In-Depth: The Main Source of Growth

The average Moscow developer resembles a craftsman. He gets money himself, he thinks of everything himself, he constructs everything himself, and sells it himself and all at a profit. In conditions of moderate competition and transcendental growth of the market such a strategy is quite well taken. The state of affairs fundamentally changes when the profitability of investments in real estate seem not as high as predicted. And the amount of time, strength, nerves and money is incommensurably great. Now comes the time of fee-developers.

Increase your muscle

Despite a vague recession, the real estate market still possesses high investment appeal. Profitability of 30-35 per cent excites the nerves of all investors, pulling in more and more new players to the market. Some profit in apartments, others build powerful development businesses.

Everyone has a way into development. Former builders (Glavmosstroy, Krost, SU-155), successful realtors (Inkom, MIEL, MIAN), divisions of large financial and industrial groups (Otkrytiye Investy (Open Investments), Sistema-Gals, Glavstroy) or companies building a business from zero without a profile background (Mirax, Don-Stroy, etc.) are all developing in this direction. But, on entering the real estate market, everyone fulfils the same strategy: actively acquiring fixed capital, creating a system of full control of all stages of the investment-construction process and promptly increasing investment capital, allowing more and more to be invested in large projects. In fact the main income is earned through investment activity, and development allows for profit to be maximized. The merging of the functions of the investor and the developer into one person seems like the most profitable solution.

However evolution of the market brings corrective amendments. Competition for space has become stricter. Requirements in terms of the quality of the end product are higher. In a situation where there is a noticeable increase in costs, directed at maintaining the powerful internal infrastructure of the developer, some of its functions are become worthwhile to give to outsourcing. The institution of general contractors and managing companies are formed. In the market there are teams, capable of performing this work well and on time. Five years ago there was no word of this.

How to be a beginner?

Real estate is attracting more and more non-profile investors. Possessing the essential financial resources and administrative communications, they are ready to invest in development projects, expecting to receive a solid income. However how do you enter the market? Now there are two main variants. Buy a development company or create your own development business from scratch, diving in head first. It is similar to somebody who wants to earn money from oil, every investor has begun to drill itself an oil well. It is clear that currently there is simply no appeal of adequate, civilized market mechanisms to the access of market of real estate market assets.

From set of all these factors also there is a new niche. Need for the qualified services of the specialized company capable as much as possible effectively to realize resources of the investor in a specific development project. Such companies are called fee-developers.

To adopt correct experience

A fee-developer is a company that creates a development project to order, without its own financial investments. Having provided a full set of services (the marketing concept of the project, pre-design approvals, architectural services, construction, promotion strategy, sale, etc), the fee-developer receives commission at the rate of 10-20 per cent of the cost of the project. It is a business model, in which the functions of the investor and the developer are strictly separated.

In Western Europe and the US the share of fee-companies among all developers is more than 50 per cent. They are serious players with an impressive portfolio of projects who potential partners respect. Their business is public and accessible by rating companies. They compete openly for investor resources, demonstrating to potential partners experience, professionalism and reputation.

Demand for fee-developer services is evident in the foreign market. In Russia this business model is not present yet and there are explanations for this. First of all there is a huge difference in the level of development of financial tools. In Russia there are practically no legal and financial institutions guaranteeing the responsibility of both parties (both the investor and the developer). To get access to resources, the developer should possess guarantees seriously exceeding the cost of the whole investment project. The price of access to credit is so high, that it makes the project senseless.

In the West a contract has real force. The developer, as a rule, has an impressive background and partner relations with banks, and financial and insurance companies guaranteeing its responsibility before counterparts. Therefore the investor has understanding and confidence concerning the developer.

For us a contract is nothing. The only way to generate the necessary level of trust is to invest in the project with your own funds along with the investors, the most direct way of dividing the risks for the two.

In the US, real estate is an asset of the same quality, as a bond, or precious metals. The packaged product is as transparent, clear, and simple to manage as possible. It is equally easy for an investor to buy assets or invest in real estate. The complexity of procedures is commensurable. In Russia there are simply no mechanisms for such accessible entry to assets.

The second reason interfering with the formation of supply in the fee-development segment is the almost complete absence of a service culture in Russia. Outsourcing in such a capital-intensive business is first of all a question of professional culture and reputation. Readiness to keep a tight rein on business contacts, maximizing perfection, completely client oriented, readiness to knowingly to go to greater expenditures and the maximal scrupulousness to all components of business communications down to the tiniest details. We are just studying all of this in Russia.

To wait for opportunities

But the situation of the Russian real estate market is changing, and its participants adjust to its development. To make forecasts on what model of development will be most demanded in Russia is a waste of words. More than likely, in the long term all of these strategy will in their own way exist.

In truth the segment of fee-developers already exists now. But it is an extremely closed market. That is to say to simply come and choose yourself a fee-partner is hardly possible. There is no information from open sources on companies capable of conducting full development on outsourcing.

Active development of fee-development will happen when the figures of profitability for the investment and development business on the real estate market will be approximately equal. This trend is already evident today. Returns from investment in real estate are moving downwards. The amount of commission for fee-developers, on the contrary, is increasing.

Powerful market players even more often carry out separate functions of outsourcing, attracting professional companies, including fee developers. Having had trying experiences, spending nerves and money, sooner or later non profile investors come to an understanding: to make money from real estate, it is not obligatory to give up everything, change your profession and start laying bricks. There are also more pleasant ways.

On the other hand, in the process of the growing profitability of fee-development an increasing number of serious market participants professionally undertake this direction as a main business.

Rely only on yourself

Many experts connect fee-development with the future arrival of huge western investments to the Russian market. Supposedly in conditions of developed outsourcing in the development market conditions for international capital will be generated.

However the idea that we are strongly interesting to the West, may be an illusion. The Russian share market with all our assets today totals about $1 billion. Such scales for international investors are insignificant. It’s not a resource; it’s a vegetable patch. Morgan Stanley alone manages almost $800 billion. This investment company, considering its set of resources, could theoretically operate the whole Russian share market.

As a result there is administrative closedness, an aspiration to limit the scale of such financial monsters entering the Russian market. Closedness is the natural defense of the state. And if an international investor nevertheless will become interested in us (having assessed the list of rather impressive risks) then they will agree to invest as much as they are willing to lose. And this, believe me, is a small sum. To be in demand by a serious investor, the Russian market should become larger and steadier.

Therefore to hope for foreign capital is not worth it yet. The most probable stimulus of the development of development as a whole and fee-development in particular – is investment from Russian business. It also is the main source of growth.

The author is the vice president for business development at Q-tec. The article was written specially for Vedomosti. Material under the Points of View heading does not necessarily coincide with the opinion of the editor.