Bruce W. McNeilage, CEO Kinloch Partners.
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With over 40 million people applying for unemployment benefits since March, it is clear that the Covid-19 pandemic is having a significant ripple effect on the economy. One of the main sectors impacted appears to be new home construction. Consider these statistics:
• U.S. housing starts dropped by 22.3% in March.
• Groundbreakings declined from 1.56 million in February to 1.2 million in March.
• Construction of single-family houses and apartments/condos fell by 17.5% and 32.1% in one month, respectively.
The slowdown is having an impact on builders’ overall outlook on the market, too. The National Association of Home Builders/Wells Fargo confidence index dropped by 42 points in April, “the largest single monthly change in the history of the index.”
Based on these figures, I see two major trends taking shape today.
First, many construction companies building spec houses today will need a quick financial lifeline in the short term. Second, builders will need to develop partnerships with real estate investors over the next 12 months to get new projects off the ground.
Single-family rental (SFR) operators can be an invaluable resource to builders as they move forward in a contracting economy. SFR operators need to find new houses to round out their portfolios and create rental income. If traditional residential consumers disappear from the market, any spec houses in the middle of construction could struggle to find buyers.
This makes a short-term relationship between a builder and a rental investor highly advantageous. Builders won’t want vacant houses sitting on lots costing them monthly interest payments. Selling to rental investors, even just to break even, can be an important lifeline in this environment.
Even looking longer-term, perhaps into early 2021, builder-rental investor partnerships could be an important strategy as the economy works its way back to solid footing. As the market contracts, it’s highly likely that home financing will be harder to secure. Banks are likely to pull back on some of their lending (we’re already seeing this with many of our banking partners), making it challenging for some builders and consumers to obtain financing.
Partnering with a real estate investor on a build-to-rent strategy can keep builders in business. A builder can lock in a partner who is able to obtain financing and provide a guaranteed buyer once construction is completed. In addition, all marketing costs from sales commissions to advertising costs associated with selling a home are eliminated for the builder.
This type of partnership may also remove significant uncertainty for builders. As credit tightens, it will likely be challenging for many consumers who apply for a loan to obtain financing. If a buyer can’t close, it would take several more months to resell the house in hopes that the next buyer closes. Interest accrues daily, and this becomes taxing on the builder. Working with a corporate buyer could mitigate that risk.
Working in direct partnership with a builder can make it easier for an investor to find the homes they want by working to build from the ground up. Existing homes on the market might not meet the quality specifications for SFR home investors or their renters. Working with a builder allows the investor to specify exactly what they want in a property.
The key for both sides is to establish a relationship that is mutually beneficial. If investors come in today and totally undercut builders to make a quick buck, they will be killing the golden goose. Helping a builder get out of a short-term jam so they can stay on their feet can provide a source for rental homes in the future. Likewise, builders need to look at any lifeline provided by an investor as an opportunity to secure a profitable future business. If investors and builders can work closely together, they can set themselves up for profits now and down the road.
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