Building Materials & Supplies Trends
Date August 2019
- Tariffs of 25% and 10% remain in place for imported steel and aluminum from China and others, but have been lifted from Argentina, Australia, Canada, and Mexico
- Although new, privately-owned housing starts are down 3.6% year-to-date, a jump in permits to a seven-month high as of July 2019 may be seen as positive for the housing market
- Annual gains in homeowner spending on improvements are expected to be moderate across more than half of the nation’s largest metro areas in 2019
By The Numbers
Homebuilding starts mixed: U.S. homebuilding was down for a third straight month in July 2019, falling 4.0 percent to a seasonally adjusted annual rate of 1.191 million. However, this represents a 0.6 percentage point increase year-over-year from the July 2018 rate, and a jump in permits to a seven-month high may be seen as positive for the housing market.
Low mortgage rates have yet to translate into a sustained pickup in existing-home sales, which declined 1.7 percent in June 2019 to a seasonally adjusted rate of 5.27 million. Year over year, sales are down 2.2 percent; however, total inventory in June 2019 was up 1.0 percent over June 2018. While supply remains relatively tight, more listings should support existing-home sales in the coming months, with easing prices helping homes sell more quickly. The National Association of Realtors reported that 56 percent of homes sold during June 2019 were on the market for less than one month.
Millennials drive demand: More than half of all mortgages originated by Fannie Mae and Freddie Mac went to first-time buyers in 2018. Data from the National Association of Realtors shows that Millennials made up 37% of all home buyers in 2018, and since 2017 they have accounted for the largest share of U.S. mortgage originations. “This trend shows no signs of reversing in 2019,” according to Odeta Kushi, Deputy Chief Economist for title insurance and settlement company First American.
Remodeling growth slows: According to a June 2019 study by the Harvard Joint Center for Housing Studies, annual gains in homeowner spending on improvements are expected to be moderate across more than half of the nation’s largest metropolitan areas in 2019. The study indicates that the pace of spending by homeowners will slow in 29 of the 49 areas tracked relative to their estimated 2018 gains, with annual growth in improvement expenditures projected to fall to the lowest rate in three years in 22 of the areas tracked.
“Metros with cooling home prices and sales activity are not able to sustain the same pace of investment in home improvements as in recent years,” commented Chris Herbert, Managing Director of the Joint Center for Housing Studies. “Our projections show especially pronounced slowing in markets such as San Antonio, Kansas City, Pittsburgh, Buffalo, and Dallas.”
A senior researcher in the Center’s Remodeling Futures Program noted, “despite the broader deceleration, remodeling gains should remain strong and even accelerate through year-end in some areas of the country including Orlando and Las Vegas where remodeling permitting, house prices, and homebuilding have picked up.” Additionally, the study concluded that, for 2019, the strongest regional remodeling uptick is expected to be in the West, driven by projected growth of 8 percent or more in Sacramento, Denver, Seattle, Tucson, San Jose, and Las Vegas.
Ranking recoveries: While other inventory categories are not as straightforward to value, there are some general rules of thumb to keep in mind. Shingles, insulation, wallboard, and other commodity-like products are commonly standardized and widely marketable, meaning that gross recoveries are typically strong. However, drywall typically has lower recovery because it has slim margins, has high transportation costs, and is prone to breakage. Other items such as fasteners, moldings, windows, and doors are marketable but have specific applications, resulting in higher discounts. The least marketable and lowest recovering categories include anything that is colored such as siding, composite decking, or moldings with custom profiles. While there is a market, it’s much more limited and buyers demand steep discounts.
Some building products are made-to-order including roofing and flooring trusses, custom millwork, kitchen countertops, and bath vanities. Special orders can be high or low recovering depending on the circumstances. If they are backed by an order, they usually have a high recovery value because it is assumed the customer will take them for a project that’s underway. However, special orders that are abandoned, refused, or returned are typically very low recovering. Lenders should look to appraisers to understand the nature of special orders. It is recommended that any inventory with a deposit against it be made ineligible. Work that is in-process, such as custom hanging doors or roof trusses, is not typically converted. Rather, it’s assumed these items would be sold to competitors at a steep discount.
Expenses can add up: In general, gross recoveries are typically high for building products distributors, but often the biggest surprise for lenders is the liquidation expenses that, in some cases, can be as high as 20 percent. Most sell to either retailers or pro builders, which rely on delivery of products to stores or job sites. In such liquidation scenarios, costs to maintain a delivery fleet are typically included in the liquidation expenses and can be as high as 7 percent. For companies that rely heavily on salespeople to maintain customer relationships and market products, an additional commission expense may be built into the liquidation scenario. Depending on whether buildings are owned or leased, real estate may also contribute to the expense burden.
Seasonal swings: Not surprisingly, the building products industry is a very seasonal business. April through October is typically the high selling period during which time as much as 70 to 80 percent of sales may occur. However, variations in the weather can shift this timeframe from year to year, which is why a high-low analysis is typically recommended. Values can swing by as much as 5 to 15 percentage points between seasons. Appraisers can help lenders understand the additional risks associated with low season liquidations to mitigate exposures.