How joint venture contracts are making both developers and land owners a happy lot

This, Maj Karau knew, would not only cushion him from the high cost of land, but also save him the time it takes to convince land owners to sell off their land.

However, despite the brilliance of his idea, almost all the land owners he approached for partnership were not as receptive as he had imagined they would be. They thought he was a conman who would steal their land, and the few he managed to convince did not quite understand the kind of proposal his real estate company was putting on the table.

“Convincing a land owner to partner with you to develop his or her land is quite an uphill task,” says Maj Karau, who regularly negotiates joint venture agreements with potential partners.

Ranked as the fourth biggest contributor to the country’s wealth, the real estate sector has seen many new players join in, and those who already have  a prime piece of land would rather hold tightly onto it than allow speculators to confuse them.

However, the rising cost of land — small-but-prime pieces of earth in Kenya are now selling for almost half a billion shillings in some areas — is forcing developers who do not have the essential factor of construction costs to think outside the box.

SAFE INVESTMENT

“As a developer, if I buy the land and develop it, the initial cost of my project will double or even triple because of the cost of land,” explains Maj Karau, saying that such huge costs could become an unncessary strain to a developer.

“And even when you can afford to buy the piece of land for your building project, sometimes you will find some people have sentimental attachment to their pieces of land, and therefore would not want to sell them off,” he says.

“Others will desire to develop their land but lack the financial capacity to do so, yet many are also in the quest of owning real estate.”

So, if the prices are high and the land is scarce, what are the other options available to developers?

This scarcity is now seeing the industry shift from sole ownership to partnerships through joint venture agreements, benefitting both the developer and land owner and also cushioning developers — and, by extension, home buyers — from the exorbitant prices of land.

The concept of Joint Venture Agreements (JVAs) is one that Maj Karau, who is in charge of pursuing these agreements at King’s Pride Developers, believes will change the way people approach major commercial real estate developments in the country.

“It is easier to convince a land owner that through the agreement, he or she is improving his or her land than telling him or her to sell it off completely,” explains Maj Karau. “So we sell the idea of improving the land to our potential partners.”

Experts in the real estate industry say joint venture agreements are an efficient and safe investment avenue that benefits both parties, and whose long-term value to the land owner is immense.

But even as such ventures are considered as game-changers in the real estate industry, some still feel that most developers prefer developing properties alone rather than dividing their profits with other parties.

A joint venture agreement is defined as a business agreement in which two parties agree to develop, for a finite time, a new entity and new assets by contributing equity.

In the real estate realm, joint ventures are a conduit for providing equity funding for property projects, where a land owner gets into an agreement with a developer to put up structural units on a piece of land.

WIN-WIN SITUATION

Joint ventures work best in situations where the undertaken project is meant for sale and profits divided among the contributors.

“Many land owners have chunks of idle land which they are reluctant to develop because of one reason or the other. As developers, we approach such clients with the idea of adding value to that piece of land,” explains Maj Karau.

Even though most people would shy away from such contracts, Mr Mwiti Kaburu, a property lawyer, says the concept is gaining ground among savvy developers.

“In most cases, a developer approaches a land owner with a proposal to develop the land. In this scenario, one party is offering the land and the other willing to take care of the costs of the project. The profits are then apportioned according to the value of what each party has offered,” Mr Kaburu explains.

He adds that this type of venture benefits both the land owner, who would otherwise not be in a position to undertake the development, as well as the developer since he or she will not be required to incur the initial cost of buying land. “It is a win-win situation,” he says.

Mr Kaburu notes that the success of a joint venture depends on the mutual understanding between the parties and the level of commitment towards its implementation.

“If a joint venture agreement is well implemented, the objectives of each party are realised,” he says, adding that, conversely, if the project is not well managed it might  fail, leading to losses.

Just like other developments, joint ventures require finances, which are mostly contributed by the developer, and Mr James Mugerwa of Shelter Afrique says that before financing, there are factors that the financier considers.

“We would like to know if the project being undertaken satisfies a social requirement like social housing (rentals) or commercial housing,” he explains.

However, before the project is financed, a feasibility study is conducted by a professional architect, surveyor or valuer.

SHRINKING LAND

The study, Mr Kaburu says, should show critical minimums such as the return on investment, target market and land value ratio to the total project cost.

Maj Karau says that, as a developer, the location of the land matters a lot as all he wants is “to sell”, and therefore “I must do a feasibility check that entails looking at the marketability aspects of the land I want to develop”. This, he says, guides a developer in knowing what kind of housing units to put up and if the concept will sell.

Another importance of feasibility studies is to check the available infrastructure. The cost of the project escalates if, for instance, a sewer line does not pass by the land in question, because developers will have to construct septic tanks to manage the sewage.

Zoning laws that guide on the type of housing units — bungalows, maisonettes or apartments — should also be considered.

“You would not want to start playing cat-and-mouse with the local authorities over your project,” advises Maj Karau, who adds that when it comes to the height of apartment structures, the government should adjust the building code to allow construction of higher apartments.

“Land is shrinking,” he says, “and the only way to offer more accommodation per acre is by constructing units that rise higher than is currently permitted.”

But before a joint venture kicks off, a formal agreement between the two involved parties must be drafted to avoid future squabbles from a discontented party.

This is where the services of commercial lawyers are sourced, and Mr Kaburu, a lawyer himself, says it is advisable to have a written agreement to minimise the areas of conflict.

“The contents of a joint venture agreement will depend on what the parties are trying to do,” Mr Kaburu explains.

However, he adds, a legally sound agreement should, among other things, comprehensively cover how much each party will contribute and how the profits or losses, if any, will be shared.

SPECIAL VENTURE

Another aspect a good joint venture should stipulate is the contribution of each party involved and the time the venture will take before termination.

When all factors considered are set, a new company which is owned by both parties is formed.

“For every project, we form a special venture company that will oversee the financing of the project until its completion, since we want the land owner to participate in every stage of the project.” On completion of the project, the company is dissolved.

Mr Mugerwa says it is important to always make sure that the agreements are clear and enforceable, and that in case  of default by one partner, the risk and exposure of other partners are mitigated.

Four important points to note in joint venture agreements

1.The land owner’s role in a joint venture is to provide clean land that has no encumbrances 

2. It is important to do a pre-arrangement agreement, especially when the number of units that will be put up during the project is not guaranteed

3.As a developer, before proceeding to develop a piece of land, have a feasibility study conducted on the land 

4. In doing a joint venture agreement, the land owner reduces the risk associated with bank loan repayments, and this should be captured in the agreement