'State of Custom Home Building' Program Forecasts Higher Costs

Copyright 2005 Dolan Media Newswires 
Kansas City Daily Record (Kansas City, MO) 
 
February 23, 2005 Wednesday
 
NEWS
 
765 words 
 
Cathy Kingsley
 
The home building industry has seen a nearly 14-year run of prosperity with the last four being record years, Steven Hays, a CPA with Rubin, Brown, Gornstein & Co. L.L.P., told members of the Home Builders Association and the Custom Home Builders Council at "The State of Custom Home Building" program Jan. 25.

Hays, along with B.J. McSorley with The Business Bank of Saint Louis, presented statistics and trends affecting home builders within the past few years.

The profit margin for all home builders has been the highest on homes priced more than $400,000. With construction costs averaging 78.6 percent and operating expenses 8.5 percent, the profit before administrative expenses and income taxes in 2003 was 12.9 percent.

The profit margin has gone down slightly over the past few years, mainly due to an increase in raw material cost. There was a big spike last year in direct construction costs, which include carpentry, lumber, foundation, masonry, plumbing and windows.

"Last year was the worst year in history for price increases," Hays said. "In 2003, costs went up between 9 [percent] and 13 percent. Costs went up quicker than people were able to adjust the sales price."

As a result, gross profit was down by half a percentage point in 2004 for new homes, with an average sales price of $278,435. Income before taxes was just under 5 percent.

"[Home builders] were doing a lot of work for a 5 percent return," Hays said.

A contributing factor to the rise in costs in the supplier industry is nationwide consolidation, he said. According to the National Association of Home Builders, the five largest suppliers of concrete dominate more than 80 percent of the market. This nationwide crisis has cost home builders one-half to three-quarters of a percentage from the bottom line, Hays said. He warned home builders to expect a 5 percent to 10 percent increase in raw materials this year.

For custom homes, the total costs of construction last year was 81.5 percent. With an average sales price of $571,598, the profit before administrative costs and income taxes was 11.5 percent.

The numbers vary significantly when developers have land costs versus building on someone else's lot. With an average of 23.9 percent spent on developed lot costs, the direct construction costs are 54.7 percent, as opposed to 83.6 percent with no land costs. Likewise, custom homes built with no land costs have less financial and selling expenses and reap a profit of 11.7 percent, more than the 11 percent with land costs.

There are many factors affecting home building and custom home markets, including the availability and price of land. Although areas like Clayton, Olivette, Bellrieve Country Club and Frontenac are fairly well developed, other areas such as Wildwood, parts of St. Charles, south St. Louis County and Illinois still present opportunities.

Another factor affecting home building is interest rates. The last 35 years have been historical lows for short-term and long-term financing, aside from the period between 1987 to 1990.

"Since then, it has been an unprecedented power run," McSorley said. "2004 was an excellent year for custom home building. These are superb, unheard of rates that both you and buyers can buy at."

Rates that have been at about 4 percent to 5 percent are expected to increase slightly and might reach as high as 6 1/4 percent to 6 3/8 percent by the end of the year, depending on how much the prime rate is increased during the year.

"If the prime rate goes up, long-term mortgage rates go up," he said. "It will be an ascending interest rate market, both for short- and long-term [financing]."

McSorley also pointed out that there is no shortage of money available for borrowers and called it an "incredibly fertile lending environment."

The definition of a custom home has expanded in recent years, he said, and now includes attached unit houses and mid-rise and high-rise luxury condo buildings. The average price for custom homes in the St. Louis area for 2004 was $571,598.

A potential also exists with the teardown market, where homeowners want the old house torn down and a new custom home built in its place.

Hays offered some final advice to home builders on the keys to success - strategic planning and managing direct construction costs. Direct construction costs have the most impact on the bottom line, he said, and include setting sales and option pricing to achieve a desired level of profitability and not putting more into a house than the buyer is willing to pay. 
 
February 23, 2005
 

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