Steel’s the Wild Card in Developers’ Plans
By Jack Hagel, The News & Observer, Raleigh, N.C.
Jul. 3–RALEIGH — The L Building, a seven-story office project poised to sprout near the new convention center downtown, was to rise on a strong skeleton.
But early last year, a building boom swelled the price of one key ingredient — steel.
Andrew Stewart had to corral the engineers again. Their task: Redesign the building to be just as big and just as sturdy, but with 15 percent less steel.
After all, Stewart, president of Raleigh developer Empire Properties, had a budget to meet.
When the new estimate came in after the redesign, however, Stewart gasped. The cost of the steel had spiked another 40 percent. "We were sitting around a table — designer, developer, contractor — and we’re all saying, ‘What just happened here?’ " Stewart said.
What happened was China and India and inflation. Global demand and a weak U.S. dollar have forced steel prices skyward, causing sticker shock for developers and disrupting the delicate dance they do with architects, contractors, lenders and tenants.
It’s forcing developers to accept slimmer profits, pass expenses on to tenants, skimp on other expenses or scrap plans all together.
"Everybody’s looking for some certainty," Stewart said. "But there is no certainty."
The cost of producing some steel and iron products has increased 80 percent this year, according to the U.S. Bureau of Labor Statistics.
The volatility is making it hard for steel fabricators to guarantee prices. Without that, general contractors can’t determine overall costs for developers.
That in turn makes it difficult for developers to know whether rental rates or sales prices of their projects will be accepted by the market — a crucial factor in convincing lenders to finance construction in the first place.
Add that to record fuel prices, which drive up delivery costs, and to lenders who are wary of financing construction in a slow economy.
"You have to be really skilled and a little bit lucky to pull off a project nowadays," Cary developer Gregg Sandreuter said.
Developers who haven’t locked in steel prices but have committed to construction — through signed leases or pre-sales contracts — are sweating it out.
Kane Realty, for instance, received financing for a retirement community — The Cardinal — that the developer and partner Drucker & Falk are planning off Six Forks Road in Raleigh. The partners are trying to anticipate rising steel prices in cost estimates. But they’re also bound by contracts with early buyers.
"If costs go up, then it’s my problem," Kane Realty chief executive John Kane said. "What you’re having to do is build in the best guess you can."
It’s a risk any developer takes. If costs go up, purchase prices or rental rates follow in an effort to maintain profit. But if buyers or renters balk at higher prices, something must give. Often it’s profit. If too much income is lost, a construction loan could go bad.
Empire has pre-leased about 30 percent of the L Building. While the developer may have had some wiggle room in those deals, its flexibility in future deals is diminishing as steel prices rise. Tenants for the remaining space will probably have to swallow the $28-per-square-foot asking rate.
Meanwhile, Stewart is finding savings elsewhere. For instance, he opted for a lower-grade granite. "You can find a number of little things and still keep the quality of the building," Stewart said.
Some things can’t be replaced: air-conditioning ductwork, electrical wires, metal studs.
"It’s sneaky," said Jeff Sheehan, a Duke Realty senior vice president. "The increase is alarming. We have had some jobs where it’s put a squeeze on margins because of the timing."
In the past when the U.S. economy slowed, prices of commodities related to construction generally dropped.
Indeed, costs of wood and drywall are falling as the slumping U.S. housing market keeps home builders on the sidelines. Labor costs, too, are starting to dip. But not enough for commercial developers to offset rising steel prices.
And it’s not just hitting the private sector. Rising costs will hit public museums, schools, bridges and other infrastructure. Raleigh’s convention center will cost about $221 million, 23 percent more than first estimated in 2004.
The jolt is forcing some developers to delay projects until prices stabilize.
York Properties delayed plans indefinitely for 53 condominiums in Raleigh. The developer had financing in place and enough reservations, said George York, executive vice president. But construction costs would have forced the company to boost prices.
"The math just wasn’t working for us," York said. "We didn’t feel like the market could bear a significant price increase."
Waiting can have its benefits. In the early 2000s, Highwoods Properties ordered most of the steel and concrete for a building it planned at CentreGreen office park in Cary.
But the technology industry, which fueled office demand at the time, collapsed. And that made Highwoods holster its guns.
Steel sat on the site for years.
When the company finally built it last year, the concrete was worth roughly 60 percent more, based on estimates from RSMeans, a Kingston, Mass., construction research firm. The steel was worth 75 percent more.
That could help Highwoods undercut competitors on rent — flexibility that’s disappearing with today’s steel prices.
"It’s very difficult," said Skip Hill, a Highwoods senior vice president. "Pricing is just wacko."
jack.hagel@newsobserver.com or (919) 829-8917
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