Bringing back the housing entrepreneurs

HBF policy director David O’Leary examines the reasons for the decline in the numbers of smaller housebuilders and reveals the finding of a report looking at ways to boost this cohort to help increase housing supply

Housing supply continues to rise but the headline indicators mask a worrying trend that could limit the growth potential in the medium to long term. Over the past 25 years the barriers to entry for new housebuilding companies have grown and more is now expected of the largest companies than ever before. Rather than focusing policy on trying to extract greater volumes from a decreasing pool of providers, or speeding up the delivery of housing through heavy handed intervention, more could be done to help reinvigorate entrepreneurialism amongst current and prospective housebuilders and turbocharge the growth plans of existing small firms.

Unfortunately, at present the burden of red tape, lack of fjnance and perennial planning problems all work against tomorrow’s entrepreneurs, a fact acknowledged by Redrow chairman, Steve Morgan, in his foreword to HBF’s recent report on the subject, Reversing the Decline of Small Housebuilders, who said: “Young entrepreneurs like myself, Tony Pidgley and Lawrie Barratt before us, were able to start fmedgling home building companies from scratch and build them into national builders – something that would be almost inconceivable today.”

Housing supply statistics illustrate a 52% increase in output over the past three years, the fastest sustained increase in housing supply on record. For any sector to post this kind of upsurge in production would be impressive, but to do so in a market so heavily dependent on external forces, at the whim of ever-changing policy and the decision making of hundreds of local planning authorities, is little short of astounding. Furthermore, the prospects for the foreseeable future are strong. The 289,000 new homes permissioned in the year to September 2016 was the most since the HBF Housing Pipeline reporting began in 2006. This serves as further evidence that collectively the industry has responded positively to the major government interventions of recent years, such as the introduction of the National Planning Policy Framework and the Help to Buy scheme. However, even during what has been a promising time for housebuilders as a whole, the number of private housebuilding companies has continued to dwindle, few new entrants have been able to secure a foothold and long-established smaller fjrms have found the business environment challenging.

The potential rewards are substantial. If we were somehow able to reinstate the number of small fjrms (1–100 homes per annum) that were active in 2007, then based on the current average annual output of companies in this bracket we could expect to see an additional 25,000 homes produced each year. If that seems overly-ambitious, even returning to the immediate postrecession numbers active in 2010 could yield an extra 11,000 homes per year. In addition, small housebuilders traditionally played a vital role in bringing new recruits into the industry and training them for a career building homes. At a time when the industry’s skills challenge is at the forefront of housebuilders’ and policymakers’ minds this would be extremely welcome.

Recessions in the early 1990s and late 2000s accelerated the diminution of the housebuilding SME but before, between and since then, the decline has been unremitting. The peak in the industry’s plurality occurred in the late 1980s, specifically in 1988. At that time some 12,215 companies were building between 1 and 100 homes per year, the best shorthand classification of a small enterprise in the sector. This coincided with the post-war peak in the net supply of new housing (Figure 1).

The weight given to local development plans by the Town and Country Planning Act 1990 built on previous legislation tipping the balance of control signifjcantly away from private, entrepreneurial companies in favour of planning authorities. The Town and Country Planning Act 1947 brought the introduction of betterment charges and nationalised the right to develop land by requiring landowners to seek permission to build but there still existed a presumption that landowners would be permitted the right to develop their land unless there was good reason why they should not. This was a critical turning point which overwhelmed much of the entrepreneurial spirit that prevailed in the industry in the 1980s when demand grew, and the availability of mortgage credit increased, allowing more households to purchase a home of their own, supply rose to serve this demand. This responsiveness is essential in a well-functioning market and has largely been eradicated. The additional land use regulation imposed through the 1990 Act inhibits the ability of private enterprise to respond to market signals. SMEs had been nimble enough to exploit opportunities, evidenced by the fact that in 1988 they were responsible for four in ten new homes, compared with just 12% today.

The fact that these changes to the planning framework coincided with a brutal period for the housing market and economy only served to exacerbate the impact on the sector. The 1990-91 recession had a greater impact on households than the most recent economic contraction. Unemployment soared to 10% compared with 8% in 2009, and Bank of England base rates of 10-15% brought record levels of home repossessions. In each year of the 1990s thereafter the number of homebuilders either fell or flatlined despite everimproving economic conditions (Figure 2).

The recession, and more pertinently, the restrictive development finance environment experienced since 2008 brought a further sharp fall and sustained decline in the number of active companies. The situation resembled the previous contraction in the way that it coincided with a detrimental change to the planning system. This time in the form of a reclassification of garden land from brownfield to greenfield. Sustainable infill of garden land had been a specialism of small housebuilders and sustained many companies with the local knowledge to identify potential schemes.

The NPPF, while successful in bringing land forward for many more permissioned homes, has led to a greater number of large sites gaining outline planning permission. Indexed at 2006/07 levels, last year saw 14% more homes permissioned in England but on 7% fewer sites (Figure 3). Indeed, the number of sites granted planning permission last year was nearly identical to that of the fallow period of 2012. Excluding sites of one or two units, the average permissioned site has increased in size by more than 20% since 2007.

To the planning authority this trend makes complete sense. Rather than a local plan that allocates many sites across the area potentially generating opposition in a number of council wards, the authority can at least nominally satisfy their five year land supply requirements in one fell swoop or at the borders of its domain. Financially, too, the imperative has driven authorities towards consolidation. According to NLP, between 2009 and 2016 planning departments experienced a 55% real terms reduction in funding, as the impact of cuts fell predominantly on discretionary departments as a means of protecting services such as social care. The lack of suitable sites and the paucity of resources within planning departments to process applications and discharge conditions is a recurring frustration for the small housebuilding companies.

Being less reliant on a small number of housebuilders would not only make for a healthier industry but more providers, building homes on a wider array of sites would also help to accelerate the speed at which supply increases. New analysis for Reversing the Decline,by Savills and Hometrack using NHBC data, shows that the speed of delivery on small sites is consistent across areas with differing strengths of local housing market. A broader range of sites within local plan allocations and efgective monitoring of actual delivery to ensure projections are being met on an ongoing basis would undoubtedly benefit speed of delivery and housebuilding plurality.

In many cases, the frustrations that smaller builders experience are those dealt with just as frequently by the largest companies but whereas larger developers have the ability not only to employ teams of specialists to work through delays and problems, risks and costs associated with delays can be spread across dozens of sites.

When it comes to red tape, the application of environmental legislation, the vagaries of highways authorities or the difficulties faced by builders when trying to get new homes connected to water and sewerage infrastructure, again, the concerns highlighted in the report are not dissimilar to those dealt with by national builders, but the effects are felt more profoundly by companies at the smaller end of the spectrum of HBF’s members. Examples highlighted include builders being quoted certain sums for supplying water to a site prior to land purchase only for the fees to increase 80-fold postacquisition. Of course, mechanisms exist to prevent unfair charges but these processes take several months or longer, eating into margins and limiting growth of small firms financed on a per project basis.

The general availability of development finance and the terms on which it is provided have proven a significant barrier to entry for prospective entrants to the market and a brake on growth for the smallest companies. The typical terms on which lenders will lend require substantial early equity input from developers with no withdrawal for the builder until the very end of a project, making recycling of existing equity and the resultant expansion extremely challenging to achieve. The Homes and Communities Agency’s Home Building Fund, may address some companies’ problems accessing finance, especially for larger SMEs gearing up for swift increases in their footprint, but early evidence suggests that many are still struggling to agree deals with the Agency in suitable timeframes. HBF has put forward a Help to Build scheme through which government, via guarantees rather than direct lending, could help to improve the scope and terms of lending to small builders.

Reversing this decades long trend is no easy task. Wholesale reform of the core principles of the planning system may be unlikely but much can be done within the current framework to improve the prospects for new firms and existing small housebuilders, reopening a realistic pathway for today’s entrepreneurs to build tomorrow’s national housebuilders.

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