Apartment living run amok?

From the pages of In Business magazine.

Demographic shifts and evolving communication technology will keep the multifamily housing momentum going for a while, according to a panel of experts IB assembled to discuss trends in construction and development. With the 2015 openings of the Hub on Campus Madison, The Domain, Ovation 309, the Residences at 306 West Main, and the 2016 opening of residential units in The Galaxie on East Washington Avenue, Madison continues to modernize its luxury apartment stock and grow its tax base with new multifamily developments.

The experts also say it’s a bit too early to evaluate the city’s new tax increment financing rules, and we heard something we already knew: City of Madison committees can be a bit cloying with meddlesome design suggestions.

VANDEN PLAS: How durable is the current pace of construction?

“For multifamily homes and apartments, there will be a pull back, and the unfortunate thing is that somebody will be on the wrong side of that curve or just getting a permit approved when absorption hits the point where there’s more availability than demand.”— Brad Hutter, president and CEO, MIG Commercial Real Estate

HUTTER: The question is a general one, in that it begs the question of what type of demand and what particular area are you looking at? Much of the construction that’s occurring right now in urban Madison is multifamily housing and apartments, and those projects continue to come on line at breakneck speed. However, based on hiring practices of some major employers in town, the transition of certain demographics in the city, and the desire for apartments over single-family homes and condos, they are currently being absorbed. As long as the demand is there, people are going to continue to put projects up.

However, everything works in a cycle. Every type of business has its own cycle. Real estate has its own cycle. For multifamily homes and apartments, there will be a pull back, and the unfortunate thing is that somebody will be on the wrong side of that curve or just getting a permit approved when absorption hits the point where there’s more availability than demand. Our company is being a little more strategic with multifamily in that we are selecting areas outside of the city of Madison.

VANDEN PLAS: Is that also driven by Epic (Dane County’s largst employer) or are there other considerations for your suburban focus?

HUTTER: A lot of social media and demographics point to younger generations veering away from ownership, condominiums, and/or single-family homes. They enjoy being much more flexible in their living arrangements; being able to come and go as they please. There is a lot more travel associated with younger generations than in the past. There hasn’t been as much of the ‘American Dream’ focus that you’ve made it once you own a home. That’s a byproduct of both the globalization of a community through the Internet and social media, as well as a byproduct of the post-2007/2008 housing crash. There’s also an impact related to pay scales and what people are earning to build the necessary amount of equity to put down on a home or a condo, versus just stepping into a lease and being able to go month-to-month, or sign one annual lease at a time.  

CULLEN SCHULTZ: As far as construction, many contractors in this market have been fortunate to maintain steady growth throughout the last few years, which has been great. At the same time, I was just on the east side looking over the lake, and I saw only one tower crane up downtown. That’s usually a sign that construction downtown isn’t quite booming as it has in the past. We’d obviously like to see a few more cranes up, but the growth has been good mostly in apartments and mixed use. I wonder what’s the next booming market?

VANDEN PLAS: What about your area, health care?

CULLEN SCHULTZ: Health care is definitely one of those markets that will continue to grow. It should grow at about 4% in each of the next couple of years, and what we’re seeing is continued trends toward outpatient care and renovations of existing facilities and hospitals. Kind of few and far between are these huge, brand new hospitals. It’s more about new clinics, upgrading the facilities, urgent care, and getting patients out of the hospital.

VANDEN PLAS: How much of it is due to the consolidation wave that’s incentivized by Obamacare?

“Obviously, the continued growth of Epic and Epic-related businesses in the tech and innovation industries is really going to go a long way. Who is going to be the next Epic?”— Jeannie Cullen Schultz, health care construction director, JP Cullen

CULLEN SCHULTZ: That’s a big thing as well. One thing that seems to be in the newspaper is either a new apartment development or new health care consolidation. From all indications, the trend of health care consolidation will continue.

MEIER: There’s very little commercial development being built. No one is building spec [speculative] space, and there’s office capacity in the marketplace.  

HUTTER: Ten years ago, everyone had some spec stuff, right?

MEIER: Yes, but now it’s all build-to-suit. The banks still don’t want to build spec office, and the demand really hasn’t been there. So it’s mostly about multifamily residential. You look at the number of building permits that are being pulled now. We’re building almost as much housing as we did at the peak in 2006, but the pendulum has swung totally from ownership units, condos, and single-family homes to apartments. That partially reflects demand; there are a lot of young people who want to rent. It’s also due in part to the lack of down payment.

You look at downtown Madison, there are no condos being built right now, but there’s very little inventory. The same is true in the single-family realm. The amount of apartment development is clearly unprecedented right now. It has been leasing, but there’s a big wave of units coming on line this year.

It’s worth noting, too, that all those units are at the very high-end price point in the marketplace. So if you look at the portion of the market that A) wants to rent and B) can afford the rents at that very high price point, a lot of the younger folks out there are buddying up to rent a two- or three-bedroom unit, and what percentage of the population wants to do that? You’re looking at a very small segment of the market.

SCHAEFFER: You had a period of time when nothing was being built, and so you had the pent-up demand. At the same time things were starting to recover, you’ve also got the increase in Epic employees, who tend to be primarily millennials. People forget sometimes that millennials are the biggest generation, bigger than the baby-boom generation. So you’re talking a huge population with a very different set of values in terms of what they want for housing. In a recent study, 62% of them said they wanted to live close to where they work and where they are entertained. When asked, a high percentage of them wanted to continue doing that, so it’s not something where their American Dream is to live in an apartment until they can afford a home.

HUTTER: I’ve not seen any definitive data on this particular point, but it seems like we’re moving toward a more European feel in a lot of our cities as to how the younger generations approach their living space. In much of Europe, they have rows and rows of apartments. There’s not a lot of stand-alone home ownership per se in comparison to the United States.

For years, when you thought of somebody who was middle class, you immediately thought of a house on a parcel, 2,200 square feet with mom, dad, and two kids, or whatever. Now, this generation is thinking about raising those kids in apartments, not necessarily having two cars, or maybe not even having cars. Maybe this is something that’s going to continue for quite a long time.

MEIER: It’s a national phenomenon. If you go to any major healthy city in the U.S., there’s an apartment boom in every downtown.

(Continued)

Lax labor

VANDEN PLAS: Regarding the labor situation in construction, what happens if we finally get to a sustained period of boom-type growth? Will there be enough construction labor to meet demand?

CULLEN SCHULTZ: Obviously, when the recession hit, a lot of people left the construction industry, for a variety of reasons, to find different careers. Others lost their jobs, and a lot of them didn’t come back. So the scarcity of employees is a real thing. We’re trying to broaden people’s horizons about the industry and bring people back, but also bring in newer, younger people with career fairs and by going into the high schools. The other thing we’re doing is asking, “How can we make our practice and our process more efficient with the use of modularization and prefabrication?” Out at Epic, we are prefabricating everything from structural steel to interior walls, masonry lintels, and all the mechanicals. This not only results in needing fewer people, it’s safer, it’s more ergonomic, and it shortens schedules. As everybody knows, the length of construction projects, in terms of the time that owners want their buildings done, will continue to decrease.

MEIER: We’re not a general contractor, but we hear from a lot of our general contractors that it’s more and more difficult to find good work and keep the job sufficiently staffed. There are certain trades where our GCs have come to us and said, “Look, I know you’re not close on your financing yet, but we’ve got a contract for the framers” or “We’ve got to get the excavator on board because otherwise we might not have those resources at all.” It does impact schedules, and people are booked. If we do end up hitting on all cylinders, if you talk about heating up office and single-family construction, that labor shortage could really be a problem.

“People forget sometimes that millennials are the biggest generation, bigger than the baby-boom generation. So you’re talking a huge population with a very different set of values in terms of what they want for housing.”— Carole Schaeffer, president of Schaeffer Consulting LLC; director, Smart Growth Greater Madison

SCHAEFFER: Through working with the city on the economic development strategy it’s trying to put into place, an important goal is to find ways to partner so that we can match people who are looking for jobs with the skilled trades. There was a presentation from the City of Madison Department of Planning, Community, and Economic Development, and one of the gentlemen from there was talking about some really fundamental things, like we can’t get people connected to the jobs because they don’t have reliable transportation and they don’t have a driver’s license. So the city is looking at all the different things that need to go into that as they consider a master transportation plan. What kind of programs can they put in place? How can they partner with businesses?

The industry can help bridge that disconnect between people who are looking for jobs and careers in the trades and then the reality of how to get there.

HUTTER: I was also going to comment on the need for all the critical parties involved to try to build those channels to bring people into skilled construction jobs –– any type of construction, and even property management and maintenance jobs –– because they are good-paying jobs. There’s a misconception that construction jobs are not necessarily good-paying jobs, but they are and they require skills that are very transferrable to different roles.

A segment of the population that continues to be overlooked is skilled workers coming out of the military. The military is going through a significant downsizing. People are coming out who have had years of work in mechanicals, transportation, and construction. There are programs out there, but they are not as robust as the people working in the programs would like. They aren’t funded as strongly as they should be in order to open up that pipeline, but there are employees. They don’t really know how to take that first step to get into the workforce.

VANDEN PLAS: Have you seen anything particularly innovative to attract young people or veterans to this profession?

HUTTER: We work with two different services in the state for military vets leaving the service and transitioning to civilian jobs. They are Employer Support of the Guard and Reserve (ESGR) and Hero 2 Hired. Employers and contractors can reach out to them and source veterans coming through the pipeline as they’re leaving the military.

VANDEN PLAS: How about younger people?

HUTTER: We use all job boards. We see Madison College as a real resource and the tech schools as a resource for a lot of the things we do in property management. The interesting challenge we have on the property management side is that a lot of the skills somebody might need in property management are also the skills that are needed in construction. So we’re finding the pool of qualified workers for facilities management and facilities maintenance is dwindling because really qualified people with certain transferrable skills are working for organizations like JP Cullen.

VANDEN PLAS: Is the low-pay myth the only misconception you deal with, or is construction viewed like manufacturing — dumb, dirty, and dangerous?

CULLEN SCHULTZ: Those myths are still out there, but in construction there are great occupations. My husband is a carpenter. With the innovation and the technology they get to use every day, it’s not like construction in the past. A lot of our employees have iPads and iPhones. They’re using laser scanners. It’s very cutting edge.

But the other thing is just getting in front of people earlier. There’s still the misconception that you have to go to college, you have to get a four-year degree in order to get a good job, which hasn’t proven true. You can go to college and still not get a job, so if we can get to the counselors, into the high schools and even middle schools, we can reach out to them to let them know that there are great careers available in construction. You can start as a carpenter or apprentice, work your way up to a journeyman, and then be leading $40 million projects.

What if?

VANDEN PLAS: For the last question, we’re going to go around the table and have you respond to this: The construction industry will continue to see solid growth if … what?

CULLEN SCHULTZ: The construction industry will continue to see solid growth if we keep doing what we’re doing, but also we could improve with the city, with the Urban Design Commission. The other thing is: what’s next after all of these apartments go up? Obviously, the continued growth of Epic and Epic-related businesses in the tech and innovation industries is really going to go a long way. Who is going to be the next Epic? Maybe it’s not going to be on the magnitude of Epic, but there’s got to be something coming up next.

“We’re building almost as much housing as we did at the peak in 2006, but the pendulum has swung totally from ownership units, condos and single-family homes to apartments.”— Matt Meier, vice president of real estate development, The Alexander Co.

MEIER: The vast majority of the building that’s going on is residential, so we’re not hitting on all cylinders. What really is going to drive the construction industry is if employment picks up. That fills office buildings, provides growth in office space, and at the same time drives the residential sector even further. Obviously, that’s premised on getting the job training and getting labor into the trades to handle that.  

HUTTER: I would say that some of the keys are that federal monetary and budgetary policy is implemented to support predictability for financing. It’s not necessarily that raising interest rates would be bad; obviously, from a development standpoint, we’d love for rates to stay where they are. But it’s also about how gradually it’s done and what other changes are made within the bond and other markets to make sure there’s not a jolt to the system with projects that are in progress or being planned.

Next, if investment dollars continue to flow into domestic real estate, that’s really key right now. There are a lot of private funds, investment dollars, flowing into domestic real estate. It’s pushing cap rates lower, which is raising value; with value going up, that allows deals to get done because of financing parameters.

The last point is whether state and local governments can avoid the temptation to get incredibly involved in the minutiae. Every layer of approval, every layer of permitting that’s added going forward — very rarely do they ever get changed — and every time something is added, although it may be done with good intent, it adds a layer of cost. Ultimately, it’s passed on to the consumer, and it makes the projects more difficult to get done.

SCHAEFFER: I’m going to say this as delicately as I can. There’s a certain amount of rhetoric at the state level that creates a backlash at the city level, where business is viewed sometimes as the enemy, or the development community is viewed as the enemy, simply because they perceive the state is trying to help business so much and help the wealthy so much. It has this backlash effect on the city of Madison, where progressivism is seen as stopping builders and developers from continuing forward or being profitable.

That comes from certain people, and so there must be that continued recognition that the growth, retention, and expansion of our local businesses is good for the entire city. If we have a strong economy in the city of Madison, that can help social justice needs. If we can continue to grow those partnerships and see each other as allies and partners, and not at odds with one another, and see that the goals that we’re trying to reach are the same, that will take us a long way, going forward.

(Continued)

TID speculation

It’s been a couple of years since the City of Madison adopted a revised tax increment finance (TIF) policy, but while our roundtable panelists endorsed the changes, it’s still too early to evaluate how it’s working.

Make no mistake, they are pleased to say goodbye to the controversial “equity kicker,” which slowed development by making developers repay the TIF loans twice, a costly feature shared by no other municipal TIF policies in Wisconsin. TIF is a method of financing public infrastructure improvements associated with private development by using increases in property tax collections that result from new development.

“It’s a little bit early to say if we’re going to run into any snags, or if it’s as good as we were hoping it was going to be,” said Carole Schaeffer, director of Smart Growth Greater Madison. “I certainly haven’t had people coming to me saying, ‘I went to Middleton or Sun Prairie and got a better TIF deal than I could’ve gotten in Madison.’ I haven’t had that since we passed this policy.”

What panelists have heard is interest in locations for speculative tax incremental districts, or TIDs, an economic development tool that appears to be stalled. With a speculative TID, instead of having a locked-in “generator” to proceed with development, city planners try to attract one by establishing a TID in a particular geographic area that needs development. (In contrast, a proposed TIF district on the west side of Capitol Square would provide loans for two known private developments.) “That [speculative TID] is something that Madison has been behind the curve on doing, and I would really like to see that happen,” said Brad Hutter, president and CEO of MIG Commercial Real Estate.

At the moment, Hutter said the city is taking a rob-Peter-to-pay-Paul approach, tapping successful TIDs to make loans in nonperforming ones. When TIDs struggle, it’s usually due to a declining property tax base, meaning there is no incremental value and therefore no additional property tax revenue available to make loans.

Matt Meier, vice president of real estate development for The Alexander Co., would like to see tax increment financing used not for new suburban development but for its intended purpose of boosting economically disadvantaged areas. “I’m talking about areas that need new infrastructure, and maybe they’re brownfields or infill redevelopment,” he stated. “We get into a TIF war with suburbia that’s really using TIF for a greenfield redevelopment. It just doesn’t seem to be what the program was meant for.”

Designs on design

A common lament among construction and development players is the city of Madison’s approach to the design of new construction projects. Rather than focusing on the basics of land use and design standards, critics charge that city committees and decision-makers excessively meddle in minutiae like the size of planters and the color of bricks. While they concede the city’s zoning code rewrite put more certainty into the process and provided a good framework, our roundtable panelists talked candidly about the continuing problems with inconsistencies in process and protocol.

Carol Schaeffer, of Smart Growth Greater Madison, said the problem is not the city’s interest in design standards, it’s more about the authoritative body that enforces those standards. “We have really fantastic staff in the City of Madison, so you meet with staff and you talk about what’s on the zoning codebooks,” she stated. “Here’s what’s in the urban design district that you’re in. Here’s what’s in the corridor plan. By the way, there’s the neighborhood plan over here.”

Schaeffer noted that it is not unusual for decision-makers to inject personal preference, which also impacts design plans. “And then when you’re done with this pre-meeting, you’re going to go to the Urban Design Commission for a pre-meeting, and they’re going to give you some advice. Then your neighborhood association is going to give you some more advice, and then you actually have to go to the Plan Commission and get a decision, and it’s going to be to the minutiae of this body likes this color brick, another body likes that color brick, and this body thinks no brick at all. As the developer and the architect, you’re going, ‘Look, we just want to know what you want us to build within the form, and the code, and the design district, and the neighborhood plan, and the corridor plan.

“Someone made the comment that all of the buildings that are coming to the Urban Design Commission look the same, that we’re building the same buildings, and a developer said, ‘Well, that’s because we know you’re going to tell us what to do anyway, and we’re saving the money on all the renderings that you’re going to tell us to change.’”

Matt Meier, of The Alexander Co., believes the city staff generally does a good job helping developers through the process, but it’s still a process. “You can spend a lot of money on just developing a concept, and sometimes the politicians don’t understand what goes into developing those concepts, and getting it to the point where you can even submit it to the city and make sure it’s economically viable,” he said. “So there are definitely political risks for those up-front costs, and in getting it through to an approval.

“There’s a lot of architectural talent in this town, and they would design a nice-looking building if left to their own will.”

The best made pre-plans

In construction, it’s becoming more apparent that the most successful projects are ones in which owner and architect involve their general contractor from the get-go, where the whole team is working collaboratively to identify potential bumps in the road and cost-effective solutions.

At least, that’s the perspective of JP Cullen’s Jeannie Cullen Schultz, for whom procrastination is not an option. “I think the biggest thing that we’re seeing is construction firms are getting hired earlier and earlier in the process,” she noted. “Owners want to see what the end cost is going to be, but also they want to see a roadmap in terms of how they’re going to get there. They want to see the experts in the market. They want to develop long-term relationships and chemistry with their partners.”

Matt Meier, of The Alexander Co., referred to this as “value engineering,” a process that weeds out inefficiencies from the start. “When you have the whole team at the table, the architect says, ‘Well, I want it to look this way,’ but the contractor is there to say, ‘Well, that’s not practical to build.’ To find efficiencies in the way the building is constructed is really important now with costs going up big time,” Meier stated.

To MIG Commercial Real Estate’s Brad Hutter, it’s critical to have the developer put together a reasonable budget with the financing institution. The budget should create a framework for both the architect and the general contractor, and create positive energy around a unique design. “You should try to create a memorable project but do so within the framework of a particular budget,” Hutter said. “I know a number of projects that were delayed or sidetracked simply because the appropriate type of value engineering between architects and contractors, within the framework of the budget, did not come to fruition.”

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