FEATURE ARTICLE, AUGUST 2006

THE SHIFTING TIDE OF LAND INVESTMENT
As the price of land rises, developers must get creative when acquiring land for a project.
Mark Feinberg

Land prices soared 11 percent to an average of $1,510 per acre from January 2004 to January 2005. That's the fastest annual increase since 1981 and the biggest on record in dollar terms, according to the U.S. Department of Agriculture (USDA).

The increase in land prices along with other land investment trends has been impacting and will continue to impact development and land investment for the foreseeable future. With interest rates going up and construction costs up there is hope (and I stress the word hope) that land prices will adjust downwards to accommodate for these rising costs. Other factors are also at play impacting the land market besides costs.

The velocity in which land is selling has also increased as buyers are buying and flipping land in some cases the next day or the same day, and not only in the hot markets of New York, California and Florida but it’s happening in other markets like Atlanta as well. Foreign Investors continue to enter the market and they realize that much of our future wealth is tied to our land and there are new courses springing up each day teaching foreign investors how to purchase land in the United States.

Some theorists feel even with rising costs land prices will continue to go up which will make investment even more difficult. For both groups higher costs mean less profit, less cost, more interest carry and greater taxes. One of the reasons many feel land prices won’t come in line with rising costs is, in many areas, land is controlled by a fairly small set of the population. This small group has seen huge windfalls of money come in as drugstore developers, bank developers and real estate speculators paid top dollar for their land. This has had two effects on the market. The individuals who sold their land no longer need the money and can sit on land for many years before they have to sell and the second impact is that neighboring properties, whether merited or not, are now impacted by the value of what land sold for in the area.

More often than not we see situations where a Home Depot gets announced one day and a piece of land worth $500,000 is now trading at $1,000,000 the next.

Time to Get Creative

Some would say the riskiest part of real estate development is land acquisition. If you buy the wrong land, your project is at risk. A bad location can counter value even the best and most beautifully designed building to oblivion, not just because customers or tenants might one day object, but land use officials may not like where and what you want to build. Also, for the first time during the investment process, closing on land means carrying hard costs for the first time during a project rather than all the soft costs leading up to the first turning of soil. The use of land options can minimize the holding costs of development but at some point land has to be bought. The key issue is not just geographic location but whether a piece of land and what you want to build on it are a match economically, practically, and legally.

You are probably saying, okay, so now what? You’ve told us how the market is changing and that prices are going up and that land investment is risky but now what? Trust me when I say there is plenty of upside. It’s just the traditional thinking on how to make money is shifting. The market has been creative but it’s going to take even more creativity to put together projects that make money. It is also going to take patience and the willingness to work with other people and perhaps many other people.

As a developer you must continue to stay focused on your bottom lines and as a land investor you must continue to remain patient and select the right pieces of property at the right time with the right in use for down the road.

There has been a remarkable increase in the number of joint ventures between land owners, retailers, developers and financiers. Firms in the business of bringing all the pieces together will continue to thrive in the current marketplace as developers need land bankers, and land bankers need special financing treatment. Residential builders are increasingly relying heavily on groups of high net worth individuals to carry land for certain periods of time to keep this off their books until its time to build and sell houses to the public. New companies are springing up each and every day to bring disparate groups of investors, developers, and land bankers together.

More deals are being done keeping the land owner in the deal for promised returns later on. This helps in the financing of the deal and in many cases the land owner ends up better off at the tail end of the deal. This mechanism works well but, as with any partnership, it is critical that both sides understand the value of the partnership, the risks and possible rewards and you hope that both sides are able to work together.

“The best deal I’ve done was the deal I didn’t do.”

Don't be afraid to walk away from a land deal if the seller wants more than you are willing to pay. It is better to avoid 100 marginal deals than buy into one of them. Land is often very slow to sell, even in today's overheated market, since there are fewer buyers for raw land than improved real estate like single-family homes. Sellers who need to sell will call you back with better terms if you walk away from the table when the deal does not suit you. Don't do deals for the sake of doing deals alone. Only do deals that align with your profit threshold. Showing a seller that you will not overpay is one great way of making this happen. Be sure to give sellers your contact information, like a business card, and tell them you would like to buy their land but you need a better price or other arrangements. I've had sellers contact me years after I met them with new and better terms.

Where do we go from here?

Patience, the willingness to work with other individuals, knowledge of the market is critical for any investor and/or developer in any market. Do not rush into deals and make sure you understand the market you are looking to go into. Understand the zoning process, the engineering challenges of each market, and the political climate of each market before you enter a market. There are plenty of companies that can help you with each of these areas. For the large developer, they have an advantage and, as in many cases, they have the relationships in place. For the small to mid-sized developer, rely on the expertise of others in each market and learn before you spend.

Mark Feinberg is a principal with Development Advisory Group, a full-service development consulting and land brokerage firm based in Atlanta.


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