By Meghan Hall
Like many sectors, the commercial real estate industry has faced its fair share of challenges as a result of the pandemic. For the construction industry, initial shelter-in-place orders and health concerns put a pause to activity. However, industry experts believe that the biggest challenges facing construction moving ahead are not health and wellness related, but overall project availability. The Registry spoke with Robert Barone, Director at Torrance, Calif.-based Partner Engineering and Science, a global full-service consulting firm on the future of the construction industry.
At the beginning of the year, prior to the pandemic, how was the construction industry faring? What trends were you seeing emerge that you believe would be pertinent to the sector moving forward?
Prior to the pandemic, the construction industry seemed to be slowing down a bit. With a bull cycle having continued for years, lenders were starting to become concerned about the length of the economic expansion, so they were becoming more cautious. Specifically, they were moving away from larger luxury developments — which are more likely to suffer in a downturn — and focusing more on stable developments, such as workforce housing.
In the midst of the pandemic, this cautionary approach has become more pronounced; luxury developments are falling out of favor with lenders, while middle-market projects are safer for the foreseeable future.
From your perspective, what are the biggest red flags and challenges in the construction industry today? Why?
From the perspective of the construction industry, the biggest challenge is not the mechanics of building during the pandemic — it’s more about whether there will be projects to build. This is not to say that there aren’t any construction challenges that the current situation has caused. But while those challenges exist, remedying them, in the big picture, is not very challenging. Whether you’re talking about increasing distancing on job sites to prevent viral spread or revisiting contracts to clarify who is shouldering risk in the case of a shutdown, these issues are important but resolvable.
For the industry, the greater challenge is the availability of projects in the near to medium term. Because of the slowdown in construction starts, contractors are finding it harder to find projects, and, while this drives down costs for developers, it could also drive some subcontractors out of business.
Part of this is the understandable reluctance of lenders to finance many project types right now; even if a developer wants to begin a project, construction doesn’t start until after a lender is sold on it.
There is no saying when things will bounce back to where they were a few years ago – and where those projects will be given the apparent migration out of the larger cities – but, at this moment, lenders are very conservative when it comes to properties beyond residential and industrial.
Many in the industry believe that COVID-19 has not impacted construction activity in most markets, and construction is still relatively safe to pursue. Why do you think this is?
One key thing to remember is that, compared with many other jobs, construction workers were already in compliance with many coronavirus best practices: they often work outside or in open building areas, many times wear masks and gloves, and in some cases are spaced at a distance of more than six feet. None of these safety precautions is foolproof and none applies to all construction workers. But, from the start, construction workers are used to taking safety precautions and are a step ahead of many other industries.
Of course, outbreaks have also been prevented, in part, by the additional safety protocol put in place by developers and contractors on job sites — ensuring social distancing, staggering work hours, conducting daily temperature checks and contact tracing, etc.
Like many other industries, the construction sector has also adopted technology en masse to do things like limit the number of in-person meetings and cut back on job site visits from architects and engineers.
Were there any product types that were less impacted in terms of construction over the past six months? Why or why not?
It differs based on the stage of construction. For projects that were already physically under construction when the pandemic hit in March, issues were variable. The early stages of construction — digging, foundation work, framing — all take place outdoors and make it easier to mitigate virus spread.
Those at the latter stages of construction, especially residential and hospitality, were impacted most — these sorts of properties require intricate buildouts indoors where workers would not typically be distanced. Office, industrial and retail projects at this stage were impacted more modestly.
Are there any geographical markets that have fared better? Why or why not?
We work on projects across the country, and there is not that much regional disparity. Several cities implemented near-total shutdowns on construction activity, and that obviously impacted timelines in those markets — but those cities are an exception to the general rule that in-progress construction wasn’t impacted as much as might have been expected.
Looking ahead, the decision to build a property or to finance a construction project is largely about predicting demand, and everyone uses their own crystal ball.
We’ve definitely seen a significant amount of activity across much of the south, so investors seem to look favorably on that region.
Predicting a market like New York, from which many people have fled in the pandemic, is challenging. Some people think the city is a few years away from getting back to normal in terms of demand and development; but, personally, I am hopeful the city will rebound pretty quickly.
Would it now be a good time to kick off a construction project? Why or why not?
It depends on the type of construction project — the assessment for developing a retail project differs from the assessment for office, which in turn differs from multifamily or industrial.
There are basically two categories for a developer to look at before kicking off a project: Execution (getting it built) and demand (once it’s built, getting it occupied).
With regard to construction, this is really not a bad time to kick off a project. While the pandemic has caused certain labor and materials issues, those have been fairly minor. And with relatively few projects being started right now, developers won’t have to bid with as many competing projects to get contractors, potentially pulling labor costs down.
The more questionable factor is demand. With the explosive rise in e-commerce and last-mile delivery needs, the industrial sector seems poised for continued success, and the sector has, in fact, seen a lot of new construction. The story is fairly similar with multifamily properties, particularly in areas outside of urban centers.
On the flip side, with so many people working from home, many companies are questioning the importance of their office spaces. That turns demand into a real question mark, which, in turn, gives office developers and lenders pause. Retail and hotel properties, which have struggled over the past six months, are also more questionable.
With aggregate construction relatively slow right now, from an execution perspective, this is a good time to kick off a project. The concerns relate to what demand will be like when a project is completed in 24-36 months, and the answer to that key question will differ widely by market, product type, etc.
On a more general note, where do you see the construction industry heading over the course of the next 12 to 24 months? Why?
I would expect a slight contraction, possibly followed by something of a shakeout of the players involved. Certain subcontractors — the ones that are not as financially viable and don’t have strong pipelines — will be soon begin closing out in-progress projects and may have trouble replacing them with new ones. In a slowing market, some of the less stable companies tend to flounder, and I’m concerned that we’ll see that, to a certain extent.
One positive change I expect is greater adoption of new technology. Everyone has gotten used to using more technology throughout the past year, and though construction is historically one of the slowest industries to adopt new tech, we’ve seen a huge acceleration out of necessity. People are realizing that fewer meetings are necessary, fewer people need to be present on a job site, etc., and ultimately this will likely lead to costs being saved.