VGFOA Spring 2011 Conference

2. Notes on Five Smart Questions: A Lighthearted Approach to Evaluating Development Proposals VGFOA Spring 2011 Conference Presented to: June 9, 2011 Presented by: Mikaela Huot Assistant Vice President John Anzivino Senior Vice President Anthony Schertler Senior Vice President

3. Questions to Ask #1 Is this something our community really wants? • Strategic Planning • Set your goals • Policy • Ties Plan and Practice with community objectives • Practice • Evaluation of project success

4. Public Resources for Private Use/Benefit • Housing and Economic Development efforts can be summed up as direct efforts undertaken by a local government to encourage private investment. • Three flavors • Community Development (capacity building) • Housing Development (needs based vs. demands) • Economic Development (increase market value)

5. Mission • “Encourage private investment / enhance quality of life” • A local government that relies on property taxes might choose an increase in the market value of real estate as the primary measure in evaluating the mission is being successfully accomplished. This would be appropriate because increased market value is a direct reflection of ultimate customer behavior producing tangible public benefits. (i.e. tax base for parks, schools, streets etc.)

6. A Good Economic Development Strategy Regardless of what type of community you are, what type of revenues you receive, or what type of tools you control, communities must establish some criteria in order to evaluate development opportunities. This involves developing policies informed by professional experience and judgment. And keep in mind that it is all subject to market. 5

7. Public Purpose Benefits (Policy) Increased private investment through: Increased employment Added housing units Attraction of visitors who contribute to the local economy Increased sales volume Elimination of negative or blighting influences effecting surrounding property Addition of infrastructure such as parking or public improvements which results in increasing market value through the above 6

8. Strength of Opportunity (Professional) Market demand for the use developed (Market Study) Control or prospects for control of a suitable site (Legal & Engineering) Motivated and qualified developer (Developer Review) 7

9. Strength of Opportunity (Professional)(cont.) Healthy growing employer (Industry Evaluation) Extent to which the expected positive consequences of a project outweigh the negative consequences of doing it (e.g. increased public liability) Probability that the project will leverage additional private investment or spin-off investment adjacent to the development (domino effect) 8

10. Public Cost (Professional and Policy) Existence of a financial gap (the amount of the difference between total development cost and private market/investment value) In absolute terms, the availability of public or philanthropic resources to fill the gap for a specific project In relative terms, the amount of subsidy required for a given project in contrast to amounts provided for similar projects in the past or current alternative projects 9

11. Layman's Terms: • What are we buying? • What does it cost? • What is it worth? • What can we afford to pay? • What are we willing to pay? • What does the developer (seller) want? • What does the developer (seller) need?

12. What Drives The “Gap” Or Need For Public Financing Assistance? Hold out property owner, land price too high? Development needs more than it can pay for? Or public would like to “oversize” utility and infrastructure needs for future growth? Developer wants less risk and more return than typical market conditions dictate? Extraordinary redevelopment costs? Subsidizing market? 11

13. How Can We Reduce the “Gap”? Generally speaking, cost is cost. If there is a need for utilities or addressing extraordinary redevelopment costs, your ability to reduce it is limited. However, competition is an effective way to address hold out costs. To the extent that your community has more than one site opportunity that works for your prospective employer, hold out leverage is reduced. Ensuring developer profit is not a public purpose. 12

14. Questions to Ask #2 • Who are these guys? • The goal of the developer review is to determine whether a level of comfort can be reached sufficient to pursue the project further • Review three main areas • Experience and references; • Financial resources and background; and • Disclosures

15. Experience and References • Evaluate the experience of the developer team, including references to determine: • Do they possess sufficient experience for this type of development (similar size and scope)? • Does the developer team have a history of working well with public partners producing results? • Does the developer team have experience completing projects on time and within budget?

16. Financial Resources and Background • Review of financial resources and background determines if entity responsible for financing the project has the capacity and experience to do so • Questions to ask: • Who are the members of the developer/owner entity? • What is their financial capacity? • A confidential review should be performed to ensure completeness

17. Disclosures • Request members of Development team (and affiliates) to disclose and explain if any of the following have occurred: • Defaults on real estate transactions • Bankruptcy filing(s) • Defendant in legal suit(s) • Judgment(s) recorded against

18. Questions to Ask #3 • Is the proposed project feasible? • Is there a market? • Financially, will it work? • Will your community benefit from the proposed project? • Identify all the project costs? • Quantify the benefits, including revenues

19. Is There A Market? • A market study will help to address and focuses on the following: • Overall market conditions within geographic location; • Performance and positioning of comparable existing developments; • Calculation of demand; • Calculation of absorption;

20. Is There A Market? (cont.) • A market study addresses: • Analysis of existing space in the immediate area, including a review of available space and typical rent rates at area developments; • Assessment of the viability of additional space at the subject site; • General discussion of potential users of space at the subject location and • Achievable lease rates.

21. Is There A Market? (cont.) • Review of market feasibility study that has been provided by the proposed developer, think about: • Is the market data from an independent and reputable source? • Does the feasibility consultant have experience in this type of development? • How recent is the study? • Are there any disclaimers?

22. Financial Feasibility • Perform feasibility analysis on the market study • Test assumptions against comparables • Perform sensitivity analysis • absorption rates, • lease rates, • vacancy rates, and • occupancy, etc.

23. Financial Feasibility (cont.) • Type of Development • Residential (type) • Commercial (type) • Size of development • Phasing: Build-out schedule • Absorbed by current market within timeframe? • Supported by market? • Demographic trend and forecast information

24. Financial Feasibility (cont.) • Purpose is to determine if proposed project feasible in current market • What adjustments may make it infeasible? • Can those adjustments be controlled?

25. Will Your Community Benefit? • Cost-benefit analysis assists with determining net benefits of proposed project • Identify and quantify all costs and revenues • Difference between the two should indicate whether there is a net benefit • To be effective all costs and all benefits need to be included and properly quantified

26. Will Your Community Benefit?(cont.) • Determine if sufficient detailed information has been provided to evaluate • Can you make reasonable and realistic assumptions? • Any hidden service and infrastructure costs? • Assuming there is a net benefit, when?

27. Question to Ask #4 • How do I know if a subsidy is needed, and if so how much? • A needs analysis seeks to answer two main questions: • Does this project need assistance? • If so, how much assistance is needed? • Questions answered with review of development project pro forma

28. Needs Analysis (cont.) • What is a pro forma? • Set of assumptions used to create a cash flow projecting future financial activity of a proposed development project • Shows both the up-front sources and uses of funds, as well as the operating revenues and expenses • Used to project future revenue stream and operating expenses of a proposed development, and estimate financial viability of a project

29. Needs Analysis (cont.) • Financial viability of a proposed project can be determined through the application and estimation of a variety of measures: • “Cash on cash return” • Annual performance measure • “Internal Rate of Return” • Net present value of cash flow • Typically 10-15 Year measure

30. Needs Analysis (cont.) • How do we review Pro Forma? • Task 1: test assumptions • Are they reasonable? • Unreasonable assumptions may overstate need for assistance, i.e.: • below-market lease rates resulting in understated revenues • Inflated expenses resulting in overstated expenditures • Task 2: perform sensitivity analysis • on factors greatly influencing projected returns and • for which there is a greater degree of uncertainty

31. Needs Analysis (cont.) • How do we make determination a need exists? • Review pro forma of development with and without assistance to determine potential return of project • Use estimated level of return without assistance as a measure of project’s feasibility • If project is not feasible without assistance it is not likely to occur • Use estimated level of return with assistance as a measure of the amount of subsidy needed

32. Questions to Ask #5 • A development agreement legally binds the City and the Developer to carry out specific duties and obligations necessary to implement the project. • Key points may include: • Public and private improvements • Funding sources and uses • Performance conditions and obligations • Design guidelines & tenant controls • Sale of project or property