by Dave Garland, Hansen PSC, Inc. , January 4th, 2008
As the housing market evolves, it is inevitable that many developers and homebuilders will be caught in the undertow of the downward cycle. To make matters worse, the maze of community, county, and state regulations is getting longer and more confusing for land owners, engineers, architects and developers. In fact, entitlement and regulatory issues, driven by multiple sources of influence, are one of the largest concerns within the development and home building industry today. Understanding these forces and preparing for their impact can enhance project appeal, add revenue opportunities, and favorably position you and your clients for future prosperity.
Market Forces:
Force #1 – Organized Activism: Citizens who have historically acceded to the decisions of local and regional regulatory officials now seemingly challenge them at every turn. Organized campaigns crafted by neighborhood or special interest groups can force officials to risk their office on every vote, no matter how reasonable a development application may be. From angry neighbors to prepared activists, groups opposed to developments are frequently issuing press releases, retaining attorneys and raising money for lengthy court battles. Even national publications are showcasing articles on how to best organize to fight developers.
Force #2 – Demographics: By 2040, America’s population is projected to increase by an additional 83 million people. Concentration of this growth is expected to center on resource-constrained metropolitan areas; adding to existing traffic and infrastructure woes. According to the Brookings institution, by 2030 nearly half the buildings in the U.S. will have been built after the year 2000, with residential development commanding two-third’s of this expansion.
Force #3 – Zoning & Code Updates: To combat the possible consequences of growth, regulatory agencies have instituted urban growth boundaries, comprehensive planning campaigns, and urged the use of “smart growth” initiatives. While growth management practices are nothing new, the degree by which land use regulation is being implemented is unprecedented in the United States. Take Loudoun, Virginia, the nation’s fastest-growing county in the last five years as an example. Its population tripled in 15 years to a quarter million residents constraining area resources, and decreasing air quality and the affordability of homes. Land use experts have argued that there is one solution to these challenges: heavy regulation. Regulators now call for smart growth zoning coupled with dense, mixed use developments to preserve open space, constrain urban sprawl and meet the area’s surging housing demand. These same responses are being proposed in communities throughout the country.
Force #4 – Affordable Housing: Additional housing demand has and will continue to be met with new stipulations and regulations that call for affordability components. In fact, most “smart growth” planning reforms adopt the principle of housing affordability and diversity. The premise of the affordability problem is that not enough low-cost housing exists, particularly in the shadow of the recent housing boom. The policy response in most states has been to subsidize rental housing development, or mandate percentages of for-sale units be sold below market rates. The net affect is that the costs of affordable housing requirements are borne by the land owner, developer, builder or some combination thereof.
Force #5 – Environmental Awareness: Growing environmental awareness is demanding greater due diligence and analysis of a project’s potential impact on the surrounding infrastructure and ecosystem. Municipalities are expanding their requirements for studies of biological, cultural, anthropological, and specie history specific to your properties. National policies also poised to directly influence design. Indeed, environmental awareness, environmentally sustainable development trends, and “green” practices have dominated the recent trade headlines. From complying with EPA guidelines to applying for and LEED certification standards, there is an underlying, unspoken assumption that we are moving from: ‘Every developable structure could have a green component.’ To, ‘Every structure should incorporate sustainable practices in its design.’
Regulation’s Impact:
As the above forces converge, increased regulations to meet social and environmental demands will increase both costs and time frames for development approvals in the planning and entitlement phases. From a valuation standpoint, any additional regulatory and/or social, economic or environmental constraint can be a multiplier of time and risk. More importantly, requirements for affordable housing, development impact fees, higher permit fees, special impact fees and the like are often based on the assumption that developers have the resources necessary to consistently meet evolving policy.
In reality, policy forces developers to continually reinvent mechanisms by which to cut costs. In the past, these costs could come out of the underlying price of land, or through increased densities, and not be passed on to the end customer in the form of heightened asset prices. Unfortunately, speculation in raw land by hedge funds, foreign investment, institutional investment, and players with little previous development experience has pushed land values into the stratosphere thereby placing serious constraints on future development profitability through added competition.
New Opportunities:
There is a flip-side to that coin: if there is one thing that added regulation gives us besides longer entitlement time frames, it is uncertainty in receiving intended approvals. Where there is uncertainty in an economy, there is a chance for arbitrage and opportunity.
While the challenge for receiving entitlements will increase, so too will the rewards. Where it once took mere months to receive approvals for a project, it might take a year or two. The difficulty for receiving entitlements will be commensurate with the added value of the property upon approvals. The trend will be that value will increase significantly for paper approvals. This means that by obtaining tentative maps, planning commission approval, city approvals, or the equivalent (even without necessary building permits), the value of land will be substantially increased, and not just due to land appreciation over time. Now, more than ever before, the ideas and expertise of development consultants are critical to differentiating one project from the next and adding necessary economic value for a development.
Paper value of land will constitute a significant portion of the estimated $25 trillion land grab over the next 30 years. Strategies for obtaining approvals, and thus the increased land value, will be of utmost importance. Outsourcing of the entitlement process is a growing trend throughout regulation heavy states such as California, Oregon and New York. This niche opportunity will only expand in other states as development constraints mount and provide opportunities for consultants such as civil engineers and land planners.
As the conflicting needs of the political, social, demographic, economic and environmental influences mount, there is bound to be uncertainty and volatility. For those who know how to navigate these waters and address the forces of volatility, a wellspring of opportunity awaits.
References:
Robert Charles Lesser & Co. Housing Predictions, February 2007
Davenport, Coral. “In a fast-growing county, sprawl teaches hard lessons,” The Christian Science Monitor. 1/23/06.
Staley, Sam. And Gilroy, Leonard, C., “Smart Growth and Housing Affordability: Evidence from
Statewide Planning Laws”, Reason Foundation Policy Study No. 287, Dec. 2001.
Roney, Maya. “Overseas Investors Still Find US Property Hot,” Business Week.com, Feb. 14, 2007
“Builders on the Block,” The Economist, 3/31/07.
Kaihla, Paul. “The $25 Trillion Land Grab,” Business 2.0 Magazine, Nov. 1, 2005.
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Dave Garland is Vice President of Development of Hansen PSC, Inc. a strategic investment and land development firm located in Menlo Park, CA. Hansen PSC, Inc. strives to locate commercial and residential land throughout America on which to create socially respectable and environmentally friendly development projects. Mr. Garland can be reached at dgarland@hansenpsc.com.
