The rising cost of apartment construction is a widely discussed topic across the commercial real estate industry. The issue is not limited to multifamily, however. According to the latest data released by the U.S. Census Bureau, total construction costs hit a new record just a month ago.
Seasonally adjusted construction costs for commercial and residential projects totaled $1.369 trillion annually in January 2020, 1.8% higher than the previous month. Apartment demand remains buoyed by a strong economy. However, new apartment stock generally prioritizes the needs of high-income renters, doing little to impact the stock of “missing middle” and affordable housing.
This trend is likely to persist until solutions are found to address construction costs and make “missing middle” and workforce housing projects more palatable to developers. We at Berkadia identified three major hurdles that we believe must be overcome before a wider range of housing options become available.
1. Trade War Uncertainty Dies Down
Trade disagreements and tariff trade-offs have made it difficult for apartment developers to pin down costs for their projects. The fluctuating costs of oil, lumber, and other vital construction materials has led some developers to include contingencies into their bids or look for other ways of passing on their costs to owners.
“Due to concerns about the cost of steel rising, which were in part due to the trade war with China, my client wanted to buy all of the steel for the project prior to commencing construction,” said Steve Lurie, a partner with law firm Greenberg Glusker, in an interview with National Real Estate Investor.
Trade deals with Canada and Mexico signed at the start of 2019 will help to limit uncertainty in international trade markets. This is especially relevant to construction, as Canada is one of the nation’s most important sources of lumber. With any luck, successful early-phase negotiations with China will help to limit new price spikes through the remainder of 2020.
- Key Caveat: It may turn out that the years following the 2020 election are just as unpredictable as the previous four. Aggressive trade tactics may ramp up once again if a successful reelection emboldens the current administration. Alternatively, major shifts to the status quo could occur if a Democratic rival wins the election in November, resulting in new sources of trade uncertainty and contributing to rising construction costs.
2. Labor Pools Expand Via Outreach and Tech
Industry insiders point toward ongoing labor shortages as a key factor driving up the cost of construction. According to data from the USG Corporation + U.S. Chamber of Commerce Commercial Construction Index, over 60% of respondents indicated that the labor shortage had made it more costly to finish projects and more difficult to finish them on time.
What more can contractors do in order to offset their own rising costs compounded by labor shortages? High on the list is addressing perceptions of construction work that deter young, talented workers from pursuing careers in the industry. The same Chamber of Commerce survey found that over 55% of hiring contractors are challenged by negative stereotypes about construction work. Bringing greater attention to the wealth of highly skilled, high-paying positions must be a priority for the entire industry.
Additionally, the results from the 2020 Construction Outlook Survey performed by the Associated General Contractors of America found that 51% of contractors had not made any moves to incorporate new technology, labor-saving equipment, or implement new construction methods to streamline construction. Just 48% reported to have a formal IT plan implemented to make their businesses more efficient. This points to potential opportunities for the industry to pool resources and make these improvements more readily accessible to contractors.
- Key Caveat: The same 2020 Construction Outlook Survey indicates that an abundance of inexperienced employees and limited time to train employees on new technologies were among their largest challenges in 2020. With about half of the industry struggling to solve the problem of how to invest more to offset rising costs, it may take a major shift in the status quo to provide relief to the industry.
3. Zoning Reform Gains Serious Momentum
With rent control legislation being passed in some states and building political momentum in others, contractors and developers are best served rallying around more effective strategies to help expand access to housing through increases in supply.
The success of upzoning reform efforts in Nebraska may very well become a prototype for other states interested in using the strategy to increase unit density and expand housing access. Proponents argue that lifting bans on town homes, duplexes, triplexes and other high-density housing options will be strong step toward reaching this goal.
A recent City Lab article discussed how state lawmakers strategized to avoid the many hurdles that have killed similar legislation in California and Virginia. They hope that performing early outreach early to identify compromises on hot button issues like parking minimums and low-income housing will make an impact. The goal being to ensure the measure won’t get caught up in partisan squabbling before withering in committee.
“We’ve been reaching out to housing groups, renters’ groups, cities, and municipalities,” said State Senator Matt Hansen. “I’ve not had very much negative feedback.”
- Key Caveat: A study published in early 2019 in the journal Urban Affairs Review questioned the effectiveness of zoning reform to lower construction and housing costs. Studying the impact of zoning efforts in Chicago, the study found that the direct result of new density laws was a boost to local property values. However, the analysis did not report an uptick in new construction, let alone improved short-term access to affordable housing.
For zoning reform to serve as an attractive counterpoint to new rent control laws, zoning efforts must occur in tandem with public-private collaboration to fully leverage the potential that higher density offers.
Curious about the multifamily industry’s biggest challenges and opportunities in 2020? Visit the Berkadia blog for weekly analysis of the most important topics impacting apartment construction, development, and financing.