Impact of Rising Construction Costs on Commercial Real Estate Property Management

ESV   Ngozi Amaku Nwoke

Understanding the dynamic relationship between construction costs and property management is crucial, as it directly influences the profitability and sustainability of Commercial Real Estate (CRE) investments. As construction costs continue to soar, CRE property managers face new challenges.

Understanding the Construction Costs Surge

A myriad of factors are contributing to the escalation of costs in the construction industry. These factors include increased demand for raw materials, supply chain disruptions, regulatory changes, and a shortage of skilled labour. Let us explore the repercussions of the increase in construction expenses on CRE property management and dive into strategies that may help navigate these challenges.

Impact on Property Valuation: One of the immediate impacts of rising construction costs is the effect on property valuation. As construction expenses soar, the cost approach to property valuation becomes more challenging. Property managers must carefully reassess and adjust valuations to ensure accurate financial reporting and maintain the attractiveness of their portfolio to potential investors.

Renovation and Retrofitting Challenges: For existing properties requiring renovations or retrofitting, the rise in construction costs poses a dilemma for property managers. Budgets allocated for updates and improvements may now need to be revised, necessitating a reassessment of priorities. Managers must weigh the cost-benefit analysis of upgrades, potentially deferring non-essential projects while focusing on initiatives that promise a higher return on investment.

Impact on New Developments: For property managers overseeing new developments, the surge in construction costs translates into increased project budgets and, subsequently, higher rental rates. The challenge lies in balancing delivering quality spaces and ensuring the project’s financial viability. As construction expenses soar, property managers may need to recalibrate their leasing strategies and explore innovative financing options to maintain competitiveness in the market.

Lease Negotiations and Rent Adjustments: Property managers may need to negotiate lease terms with tenants as construction costs rise. Adjusting rents to reflect the increased expenses becomes a delicate balancing act. Transparent communication with tenants about the necessity of adjustments is essential to maintaining positive relationships and ensuring the property’s financial viability.

Operational Costs and Maintenance: Property managers face challenges in managing the day-to-day operational costs of existing properties beyond development projects. Routine maintenance and repairs become more expensive, impacting budgets and potentially affecting the property’s overall profitability. Managers must carefully allocate resources and explore cost-effective maintenance strategies to offset these rising expenses. Partnering with a staffing service provider like BGSF can help alleviate these costs. BGSF allows property managers to scale their workforce up or down based on immediate needs. This flexibility enables them to reduce costs during periods of low occupancy, preventing unnecessary expenses while maintaining the ability to ramp up quickly when demand increases.

Technology Integration for Efficiency: Property managers can leverage technology to enhance operational efficiency in the face of escalating construction costs. Implementing smart building technologies, predictive maintenance systems, and energy-efficient solutions can help optimise operational costs and mitigate the impact of rising construction expenses.

Sustainability Considerations: As the construction industry grapples with cost challenges, CRE property managers can integrate sustainable practices into their management strategies. Sustainable building practices, energy-efficient technologies, and green certifications can contribute to environmental conservation and yield long-term operational cost savings, offsetting the impact of rising construction costs.

Construction Costs: When the cost of building materials increases, the overall construction costs also rise. This can make developing new real estate projects more expensive, leading to higher property prices. Developers may pass these increased costs to home buyers, resulting in higher purchase prices for residential and commercial properties.

Affordability: The rising cost of building materials can significantly impact potential home buyers’ affordability. As construction costs increase, the prices of newly built homes also tend to rise. This can make purchasing properties more challenging for many Nigerians, leading to a slowdown in the real estate market.

Housing Supply: Higher building material costs can make it less attractive for developers to build new properties. This can lead to decreased housing supply, particularly in regions where affordability is already a concern. Reduced supply can increase property prices, making it even more challenging for individuals and businesses to afford real estate.

Economic Impact: The real estate industry significantly contributes to the Nigerian economy. When the cost of building materials increases, it can adversely impact construction activity and hinder economic growth. This can result in reduced job opportunities in the construction sector and a slowdown in related industries, affecting the overall economy.

It is important to note that factors such as currency devaluation, inflation, government policies, and global market trends can also influence the cost of building materials and impact the real estate industry in Nigeria.

Managing the cost of construction is also vital when constructing real estate, thereby saving cost and maximizing profit. Managing costs effectively is crucial in today’s construction industry, especially in regions like Nigeria, where inflation and supply chain disruptions are prevalent. While reducing expenses is necessary, maintaining quality is equally essential to ensure the longevity and safety of buildings. The following ways can be used to reduce construction costs when carrying out a real estate development:

Understanding the Cost Dynamics: Construction costs are influenced by various factors, including material prices, labour costs, and regulatory requirements. Recently, Nigeria has experienced significant increases in the cost of building materials due to inflation, currency fluctuations, and supply chain issues​ ​. Understanding these dynamics is essential for developing effective cost-management strategies.

Budgeting and Cost Management: Effective budgeting is the cornerstone of cost management in construction. A detailed budget should account for all potential expenses, including materials, labour, equipment, and contingencies. Regularly monitoring and updating the budget can help identify areas where savings can be made without compromising quality​ ​.

Exploring Alternative Materials and Techniques: Traditional building materials like cement and steel are subject to market volatility. Hence, exploring alternative materials can provide cost savings while also promoting sustainability. For instance, bamboo and compressed earth blocks (CEBs) are cost-effective and environmentally friendly alternatives successfully used in various projects​ ​. These materials reduce costs and enhance the thermal efficiency of buildings, leading to long-term savings on energy. A good example of this strategy is the introduction of the hydraform compressed earth system by the Anambra state government in 2009 to reduce the cost of building construction in the state. This means that the cost of about 40%  of walls was reduced in projects utilising the Hydraform block system.

Leveraging Technology: Technological advancements in construction offer numerous ways to reduce costs while maintaining quality. For instance, Building Information Modeling (BIM) allows for precise project planning and visualisation, reducing errors and rework. Prefabrication and modular construction techniques also save costs by minimising waste and improving efficiency.

Supplier and Contractor Collaboration: Building solid relationships with contractors is a cornerstone for effective cost management. Developing long-term partnerships can also lead to better pricing, reliable supply chains, and enhanced project coordination. Additionally, negotiating and securing fixed-price contracts can help mitigate the impact of price fluctuations.

Sustainable Practices: In a world of increased competition for resources and reduced resource availability, incorporating sustainable practices into construction projects benefits the environment and can lead to cost savings. For instance, using locally sourced materials reduces transportation costs and improves the local economy’s health. This eventually leads to the local economy’s capacity to increase building orders, reducing construction costs through economic scale effects—also, the production and execution of energy-efficient designs lower operational expenses over a building’s lifetime.

Reducing construction costs without compromising quality requires a multifaceted approach that includes meticulous budgeting, innovative materials and techniques, and strong collaboration with contractors. By staying informed about market trends and adopting sustainable practices, builders can navigate the challenges of rising costs and deliver successful projects, which will, in turn, make houses available and affordable.