Mixed Forecast for Remodelers Across the Country

Like forecasting the weather, figuring out the remodeling and construction market over the last year has been a difficult task. Every time a recovery has been forecast, a new storm cloud has appeared on the horizon. Whether it's overbuilt new home inventory, tightening lending standards or simple consumer wariness, plenty of factors combined to make this a tough year for the remodeling industry.

July 31, 2007

 

Like forecasting the weather, figuring out the remodeling and construction market over the last year has been a difficult task. Every time a recovery has been forecast, a new storm cloud has appeared on the horizon. Whether it's overbuilt new home inventory, tightening lending standards or simple consumer wariness, plenty of factors combined to make this a tough year for the remodeling industry.

More than ever, though, the market is local. While remodelers in Detroit may be struggling, those in Seattle can be flourishing. On the other hand, similar things drive remodeling no matter where you work: it's about the health of the local economy and the local real-estate market. Even then you can find one remodeler succeeding and another failing across the street from each other.

Those markets that are doing best seem to be those where new construction has been hit less than others, as well as those with diverse local economies. The ones that are the worst are those that rely on an industrial base, such as the automotive industry, for their success.

 

Harvard researchers continue to predict year-to-year growth in the market.

"It's generally mimicking what's going on in new construction," says Kermit Baker, a senior research fellow at the Joint Center for Housing Studies of Harvard University. "The markets that are having trouble are the ones where we're really seeing the hit in new construction."

We've talked to national experts and local remodelers to take a look at what the forecast holds for the country as a whole and a few representative markets. 

Partly Cloudy

For the country as a whole, the forecast is for a basically flat year for remodeling.

"I think that's really because of what is happening in the housing market in general," says NAHB Chief Economist David Seiders.

While there's a notion that remodeling is counter-cyclical to new construction, the numbers don't bear that out, Seiders says. The reality is that the market follows roughly the same cycles as home building, but with less extreme peaks and valleys.

 

The latest NAHB forecast predicts modest inflation-adjusted declines this year and next of less than 2 percent, with the market growing again by 2009. The Leading Indicator for Remodeling Activity from the Joint Center for Housing Studies of Harvard University is predicting slight increases in the market for this year and early next year.

"The reason we don't expect a big downturn is that the weakness is happening at a time when the broader economy is relatively strong," Baker says.

The decline in remodeling activity can be largely tied to a 5 to 6 percent drop this year in improvements to owner-occupied homes, Seiders says. In other words, homeowners may be opting to wait on "want" projects like kitchens and additions, but are still undertaking "needs," such as a new roof.

Two factors are largely responsible for that: declining home sales and dropping prices.

"There's historically a pretty good relationship between existing home sales and remodeling activity," Seiders says. "Home-owners will do a lot of work in preparation for a sale and new buyers tend to do some remodeling soon after purchase."

Declining prices in some markets also are making homeowners a little less likely to remodel.

"The change in the price picture has alerted homeowners that they may not be able to get that money back in a sale," he says. "On the other hand, there is a very large amount of homeowner equity out there, so the financing is still available."

That will lead to less "speculative" remodeling by people looking to ride the wave of rising home prices, but remodeling should remain strong, Baker says. "People will not be as likely to do remodeling just for the sake of doing it, but it looks like we're going to hold on to that sort of routine activity that households traditionally undertake."

Markets that most represent the "partly cloudy" condition are, ironically, sunny places like Southern California, Phoenix and Florida. These are the same places that saw incredible price increases over the last few years, and while home sales have lagged, the equity homeowners have built up seems to be keeping the remodeling industry going.

In Southern California, home sales are down drastically from their peak in 2005, but remodeling has kept a steady if not spectacular rate. Gary Marrokal, president of Marrokal Construction Co. in Lakeside, Calif., says the worst appears to be over for the San Diego market.

"Our produced volume is down this year, but our sales are up leading into projects for next year," he says.

The second half of 2006 and first half of this year were slow, but Marrokal is now seeing more serious leads and referrals coming through. With more than 35 years in the business, it's nothing Marrokal hasn't seen before.

"When home sales slow down, that means people stay in their homes," he says. "They'll build that 'new home' in their current home."

That change doesn't happen right away, though, because homeowners have to go through a period of adjustment to the new realities of the housing market.

"Two years ago people could get a premium for their homes," he says. "Now it's worth 10 percent less and people have to get used to it."

That's where the market is now, with people accepting the idea of remodeling for themselves not for future home values.

"We talk to them about the benefits of remodeling for them, how it will add value to their lives," Marrokal says.

Phoenix also saw huge price run-ups over the last few years. As prices have dropped this year, some homeowners are less likely to invest in remodeling, says Mark Olson, president of Legacy Custom Building & Remodeling in Scottsdale, Ariz.

"It's definitely slowed down after the biggest boom we've ever seen," he says. "We had 49 percent home price increases in 2005—2006 and everyone was interested in remodeling to cash in on that."

After a 46 percent increase in business from 2005 to 2006, Legacy is on pace to hold steady at the 2006 level of almost $10 million.

"We're happy just stabilizing," Olson says. "I'm very pleasantly surprised we've been able to maintain that level this year."

That's better than much of the competition has been able to do, Olson says.

"A lot of guys are falling by the wayside," he says. "A lot of remodelers have shut down over the last couple of years."

Although the company hasn't made its projections for 2008 yet, Olson expects to see solid growth in Legacy's business. He credits a lot of that to investing in marketing and hiring good employees while other companies are making cutbacks.

Rainy Days

While remodeling has not taken the steep drops new construction has, there are still some markets that are struggling greatly. Most of those are concentrated in the industrial Midwest, where cities like Cleveland and Detroit are bucking the national trend of low unemployment and economic growth.

The struggling domestic auto industry has put Detroit on a downward trend that started last year and looks likely to continue, says Mat Vivona, president of Father & Son Construction in Troy, Mich.

"Home values have dropped drastically," he says. "That's made it difficult for the people that have wanted to remodel to qualify for financing. It's not that the demand isn't there, but the equity isn't."

Many of his competitors have not survived, with several remodelers in the area going out of business recently. In fact, one of Legacy's newest salespeople was a successful remodeler who decided to shut down his Michigan company and move to Arizona, Olson says.

To make it through the downturn, Father & Son is selling projects for less than they were a year ago. The tight market has caused a lot of trade contractors to cut their prices, a savings that the company can pass on to consumers.

"We're telling people that they can get their projects done at a substantial savings right now," he says.

The company is also reducing its overhead to cover lower prices. For any employees who can go on a spouse's health insurance, the company is offering them money to put toward that expense in lieu of covering them. At the same time, Vivona has upped the deductible on the company's vehicle insurance to reduce that premium. Layoffs have also been necessary as sales volume has dropped from nearly $8 million in 2006 to about $6 million this year.

He's also looked at the company's advertising and has reduced spending that wasn't working, such as the Yellow Pages, in favor of more effective methods, like billboards. The company is also offering incentives to clients, such as free drywall and insulation with a room addition or a free sink with a kitchen remodel.

"We're doing anything we can to make them start thinking it's a good time to remodel," he says.

Detroit has been through downturns before, and the city will recover from this one as well, Vivona says.

"We know it will turn around, but we just have to be able to weather it until then," he says. "I've heard it may be a little better next year than it was this year, but you never know."

Sunny Skies

Everything Detroit is, Seattle is probably the opposite. While Detroit's population has plummeted, Seattle's is growing. While Detroit's economy is struggling, Seattle's is soaring.

"The market has been very insulated by its tech and aerospace industry," says Mike Tenhulzen, general manager of Tenhulzen Remodeling in Redmond, Wash. "Ever since the dot-com bust, it's been steadily growing."

Seattle is also one of the few markets where home sales and values continue to be strong. That, combined with growth restrictions caused by government policies and geography, has made it a great place to be a remodeler.

"There's so much work to go around that we rarely run up against a competitive situation," Tenhulzen says.

The only negative to the great market is that costs continue to rise as good trade contractors find themselves constantly in demand.

"People are able to continually push up their prices, so that's meaning some higher prices for homeowners," he says.

 

The beginning of a recovery in existing home sales next year should mean an uptick in remodeling activity.

Unlike Seattle, Chicago has seen a slowdown in new construction this year, but the market continues to be strong, says Mike Nagel, president of Remodel One in Roselle, Ill., and chairman of the NAHB Remodelers.

"Chicago is a good market to be in because we're not dependent on one segment of the economy," he says. "We're having our best year ever, and I've talked to other people in the market and they're doing very well."

Nagel expects 2008 to be just as good, and from his discussions with remodelers across the country, believes that will hold true for most of the country.

"We're hearing it'll be down 2 or 3 percent nationally, but in most places I'm not seeing it," he says. "I think the big problem is we have a handful of really bad markets like Detroit that pull down the national average. The truth is, I don't put a lot of faith in the national numbers, because it's all about your local market."

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