As the single-family housing market began to tank last year, many developers were expecting the cost of building apartments to drop this year. But prices for labor and materials keep rising faster than inflation and should continue to rise for the foreseeable future, experts say.
“We haven’t seen any let up,” said David Levey, executive vice president for Forest City Residential, headquartered in Cleveland. Although the news is especially bad for developers of mid-rise and high-rise buildings like Forest City, costs are up for all types of multifamily construction.
It might seem illogical at first: Demand for materials and labor has dropped sharply, but prices keep rising.
As the housing bubble burst, housing starts crashed to reach a seasonally adjusted annual rate of 1.5 million in April, down from 2 million in 2005. That should leave enough construction materials sitting in warehouses to build half a million homes and apartments, an oversupply that would seem likely to damp prices.
Instead, the price of new multifamily construction rose 3.5 percent over the 12 months that ended in April. The cost increase isn’t as bad as last year’s 7.9 percent jump, but it’s still above inflation as measured by the overall consumer price index, and it’s a huge disappointment to developers who hoped prices would drop.
The problem is that even as demand from the housing industry for materials and labor has dropped, commercial developers and builders overseas have picked up the slack.
An appetite for metal
The rapid transformation of China into an industrial superpower has fed an insatiable appetite in the world’s most populous country for tremendous amounts of concrete, steel, and other metals.
Meantime, U.S. developers started $97 billion worth of non-residential projects over the 12 months ending in April 2007, a 22 percent increase from the prior year, according to Reed Construction Data, an Atlanta-based research company.
Hotel and office construction has been especially strong, using many of the same workers and equipment needed to build apartment or condominium towers.
High energy prices are also pushing up the cost to produce and ship construction materials. The price of crude oil has risen back toward $70 a barrel after falling to around $50 in January.
Still, developers of garden apartments, which need less of the copper, steel, and cement that have risen most in price, are benefiting from declining prices for a few materials, such as framing lumber and gypsum wallboard.
Single-family homes, which use similar materials and labor, endured just a 2.7 percent rise in construction costs in the 12 months that ended in April.
“Copper is still an issue, and steel is still an issue,” said Dick Devany, general manager for Gross Builders, a garden apartment developer based in North Royalton, Ohio. “But some of it has been compensated by the price of wood.”
One result: Some developers have changed their plans to rely more on wood and less on steel and concrete, even for high-density projects For developers who know they’ll need materials with fast-rising prices, it could pay to buy the items in advance and hold them in a warehouse, said Kenneth D. Simonson, chief economist for the Associated General Contractors of America. “Anyone that wants certainty should be willing to buy at the time plans are set,” he said.
Other developers are moving to the opposite extreme and asking their contractors to sign contracts in which the price of their services moves upward or downward with the cost of materials.
Although that leaves the developer with the price risk, it can be much less expensive than having contractors set a fixed price. Smart contractors will work the worst-case scenario into their bid, especially if they are a small shop that could be put out of business by a price spike.
Workers still scarce
You’d think that if contractors were building fewer apartments and condominiums, then more apartment contractors would be looking for work—but that’s not necessarily so.
“I’ve been hearing that many subcontractors that formerly concentrated on residential work are now doing commercial construction,” Simonson said.
Employment on non-residential construction jobs, like hotel and road building, grew 2.4 percent over the last 12 months. That nearly offset the 3.9 percent drop in residential building and specialty trades employment.
As a result, it is still difficult to find contractors, especially if those contractors have skills that can be used in commercial work. “The trades are very busy right now,” Levey said.