Development is the business of enhancing land value. It may consist of procuring planning permission, assembling sites, buying rights over adjoining lands and entering agreements with public authorities so as to provide services and make future development feasible. It may also consist of preparatory works, undertaking stages of construction or full completion of works followed by sale or letting.
The management of construction and development loans involves different considerations to the management of investment loans. Development and construction often require active management, ongoing financing and the employment of consultants and contractors.
In practice, it is likely that a lender will require specialist advice, most likely from planning consultants, quantity and chartered surveyors, valuers and other in relation to the realisation of value from a development. There are a range of considerations which are potentially relevant.
It may be that the available security is a fixed charge only over property assets. It may be that no development has commenced. In this case, the best route may simply be to sell the property with the benefit of whatever planning permissions, ancillary rights, such as for services, agreements with Councils, third parties etc., as are available.
The security held by a lender over a construction and development project may be a fixed and floating charge granted by a company. The mechanism for enforcement of a development or construction loan may be through receivership. This is helpful where the development has commenced and it is desired to sell it as a going concern.
The business of development often involves purchasing other rights to enhance land value. There may, for example, be rights of access for services and rights of way. It should be ascertained with reference to the original security documents whether the lender has security over the required rights.
It may be that the security itself includes shares in a special purpose company. It may be possible to sell the company itself as a going concern. There may be insolvency risks and unknown liabilities which make sale of the company unattractive. Generally, purchasers of companies have understandable concerns about hidden undisclosed liabilities of the company. They may seek indemnities which the lender is not commercially willing to provide.
Sometimes an attractive option for the sale of a going concern in a “clean” vehicle is to pass the assets to a new company for onward sale of this \”cleaned up\” company. This may be done inside or outside of insolvency procedures. See our separate chapters on insolvency rescue and restructuring,
Planning and Procurement
The existence of planning permission, its current status and its remaining life are of critical importance. Generally, a planning permission attaches to land. However, in order to secure the benefit of a planning permission, it may be necessary to obtain the copyright to underlying plans and drawings and other documents on which they are based.
There may be outstanding planning obligations. It is possible that the existing position constitutes a breach of planning permission. Generally, planning permission is only valid if a development is completed. Failure to complete a planning permission is a breach which is enforceable against the developer or indeed any subsequent occupier of the land. The lender may generally avoid undertaking these liabilities if it stands back entirely. If however it participates in the project or even perhaps, if it becomes mortgagee in possession, it should consider whether there is a risk that it might be subject to enforcement proceedings for planning breach.
Planning permissions have a limited life, usually of five years. Breach of planning permission and failure to complete can be enforced through the criminal law, planning enforcement notice by local authorities and planning injunctions by court given on complaint by any individual. The consequences of non-compliance are potentially serious.
It may be desirable to procure an alternative planning permission or extend time. This will require an application to the planning authority. See our later chapters.
Development and construction can be procured in a number of ways. In traditional contracting, the developer retains a design team, typically comprising architects, quantity surveyors, structural engineers and services engineers, a principal of contractor and one or more sub-contractors. A number of alternative methods of procurement have grown in use in recent years, including “design and build” and “construction management” arrangements.
Picking up the Pieces
It may be that the development project has proceeded beyond mere site assembly and procurement of planning permission. In this instance there may be or have been construction contracts and consultant service agreements in place (such as with architects, quantity surveyors, mechanical and services engineers and structural engineers). It is common that the lender has the benefit of collateral warranties with \”step in\” rights with the contractors and consultants.
The lender\’s step in rights are likely to be for a very limited period only. They can usually be exercised only very shortly after a default has happened with the borrower so as to allow the lender step in and repair the situation. If it is within this time frame, then the lender may have options of stepping in and continuing the project itself or if possible finding a substitute operator to do so.
In the current climate, the breach and cessation of development and/or construction activities may have taken place at some earlier stage or it might be too risky or uneconomical to step in and provide another operator. If so, then the short term rescue rights may have ceased to be relevant.
It may be a question of the lender picking up the pieces. There may be contractors and consultants, whose agreements have been breached and who are themselves creditors of the borrower. They may have rights for unpaid fees over project documents. Some may have gone out of business. There may be a wider set of creditors who have an incentive to wind up the company or undertake debt collection against it.
In the above circumstances, a restart, if desirable, will require agreements with the contractor, sub-contractors and other consultants or new contractors or consultants to complete out some or part of the development so as to make it saleable. A work-out agreement may be possible with the borrower or with a new entity.
The lender will not wish to incur the risk of trading insolvently. The lender should endeavour to ensure that it is not involved in the management or operation of the company. Its role should be supervisory.
Continuing the Works
A mortgagee in possession may be entitled to spend monies to improve a property. As long as this is done in good faith and enhances the value of the asset, it may be allowed as an expense. A cost benefit analysis will be required. The lender will need to justify the expenditure. See our chapter on mortgagees in possession. It will also need to be considered as a practical matter whether the extra expense is ultimately recoverable in practice.
It is not unusual that development arrangements are made subject to third party rights for so called \”overage\”. This is an entitlement to an uplift on the sale price of a site, typically for the benefit of a seller. These conditions are written into the title so they are ongoing liabilities. It is possible that they may have been released upon the original mortgage or that they were accepted as a long term cost.
If these rights are still outstanding, it is necessary to engage with this stakeholders on a commercial basis to agree appropriate modifications of their rights.