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REITs, Construction Industry React to Tariffs, Warn Rising Construction Costs Could Cancel Projects

Developers Worried Rising Prices for Construction Materials Will Further Squeeze Margins and Render Projects 'Uneconomic'
March 8, 2018
Higher steel and aluminum prices resulting from proposed tariffs will likely result in higher costs for new projects such as this new office building in Washington, DC.



President Donald Trump's plan to impose steep tariffs on steel and aluminum imports have sparked rising concern and dire warnings this week from architects, contractors, REITs and real estate lobbying groups who say tariffs could put more pressure on already rising building costs and cause developers and investors to postpone, cancel or steer clear of new development opportunities.

Despite a carve-out by the White House for North American trading partners Canada and Mexico, the proclamations signed today by President Trump formalize 25% and 10% tariffs on imported steel and aluminum that will take effect in 15 days. The president's plan has prompted mounting opposition over the course of the week from prominent congressional Republicans and business leaders worried about the potential impact on the economy, shaken global financial markets and prompted retaliation threats by the European Union, China and other U.S. trading partners. White House chief economic advisor Gary Cohn, who opposes the tariffs, resigned this week.

Real Estate Roundtable President and CEO Jeffrey DeBoer warned that "unintended consequences from such broad penalties targeting metals essential to construction" could jeopardize the current healthy state of the U.S. commercial property industry. DeBoer said higher construction costs could make many new projects "uneconomic and unviable" and hurt investment and job creation.

Construction firms and general contractors committed to fixed-price contracts may have to absorb the added costs, forcing them to cut back on investments in new equipment and personnel, AGC chief executive Stephen Sandherr said in a statement today issued in response to the proclamations.

Higher steel and aluminum costs could force infrastructure funding cutbacks by federal, state and local officials, while the ensuring trade war will dampen enthusiasm for both private-sector investment in roads, bridges and other infrastructure undermining one of Trump's key initiatives, Sandherr said.

"The bottom line is that any short-term gains for the domestic steel and aluminum industries will likely be offset by the lower demand that will come for their products as our economy suffers the impacts of these new tariffs and the trade war they encourage," Sandherr said.

U.S. Chamber President and CEO Thomas J. Donohue also issued a statement Wednesday saying the business organization "is very concerned about the increasing prospects of a trade war which would put at risk the economic momentum achieved through the administration’s tax and regulatory reforms."

"We urge the administration to take this risk seriously and specifically to refrain from imposing new worldwide tariffs," which would harm American manufacturers, provoke widespread retaliation from U.S. trading partners and leave the true problem of Chinese steel and aluminum overcapacity virtually untouched," Donohue said.

REIT Execs Lament Rising Cost of Steel, Labor


Tariffs and rising construction materials, land and labor costs were top of mind for analysts and senior REIT executives at the 2018 Citi Global Property CEO Conference in Hollywood, FL. Andrew M. Alexander, CEO with grocery anchored shopping center investor Weingarten Realty Investors (NYSE: WRI), said prices will likely continue to drift upward.

"How much, it's hard to say, but if there are aluminum tariffs, that's got to affect the prices," Alexander said, adding that Weingarten has already locked in the price of steel through most of its active pipeline. "When it comes to green-lighting new developments, I don't think we're going to do a lot of that, because there's so much uncertainty and not robust enough tenant demand to absorb. Everyone thinks there will be some amount of cost increases from materials and labor."

Multifamily developer Camden Property Trust (NYSE:CPT) has been able to acquire development deals at prices ranging from 7% to 15% below replacement cost depending upon the market, Camden Chairman and CEO Richard Campo told analysts. At one Broward County, FL, proposed development, for example, construction costs have increased 65% since 2013, "that doesn't include another $300,000 or $400,000 of steel after the steel tariff kicks in and the rents have gone up 26%," Campo said.

Joseph Margolis, chairman and CEO of Extra Space Storage Inc. (NYSE: EXR) told analysts that the self-storage REIT's development pipeline has slowed or shut down as yields compress, in part due to rising construction costs.

"Clearly there's pressure from the equity capital providers and the debt capital providers as development yields start to get squeezed," Margolis said. "Land costs are up, lumber had a big increase over the last couple of months, labor costs are up. Now, we're thinking steel costs may go up as well."

Asked by an analyst whether the appetite for banks to lend for new development is slowing, Public Storage CEO Ronald Havner voiced similar sentiments. The attractiveness of REITs buying so-called C/O (certificate of occupancy) deals -- newly built self-storage properties constructed by developers -- has dulled from a year to 18 months ago, Havner said.

"My expectation is that would have some impact on new development going forward," he said. "Labor is tight, labor costs are rising, [the price of] steel's gone up recently. The implicit replacement cost on everyone's properties is moving up because new construction is rising in cost."

Steel Prices on Rise as Foreign Suppliers Pull Back


Four of the Federal Reserve's 12 districts saw a marked increase in steel prices, due in part to a decline in foreign competition. Price growth for lumber and other building materials picked up due to an uptick in construction activity, according to the Fed's latest Beige Book survey released Wednesday. A combination of stronger demand, supply constraints and higher materials prices increased non-labor costs, especially in construction, manufacturing and transportation.

"[U.S.] steel producers reported raising selling prices because of a decline in market share for foreign steel and expectations about potential outcomes of pending trade cases," the Fed said. "Manufacturers further down the supply chain reported sizeable increases in the price of steel that they purchased."

Ken Simonson, chief economist of the Associated General Contractors (AGC), said the tariffs could be "damaging to the construction industry in multiple ways."

"Steel is nearly ubiquitous in construction," Simonson said. "Aluminum is used in all types of buildings for window frames and curtain walls, siding and other architectural elements. The price of both imported and domestic metals is likely to rise immediately. That will reduce or eliminate any profit for contractors who have already signed a fixed-price contract for a project, but who have not yet bought metal products."

The increases in materials will cause bidder to hike prices for future projects, causing governments and other public owners of property, who generally on fixed budgets, to reduce the number or scope of projects put out to bid such as schools, highways, bridges or other infrastructure. Some private projects will be shelved or canceled as construction cost increases make them uneconomic, Simonson said.

Simonson said price increase notices continue to hit contractors' inboxes, noting that he saw an announcement from the American Buildings Co. South division of Nucor Buildings Group of a 7% price increase on pre-engineered metal buildings effective March 20.

According to an estimate this week by Trade Partnership Worldwide, an international trade and economic consulting firm, while the plan would increase U.S. iron and steel, aluminum and other non-ferrous metals employment by about 33,450 jobs, the tariffs would eliminate 179,334 jobs throughout the rest of the economy for a net loss of nearly 146,000 jobs, including more than 28,000 construction positions.

The tariffs "threatens to drastically increase the prices of many building materials specified by architects," said Carl Elefante, president of the American Institute of Architects (AIA).

"Structural metal beams, window frames, mechanical systems and exterior cladding are largely derived from these important metals," Elefante said. “Inflating the cost of materials will limit the range of options they can use while adhering to budgetary constraints for a building."

Elefante added that the administration’s proposed $1.7 trillion infrastructure program will not achieve the same value if critical materials become more expensive," and the potential for a trade war puts other building materials and products at risk.

"Any move that increases building costs will jeopardize domestic design and the construction industry, which is responsible for billions in U.S. gross domestic product, economic growth and job creation," Elefante said.

Editor's note: 2:57 pm, March 8 - This article was updated to include President Trump's signing of the tariff proclamations and reaction from the AGC.

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