Home Sustainable Land Development Today January 2005

Following the Leader

Written by Tony Wernke

Sunday, 02 January 2005

Residential boom spurs growth in other industry segments. By: Tony Wernke and Greg Yoko For the second year, Land Development Today provides an in-depth outlook for the land development industry, including its various components. In addition, due to the industry’s complex nature and differing tasks, we continue to segment the land development industry into five major categories, primarily by project type. Then, we create a number ofsubsegments in each category.The industry primary segments areTranspor t a t i o n / I n f r a s t r ucture,Residential, Commercial/Recreational,Institutional, and Mixed Use.1. Transportation/Infrastructure Transportation and infrastructure are key components of the land development industry because both are indicators of where future development activity will take place. However, for the past two years, with mortgage interest rates so low, in many instances the tail is wagging the dog. Developments, both residential and commercial, are proceeding and it is hoped that the transportation folks can catch up. In fact, many municipalities that are facing funding challenges are not stopping this scenario because the new development actually enables them to fund the infrastructure and transportation.Of course, the federal government has not helped much either during the past two years.   Highways and Bridges With the 2004 election year on the political horizon, the large Transportation Equity Act for the 21st Century (TEA-21) legislation that was to provide federal guidance and funding for transportation projects from 2004-2010 was a casualty. When added to the new Congress’ agenda in January 2005, it will be almost two years late and its relative effectiveness will not be felt (when and ifit is passed by both chambers and issigned by the President) until late in the 2005-2006 fiscal year.The Republican majority on Capitol Hill does not guarantee an easy and smooth process for TEA-21.“The tax situation will remain good with Republicans in all three administrative positions,” says Jay Hansen, vicepresident of Government Affairs with the National Asphalt Paving Association, “but getting a well-funded highway bill will still be a challenge and difficult. Getting spending bills passed due to the large deficit will take some hard work.”While prospects for growth in the transportation/infrastructure sector are good, it is unlikely to be felt much in 2005. With final passage of the TEA-21 legislation not likely to be passed until spring, the reality is that the majority of new road and bridge transportation projects awaiting funding will not beinitiated in 2005. However, consulting and engineering firms should see an uptick in activity since preliminary assessments, investigations, and design work will be started, but the significant economic benefits of construction will not be realized until 2006.As stated, the passage of TEA-21 will dictate a significant portion of this sector. The longer it takes to get President Bush’s signature, the less impact the legislation will have in 2005.On the state and local sides, however, voters approved a record number of ballot initiatives that fund transit this year according to analysis by the Centerfor Transportation Excellence. Of the decided 28 measures on ballots in November, 22 initiatives (worth an estimated total of over $40 billion) that include public transportation funding were approved. Eighteen were approved earlier this year for a total of 40 approved initiatives in 2004, reflecting a staggering win rate of 80 percent. The increase is being driven in large part by citizen demand for more transportation choices. Many of these measures included additional funding sources.   Mass Transit Metropolitan areas are still strugglingwith massive traffic congestions and are recipients of significant federal and state financing to attempt to solve theproblem. In addition to traditional attempts to reduce problems with LightRail Transit (LRT), a half-dozen communities will be moving forward with magnetic levitation (Maglev)transportation options for the first time in the United States.“This has been a record year for transitinitiatives. We’ve seen a significant jump in the number of transit initiatives on the ballot and in how many passed,” saidStephanie Vance, program manager forthe Center for Transportation Excellence. “This year has also shown that it’s not just big metro areas that are clamoring for transit; medium and smaller communities like Parkersburg, West Virginia; El Paso County, Colorado; and Kalamazoo, Michigan also see its benefits.” In addition, noted Vance, “This clearly is not a partisan issue. Of the states that passed initiatives on November 2, 2004, seven went for President Bush and four went for Senator Kerry. Citizens across the country, regardless of party, strongly support transit investments and more transportation choices.”On average, initiatives that fund transit garnered 62 percent support.Still, state budgets are tight and without the “feds” kicking in the increases hoped for in the TEA-21 legislations, highway and bridge design and construction activity will only moderately increase at municipal levels in 2005. Not only will it be modest, a higher percentage of funds will be provided for pre-construction activities such as environmental impact studies and associated research.While public mass transit will likely beone of the additional beneficiaries of the eventual passing of the TEA-21 legislation, it will not be a source of significant growth within the land development industry in 2005 for the same reason. Funding will not reach projects in time to have an impact this year.The reality is that mass transit issues,while appearing to promise positive solutions, they are still not fiscally sound. According to an Associated Press reporton December 16, “Pennsylvania’s 41 public-transit agencies have operating deficits of about $190 million for this year and next year together. One optioncurrently under consideration to plug thegap is for the highway department to delay $57 million in projects and combine that money with $133 million in new revenues from an increase in the state’s oil franchise tax expected in January.”   Waterway Transportation  According to December reports by the Iowa and Illinois Farm Bureaus,Congress’ failure to approve the Water Resource Development Act (WRDA),which included Mississippi and Illinois river lock modernization measures, is having a significant impact on limiting waterway transportation. If passed, the legislation would have authorized construction of more than seven new 1,200-foot locks to replaceundersized 600-foot locks and implementation of small-scale measures. According to U.S. Rep. Jerry Costello, an Illinois Democrat, Midwest navigation proponents were able to include $13.8million for lock and environmental project planning in the omnibus fiscal 2005 federal spending package. Lawmakers pushed the spending measure in anticipation of 2005 federal Water Resources Development Act (WRDA) reauthorization, including approval for U.S. Army Corps of Engineers’ projects.Costello said in a December 14 report that funding should enable the Corps of Engineers to complete feasibility analysis of proposed navigation and ecosystem restoration projects. By beginning pre-engineering/design efforts this fiscal year, the Corps of Engineers will be in aposition to implement small-scale navigation improvements and some habitat restoration projects as soon asfiscal 2006."We came very close to an agreement on WRDA, but unfortunately couldn’t get all the work done before the omnibus bill was ready,” Costello told FarmWeek.“But this $13.8 million will provide money to begin the planning process now. It helps the Corps do the preliminary work - a major plus.”“Obviously,” he added, “we would have liked to have passed WRDA to authorizeconstruction. But I think we’re where weneed to be, and we are in a very strong position now for when we go back to the 109th Congress to do WRDA.”According to the Iowa Farm Bureau,although no money was allocated fornew locks, Congress approved $6.3million to repair two Iowa locks locatedon the Mississippi River.   Airports While some airport projects are likely to also be included in the TEA-21 legislation, it is construction initiated by  security needs that will likely cause are duction in new airport-related work.The overwhelming majority of projects that spurred the resurgence in airportwork over the past two years were a result of the need to boost security measures. Much work was funded by the Department of Homeland Security appropriations.Most of these projects are well into the construction phase. In fact, the Airport and Airway Trust Fund illustrates a decrease in facilities and engineering expenditures in 2005.With many players in the airline industry still dealing with financial difficulties and threats of bankruptcies, don’t expect any forces from within the market to creategrowth. Of course, some local and regional needs will offset the national picture.   Water/Wastewater The conveyance, storage, and treatment of potable water, sewage, and stormwater will continue to be one ofthe stronger areas within the industry.There are a number of primary factors leading to this projection. A combination of new technology,continued deterioration of old systems,water supply issues, and the lack of prime development sites will keep this segment prospering. In fact, mid-Atlantic states such as Ohio and Pennsylvania each had major bond initiatives passed to resolve water and sewer issues.Plus, water-starved regions of the country are seeing an increase in citizen pressure to resolve water-rights issues.These factors are even impacting states such as Idaho. Less-than-optimum development sites that include urban infill and redevelopment are also spurring reconstruction of water and sewers ystems as wholesale improvements are made to entire sections of large communities.The Portland Cement Association(PCA) projects an increase in watersupply systems construction for the firsttime in three years. Its $200 million expected growth over 2004 represents a 3.5 percent increase in 2005. Combined with a modest 1 percent increase insewage and waste disposal, this segment of the industry looks to continuesupporting the industry’s overall growth.   Solid Waste While some sections of the country are experiencing high tipping fees for waste disposal, it is still a relatively inexpensive cost of doing business in the industry. However, it is inevitable that issues related to solid waste will again force their way to the forefront. However, until the situation significantly worsens or a crisis develops, this will bea low priority and will unlikely be asignificant factor in the landdevelopment industry economic picture in 2005.On the positive side of the issue, fortunately, many in the landdevelopment industry are beginning to seek and find reconstruction and recycling options for construction waste.2. Residential Virtually every expert predicts a drop in the residential construction market in 2005. We join the experts. It isn’tdifficult to predict.On December 14, 2004, the Federal Reserve raised interest rates for the fifthtime since June 2004.“That trend is going to continue up to  eight more times next year,” MichiganState University economics Professor Charles Ballard told the AssociatedPress. “I think that we can expect mortgage rates and some credit card interest rates to edge up.”Clark predicted that mortgage rates,more heavily influenced by bond yields than interest rates, also will start to climband could gain as much as one percent inthe coming year.“The level and composition of construction spending is shifting,” saysPCA Chief Economist Ed Sullivan. “In retrospect, 2004 represented a year of transition for the U.S. construction market. The strengthening economy and an increase in interest rates have set the stage for a recovery in public and nonresidential activity.”PCA considers a mortgage rate of 6.5percent the tripping rate that will exert enough pressure on home affordability to result in significant declines in single family construction activity. The tripping rate is not expected to materialize until the end of the first quarter of 2005, thereby adding legs to the already strong single-family construction run.    Single-Family Housing The reality is that residential construction will still be strong in 2005. Sure, it will no doubt decline from record levels enjoyed over the past two years, but it should still be considered robust. As illustrated by Forbes’ Richard Karlgaard, certain areas of the nation will start to see a severe reaction to the overpriced housing market during the latter part of this decade. Many expect that this will begin to become apparent in 2005. Both coasts are the most susceptible with the Boston-DCcorridor most affected in the East and the San Francisco-Los Angeles areafeeling the brunt in the West.Combined with rising interest rates,material costs could provide an evenlarger drag in the housing market.   Multi-Family Housing Many experts are at odds in this area with some predicting a decline and others steady or slight growth activity.However, as the U.S. population ages,and interest rates rise, and single-family housing costs skyrocket, watch for positive activity in the multi-family market.Growth will not be drastic - remember, millions of people just purchased and refinanced homes over the past few years, but demographics and development factors indicate that a positive trend will result in conjunction with the decline in the single-family sector. With higher density development comprising a significant portion of mixed-use, urban infill, and redevelopment projects, expect multifamily housing to be a beneficiary. A clear signal is that current investors are increasing their activity. Don’t forget, many of the ballot initiatives that passed throughout the country were aimed at limiting “sprawl.”   3. Commercial/Recreational Realizing that the housing boom that has taken place over the past few years is typically moving out of the urban and suburban areas into fringe communities(urban sprawl), it should come as no surprise that commercial establishments are going to follow the people.The majority of analysts are predicting construction growth in non residential sectors at a rate approaching 10 percent. In his 2005 Construction Outlook,Robert Murray, vice president of economic affairs at McGraw-HillConstruction, predicts that total contract value for the nonresidential sector of the construction industry will increase 8 percent in 2005, advancing from the projected 2004 level of $162.7 billion to $176.2 billion.“For 2005, adding up the various sectors produces a 2 percent gain for total construction,” said Murray in his new 2005 Construction Outlook. “The maindifference from recent years is that single-family housing won’t be providing the upward momentum. With interest rates rising and a growing number of markets looking overpriced, it does appear that 2005 will be the year when single-family housing finally settles back.Other sectors will be the source of growth in 2005.”The PCA is illustrating a 9.9 percent increase in nonresidential building in2005, with a 14.6 percent jump in 2006.A survey conducted in July-August 2004 by National Real Estate Investor and Marcus & Millichap Real Estate Investment Brokerage Companyillustrated that 74 percent of commercialreal estate investors intend to increase their investment in commercial real estate.   Retail Of course, the retail sector makes up a large portion of the commercial market.That trend will continue, although it will provide an interesting segment worth watching.The Kmart-Sears merger will have several potential effects on developers and owners. For one, according to an NREI online news report, the newmanagement team already is discussing converting several hundred Kmart locations into Sears stores. Earlier in 2004, Sears bought the ownership or leasehold interests of 50 stores from Kmart for $575.9 million.The report continued that the strategyplays right into Sears’ attempts to grow its off-mall base of stores. Access toKmart real estate also will give Sears anopportunity to more aggressively expandits Sears Grand stores, a superstoreconcept. Sears just opened its fourthSears Grand store nationally and plans to  open 8 to 10 more by the end of 2005 .But converting Kmart real estate into Sears stores enables it to accelerate that process.McGraw-Hill’s Murray estimated the total 2005 contract value for stores and shopping centers at $21.5 billion, which is 2 percent above the projected 2004 total of $21 billion.   Office Murray also predicts that the contract value for office buildings is expected tototal $22.9 billion, 12 percent higher than the projected 2004 value of $20.4 billion. However, with vacancy rates still in double digits as a result of the past recession, contract lease rates have taken a substantial dip. The slow but steady economic recovery, buoyed by a slight increase in consumer confidence, has resulted in an increase in activity. Ironically, over the past 12 months, according to the U.S. Bureau of LaborStatistics, employment numbers have risen by almost 2 million while unemployment numbers have only dropped by just over 500,000. In addition, the unemployment rate in the professional and related occupations(which includes architecture andengineering) stands at a staggeringly low 2.2 percent as of November 2004. A significant part of the answer for these numbers is new business start-ups.Many mid-level and upper-level managers/executives started new business ventures following the crash and burn of the dot-com and related sectors in the mid to late 1990s. There were companies that started and struggled in many homes and basements across the country over the past 6-10years. With continued economic growth, low interest and occupancy rates, and afeeling of more national security, growthand expansion for these businesses is starting to happen.   Manufacturing/Industrial This sector appears to be one that willexperience the most significant growthin the short-term. Virtually every expert,whether in real estate, building andconstruction, manufacturing, or indesign-build, forecasts a great boom inthe manufacturing and industrial area ofland development in 2005.The strange dichotomy is thatemployment numbers in this area aredown. Chalk this up to technological efficiencies.One of the factors that will impact the land development portion of the manufacturing/industrial is the goal ofmany to improve efficiencies and reduce risks through modernization - not onlyof equipment, but also of internal andexternal facilities. Watch the sustainable design movement make significantinroads in 2005. This will impact site and building design as much in the new construction area as in the redevelopment side.   4. Institutional Government funding and the status of state budgets will play an important role in this sector as education, government projects (jails, prisons, municipal buildings), and even health care and energy often depend on financial assistance or appropriations. With that said, though, indicators and participants in this sector signal that growth started to occur within the pastyear and looks to continue, with healthcare and education leading the way.Bill Blessing, an associate principal withSan Francisco-based architecture firm Ratcliff, expects to see moderate growth in institutional work in 2005. His firm places an emphasis on the academic,health care, and housing/hospitality industries. But, he cautions that it will betenuous due to the reality thatmuch educational and institutionaldevelopment is tied directly to local and state funding, especially in his state of California. In the southeast, Nashville-based Thomas, Miller & Partners has been providing architectural, interior design,and planning services for nearly 26 years with special emphasis on health care,education, and recreation projects. The firm has seen an increase in activity throughout the region in health care and education.Development work in the education market is continuing to be strong. Work is somewhat reverting to K-12 after having shown most activity in the higher education area over the past two decades. Similar to the transportation area, education is being spurred by ballot and bond initiatives. Also, as indicated earlier, state budgets are limiting work at the larger public colleges and universities, but it appears that private in stitutions are picking up any slack. Health care, which typically has includedprimarily hospitals and nursing homes,may very well need to start including senior and assisted-living developmentas well. I n fact, many of the multi-familyhousing units being designed andconstructed are for the aging populationwho want to enjoy independent living in a smaller environment. Even without considering all of these types of development, health care construction continues to grow - in certain regions ofthe country.“With the uncertainty of the presidential election behind us,” states MarcRowland, a partner with Thomas, Miller& Partners, LLC. “I believe that healthcare providers will be ready to proceed with capital expenditures that might have been postponed due to the potential change in administrations and healthcare policies proposed by SenatorKerry.”Follow the southern migration of retirees and you will find pockets of substantial growth. However, even other areas, including the Northeast and Midwest, are showing moderate growth.Considering the demographics of thecountry that show the senior segment of our population continuing to represent a larger portion of our society, new and/or enlarged facilities are being constructed to serve it.   5. Mixed-Use Development There is absolutely no reason to expect anything but significant growth in this area. The ironic fact is that there are no real numbers to look at to illustrate past,current, or future activity. This one isstrictly based on a wide range ofanecdotal evidence from coast to coast,discipline to discipline, and listening toand watching professionals in theindustry. It is also based upon otherfactors, including logic.Even those who want to discount itsimpact or dismiss the idea thatsustainable design is becoming alegitimate concept in this country’s landdevelopment industry, must firstconsider a couple items. First, urbanareas, including small communities, arerunning out of prime virgindevelopment property. Second,opponents and obstacles, whetherenvironmentalists or governmentofficials, are limiting the expansion ofcity limits with the demonized “urbansprawl” label.The result is a more pointed effort tore use and redevelop abandoned or poorly used properties within urban andsuburban areas. With it has come the desire to create the traditional neighborhoods of the past, with schools,light retail, and service centers within a reasonable area —often within walking or biking distance. Mixed-use development is not a short termtrend or fad. It is a common-sensetemplate that requires a holistic approach to development,design, and construction combined with a real understanding of a community’s needs.It should come as no surprise that it is becoming more andmore difficult to find single discipline firms. Today’s firmemploys a planner, surveyor, engineer, landscape architect, and building architect as well as an external relations expert (e.g.,community outreach, government relations, businessdevelopment, public relations, marketing).While mixed-use development is growing and will become anincreasing portion of the development industry, it takes coordination and cooperation. These, typically, are not traits that translate well into our industry. Firms and participants that can achieve and practice them will enjoy success in this growing market.   Summary Just in case you do not read Part 1 of our industry outlook, we need to stress that many factors within individual land development organizations, like management, implementation of technology, organizational culture and structure, as well as outside influences related to the overall economy, including employment and interest rates, will play significant roles in our industry in 2005 and beyond.The segments we expect to grow in 2005 have one common thread: the residential boom served as a precursor. Expect the following land development segments to be “winners” in 2005: wastewater and stormwater management; commercialdevelopment, especially office, retail, and manufacturing;education and health care, and mixed-use.Randy Giggard, Manager of the Market Research Services Group at FMI Corporation, agrees that most areas will stayvery busy in 2005 – thanks in large part to the past performance of the residential housing market. “The residential market in 2004 finished at about 13-percent growth,” states Giggard. “This was much stronger than people expected. While housing starts will decline (in 2005), I am still optimistic that dollar volume will be up 6 percent.”Therefore, as the residential market continues to churn, theland development sectors involved in servicing the populationwill see an increase. This is especially true if consumerconfidence and economic growth remains strong. Giggardwarns that this is an area that development professionals must watch.“Consumers are very healthy right now. However, credit card debt has reached an all-time high, averaging $9,000 per card,and, at the same time, adjustable rate mortgages (ARM) arealso at an all-time high (33%),” he explains. “The risk is if thatrates go up faster or higher than people expect, some peoplemay get caught. This should not happen unless something dramatically changes the economic landscape.”Still, if you are primarily focused on transportation work, youwill need to work harder to make ends meet in 2005 if diversification is not an objective. And, while residential development will still have a strong year, the down ward trendis just beginning. If you haven’t thought about the future because you’ve been so busy, it may be time to dust off your business plan. SLDT