3 facts CRE developers need to know about today’s market
Labor shortages. Supply chain disruptions. Rising interest rates. These concerns are creating a lot of buzz in the commercial real estate industry.
Getting a handle on costs is one important key to success. But what else should commercial real estate developers pay attention to?
Here are three facts to know about today’s fast-changing market.
1.The construction labor shortage isn’t getting better.
The construction industry has been navigating a shortage of skilled workers for several years and the situation shows little signs of easing. New federal spending on infrastructure projects alone will create a need for hundreds of thousands of new workers, a McKinsey study estimates.
“Right now, we have a labor shortage in St. Louis that is worse than I’ve seen in my career,” said Jeff Arbuckle, vice president of the project development services group for real estate services firm JLL.
The tight labor market impacts developers in several ways. Projects cost more. They take longer to get started. And it may be difficult to get contractors to bid on smaller jobs.
Arbuckle is seeing this first-hand in a renovation project. It’s three months from completion and the general contractor has already said any new requests or change orders will impact the schedule. “Sometimes you’ll see that if you have weeks to go,” he said. “But this is a big project with an almost two-year construction schedule. With three months left, that’s unheard of.”
General contractors and subcontractors are working hard to attract and retain workers. They’re investing in high school and community college workforce programs, offering higher wages and expanding employee benefits. But even when these strategies work, they can have a ripple effect on projects, Arbuckle said.
“We have a general contractor on a smaller project that has a new company initiative to give their entire company, including field workers, the week of Thanksgiving off,” he said. “That sounds great, but we’re concerned the workers assigned to that job by our subcontractors who do not have the entire week off — electricians, carpenters, etc. — are going to have three days Thanksgiving week where they’ll get pulled from our project and go to a new project. There’s not a guarantee they’re coming back until their new project gets finished.”
2. Electrical switch gears are the latest broken link in the supply chain.
The pandemic set off a chain reaction of issues across the supply chain as lockdowns, shifts in demand and labor shortages created periodic shortages. Nearly three years later, many industries continue to feel the impact, and commercial real estate developers are no exception.
At the start of the year, JLL’s Construction Outlook forecast a 12% increase in material costs in 2022. Now, costs are on track to end the year 18% higher than in 2021. Delays are nearly universal.
Steel, lumber and sand each have taken a turn in the headlines. Lately, it’s electrical switch gears that are causing a problem. Components that used to have a 16- to 20-week lead time now have a minimum of 30 to 40 weeks and are dragging beyond that. On a recent renovation project, Arbuckle said JLL planned for a six-month lead time for the electrical equipment, with delivery expected in July. Instead, the main switchboard arrived in early November and 25% of the panels won't arrive until 2023.
“It comes down to a lot of the nuanced electrical components within those systems,” he said. “Some of the components come from eastern Europe. Some come from Taiwan or China. Having to accumulate all the components that make up the electrical infrastructure equipment is what is causing the issue.”
3. Rising interest rates mean more projects are being put on hold.
To rein in inflation, the U.S. Federal Reserve has been raising interest rates at the fastest clip since the 1980s and policymakers are signaling we haven’t reached a peak.
“It’s premature, in my view, to think about or be talking about pausing our rate hike,” Federal Reserve Chair Jerome Powell said in a press conference following the November Federal Open Market Committee meeting. “We have a ways to go.”
For developers, these higher rates chip away at the projected financial return on any given project and make it harder to borrow money. JLL Vice President Chris Schmidt said he is seeing more projects put on hold, especially when it comes to industrial property.
“It’s a major point of discussion for all developers right now,” Schmidt said. “Our pencils are down on new projects as we’re trying to figure out what interest rates are going to do and how they’re making deals harder to work.”