Property development: Freezer or market downturn clauses
Property development contains inherent risk. Property contracts are used between the parties to allocate this risk. These property developer contracts can be option agreements, conditional contracts or promotion agreements.
Where there is wider market uncertainty the parties, or their agents, should consider the legal tools to deal with risk allocation in the case of significant economic change. Such tools can include a freeze clause which can step into price provisions of a contract. This may postpone (i.e. freeze) a site purchase in market circumstances which means the contract would, otherwise, be terminated and the deal fail.
The risk for a developer is that they are likely to have invested a lot of resource in the planning and site investigation processes. It might be commercially fair and preserve the effort to have a freezer provision, so as to put back contract position for a period of time, in the hope the market bounces.
There can be a benefit for the landowner. An option lapsing is not necessarily a windfall. Standard options and promotion agreements are normally based on market valuation calculations, to synergise the interests. A landowner is unlikely to want to sell when the market is at rock bottom.
Some of the key points in drafting such clauses are:
When might such a clause be useful?
This could include circumstances where a contract, typically a call option agreement, has been triggered or exercised in tranches, to extend a period to acquire further tranches. Or it could apply where planning permission has been obtained or is near, but the site would not be economically viable, if there has been a sharp correction.
What counts as a significant dip in the market?
A legal clause needs a clearly defined trigger. That means setting out what counts as a significant downtown in the property market. This could be based on a % change, perhaps against an agreed index of house process or a minimum price for the site. A further factor might also be if there is a significant increase in costs of building out this site (labour and energy costs being topical).
How long to freeze?
Two years is often suggested, based on where there have been roller coaster periods in the past and to allow the market to recover. However this depends on many factors and would also depend on site and regional specific considerations. A developer will need to consider the valuation aspects and a landowner will need to consider how long land is potentially tied up, without the value being delivered. Both parties will need to consider the overall picture and agree, bearing in mind that strategic land is often developed over long time periods in any event.
Most property development documents will have an agreed long stop. Consideration will be needed if a freeze period interacts with an agreed long stop period. So if a long stop date specified will be a soft date that is extended or a hard, absolute long stop even if the freeze is in effect.
Extension periods and price suspension?
A freeze period may also interact with other normal provisions in property contracts. Extra thought is needed. For instance, extension periods might already built in - for planning delays or judicial review challenges. Would this overlap? Certain contracts, such as promotion agreements, also have periods for marketing and taking a consented site to the market. There can be provisions for suspension of this marketing or bid process already. For instance, if there are competing sites or an oversupply of stock in that market segment. Could there be suspension for one reason and then a downturn freeze? This could be a potential 'double whammy' in terms of stretching timelines and this should be factored in.