Like a bad fashion choice, this season’s “in thing” is actually the thing most regular folks want to avoid the most: forbearances, receivership, and insolvency. It’s like getting a new jacket and forgetting to remove the tacking stitch on it or throwing that cashmere sweater in the dryer by mistake (done it, not doing it again).
At the end of the day, the reason most receiverships appear to have cost overruns is because developers either had equity calls, they could not fund, or because they chose to try and hide overruns, either through side contracts or by taking on other undisclosed high interest debt to fund. Amongst it all, there has been the odd example of some potentially dodgy stuff going on.
Lots of challenges have been caused by delays in approvals, delays in construction, and in not making focused decisions in time. Delays cost money and – depending on where you’re at in the development cycle – too many delays across too many projects equates to slightly too much exposure and all of sudden cash flow no longer works, nor does the ability to raise capital to shore up the dyke as it bursts (a finger won’t work, you need a suitcase with cash or a bank transfer).
Another issue has been that, for the longest time, costs just kept increasing. This meant that each delay could result in a $10-15M budget increase (or more) in a single year. Thankfully, construction costs finally came down… just in time for the City to add 40% to DC’s in Toronto.
More recently, land deals have been a major issue, especially if you’ve overpaid and are now refinancing for less than your initial cost; the same could be applied to most owned assets that have seen diminished value. Development is a really complex game – this isn’t Monopoly, it’s high stakes poker and you have to be “all in” 24/7. But unlike poker, in which you can assess the risks and come to a decision, in the development game the government changes the rules every five minutes… or the market could just up and vanish. So, to complete the analogy, we’d have to say it’s more like playing poker blindfolded against the house, who also happens to have all the aces (the City’s in the corner holding a taser, in case you’re wondering).
So far in 2024, there have been more than 20 real estate receiverships around development in the GTA, with approximately half of those related to land deals and half of them related to under construction.
Land, that is both sellable and isn’t strapped to mysterious third mortgages, is easier to deal with compared to under construction projects that involve purchasers, liens, deficiencies, design errors, approval challenges, and a number of different lenders.
An important fact to remember in all of this is that developers are not all, even remotely, the same. There are tiers based on experience, ability to execute, and capital backing, among others. There is a pedigree to a company that has been around decades; it’s difficult to quantify, but any first-timer meeting with them will see the difference in about 20 seconds.
In the past decade or so you only had good to be at sales; that was usually enough to fumble through and ‘survive’ the process, as money can hide quite a lot of sins. But when the market gets real and times are tough (like now) you must also be great at acquisition, sales, planning approvals, and construction execution; 2 out of 4 will not do it, it’s 4 out of 4 or nothing. That is where pedigree comes in, there’s a reason a company lasts for a long time in a cutthroat business; they are exceptionally talented, focused, and disciplined. They ooze talent at the senior levels in the company and those people actually care about the product, about the homes they are building, about the image of the company, and about being more than just another developer. They view their civic duty as important – they are not just building a house or apartment, they are building homes.
Just as so, not all lenders are created equal. There are different levels in the market that cater to a different quality of clientele; while the Tier A clients get the best rates, they also have the lowest risk. Risky clients, meanwhile, pay a lot more in interest, but there are lenders that service the risk/reward market. That is not a judgement thing, in business there are companies that fill all voids. The challenge you get with more risk is that when things are going wonderfully the returns are spectacular, but when it goes bad… well, it goes epically bad. Hence, the larger challenges in recent times have been in the secondary lending market (and they seem to be coming each week). As an example, of the 20 receiverships I mentioned this year, 19 have been with secondary lenders.
At the land development conference in 2023, my panel had a discussion around the industry, and one of the biggest challenges we found is that people just ‘don’t do their job anymore’. This wasn’t meant to be an indictment, rather an acceptance of the reality that everyone is just way too rushed, too busy, and there are too many competing priorities in a world already traveling at 1,000 miles an hour. This is evident throughout the industry, from top to bottom trades, consultants, suppliers, and owners, and it leads to errors and mistakes, which in turn cost money that causes delays, which ends up costing even more money. Add to this that while most of us maintain our 1,000 mile per hour speed, the municipalities, province, and feds trundle along at a pace that would make a snail jealous.
The market isn’t bad overall, we are just in a downturn – and they happen. Receiverships / insolvencies / forbearance agreements will continue and then, in a few years’ time, it will all more or less be forgotten, and a new generation of unscarred and optimistic types will appear, and the craziness will start all over again.
Development is doing the same thing over and over and expecting different results... though I could have sworn that phrase was already used for something else.
