Elgin Area Chamber Of Commerce: After Two Years Of Disruption, US Builders Grapple With Fallout From War In Ukraine

Press release from the Elgin Area Chamber of Commerce:

March 15, 2022

Nearly two years into a pandemic that strained the economy, snarled the world’s supply chain and upturned commercial real estate, property owners and builders are grappling with another devastating event: Russia’s invasion of Ukraine.

While the war is a matter of life and death for many in Eastern Europe, its effects are the latest in a seemingly unending series of survival tests for North American real estate companies since early 2020. Developers and construction contractors are once again exploring new ways of doing business to mitigate the risk of material shortages and skyrocketing project costs.

Soaring fuel prices already are affecting the economy at a time of concerns about inflation, while record-high prices for many key construction materials that come out of Russia and nearby countries threaten to have a longer-term impact on upcoming real estate projects.

“The energy prices are immediate and they’re the biggest,” said Terrence Roche, president of Bensenville, Illinois-based Denk & Roche Builders, a carpentry contractor with ongoing residential projects in several Midwest states.

“It’s like stacking straw onto the camel’s back,” Roche told CoStar News. “We’ve already been dealing with all the supply chain challenges. You’re already running scared and there’s just another calamity. You wonder: Are we ever going to turn a corner?

“This extra energy cost on top of inflation, you worry about the economy just toppling over. Will lenders still have the confidence to keep lending when these projects just cost so much more?”

Since the start of Russia’s onslaught, prices of materials such as copper, aluminum and nickel have reached new highs. Those are among the Russian products used in many construction components.

Soaring fuel prices not only bring an immediate increase in transportation costs — many oil-based products are used in construction, including piping and sheathing, wallpaper and carpeting.

US Recession Potential

While analysts say U.S. exposure is relatively low to construction materials coming out of Russia and Ukraine, a prolonged war eventually could strain supply, push up prices even more and threaten economic growth.

“This immediate shock, if it were to resolve quickly, I think the chances would be pretty low that it could provoke a recession,” said Timothy Gill, chief economist at the Washington, D.C.-based American Iron and Steel Institute. “I think there’s underlying momentum in the economy that will be a cushion, but if we have several months or longer of $150-a-barrel oil or higher, that raises the risk of a recession substantially.”

The war’s effects on the Black Sea could add to logistics breakdowns already seen from a series of unexpected events, including COVID-19, a Suez Canal blockage and a deep freeze in Texas that idled petrochemical plans, said Ken Simonson, chief economist for the Arlington, Virginia-based Associated General Contractors of America.

The war adds another threat to costs after a record year of material price increases in 2021, he said.

“A ship trapped in the conflict may not be carrying some key item for the construction industry, but that’s a ship that will not be available next week to pick up elevators or appliances in Europe or Asia that are bound for the U.S.,” Simonson said. “The industry has already been dealing with a lot of price increases and supply chain bottlenecks.”

Construction projects already underway or set to break ground have already locked in most of their costs and are unlikely to be affected by strife in Europe. But it’s leading many in the industry to continue proactive measures they adopted earlier in the pandemic, such as stockpiling materials in warehouses or on job sites and locking in agreements with contractors further in advance.

Even those steps are no guarantee.

During pandemic-induced lumber shortages, Roche’s firm learned of a store in Wisconsin that had two rail car loads of plywood, “which at the time was like finding a unicorn,” Roche said.

He agreed to buy it all for the sky-high price of $77 per sheet, which wound up being nearly twice its value by the time it was used six months later, Roche said.

“We were playing defense so we could complete the jobs we had, but there are drawbacks to that,” he said. “You’re overpaying and you’re feeding the frenzy, buying when you don’t need the materials.”

This time around, Roche said he’s more worried about fuel costs and inflation than running out of materials.

Kicking Off Projects

Riverside Investment & Development is among the U.S. firms planning to kick off multiple projects in 2022, despite the uncertainty. Riverside has built three trophy office towers along the Chicago River in recent years and plans to break ground on projects in two other cities this year.

For a 32-story office tower set to go under construction in Denver, the Chicago developer preordered steel about five months sooner than it typically would because of supply chain and coronavirus variant worries, well ahead of any signs of war in Europe. That decision last year is likely to net a 5% to 10% savings on material costs, Riverside Chief Operating Officer Tony Scacco said.

Design of the tower’s parking podium was shifted from steel to concrete in response to rising steel costs, he said.

Late last year, the firm also took the unusual step of hiring a contractor for the curtain wall without a competitive bidding process, because the firms had worked together in the past, according to Scacco.

“We wanted to take the risk off the table as early as possible, and to do that we gave up the ability to put it out for competitive bids,” Scacco said. “Before COVID, that was completely antithetical to our process. Now it’s all about risk mitigation.”

Riverside also is likely to take a forward view as it hires contractors for a planned three-tower office and apartment development in Charlotte, North Carolina. The firm also will more closely study the point of origin of materials, Scacco said.

“No one could have forecast what has happened in Ukraine, which is so terrible that it seems callous to reduce it to supply chain implications, but it will have real impacts on our industry,” Scacco said. “You want to be as risk-averse as possible so that if there’s a prolonged war, you’re not relying on getting your glass from Germany, for example. If you have a decision between European steel and domestic, you may be more deliberate in your decision-making.”

Other aspects, such as where appliances are coming from, also have come into sharper focus after the experiences of the past two years, said Gavin Middleton, chief operating officer of New York-based construction advisory firm Lehrer Cumming.

“The desire to dig deeper in the supply chain was already in place,” Middleton said. “Products coming out of Eastern Europe are going to be subject to a great deal of scrutiny in the coming months.”

Buyers of products won’t be the only ones being selective, said Tom Cuculich, executive director of the Chicagoland Associated General Contractors, which represents general contractors, subcontractors and suppliers in the greater Chicago area, including parts of Wisconsin and Indiana.

“If there were unlimited workers and no supply chain issues, most of our members would be taking on more work,” Cuculich said. “They’re being very judicious in choosing what they can do. No one wants to overpromise.”

In response to supply chain backups since 2020, Chicago-based Pepper Construction for the first time is creating forward-looking price indexes for materials, Executive Vice President Jake Pepper said.

“It’s one less thing for clients to have to figure out and it’s a differentiator in the market,” said Pepper, a former natural-gas commodities trader.

While trying to anticipate price swings, the firm is first and foremost recommending ordering materials and signing construction contracts sooner, he said. Pepper said he hasn’t seen any projects put on hold yet, but he expects that will start happening if there’s no end to the Ukraine crisis.

“We’re being expected to be economists and have a crystal ball, which isn’t realistic,” Pepper said. “What we can do is have a longer lead time on procurement packages so you’re not shutting down a site while you’re waiting on materials.”

Source: www.CoStar.com

This press release was produced by the Elgin Area Chamber of Commerce. The views expressed here are the author’s own.