Staying on top of new developments and technologies is a necessary, but demanding, part of being a savvy commercial real estate (CRE) professional. With the Top Tech series of blogs, we aim to highlight some of the ones that have caught our attention while also showcasing the work of NAI partners that we feel are changing the CRE game.
Worth keeping in mind is that these blogs aren’t “partner content” or sponsored; rather they’re an opportunity for us to share tools that we think really add value for real estate professionals, from across our diverse partner-base.
That said, we are proud to add that the company featured today is the brainchild of NAI’s own Ethan Kanning. Ethan is a co-founder of valuation software company Harken, which through their “Bankable Real Estate Data” approach, has found a home with some top brokers and brokerages in the NAI Global network.
What do Harken do?
Harken’s software combines automated analytics with a built-in comps (comparables) database to simplify the process of estimating a specific property’s value. This approach allows brokers to complete a Broker Opinion of Value (BOV) in record time, which of course translates into quicker turnaround for clients and more business for brokerages and firms.
The platform’s reports are also white labeled to the broker’s company, allowing them to build their brand and establish expertise in the market. Meanwhile, for those that need to be Dodd Frank compliant, the process is simplified by having all relevant fields already included in the BOV form. With these functionalities built-in, you can see why Harken is one of our top picks as a tool that streamlines real estate workflow.
A company with a conscience
Another thing worth noting about these up-and-coming entrepreneurs, is that Harken doesn’t draw the line at “just business.” In addition to making top-notch software, they are also committed to keeping DEI (Diversity, Equity, and Inclusion) top of mind. As one of the sponsors for the Women’s Alliance initiative at the NAI 2022 Global Convention, they had this to say:
“We believe the healthiest, most vibrant, and sustainable company is one that focuses on DEI initiatives… A diverse team with a focus on self and other’s awareness, helps us recognize both our personal and company biases. Once these biases are understood, we can begin working together to create a more inclusive and sustainable business environment for everyone.”
With their genuine desire to make the workplace both easier to navigate and more inclusive, it’s not hard to see why we consider Harken a Top Tech partner!
Throughout 2021, the cost of building materials was a constant pain point for the construction industry. In an analysis by the Associated General Contractors of America (AGC) earlier this year, prices were found to have jumped over 20% between January 2021 and January 2022. The cost of specific materials like steel and plastic sky-rocketed, leaving construction firms caught between shrinking profit margins and a sharp decrease in available labor.
As we head into the second half of 2022, the question that’s top of mind for building contractors and many Commercial Real Estate (CRE) professionals is: Has the situation improved?
Well, the cost reports from the first and second quarter this year are in. Here’s how it’s looking.
Prices climbed in Q1
Overall, the first quarter was still rough for price increases, with the National Association of Homebuilders (NAHB) indicating that the cost of residential construction materials jumped 8%. One of the biggest price hikes was softwood lumber, which increased 36.7% over the period.
Meanwhile, a Q1 report from construction consultancy Linesight showed increasingly high costs for resources like copper (3.3% estimated increase from Q4) and steel (4.7 and 8.9% for rebar and flat steel respectively), accompanied by moderate hikes in cement, asphalt and limestone. Bear in mind that these increases are on top of the price surges many of these materials already saw last year.
Materials costs still (mostly) soaring in Q2
Any hopes of price relief in Q2 were also met with resistance, as costs for many materials continued a steady climb. In an analysis of recent Producer Price Index (PPI) data, AGC showed that the overall cost of inputs for new non-residential construction had jumped 1.1% between May and June alone.
The report also noted that the cost of supplies like concrete products, insulation material and some plastics had increased over the same period. In terms of other materials, however, there were bright spots, with lumber and plywood costs dropping 14.7%, while steel saw a more moderate 1.8 % retraction.
Lumber prices continue to tumble
Lumber has proved an interesting case overall, hitting record highs in 2021 that carried through into 2022. And while in March 2022 the lumber market was still showing a massive price spike, by July it had experienced a 50% decrease. At the time of writing, prices have dropped even further, adding an extra layer of complexity to forecasting and planning for new construction.
Overall, the market remains in flux, with some prices still increasing rapidly. In a recent article covering AGC’s July Price Index analysis, Ken Simonson, Chief Economist for AGC stated:
“Since these prices were collected, producers of gypsum, concrete and other products have announced or implemented new increases. In addition, the supply chain remains fragile and persistent difficulties filling job openings mean construction costs are likely to remain elevated despite declines in some prices.”
In a separate post, Simonson pointed out that the Construction Industry Confidence Index (CICI) also dropped 17 points to a value of 44 in Q2 2022. The index, which measures sentiment amongst industry executives, only indicates a “growing market” if the value is over 50.
Heading into the rest of 2022 the situation remains uncertain, but some experts have predicted a drop-off in materials prices. Whether this translates into gains for the construction industry amid other pressures, only time will tell.
SOCIAL: How have fluctuating materials prices affected new development in your area?
Employment numbers are up according to a recent news release from the Bureau of Labor Statistics (BLS). In their analysis, BLS announced that the unemployment rate had dropped to 3.5%, with 528,000 new jobs added over the course of the month.
These figures mean that, for the first time, unemployment measures have returned to their February 2020, pre-pandemic levels. BLS also noted that the gains were led by the leisure and hospitality industry.
Strong recovery in hospitality
Reporting on the figures, Real Deal pointed out that hiring at hotels, restaurants and bars was responsible for a large percentage of the 528 000 jobs created in July. Together with construction and healthcare, these sectors accounted for 43% of the overall job gains posted. Quoted in the article, Mortgage Bankers Association Chief Economist, Mike Fratantoni added: “This is not a picture of an economy in recession.”
Mixed results for other sectors
Though the construction industry was a strong performer, with an additional 32,000 employees hired, it’s worth noting that this figure would likely have been much higher if there were more workers available. The sector is still deep in the grips of a labor shortage that has put pressure on projects across the US, and led to a slow-down in new developments.
Meanwhile, the office sector also faced constraints, with the percentage of workers staying remote due to the pandemic remaining at 7.1%, exactly the same as in June. As one of our NAI Offices recently reported, the future of offices has generated some strong dissenting opinions among those in the know, and exactly how the situation is going to pan out remains unclear.
For other experts, the picture is more nuanced. Lawrence Yun, Chief Economist at the National Association of Realtors (NAR) puts it like this:
“It would be one of the most unusual recessions — if it [the economy] does technically reach it — in that there are worker shortages. Some industries will lay off workers, but there could still be more job openings than the number unemployed throughout the recession.”
How the current job situation plays out, and how this affects Commercial Real Estate professionals, remains to be seen. We do know that the employment numbers we are seeing now exceed predictions that were made just a few months ago. If the positive trend in hospitality and construction continues, there could be a lot of new projects, and prospects, on the cards.
SOCIAL: How have hiring trends impacted commercial rentals and development projects in your area?
A recent report from the Federal Deposit Insurance Corporation (FDIC) states that Commercial Real Estate (CRE) lenders are about to come under greater scrutiny. In the report, titled “Supervisory Insights Summer 2022”, the agency adds that there will be an increased focus on new lending activity, along with CRE sectors and geographic areas that are “under stress.”
This comes on the back of a record year, with “the volume of CRE loans held by banks recently peaking at more than USD2.7 trillion.” And while FDIC doesn’t oversee all these institutes, banks supervised by the FDIC account for around USD1.1 trillion of that amount.
The agency adds that there will be increased emphasis on transaction testing (i.e. sampling individual lending transactions), saying:
“Given the uncertain long-term impacts of changes in work and commerce in the wake of the pandemic, the effects of rising interest rates, inflationary pressures, and supply chain issues, examiners will be increasing their focus on CRE transaction testing in the upcoming examination cycle.”
Areas of concern
During 2021, FDIC examiners noted some specific CRE loan concerns, including poor risk analyses and improper assessments of whether loans could be successfully repaid. For example, some assessments failed to check whether a borrower’s business would be able to repay the loan when stimulus or other relief funds were no longer in the balance sheet.
Another area where some banks seemed to fall flat was in conducting a thorough and up-to-date analysis of prevailing market conditions. The agency added that examiners also saw cases where banks have “applied segmentation techniques ineffectively” or “have not drawn conclusions from the analyses performed.”
CRE lending outlook
Specific sectors identified as challenging for valuation in 2021 included some hospitality properties, offices, and malls, along with “some geographies, such as the Manhattan borough of New York City, [which] lagged.” In a Bloomberg article on the report, Brandywine Global portfolio manager, Tracy Chen added that “there are some challenges in pockets of CRE debt, such as offices and retails.”
In an environment where some banks have already announced cutbacks on CRE lending, the additional scrutiny may mean those lenders adopt an even more cautious disposition, especially for sectors they consider “high risk.”
Have there been any effects from changing lending policies on deal-making in your area?
Few innovations have had more of an impact on investment analysis than spreadsheet software. Dominated by Microsoft Excel for the last 25 years, this sector is currently used by an estimated 78% of U.S. businesses. While most know how to quickly copy, sum, drag and format, fewer may know about the real power of this software – a whole host of integrated functions and formulas.
I ran into a long-time reader a few weeks ago, who remarked on covering some ‘soft content’ during recent columns. As a result, this month we are going back to school to discuss some useful but perhaps little-known functions to help get your Excel game in gear.
Present value is a foundational concept and represents a value today for a series of cash flows to be received in the future at a specific discount rate. This concept has tremendous value to a real estate investor, as it allows us to determine what this series of cash flows is worth today. The formula is =PV(discount rate, time periods, periodic payments, future value).
Future value is also useful and is the exact opposite of present value. It rep- resents that value at some point in the future of a present lump sum value and/or a series of periodic payments, collectively compounded at a given compounding rate to a specific point in the future. The formula is =FV(compounding rate, time periods, periodic payment, present value).
We have discussed the concept of net present value several times over the years in these very pages. A kissing cousin to IRR, this concept adds a slight twist by discounting all future cash flows back at a target discount rate and nets the sum against the initial investment. The initial investment can be entered as zero, which makes this formula a very common way to determine the current value of an investment at a given discount rate. The formula is =NPV(target discount rate, series of periodic cash flows).
The addition of the ‘x’ allows for more specific control over the timing of cash flows. While NPV considers annual periodic cash flows, XNPV can distinguish between monthly, quarterly, semi-annual or annual periods, all within the same range of cash flows. The formula is =XNPV(target discount rate, series of periodic cash flows, range of associated dates).
Enter NPV’s kissing cousin. Most of us think of IRR as the rate of return that each dollar earns in an investment while it’s invested. But there is an alternative definition – IRR determines the exact rate at which all future cash flows dis- counted back to the present and netted against the initial investment equals zero. As a result, the IRR of an investment will be the same as NPV’s target discount rate when NPV equals zero. IRR is a very important metric to many investors but thankfully, the formula is simple: =IRR(series of periodic cash flows).
Similar to NPV, the addition of the ‘x’ allows for more control over timing. While IRR is an annual measure, XIRR can accurately calculate a mixture of time periods, including monthly, quarterly, semi-annually or annually. The formula is =XIRR(series of periodic cash flows, range of associated dates)
Back in the day, any real estate professional worth their salt would have a little red covered book called the “Ellwood Tables for Real Estate Appraising and Financing” right by their side. Filled with page after page of tables, it allowed the reader to quickly figure out the annual loan payment at a variety of nominal interest rates and amortization periods. This function in Excel makes the process a snap: =PMT(nominal interest rate, amortization period, initial loan amount). One word of caution – most loans are amortized and paid on a monthly basis so be sure that the nominal interest rate and amortization period both reflect this.
FV to find loan balance
Once you determine the loan payment, you can easily find the loan balance at any point during the life of that loan. The only time the future value (FV) will be zero is once the final payment is made and the loan is fully amortized. The formula is =FV(nominal interest rate, specific period for loan balance, periodic loan payment, original loan amount). Two input items of note. First, be sure that the interest rate, specific period and periodic loan payment all reflect months if using monthly compounding. And second, be sure to enter the periodic payment as a negative if the original loan amount is entered in as a positive.
Sticking with the loan theme, we know that the concept of classic loan amortization results in a portion of each periodic payment representing interest and a portion representing principal, which in turn reduces the outstanding loan balance. While both portions are important, we can use the IPMT function to determine exactly how much interest is associated with a particular periodic payment. The formula is =IPMT(nominal interest rate, specific payment period for interest component, total amortization period, original loan amount). Once again, be sure that all of the components represent months if using monthly compounding.
While IRR is a very useful tool, it has limitations related to its treatment of both negative and positive cash flows that the primary investment produce. Diving into the nuances associated with the treatment of negative cash flows can be the subject of an entire column (spoiler alert) so for now, just set that one aside. As for positive cash flows, IRR makes no assumption for cash flows that come out of an investment. The only thing that IRR cares about money coming out of a deal is that it is no longer in that deal. That’s an issue because, as an investor, I can re-invest that money into another investment. A concept known as Modified Internal Rate of Return (or MIRR) addresses this limitation by introducing consideration of a secondary investment, and associated reinvestment rate, for any positive cash flows that are generated by the primary investment. The formula is =MIRR(series of cash flows, safe rate applied to negative cash flows, reinvestment rate applied to positive cash flows).
While Excel has certainly changed the landscape of accounting and financial analysis, it wasn’t the pioneer. If you have a long enough memory, you may be thinking about Lotus 1-2-3, which was introduced in 1983. But four years prior to that was the OG – VisiCalc was the first spreadsheet software developed for personal computers in 1979. It is rumored that when co-founder Dan Bricklin, then a student at Harvard, showed his creation to a group of accountants, they sat in stunned belief at the ease by which simply changing a number would automatically update the sum total. And then, one of them started to cry. We certainly have come a long way, baby.
Financial Strategies by Alec J. Pacella, for October 2022 Properties Magazine.