capacity is between 25,000 and 27,000 homes for institutional owners, then the spotlight and ease of management. a year. And it’s growing; Savills has identified would switch to consistency of product, more than 75 companies seeking to use MMC ease of management and fast delivery, Why not build modular? to deliver housing at volume. as well as longer-term savings through The most obvious deterrent to offsite There are new entrants to the housebuilding energy efficiencies – things that MMC construction is that it costs on average 10% sector, including Goldman Sachs, which is well placed to deliver. more than building in the traditional method. invested £75 million in TopHat, a modular Increased regulation is also likely to Incurring this cost is unlikely to result in manufacturer, and Boklok, which already focus on energy efficiency and a push for higher sales values to individual buyers. has a successful track record in Scandinavia. more sustainable construction techniques. Many remember the post-Second World War Japan’s largest housebuilder, Sekisui House, prefabs, highlighted by a YouGov poll for signed a £90 million deal with Urban Splash Cross-party support Home Group that found 52% of respondents and Homes England to enter the UK market. The Communities & Local Government would be unlikely to want to live in a modular Traditional housebuilders are also select committee report on MMC, published home. This perception is being countered changing their approach. Berkeley Group set in 2019, showed that there is strong cross- by a range of accreditations, assurances and up its own modular factory in Kent in 2018; party support for a paradigm shift in how we warranties set up to thoroughly test the Barratt delivered 20% of its completions in deliver housing, and made the case for wider manufacturing quality of MMCs. 2019 using MMC, and aims to reach 25% adoption of MMC. As long ago as 2005, In contrast to traditional contract terms by 2025. Timber-framed housing accounted a National Audit Office report suggested that where payment is due after products arrive on for 45% of all its MMC completions in 2018 using MMC for housebuilding could cut site, MMC requires advanced payment, prior and roof cassettes a further 37%. on-site construction time by more than half. to the fabrication of offsite components. This Housing associations are looking for ways Homes England uses adoption of MMC increases not only manufacturer insolvency to increase delivery beyond the capacity of as a key scoring criteria for the sale of risk and the delivery of components but also the traditional construction sector. Swan public land. This has already been seen at the cash-flow burden for developers. set up its own modular factory in Basildon to Northstowe, Cambridgeshire, where Urban For institutional investors and housing deliver homes at its Beechwood development. Splash, which will build homes using MMC, associations, there may be advantages if Places for People struck a £100 million deal was selected as delivery partner ahead of the additional cost of construction results with ilke Homes to deliver a total of 750 new a number of well-known housebuilders. in lower ongoing maintenance costs. But homes across multiple sites. The Greater London Authority (GLA) housing associations often have a limit on The signs are that outlooks are changing. published Designed, Sealed, Delivered in the proportion of their loan security that We could be on the cusp of a revolution 2017, which called for the use of offsite can be of non-traditional build. Currently, in how we deliver housing. construction to meet the capital’s housing needs. Mayor Sadiq Khan has since launched Prism, a free web-based tool that aims to accelerate the design process for precision- Some 50% of housing associations expect to be manufactured housing in London. It Piece using MMC to build new homes in five years’ time combines London’s spatial planning rules with data from manufacturers to quickly test a site’s suitability for MMC. by piece Long-term thinking To fully realise the potential of MMC requires If MMC is to replace traditional housebuilding, a change of mindset from housebuilders

attitudes towards the new technology need to O’Rourke Laing Image: and a widespread adoption of Design for Manufacture and Assembly (DfMA). change – from banks, buyers and housebuilders This aims to simplify design and increase the efficiency of constructing houses. Full adoption and integration of digital technology into housebuilding, for example using Building Information Modelling (BIM),

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Provision of affordable housing was cited as the second-highest priority for voters in 2018

This could be offset by shorter building SOCIAL programmes, as build out would not be AWARENESS limited by sales rates. Shortening the time on Alongside the desire for House site, and earlier cash receipts for developers, increased delivery of could result in access to cheaper finance. new homes, is growing demand for homes that Fair shares meet specific social Linked to the debate on increasing delivery needs. With increasingly rules has been the emergence of land-value capture stretched housing All political parties will have to adopt increasingly as a prominent issue around solving the affordability, the need innovative solutions to tackle the housing shortage housing crisis. There have been calls across for more affordable the political spectrum for more attention housing, particularly and address the issue of land value to be paid to increasing land-value capture social rent, is chronic. within the development process. MHCLG’s 2018 figures The Letwin Review called for local showed more than 1.1m authorities to use developer contributions households on local via Section 106 agreements to effectively cap authority waiting lists residual land value at 10 times existing use and 83,700 in temporary Ongoing political turbulence has been In contrast, Labour’s Housing for the Many value on greenfield land. Proposals in the June accommodation. With causing short-term disruption to the housing policy document tackled the provision of 2019 Land for the Many report commissioned 47,000 new affordable market, but it is longer-term ideological affordable housing, particularly homes for by Labour included a Land Value Tax as homes built in 2017/18, shifts that will shape housebuilding over social rent. Their proposals include greater ‘a means for recovering the unearned meeting this need would the next five to 10 years. We anticipate that transparency in viability assessments and windfalls from collective development for the require a disruptive step pressure to build more quickly and meet a increasing the existing powers of local state and wider community’, and reforms change in the delivery growing range of needs will shape government government to include clawback mechanisms to compulsory purchase to enable the state to of social housing. policy towards the development industry. in Section 106 agreements. purchase land at existing use value, enabling Demographic shifts Housing has become increasingly politically more of the uplift generated by development will likely result in further important in recent years. The 2018 Kantar Reduced profits and values to be captured by the public purse. policy intervention to Public Opinion Monitor ranked provision Either way, it appears likely that if housing At the end of 2018, the House of deliver more varied of affordable housing as the second-highest supply does not continue to rise beyond the Commons Housing, Communities and housing. For example, priority for voters, with only investment in current annual level of 222,000 homes per Local Government Select Committee called the All-Party healthcare scoring higher. Within housing year, government may need to intervene for a significant proportion of the uplift Parliamentary Group policy, the survey revealed three key areas further in the planning system to force in land values after planning permission on Housing and Care for the public think the government should a greater diversity of product, which should to be available to the state to invest in Older People recently prioritise: increasing the overall supply of result in higher market absorption. new infrastructure and public services. published a report affordable housing, tackling homelessness, This would have two main consequences Transport for London has gone a step further, predicting there will be and increasing the amount of social housing. for the development industry. First, it would commissioning research in 2017 into the an additional 1.5 million This shift in attitudes is now inevitably accelerate the trend outlined in the finance effectiveness of a variety of mechanisms to people over 65 in the feeding into new policy debates. article (see page 8) of the end customer capture land value uplift generated by public private rented sector shifting from individual homeowners buying investment in infrastructure. We could in 20 years’ time. On Political differences open market sale homes to institutional see the public sector adopting a master- average, pensioner While they approach the issue from different investors and registered providers seeking planning and developer role, anticipating a households have perspectives, both of the traditional main bulk purchases of rental homes. proportional share in the eventual profits. a median net income political parties believe there needs to be The second impact would be a reduction Although none of these proposals have before housing costs of a greater diversity of homes built to increase in scheme gross development value, as become mainstream policy, it is likely that £344 per week. This absorption levels, and have mooted changes increased levels of either rental or affordable the question of how land value uplift should means that the median to the planning system to ensure delivery. homes would generate lower values than be captured and shared will continue to be a private rented property The Conservatives remain focused on open market sale properties. This would contentious topic, with repercussions for the would cost almost 46% of supporting home ownership, an attitude feed through into either squeezed developer development industry should mechanisms the median pensioner’s reinforced by Esther McVey, the latest margins, or lower residual land values. for more land value capture be introduced. income nationally: well Housing Minster, but acknowledge the above the widely used need for a more diverse product. The final affordability benchmarks recommendations of the 2018 Letwin of 30 to 40%. For Review included proposals requiring sites low-income pensioners, of more than 1,500 units to offer a range of Government may need to intervene in the planning private renting would be tenures, including private rental stock and system to force a greater diversity of product simply unaffordable in more affordable tenures. It also included areas with higher rents. Groundbreaking incentives to diversify such sites by making As recognition of these solutions are issues increases, we can future government support conditional needed from all upon developers accepting a Section 106 sides to solve the expect policy responses agreement, which conformed with the new housing crisis to become more urgent planning policy for those sites. and disruptive.

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From 1997 to 2018, average wages in the UK grew 71%. House prices increased by

71% 242% 242% in the same period

Help to Buy to take their first step on to the ladder. However, this support may not be around much longer. Balancing From April 2021, Help to Buy will face restrictions, limiting the scheme to first-time buyers and imposing lower property value caps in regions outside London. Our analysis of Help to Buy loans granted in the year to the books June 2018 suggests that 17,000 sales, 34% In a world of slowing sales and house price of the total, would have been prevented by these restrictions. Housebuilders may be inflation, housebuilders need to consider new able to mitigate these impacts by building sources to finance future developments more modest, lower-value homes that are more affordable for first-time buyers and fall under the new value caps. If individual households cannot afford new of new homes for Invesco and M&G to However, government has also announced build homes, housebuilders must look for operate for rent, but it also gives Telford it intends to end Help to Buy entirely in buyers who can. In our opinion, in 10 years, greater certainty. While Telford’s profit March 2023. Whether we see this delayed their customer lists will see pension funds margins have decreased, this deal means the or adjusted, Help to Buy cannot reasonably and life insurers alongside first-time buyers housebuilder can spend less time and cash support more than a third of all private new and second steppers. The specification and on marketing, sales costs, and development home sales forever. If individual households design of new homes must change to match, finance, while reducing its exposure to risk. cannot afford new homes, developers must as must the way housebuilders secure land. look to institutional investors as part of the Changing role of housebuilders solution to fill the gap in demand. The rise of institutional investors Build to Rent made up 7.1% of housing There is strong demand from institutional projects started in the year to Q1 2019. Shifting paradigm investors, such as pension funds, to invest As bulk sales to investors grow their share of Falling yields and interest rates have helped in homes for the rental market. The long- housing delivery, the role of the housebuilder support capital value growth across a range term, inflation-linked income from rental will change. Rather than shouldering the full of asset classes, not just housing. Now, with properties is a strong match for funds with burden of risk, housebuilders will act as master global gilt yields hovering around zero, similarly structured liabilities. These long- contractors, forging long-term partnerships the paradigm has shifted. House price term landlords have different requirements with landowners and investors. In the future, growth over the coming years will be slower from individual investors, however, which their profits may be smaller, but they will than we have seen previously, constrained will affect the design and specification they also be more resilient and sustainable. by affordability. Our last forecast for UK demand from the homes they buy. Discounted bulk sales to investors are a annual house price growth was 2.7% on Operating over long timescales with a relatively new phenomenon. Until recently, average over the next five years, compared relatively low cost of capital, these institutions housebuilders have had no need to accept with 6.5% over the past 10 years on average. are willing to pay extra for a more durable fit- a discount, with ample demand from This increases risks when buying land. out, as they save on their maintenance spend owner-occupiers fuelled by the availability Before, if a housebuilder paid too much for its in the long term. Reduction of management of mortgage finance. land, it could count on house price inflation costs is a key goal, so building homes with Falling interest rates and tightening to help bail it out. With house price growth high energy efficiency and to a consistent lenders’ margins have driven house price slowing, this safety net has fallen away. In design – perhaps using modular construction inflation far higher than wage growth. turn, this makes development debt riskier, – will help attract these investors. Between 1997 and 2018, average wages in pushing up finance costs and making it even the UK rose 71%. House prices grew 242% harder to sell new homes profitably. The value of a discount over the same period. The government may help sustain values As well as differences in specification, Now the stress tests introduced in the and support households buying new build for housebuilders must also consider the different Mortgage Market Review in 2014 are starting now. In the longer term, housebuilders will cash-flow profile when selling homes in to bite. Mortgage affordability is increasingly have to consider the institutions which have bulk to investors. Inevitably, these large-scale constrained and residential transactions have the money to buy their homes when securing investors will expect a bulk discount relative slowed. However, with government support, land and designing their product. to individual home buyers. However, by new home sales have continued to rise. securing funding for many tens or hundreds of homes in advance, housebuilders can cut The end of Help to Buy their costs on marketing, sales, procurement The Help to Buy equity loan has helped new By securing funding for 10s or 100s and finance. These cost savings, as well as home sales stand up while the rest of the of homes in advance, housebuilders the reduction in sales risk, mean accepting market slows. Housing delivery grew 90% Future profits for can cut their costs on marketing, a discount can often be worthwhile. from 134,000 in 2012/13, when the scheme housebuilders sales, procurement and finances In March 2019, Telford Homes announced was introduced, to 255,000 new homes in the may be smaller, a deal with Invesco and M&G which gives year to June 2019. The number of households but less exposed those investors first refusal on its new entering home ownership for the first to market cycles developments. That guarantees a pipeline time has increased, too, with 150,000 using

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Some 20% to 30% less energy is required to heat homes built using MMC compared with traditionally built new homes

FRESH OPPORTUNITIES Disruption in other Zeroing in sectors is presenting opportunities for residential development. The growth in online retail has resulted in on carbon significant volumes Climate change, sustainability, plus the future of the of vacant retail space. Savills estimates that high street and transport, will all affect how and the retail sector will be where we build residential developments in the future over-spaced by 35% in the next 10 years. [See Re:imagining Retail, Before the end of her tenure as prime milder, wetter winters and hotter summers, 2019]. This could be minister, Theresa May announced a along with an increase in the frequency and a chance to intensify or commitment for the UK to become carbon intensity of extremes. Sea levels are also repurpose to residential. neutral by 2050. Some local authorities have projected to rise across the UK, although the However, fragmented already declared more ambitious targets; impact will be varied. The greatest impact ownership remains a Bristol Council announced in November will be in the south, with London projected problem, particularly 2018 that the city aims to be carbon neutral to see sea level rises under a high emissions in areas of marginalised by 2030, which will be reflected in its new scenario of 0.5 to 1.15 metres by the end of the high street. The greatest local plan. Although there is little detail 21st century. The 2018 Climate Change Risk opportunities are around how this will be achieved, it could Assessment identifies flooding as the greatest likely to arise from require developers to adopt higher eco build environmental risk to the built environment, partnerships with local standards, deliver an increased level of encompassing risk from fluvial, coastal, authorities, using vacant onsite renewable energy generation and groundwater and surface water flooding. retail space as part offset the carbon emissions generated in of wider regeneration. the construction process. Assessing the risks Similarly, transport The impact could be to alter perceptions of disruption will create Catalysts for change where it is suitable to develop. More than new opportunities in This could prove to be a catalyst for more one in 10 of the new homes built in England designing residential widespread use of Modern Methods of in 2016-17 were in areas the Environment development. Car Construction (MMC). According to the Agency deems at risk of flooding. The Agency ownership levels are Parliamentary Housing Select Committee, projects that climate change and population declining, but analysis half the total waste produced in UK comes growth will cause the number of properties by the Organisation for from construction, with around 20% of built on flood plains to double over the Economic Cooperation construction materials wasted. But in offsite next 50 years, but this could be limited by and Development construction, factories can be optimised to greater restrictions on development. The shows that if we shift minimise material waste to below 1% of the Department for Environment, Food & Rural to using fleets of total. MMC can also help properties meet Affairs’ National Adaptation Programme shared autonomous carbon emission targets. Keepmoat Homes proposes that decisions on land use, including vehicles, the need for has reported that 20% to 30% less energy is development, should reflect current and on-street parking will required to heat MMC homes in comparison future levels of flood risk. be largely eliminated. with traditionally built new homes. An awareness of climate risk is already This will release city The carbon-neutral agenda could also influencing the commercial property sector. space for potential disrupt current thinking around where In July 2019, ratings agency Moody’s bought redevelopment. It also to locate future residential development. Four Twenty Seven, a firm that analyses poses a challenge for Transport was the largest emitting sector of physical climate change, and has assessed the developers, to design greenhouse gases in the UK in 2017, and 56% risk for more than 300 real estate investment garages that will serve of all transport emissions were from private trusts. A September 2019 report from the the existing short- car use. If the UK is aiming to be carbon UN-supported Principles for Responsible term need but can neutral, will local authorities be required Investment, predicts a real estate market be converted for new to give greater preference to densifying response by 2025 that will be forceful, abrupt purposes in the future. Flooding is urban centre sites, or consider releasing and disorderly. widely considered greenbelt land close to existing settlements As institutional investment becomes an as the greatest to minimise commute times? increasing part of the residential sector, the environmental In the longer term, environmental and resilience of new development will grow in risk to the built climate change will also affect how we plan importance, as investors seek to ensure their environment for new homes. The ONS 2018 Climate assets will perform, even during extreme Projections show an increased chance of weather events driven by climate change.

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Residential Research Emily Williams Richard Valentine-Selsey Lawrence Bowles Josh Rose-Nokes Chris Buckle Associate Director Associate Director Associate Director Associate Director Director 020 7016 3896 020 3320 8217 020 7299 3024 020 7409 5907 020 7016 3881 [email protected] richard.valentineselsey [email protected] josh.rosenokes [email protected] @savills.com @savills.com

Development and Planning Richard Rees Patrick Eve Mike Shaw David Jackson George Cardale Managing Director Head of Regional Head of National Strategic Head of Planning Head of Residential 020 7016 3726 Development Development 020 7420 6371 Development Sales [email protected] 01865 269 071 01223 347 201 [email protected] 01179 100 351 [email protected] [email protected] [email protected]

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