What fourteen months of hesitation on a ground-up deal actually cost when the market moved

The line about building models until one finally says no is worth keeping. It happens on smaller purchases too, and most people never have a word for it. One thing worth noting in defense of a case like this: if the stress case that breaks even assumes a 15 percent overrun plus six months of extra lease-up, that is not an absurd combination on a first ground-up with a GC whose experience runs mostly to renovation. Breaking even in a bad case is not a disaster outcome, it is actually a survivable one, and that reading often gets missed in the moment.

@renee_dubois has it. Break-even in the double stress case is a pass, not a fail. The right test is whether the bad case wipes out the equity, and here it didn't. The other thing worth flagging is the term sheet. Sixty-eight percent loan to cost on a first-time ground-up sponsor with a renovation GC is a lender telling you they believed in the project. Lenders at that stage are usually more conservative than the borrower, and when they're not, that's information worth weighing.

Genuine question, how do you write down a go/no-go test in advance without it just being a number you move later? What stops you from deciding the threshold was wrong once you see the answer?

@nataliehsu the version worth trying is writing the number down and handing it to someone else, a partner or an investor, before rerunning it. Then moving it becomes a conversation instead of a private edit. It doesn't fully solve the problem, but it raises the cost of moving the goalposts.

Good compared to what depends on the loan rate and the exit cap rate expected at sale. A 6.6 yield on cost only clears the bar if the spread over financing cost and over a realistic exit cap leaves enough margin for the unknowns in a ground-up build. Below about a point and a half of spread, most operators find the risk isn't compensated.

@raj_mehta14, yield on cost is your stabilized NOI divided by everything you spent to create the building. You compare it to the cap rate you'd pay to buy a similar finished building. The gap between them is your development spread. If finished buildings in that submarket trade at, say, a 5.3, then building at 6.6 means you created something worth meaningfully more than it cost. That spread is the entire reason to develop instead of buy.

130 basis points is on the thin side of what most people want, and it was probably enough in a pocket with no competing supply.

The 68 percent loan to cost is doing a lot of work in this thread and it's worth adding one thing. Term sheets aren't commitments. Between the term sheet and closing there's appraisal, there's the lender's own construction cost review, and there's whatever their credit committee does with a first-time ground-up sponsor. @luis_carrera, did you ever get to a commitment letter, or was the 68 percent still a proposal when you walked? Worth asking because a proposal at 68 that becomes a commitment at 60 changes the equity requirement by about $179k on a $2.24M project, roughly $717k in the deal instead of $897k, and that's a real reason to hesitate.

The GC pricing at $1.71M on a renovation background is the piece I'd have worried about most, coming from the trades. A guy who's good at gut rehabs is not automatically good at buying out a ground-up wood frame job. The subs are different, the sequencing is different, and the number he gives you is usually assembled from fewer real bids than you think.

Did you ever see the buyout, meaning actual sub quotes behind the $1.71M, or was it a lump sum with a schedule of values?

When a buyer pays more for the land and still builds the same plan, that says the deal was never marginal on price, it was marginal on confidence. That is a different problem, and more spreadsheet work does not fix it.

The boring version of the counterfactual matters before calling this a loss. The buyer built it and it's leasing. Nobody outside the deal knows their cost overruns, their carry, or what their equity return looks like. Leasing at 6 percent above @luis_carrera's rents is one number, and it doesn't tell anyone whether the project actually made money.

@tylerbrooks9 is right to be careful but rents 6 percent over underwriting on a project that penciled at 6.6 is a lot of cushion. That's roughly 40 basis points of yield on cost handed to them for free.

The thing I'd add from the renovation side, @luis_carrera, is that your 15 percent overrun case was probably the right stress number but you applied it to the wrong line. On ground-up, hard cost overruns tend to cluster in sitework and utilities, which you can partially price out before closing with the geotech you already paid for. Interior finish overruns are the renovation problem and they're much less of a ground-up problem because you're building to a fixed drawing. Splitting the contingency by category would have given you a less scary and more accurate stress case.

Worth saying that $20k of dead deal cost is the price of the option to walk, and it's a reasonable price. People treat abandoned pursuit costs as pure waste. Every developer worth listening to budgets a pursuit cost line knowing some percentage of it dies.

@luis_carrera, the part that would bother me more than the deal is what the 14 months of re-running did to your pipeline. You weren't looking at other sites during that, were you? The real cost of analysis paralysis is usually the deals you never saw because you were busy with the one you didn't do.

The fix I use now is a clock. Two weeks of feasibility work, then a decision, and if I can't decide in two weeks the answer is no and I move on. It means I say no to some good deals. It also means I've looked at four times as many.

I've done zero deals, and what stuck with me here isn't the $20k. It's that you knew the spread was fine at the time and passed anyway. I've been assuming my problem will be not knowing enough. Sounds like the problem is doing something with what you already know.