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Challenge: Limited Workers, Tighter Schedules Identified as Top Risks - Labor shortages have been identified as the top risk facing the construction industry in a new survey of general contractors, construction managers, and specialty contractors released by construction consulting firm FMI. Leading concerns included limited supply of skilled craftworkers (named by 80% of respondents), limited supply of experienced supervisors (44%), changes in contract language/insurance (33%), and tighter project schedules (30%). Results also indicate that construction and engineering executives are now taking a more proactive approach to risk management, with 25% in 2019 saying their organizations are more effective at managing risk compared to 17% in 2016. Firms have new tools, new technology, and risk management strategies to better adapt to a changing construction and engineering landscape, according to the survey.
Industry Impact - Residential construction contractors may want to take a proactive approach to risk mitigation to better manage potential staffing issues, contract changes, and accelerated project schedules.
Highly Cyclical Demand - Demand for new residential buildings can change rapidly, depending on the economy and interest rates: from 1986 to 1991, annual US home construction dropped 40%; from 1995 to 2005, it increased 75%; and from 2006 to 2011, it fell 65%. As the economy has recovered in the US, demand for housing has strengthened and prices have increased. In local markets, changes in demand can be even more severe.
Risks of Speculative Projects - Because a large number of homes are built speculatively, builders bear the risk that changing market conditions will produce lower selling prices than they'd anticipated. In some markets, home prices can be highly cyclical. Even in markets where prices don't fall, builders may anticipate getting a higher price than they eventually receive.
Managing Costs (Nonresidential) - Construction companies can see profits shrink or disappear when costs run beyond estimates. Such risks are particularly high when companies enter into fixed-price contracts that hold them responsible for cost overruns. Factors including material price spikes, worker shortages, and weather-related delays can all lead to losses. On large projects, prime contractors handle more complicated cash flows, including progress payments to subcontractors.
Cyclical Demand (Nonresidential) - Demand for construction services is highly cyclical. Nonresidential construction depends on capital spending by businesses and government agencies. Demand is also sensitive to changes in employment, consumer confidence, consumer income, household formation, availability of financing, and interest rates.
Dependence on Local Economy - Despite national trends, demand for housing can be very volatile in local markets. Even in a large market, demand for new single-family homes can change by 60% in just two years; in smaller markets the change can be even greater. This demand volatility is due mainly to population shifts and factors in the economy such as unemployment.
Building Materials, Land Costs Vary - Builders often bear the risk of cost changes because of fixed-price contracts and speculative home construction. The price of lumber can change 30% within six months, and land availability and prices, the major cost of construction in some markets, can also change rapidly. Sometimes builders can pass higher labor and material prices to consumers; however, when prices rise quickly, some builders, especially smaller ones with less leverage, can get caught with the costs between the time they agree on a price for a project and the time they finish.
Dependence on Seasonal Labor - Because of the highly cyclical nature of demand in local markets, most homebuilders don't maintain a large permanent labor staff, and must hire new workers when demand increases. Local labor shortages are frequent, especially in rapidly growing communities. Many builders hire immigrant workers to fill the labor shortage. Builders that rely on immigrant labor may be impacted by regulations regarding employment of non-citizens.
Environmental Regulations Inhibit Development - In dense urban and suburban areas, builders are increasingly being forced to construct new homes on "marginal" lots that may abut wetlands, waters, or wildlife areas, conflicting with wildlife preservation and increasing construction costs. Environmental Protection Agency (EPA) and Endangered Species Act (ESA) regulations commonly require costly stormwater management systems and erosion control management.
Competition in Custom Building - Mass production-style builders are vying for the high-end business by advertising as custom builders. Traditional custom builders (mainly small companies that build fewer than 20 homes a year) have had to become more efficient with labor and materials, streamlining the design process to take the hassle out of building a custom home.
Excess Supply, Vacancy - Shifts in the supply of existing homes affect the quantity and types of homes builders construct. Slow housing markets, often the result of high interest rates, property price inflation, or tight credit, typically lead builders to cut construction to prevent holding unsold homes in inventory for extended periods. When a market is oversupplied with spec homes, builders may switch to custom or commercial construction until the market stabilizes. Builders that offer financing may be severely impacted by a mortgage collapse, suffering loss of revenue that can lead to bankruptcy.
Onsite Vandalizing - Damage by vandals and theft of construction equipment and supplies are costly for builders. High prices for construction materials, such as lumber, copper wire, and metals, as well as fuel, have led to increased theft from construction sites. Builders that buy additional supplies due to theft may pay higher replacement costs, cutting into profits. Some builders are protecting job sites by installing cameras and alarm systems, lighting them, building fences, scheduling just-in-time deliveries of supplies, or securing equipment and supplies in onsite containers.
Worker Shortages (Nonresidential) - As building activity increases, construction companies often struggle to find skilled workers to meet the rising demand. The challenge is particularly acute after periods of low construction activity and high turnover, conditions that can force construction workers to leave the industry. During the recession of the late 2000s, for example, many laid-off construction workers in the US sought employment as general laborers, landscapers, and truck drivers.
Uneven Revenue (Nonresidential) - Although commercial contractors incur a steady stream of expenses, payments from customers are periodic, and some may be retained until after a project is complete. Delays related to weather or other factors can exacerbate cash flow problems.
Safety Liability (Nonresidential) - Construction is among the occupations with the highest fatality rates. Contractors carry liability insurance to protect against lawsuits brought from injuries and deaths to employees or job site visitors. Training and workplace safety programs can help reduce injuries and fatalities.
Fraud and Corruption (Nonresidential) - Corruption related to contracts is a concern in the construction sector, in both developed and developing countries. The construction process is rife with opportunities for bribery, fraud, or other forms of corruption. Grant Thornton estimates that fraud costs the construction industry about $1 trillion a year globally. On major projects, large amounts of money are spent over an extended time period and are distributed to numerous contractors and subcontractors.
High Insurance Costs (Nonresidential) - Most construction contractors pay relatively high premiums for various types of insurance, including worker compensation, general liability, and surety. Construction delays and defects, accidents by inexperienced or overworked employees, and poor bookkeeping are major insurance issues.
Consolidation - National firms continue to grow through acquisitions, the easiest way to enter new markets and strengthen their positions in existing ones. Larger firms, which stockpiled cash and land during the downturn, are looking to expand especially as home values and buyer demand stabilizes. Large homebuilders enjoy economies of scale, with national purchasing power for materials and greater access to capital. Small homebuilders generally don't grow beyond the 30-home annual building level because of the intensely local nature of real estate.
Non-Homebuilding Services - Some large builders have branched into the related fields of modular and manufactured housing, construction materials, commercial construction, mortgages, and insurance. Some builders have established mortgage banking arms to provide financing for home buyers; typically, these operations originate mortgages, then sell them to other investors. During the recent market downturn, major construction companies pulled back from some of their non-core business segments, such as home services, commercial construction operations, and sub-prime lending services.
High-Tech Homes - Builders are responding to consumer demand by building more new houses with advanced data and other communication capabilities installed. Younger consumers, raised on electronics and computers, expect structured wiring that supports smart home technologies such as learning thermostats and internet-enabled security and monitoring features.
Competition from Commercial Builders - More commercial builders are considering residential construction an extension of their regular business, although homebuilding requires different contractor skills and activities and often has different demand cycles than commercial construction. Homebuilding offers increased risks, but also offers higher margins than commercial work.
Green Construction Growing - Although a green home can cost more than a conventional house, some lenders offer mortgage incentives for energy-efficient homes. Green building innovations include more porous materials in walkways and patios to prevent erosion from rain runoff, engineered recycled lumber in building, and the conversion of wood or drywall construction waste onsite into landscape mulch. The US Green Building Council offers LEED (Leadership in Energy and Environmental Design) for Homes, a green home rating system, which has continued to evolve with technological advancements. Some states such as California have required new residential construction to have zero-net energy status, meaning that the homes produce enough renewable energy to meet their own annual energy consumption requirements.
Millennials Becoming Homeowners - Millennial home buyers, particularly those who have started families, are navigating toward more affordable residential areas that promise high job growth. Many are turning to suburbs to plant their roots. Suburbs are successfully attracting younger and first-time home buyers because these areas are typically 20% less expensive than the nearest major metro areas.
Design-Build (Nonresidential) - The growing design-build movement encourages collaborative project development in all phases of design and construction. Significant cost and schedule savings, as well as increased quality, can result from collaboration on technologically sophisticated projects.
Modular Construction (Nonresidential) - Permanent modular construction (PMC) can enhance the speed and efficiency of project completion. Modular components can be built offsite in a factory or warehouse and then transported and placed. Advancements in modular technology allows for more durable, versatile structures. PMC can used to build fast-food restaurants, army barracks, and even high-rise offices and housing.
Urbanization (Nonresidential) - The world's population is becoming increasingly concentrated in urban areas, a trend that drives demand for structures such as airports, office buildings, parking garages, restaurants, and shopping malls. In 2014 54% of the world's population resided in urban areas; by 2050, 66% of the population will be urban, according to the United Nations. North America, Latin America and the Caribbean, and Europe are the most urbanized regions, while Africa and Asia are urbanizing at the fastest rates.
Internet Marketing - An active online presence can dramatically improve traffic to builder sales centers, increase conversion rates, and improve customer satisfaction by enabling builders to stay connected with customers through the entire home ownership cycle. With internet and mobile application technology, potential buyers can visit a number of different developments, view the types of models available, and take virtual tours through model homes. The sites also enable buyers to apply for mortgages and insurance.
Special-Purpose Housing Developments - The changing demographics of the US population suggest that demand for second homes and retirement communities will increase. The large baby boom generation is now in its peak years of earning power and asset accumulation. Affluent families have the means to buy second homes for vacations, and these same families will be in the age range for retirement during the next decade.
Multifamily, For-Rent Apartments - High demand for apartments and condos has resulted in many traditionally single-family home builders also turning to multifamily construction. Many people are unable to afford to buy a home or can not qualify for a mortgage, creating stronger demand for rental properties. Builders such as Lennar and Toll Brothers, for example, are following the trend by breaking ground on apartment and condo communities. New single-family rental home communities are also gaining in popularity for home builders.
Need for Repairs and Retrofits - The inventory of homes in the US is aging. As a result, there is higher demand for major repairs and maintenance. More than 65% of US owner-occupied homes were built before 1990, according to the National Association of Home Builders (NAHB). These homes may be sold at lower prices, but will require extensive investments to update and repair them. Homebuilding slowed during the recession, creating a lack of new inventory. This also has created pent-up demand for new homes. Baby boomers are especially in the market to buy newer, low-maintenance homes and trade up from their aging homes. Homebuilders that specialize in new construction will benefit long-term as more people look to buy new homes in a market filled with old houses. Residential construction contractors also may win more contracts to remodel and refurbish older homes.
Green Building (Nonresidential) - Demand is growing for environmentally friendly (green) building and construction materials, practices, and certification. Buildings are responsible for more than 40% of global energy use and one third of global greenhouse gas (GHG) emissions, according to the United Nations Environment Programme. Construction companies with green building capabilities are positioned to benefit from increasing efforts in the commercial and government sectors to build and operate more environmentally friendly buildings.
Emerging Markets (Nonresidential) - Developing countries provide some of the greatest opportunities for construction expansion. Potential is particularly high in China and India, where economic and population growth is fueling construction of all types. The US, China, and India will account for more than half of global construction growth between 2015 and 2030, according to Global Construction Perspectives and Oxford Economics.
Mixed-Use Developments (Nonresidential) - Construction of mixed-use developments that combine residential, office, and commercial spaces will likely increase as the population becomes more urbanized. Some city planners advocate for such projects because placing residents and workers closer to stores and restaurants can help reduce city traffic. Nonresidential construction firms may need to expand their building expertise through joint ventures or acquisitions to take advantage of mixed-use development demand.
Joint Ventures (Nonresidential) - As projects get bigger, on-time completion becomes more important to owners of construction firms. Costs for late completion, including penalties, rise disproportionately to actual construction costs. The larger scale and complexity of projects lead to more joint ventures among construction companies, which can pool their expertise and financial resources in bidding for contracts and in implementation.
Copyright 2019, Hoover's Inc., All Rights Reserved. This data cannot be copied, sold, or distributed in any manner without the written permission of First Research.
Demand: Depends on population growth and low interest rates
Highly dependent on home prices
Risk: Housing slumps and volatile input costs
The value of US nonresidential building construction spending is forecast to grow at an annual compounded rate of 5% between 2019 and 2023. Data Published: January 2019
The value of US new residential home construction and renovations is forecast to grow at an annual compounded rate of 7% between 2019 and 2023. Data Published: January 2019
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