Labor shortages, steel tariffs, looming trade wars and other market forces have the construction industry on edge these days. But perhaps the most urgent and pressing concern is the ongoing timber crisis that has home builders and construction companies scrambling to protect their margins in a booming construction market.
Lumber futures hit a peak high of $639 per 1,000 per thousand board feet in May, resulting in a $9,000 increase in the price of single family homes since January 2017 (Source: National Association of Home Builders). While timber prices have come back down of late to approximately $472, they remain well above historical futures prices (NASDAQ). Combine high prices with the volatility and uncertainty amidst trade disputes with Canada, historic forest fires and shipping troubles (rail and truck shortages), and you have an unpleasant mix of forces challenging the construction and new home building market.
Why Are Timber Prices So High?
The ramp-up in lumber prices really began with the trade dispute with Canada that saw the Trump Administration levy a 20% tariff on Canadian sawmills. The U.S. imports roughly a third of its timber from Canada and that increase in cost has had serious implications for lumber pricing.
In addition, a host of other issues arose around the same time as the trade dispute. Wildfires hit Canada’s west coast, a hurricane closed several big U.S. sawmills and, in an unexpected twist, railcars and trucks became scarce, dropping the number of lumber shipments by 10% in the final quarter 2017 (Wall Street Journal).
While the Canadian supply took a hit due to historic wildfires, the tariffs on importing Canadian timber remain the biggest driving force behind the spike in price that has yet to return to normalcy.
Passing the Buck?
The high price of timber often drives home prices up, which pushes potential buyers out of the market and makes new home sales more challenging. In many cases, the home builder has no other option but to pass this increased cost on to the buyer.
According to a USA Today story posted in late June, “The number of new home sales have come in below analysts' expectations for three of the past fourth months reported. For example, in April, new home sales fell 1.5 percent to 662,000 on an annualized basis, and fell short of the 680,000 that Wall Street had forecast.”
Entry-level or first time home buyers are the most likely to jump out of the market due to these price increases. This could have a heavier impact on millennial buyers that make up a surging portion of the entry-level home market. As millennials and other entry-level potential buyers get priced out of the new home market, they could turn more to the resale inventory or leave the market altogether for rentals.
On the other hand, builders that try to absorb higher timber costs into their pricing structure often see small margins become even smaller, causing them to hold off on building new homes until prices come down and the market steadies.
According to the National Association of Homebuilders, framing timber, including installation, represents about 18% of the average home’s selling price. Elevated prices of lumber are a difficult problem for builders and general contractors to get around.
"Contractors have started to boost the prices they charge, but they are falling further behind on the cost of materials they buy. This imbalance poses two risks—either contractors will suffer decreased profit margins or project owners with fixed budgets will cut back on the projects they undertake," according to the Associated General Contractors of America’s chief economist, Ken Simonson.
There have also been signs of an increase in new single-family home building approvals that simply never get started, perhaps due to high cost for materials.
For new home builders, construction companies and entry-level home buyers, it’s a tough situation with no easy solution.
What Can Builders and General Contractors Do to Counter High Lumber Prices?
Most analysts believe that volatility in timber prices is likely to continue in the near term but will eventually level off in time. For now, however, builders and general contractors simply don’t have a lot of good solutions to get around the high cost of lumber.
Home builders can turn to alternate materials, though the options are limited without a radical rethinking of the building process, and contractors in the commercial space could turn more to steel, but steel is also caught up in other ongoing trade war and tariff battles.
Add the other volatile elements thrashing the market-labor shortages, higher interest rates, and the unpredictable nature of the current administration-and heavy forces are applying downward pressure on profit margins for new home builders and GCs alike.
So, how can a general contractor or new home building company protect their margins when world events beyond their control hold so much sway over pricing?
According to Builder Online, “We're seeing builders double-down on operational excellence, construction cycle discipline, elimination of waste in start-to-completion workflows as they try to preserve margins, chip away at cost-per-square-foot direct expense, and still keep average selling prices to where they're within the elastic limits of new home buyers. It's never easy.”
It all comes back to controlling what you can control.
New home builders and GCs need to look at other ways to protect their margins and mitigate the damage caused by high timber prices without compromising on quality. Prices will always go up and down, market conditions will change (though perhaps not as radically as timber over the last year or so), so it’s incumbent upon every construction industry organization to look inward to find cost savings and increases in productivity.
Go Six Sigma, Look to OE
Take another long, hard look at how you operate to find new ways of doing what you do better and faster. Engaging a lean, six-sigma philosophy to improve operational excellence is a way to protect your margins by eliminating margin-devouring waste.
According to the Lean Six Sigma Institute (LSSI), organizations using a lean approach “...can expect to achieve a substantial improvement in the lead time for providing products and services to customers, a sustainable increase in quality, a significant improvement in safety, better employee morale, greater customer satisfaction and a considerable reduction in costs.”
Find New Ways to Value Engineer
While your business might not be able to get around high timber costs, it can look for ways to save costs in other areas. Take a cue from World War II ingenuity, like General Electric did back in the day.
“Value engineering began at General Electric Co. during World War II. Because of the war, there were shortages of skilled labour, raw materials, and component parts. Lawrence Miles and Harry Erlicher at G.E. looked for acceptable substitutes. They noticed that these substitutions often reduced costs, improved the product, or both. What started out as an accident of necessity was turned into a systematic process. They called their technique ‘value analysis’,” according to McGill University’s value engineering program.
Take a fresh look at how you’re used to building and uncover new products, new materials and new methods, without compromising too much on quality to save costs.
No, we’re not suggesting your company leaps into the tiny home construction market. What we are suggesting is that you take a look at modifying your plans to reduce total square footage. Less square footage requires less wood to build.
This doesn’t mean going from an average of 2,220 square feet to 1,100. But finding creative ways to deliver the same quality product in a smaller yet highly functional and appealing size can help offset losses caused by high lumber prices.
What’s more, going a bit smaller isn’t bucking any industry trend that might make a buyer or occupant balk.
“Today, house sizes are declining. According to the U.S. Census Bureau’s latest Annual Characteristics of New Housing report, the size of a new single-family home decreased in 2016—for the first time since 2009—to a median size of 2,422 square feet”, as noted by Builder Online. And this trend is likely to continue as more and more builders look to creative ways to cut costs and protect threatened profit margins.
In summary, new home builders and general contractors are confronting stormy seas and unpredictable weather that will continue to pose significant challenges to profitability in the near term.
Builders and contractors can only control what they control; while uncertainty swirls around your organization, look inward to find new and innovative ways to work and you’ll come out of the storm stronger than ever.
At Illumine8 Marketing & PR, we’ve helped many construction companies and builders find creative ways to lower the cost of generating new business. We understand your industry inside-and-out and can help you continue to grow while you tackle these pressing problems. Reach out to us. We’d love to learn more about your business.