More option-to-purchase data from developers will benefit homebuyers, shareholders

Wed, Nov 04, 2020

KALPANA RASHIWALA


JUST over a month ago, the authorities clamped down on the practice of private housing developers continually re-issuing options to purchase (OTPs) upon expiry.

This should reduce distortions in the volume of developers' sales - at least with regard to new options issued with effect from Sept 28, 2020.

To the relief of some developers, the Urban Redevelopment Authority (URA)'s Controller of Housing has allowed developers to continue to honour prior commitments they had given to property buyers. This applies to OTPs already issued before Sept 28 and where the developers have an existing agreement with buyers to re-issue the OTP for the same property up to a specific period.

But this allowance may have implications for developers, especially if they are listed. Investors may want to ask a few questions.

Let's take a step back and look at the rules.

In Singapore, licensed housing developers have to report their sales every week to the Urban Redevelopment Authority and this is based on options issued. This information is publicly available.

Typically, a developer of a private residential project issues an OTP after a buyer has paid a booking fee of 5 per cent of the purchase price of the property. Within two weeks from the OTP date, the developer has to send the sale and purchase agreement (SPA) to the buyer.

Within three weeks of receiving the SPA, the buyer is required to exercise the option by signing the SPA and returning it to the developer.

If the buyer does not exercise the option by the stipulated deadline, a quarter of the booking fee - which works out to 1.25 per cent of the purchase price - will be forfeited to the developer.

Prior to Sept 28, however, some developers continually re-issued OTPs without any forfeiture of the booking fee. This could go on for six to 18 months, or even longer.

This was a sales strategy devised by some agents in partnership with developers, initially to help financially tight potential buyers defer their purchase and payment.

Some developers and agents also used the scheme to quickly ramp up the initial sales volume in a new project, and use that volume to draw further buyers.

But the practice potentially distorts developers' sales figures and creates a false market. There is no certainty that all the continually re-issued options would eventually be exercised, whereas the impression given in the meantime is that the units have been sold.

Risk of defaults

The intending buyer, or OTP holder, may eventually decide not to exercise the option. He has the right to walk away from the earlier deal by forfeiting 1.25 per cent of the purchase price.

Analysts say that by reining in the re-issuance of OTPs, the conversion rate of OTP to a true sale will improve.

This is important to a developer and its shareholders.

In a normal deal where the buyer exercises the OTP within the three-week validity, the remainder of the downpayment to the developer - 15 per cent of the purchase price - has to be made within eight weeks from the OTP date.

Thereafter, the buyer has to make progressive payments in accordance with the stages of the project's construction.

When an OTP is repeatedly re-issued over a prolonged period, however, the developer does not receive cash flow via progressive payments beyond the initial 5 per cent booking fee until the buyer exercises the OTP.

Moreover, under prevailing accounting rules, the developer of a private housing project in Singapore is not allowed to begin progressive recognition of turnover and profit on units for which SPAs have not been signed.

From the viewpoint of an investor in a listed property developer, therefore, the clampdown by the URA is a good move.

Data on new sales as captured in OTPs issued since Sept 28 should provide a more accurate picture of the volume of secured sales.

But what about any earlier transactions for which the developer had already agreed to continually re-issue OTPs to buyers for a period of time?

In the interest of transparency and giving shareholders a true picture of developers' cash flows from their Singapore private housing projects, should listed developers be required to make greater disclosures?

More data is better

One good practice would be for developers to list both the cumulative number of units they have sold in each project as at the end of each reporting period along with further details about whether or not the buyers have exercised OTPs. For those units whose OTPs have yet to be exercised, how many are under a continual re-issue arrangement? And what is the duration of the arrangement?

Developers could also disclose the range of per square foot (psf) prices as well as the median psf price of units under the affected OTPs.

The answers to such questions should provide shareholders, and analysts covering property stocks, with accurate information to gauge the risk of some of these OTPs not being exercised eventually.

They can better assess the probability that a developer - having told the market that it has sold, for instance , 80 per cent of the units in a project - is left with much more unsold stock than anticipated.

Shareholders would also have a clearer picture of when a company can be expected to start booking revenue and profit on units sold.

Furthermore, the availability of such information will allow potential buyers to make better decisions - instead of jumping on the bandwagon in herd-instinct fashion.