What’s behind the softness in the home building industry and how financial planning can help.
While housing starts exceeded expectations at the beginning of summer, permits came in below estimates, and existing home sales were lower than expected for four crucial months that are usually lucrative for the real estate market. It’s been a soft summer for home sales, and this pause in momentum has builders reevaluating the market and reconfiguring their budgets and financial plans to accommodate a change of plans that still includes the possibility of long-term success and profit.
The housing market has had many starts and stops after crashing in 2008, and the lapse in a consistent upward trajectory leaves many builders wary of investing in new equipment, updated technology, marketing, materials, or tracts of land. An understanding of the softness in the home building industry, and what financial steps builders should be taking to protect their interests, can lend confidence that provides a stable foundation for future growth.
Economic indicators
The construction industry can be complicated to analyze and predict because of the many different components that make up the market.
The essential resources for new development include building materials, labor, land, and capital – and each of these is affecting the ability to construct new homes affordable. Construction costs are higher by more than 6 percent compared to last year, and lumber and wood product costs have risen by more than 18 percent. According to the NAHB, regulatory costs add approximately $85,000 to the price of a new home.
Between global trade disputes, supply and demand issues, challenges of local land use, and difficulty in finding cost-effective labor, the cost of building has increased which means profit margins have decreased. The rise of construction costs has encroached upon already thin profit margins for home builders, making it difficult to price single family homes competitively.
Although population demographics indicate a growing need for new home supply, the millennial market is still slow to purchase real estate due to the lack of affordability and skepticism about home ownership as an investment. Rental rates have risen at a more reasonable pace than home prices, and for the average household, renting appears to be the better value due, in part, to the fact that home price appreciation has nearly tripled versus the growth of rental rates over the last year. A significant rise in mortgage costs could contribute to fears surrounding unaffordability when it comes to first time buyers.
Balancing the budget
Rising construction costs are not something home builders have much control over. The increase in overhead expenses makes financial planning an even more important element of running a construction business. In a soft market, it’s essential to have a thorough understanding of job profitability, contract-related costs, general and administrative expenses, and expenses related to financing and investment income.
Financial planning helps your business create a blueprint for success by identifying short and long-term goals along with a plan to achieve those goals in a reasonable and timely manner. If you don’t have an in-depth understanding of how your business spends and makes money, it’s difficult to make informed decisions about how to cut costs without affecting productivity and profit. Prioritizing expenditures, spotting trends, balancing a budget, setting goals, and measuring progress are all important components to building your business in a way that insulates it from outside elements as much as possible.
While it’s true that rising costs in the real estate and construction industry may indicate a softening of the market, this doesn’t necessarily mean doom and gloom. However, it’s a good reminder to be realistic about your financial goals, to understand what costs you can control, and to be an active participant in proactively organizing your business so that it can sustain itself in uncertain times and be prepared for new growth once new home sales pick up in pace.
No Boundaries Advisors has been helping construction businesses grow for over 25 years. Contact us today to find out how our expert staff can help you plan during uncertain times and meet your financial goals.
