Lesson Tag: MF307AIA-AR

Construction costs are rising, and there doesn’t appear to be any slowdown given the high development demand and shrinking labor pool. 

Key Points 

• Construction costs 
• Shrinking labor pool 
• Quantity of work, 
• Technology 
• Regulatory codes 

Construction costs are rising, and there doesn’t appear to be any slowdown given the high development demand and shrinking labor pool. The U.S. unemployment rate dipped to 3.9% in July, a condition that is causing companies to search harder to fill positions.

When combined with rising demand for multifamily projects, the situation can be challenging for developers and contractors, alike. Mike Rovner, observes that construction costs have increased approximately 10% to 15% over the last year, depending on the trades involved in a project, and

35% over the past five years.

The commercial construction veteran for more than 26 years notes, “During this time, there has been a drastic increase in the amount of work available for certain trades, such as drywall and stucco contractors, and that has in turn created a supply and demand scenario where labor costs, as well as material costs, have gone up significantly.”

Rovner says the biggest factor driving up costs is the quantity of work. “The labor pool gets diluted and then the costs for these trades go up, providing tradesmen the opportunity to charge more,” he said. “In the past, there wasn’t a lot of work for these trades, so it has come full circle during the past few years, where these tradesmen can now demand higher pay and pick and choose jobs they prefer.”

Other factors contributing to the rising cost equation are technology and regulatory codes. As a result of changes in those areas, it has ushered in a need for workers with higher levels of skills as well as experience, both of which increases costs on projects.

While Rovner says both labor and material costs have gone up, the majority of the increase to project budgets is the labor component. “The dilution of qualified tradesmen has made a significant impact on overall costs of construction,” he said. “I do not see this abating for quite some time, as long as the quantity of work continues to increase.”

In the interim, Rovner has some advice for developers. He suggests a way to help mitigate rising costs is by instilling values and strategies to keep employees long-term and to provide them with more than just a job. “We have built a culture around our people to cultivate teamwork, support, recognition and appreciation,” he said. “This provides our people with the feeling they are working with our company collaboratively as a team rather than just collecting a paycheck, which in turn increases employee retention.”

Those same values should be radiated through vendor and subcontractor relationships, as well. “We have made it a top priority to pay faster than most companies, which makes our subcontractors and vendors have a loyalty to us they may not have to other companies that take longer to pay.”

Rovner notes these best-practices allow the company to mitigate the costs of labor increases by building long-term relationships with vendors and contractors, rather than continually having to start over and pay higher costs for new options.

An overarching approach Rovner applies is to create a collaborative atmosphere, which in turn, generates a teamwork environment with everyone who is a part of the project – from the owner to the subcontractors to the employees working on the job. He says, this allows the team as a whole to creatively problem-solve any issues that may arise, and encourages a long-term relationship built on trust.

Additionally, don’t discount the value of spending more time upfront on the pre-construction stage, and finding ways to do things more cost-effectively. “The more time that is spent upfront before the construction costs begin, the more ways we can work together to save more money on the front end, as well as the back end,” says Rovner. “Teamwork at all stages that is beneficial for all parties involved is the best advice for a successful project.”

Savvy owners know even though an upgrade may be more expensive up front, it could save significant money later.

Key Points

• Upgrade
• Contractors
• Stability
• Long-term value-creation investment objectives

A smaller owner may choose a product that is on sale today and buy only what they need for one unit and a year later go with a different product, notes Rovner. “Down the line, that makes it more complicated for maintenance teams to repair things and if they haven’t gone with a product that lasts it could cost more to replace it because it wears out sooner,” he says. “Savvy owners know even though it may be more expensive upfront, it could save significant money later.” Conversely, Rovner points out small owners may spend $100,000 a year on maintenance if they take a short-sighted approach, but if they’d spent $500 dollars more initially, they could have eliminated maintenance costs for 20 years.

Small owners are also likely to hire contractors that have less experience and qualifications. They may not carry all the necessary insurance, or may cut corners, or not pull all the required permits for a job. “When property owners go with the lowest-priced contractor, they may actually expose themselves to larger risks,” Rovner says. “Larger owners know a reputable and experienced contractor may cost a bit more, but they have more comfort with that decision since they understand the higher cost can be as a result of that contractor all the right insurance, licenses, and quality people, thus their risk is reduced by going with them.”

An established contractor with a strong track record often brings comfort to an owner because it conveys stability and shows they likely will still be in business in the future, points out Rovner.”

Another area small owners typically won’t explore is sustainability or how long something will last. “They figure if they do it now and it lasts a year that is okay,” Rovner says. Large owners have come to adopt an approach based on longevity. They favor products that protect the property better over a 10- to 30-year timeframe. “We have some owners we work for who strive to build projects that last 50 years,” he says. “They know spending more now to achieve that is simply smart business.”

Smart owners may spend more now because it pays off later, Rovner notes. A key area of focus is investing in water proofing products that save the asset over the long term basis. Those owners understand over a 20 year period they will make more money because they are not to replace or fix things because of water proofing issues.

Large owners are also focused on executing and timing of projects. They seek to complete projects faster, and they may even issue a performance bonus for completing the project quicker. Rovner says, “We received a $125,000 bonus for finishing a project 30 days early. The owner knew if the 100 units were finished early, they could rent them out sooner and it would result in a $400,000 increase in revenue.”

Rovner says, “Small owners are often cost-adverse leading to decisions that are ill advised. They won’t do things quickly, and they may leave a unit vacant three or four months simply because they don’t want to spend money right then. They think it saves money.”

Ultimately, those short-sighted decisions may actually cost an owner more in the long-term. That’s why Rovner advises both large and small apartment property owners to adopt practices that support long-term value-creation investment objectives, rather than short-term choices.

What Can Small Multifamily Property Owners Learn from Big Landlords?

Key Points 

• Large multifamily portfolios 
• Savvy investment decisions 
• Investment strategies 
• Long-term hold strategy

Large apartment property owners who have assembled a sizable portfolio typically haven’t achieved success by mistake or luck. The degree of performance is likely tied directly to some savvy investment decisions that are supported by well-conceived improvement strategies.

Those same best practices can be adopted by smaller multifamily property owners, too. Mike Rovner points out smart investment decisions can be enhanced through long-term planning and a big picture perspective, regardless of the asset or portfolio size.

Rovner says, “One of the main habits a small multifamily property owner will do is step over a dollar to get to a dime. They try to be so cost-effective that they often miss opportunities that are there to increase ROI. Big owners usually have long-term vision of a 10 to 15-year period, yet small owners tend to look at 12 months.”

A reason large owners may take a different view about property improvements is they tend to hold properties and don’t usually sell them, so they are seeking long term hold and value and they base their decisions on that.

Small owners often try to hire repair people or execute remodeling contracts that they think are most cost-effective as possible. What happens is the project tends to take longer because the contractor doesn’t have the capacity or motivation to complete quickly, notes Rovner. He says, “Those types of owners don’t understand that completing the work faster will result in getting heads on beds sooner. Large owners are laser focused on the fastest course to getting heads in beds. Small owners don’t think that way and they are very cost focused.”

Large owners know that a higher quality contractor will produce a better result in the long run. They likely will be able to generate higher rents and that will lead to higher ROI’s for a large owner who pushes the envelope and is more aggressive based on their long-term strategy, Rovner notes.

On the other hand, he says, small owners are typically less aggressive. “They tend to be worried more about the perceived risk or exposure of spending too much. They steer clear away from that, while large owners take more risk,” Rovner says.

Another way large and small apartment owners often differ is in how they procure and bid out projects. “Small owners will typically shop everything out and piecemeal a project together without a long-term strategy,” Rovner says. For instance, large owners know unit consistency is important down the road, even though it will take more time planning, estimating and buying all materials needed to complete the work up front. Additionally, it will require a larger investment upfront. They know selecting one plumbing or lighting fixture at the start of a project will result in uniformity, and they will save money over time if they go with a product that has a five-or 10-year lifespan.

In-person meetings are another important component of successful projects, even during the COVID-19 pandemic.

Key Points 

• In-person meetings 
• Successful projects 
• Collaboration 
• Team Relationships 

Another component of a successful project is frequent in-person meetings. The coronavirus guidelines make that more challenging, albeit no less important. Job issues must be discussed openly and with candor, notes Rovner, who advises getting issues out in the open and advocates for an atmosphere where there’s less worrying about “stepping on toes.”

Rovner says, “Once people start focusing on the issue or situation rather than who is to blame for whatever may come up, it sets up a condition that actually fosters collaboration. That’s when a willingness to compromise in the best interests of others and the overall project finds its way onto the job site. It can completely change the atmosphere of a project to where everyone works together from the top on down.”

Among the other hindrances to collaboration are when people stop talking and rely on other forms of communication to connect. Rovner says, “When people primarily communicate via email, non-verbal cues get lost and it is difficult to read body language.” That can be when finger pointing and blaming emerges leading to a derailed project, he notes.

Experienced owners understand collaboration is more productive, allows projects to succeed and helps build fun, long-lasting relationships among the team. Short-sighted developers tend to lose sight of the big picture, whether they see a project as a one-off assignment or aren’t interested in investing in the long-term vision.

“I’ve come to understand the long-term benefits of collaboration pays off in many ways, not the least of which are opportunities to work on multiple projects over time with clients who view us as a valuable extension of their development team,” says Rovner, who made a decision six years ago to only work in collaboration atmospheres and relationships, which has positively impacted the company’s net profits.

“On every successful project across the 100’s of jobs we’ve completed, there has been a component of collaboration. Every job that we’ve done that was over budget, or those where the schedule was negatively impacted, had a lack of collaboration,” he says.

“Life is too short not to collaborate,” says Rovner, plus “you don’t go home feeling like crud.” It is a good feeling being able to advise clients from a position of teamwork that places their interests and the job outcome first.