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Land development risk tool

Estimated reading time: 5 minutes

In the article about land development risk we explored how we estimate the financial risk in land development projects for municipalities and project developers. Let’s now look at the land development risk tool itself.

This tool contains a flexible interface that allows the user to obtain all relevant risk reports. The workflow guides the user through three simple steps that are needed to perform a full quantitative risk analysis for each development or subdivision:

  • load project planning
  • adjust mappings
  • calculate the risk

I: Load project planning

We first load the project planning with all projected revenue and cost items. There is an automated interface toTotalLink, a source system that is used in many municipalities. However we can also adjust the interface to load data from other source systems.

II: Adjust mappings

IIa: Control mappings of new revenue or cost items

When the source system contains new revenue or cost items (system ID), the land development officer can map these items to existing risk categories.

Automated error reports will help the user to identify these items.

mapping of revenue or cost items to broader categories
Figure 2: Mapping of cost and revenue items to categories

IIb: Control mappings to risk drivers

In some cases we want to create a new category assigned to a suitable risk driver. Many risk drivers are already available via our cloud API. Others are added separately for the project.

mapping of categories to risk drivers
Figure 3: Mapping of categories to risk drivers

On the revenue side we find two broader risk drivers: price and volume risk. Price risk is related to decreases in land price. Volume risk is related to decreases in the number of units sold.

On the cost side we find three risk factors: site preparation, preparation for residential use, and planning costs. For each of them we can again measure the associated price and volume risk. Price risk is related to a potential increase in the costs per unit built. Volume risk is coupled to the reduction in the total amount of lots that can be constructed in a negative scenario. In this case the volume risk has a decreasing (and therefore positive) effect on the costs.

III: Calculation of the risk

IIIa: Detailed risk report

The detailed risk report shows the future projection of the budget in different scenario’s. It uses the applicable price and volume risk profiles. We estimate two risks: one relative to budget (Risk vs Budget), and one relative to the expected scenario (Risk vs VaR50).

Additionally, functionality is offered to apply phasing (postponement in sales of the lots). This means that land can still be sold after the projected period in case a negative scenario materialises and unsold capacity remains. Therefore, we calculate the risk on postponed sales as well (risk vs maximum capacity).

Land developmen risk tool - detailed risk report
Table 1: Detailed risk report (fictional data)

IIIb: Aggregated risk report

It is important to understand how risk changes if assumptions change. The end user can therefore select several parameters:

  • the risk appetite using a given certainty percentile (e.g. 80%, 85% or 90%)
  • the option to include or exclude postponement of revenue and costs
  • simulation of price changes for both the cost and revenue-side items
  • simulation of volume changes with a positive/negative tilt (distribution of exposure towards the beginning/end of the projected period)

The final risk report puts it all together and creates an aggregated view of all revenues, costs, and results. As not all risks occur simultaneously also the correlation effect is included. At the end we then obtain the cumulative result and net present value in the different scenario’s.

Land development risk tool - aggregate risk report
Table 2: Aggregate risk report (fictional data)

Graphical presentation of the risks

In addition to the tables we also obtain a graphical presentation of the risks for the income, costs and the net results.

Land development risk tool - cashflow of revenues
Figure 4: Projection of revenue (budget vs negative scenario)
Land development risk tool - cashflow of costs
Figure 5: Projection of costs (budget vs negative scenario)

Summary

The land development risk tool helps us to automate the creation of financial risk reports by providing automatic loading of source data, an easy mapping proces and various simulation parameters. This allows one to easily calculate and compare risks in a user-friendly interface.

Given the nature of the always changing macro-economic environment, we provide updates on risks profiles on a yearly or quarterly basis. These risk profiles can be retrieved from the Asset Mechanics Risk API.

If you also want to obtain an objective and statistical assessment of the financial risks on land developments, pleasecontact us. We would be happy to show you how the land development risk tool can also help your organisation to obtain a data driven risk estimation.


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