A/E industry focusing on residential market

Morrissey Goodale is providing A/E leaders with news and perspective on COVID-19 and its impact on the industry. This week, they discuss how the A/E industry is focusing on the residential market and what impact the recession has had.

A/E industry’s love affair with the residential market

The performance of housing market is one of the big differences between this recession and last. The 2008-2009 Great Recession resulted from the credit crisis that followed the bursting of the housing bubble. Among its many casualties were thousands of A/E and environmental firms that plied their trade in residential development and the supporting infrastructure. Some went out of business while others took five or more years to recover. Some resolved never to work for residential developers again.

However, this 2020 recession is The Bizzaro Jerry episode from Seinfeld when it comes to the residential market. Instead of imploding, the residential market for A/E and environmental services is booming. Home-builder confidence jumped to a record high this month. The S&P’s home-building stock index reached a 15-year record in August. New home sales are at their highest levels since 2006. Home prices just hit record highs. Home additions and remodels are surging. New product is being brought to market and existing product is being improved like never before.

Unlike a decade ago, the U.S. has a severe housing shortage. A combination of policy, demographics, and market forces led to this shortage. Not enough homes – affordable or otherwise – have been built. The nation needs dramatically more housing – and a combination of factors is combining to deliver it.

First, overall demand is being stoked by mortgage rates at or close to historic lows.This makes home ownership and home improvements more affordable to more folks nationwide. And messaging from the Federal Reserve last week suggest that rates will remain low for the next year or so, suggesting this boom has legs.

Second, the pandemic-induced exodus from cities is driving demand in the suburbs and beyond. Freed from having to commute to and from an office and seeking “safety” in less densely populated areas, office workers who can afford to are fleeing metro areas en masse. While major cities like New York and San Francisco make the headlines, the movement is taking place across the nation.

Combined, these factors are driving development in all housing segments. From affordable to multi-family to mixed-use to high-end markets – the demand for housing is both unexpected and welcomed. Similarly, with offices closed, the demand for home additions and renovations is expected to grow well into the first quarter of 2021.

Who are the greatest beneficiaries of this residential market boom? Regional and local A/E and environmental firms are the big winners. These tend to be founder- or employee-owned. They are typically smaller, maxing out at revenues of between $20 to $25 million – with most falling between $5 million and $10 million. Their core competency is knowing how to get things permitted and built in a particular geography. Importantly, they are nimble and responsive to demands of their developer clients.

In many ways, this is a “protected” or “hidden” market for these local and regional firms. The largest A/E firms carry too much overhead to compete for the business. Firms serving the public sector generally don’t have the agility required or risk tolerance to work in residential development. Those serving commercial and institutional markets cannot pivot quickly enough to supplant the A/E firms already working in the residential space. This is a market where loyalty and service count.  Developers need to get their product to market fast and they are sticking with the A/E firms that have helped them in the past.

The fortunes of smaller A/E and environmental firms all over the country have been buoyed by this demand. Many residential design firms have work on the books well into 2021 as they convert summer homes into primary residences, design much needed workforce housing, redesign new multi-family developments to provide more work-from-home options, and remodel existing homes so that families can work, learn, and play in the same space at the same time.

Firms in regions traditionally seen as relatively low-growth are seeing strength in 2020 and well into next year. An example of this is Cape Cod, Massachusetts. Land is limited and development is tricky. The combined demand for new, high-end homes from folks relocating from Manhattan and Boston, much-needed affordable housing developments, summer home remodels for year-round living is off the charts. So architects, consulting engineers, and surveyors that know how to get housing product designed and built on Cape Cod are thriving and seeing their backlogs grow.

“Fantastic” and “crazy” are what we are hearing in the Rocky Mountain West region with respect to the residential market. Low interest rates have accelerated a trend already in place in the West pre-COVID: leaving high-cost coastal regions for more space and a less expensive living situation by moving to Colorado’s Front Range. Residential builders from Fort Collins south through Denver to Colorado Springs are beating their sales goals for both single family and multifamily dwellings. While the sales climate is strong, actual construction is taking longer, driven both by social distancing requirements for workers and the various construction trades being booked solid.

The great retail/commercial real estate to residential conversion is on. Retail and commercial developers are rapidly converting land to residential development providing another source of revenue for smaller, regional consulting engineers in New England, upstate New York, and Pennsylvania.

The Mid-Atlantic and Southeast continues to see tremendous demand for single-family housing, especially in smaller cities that have lots of amenities but are definitely not major metro areas. This demand is benefitting firms in the Carolinas, Georgia, Virginia, and West Virginia. Many firms are having to push work to 2021; they are unable to meet immediate client demands.

In the Midwest, residential markets are stronger than they have been in a decade in Illinois, Wisconsin, and Michigan. Again, a combination of pent-up demand in general combined with migration from the cities has created an environment where regional A/E firms can barely keep up with the work.

Everything is bigger in Texas, including the housing market trends. The residential sector in Texas is not only benefitting from the two major trends in play (low interest rates and movement from cities to suburbs), but it also continues to benefit from migration from other states – especially California. Combined, the residential market is booming. We know of more than a handful of firms that have doubled their size since the start of the year by primarily serving residential developers.

California has three broad housing markets – Southern, Northern, and the Inland Empire. Architects and engineers serving the various residential sectors in all three regions are reporting very strong years.

How long will the residential market remain strong? Who knows? Record levels of unemployment are a threat to the market for sure. However, with no end in sight to remote working, the Federal Reserve committed to keeping rates low, personal savings rate close to all-time highs, and capital continuing to move into the space it would be hard to bet against it lasting well into 2021.

Meanwhile, industry M&A continues to rebound. Driven by record deal-making activity in August, the pace of U.S. industry consolidation is now down just 11% over last year’s record-setting pace.

This article originally appeared on Morrissey Goodale’s website. Morrissey Goodale is a CFE Media content partner.

Original content can be found at www.morrisseygoodale.com.

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