It’s time to rethink supply chains: how they work, how they impact your real estate business decisions, even what they are.

Even before the pandemic, supply chains were in the process of complete transformation – and not just the supply chain for materials, but also those for both human and financial capital.

Now, as disruptions are expected to continue for the foreseeable future, successful businesses are accepting this new reality and embracing the movements that are redefining how businesses procure materials, people, and capital. Most importantly, they are building resilience into operational models so that they are ready to follow those movements and build new value throughout the supply chain.

State of the real estate supply chain

Before we explore how to develop business strategies that help navigate supply chain disruptions, let’s consider the high-level trends that have driven these changes.

• A weakened supply chain, stretched to its breaking point: The supply chain has been in the process of being stretched and strained for decades. Large-scale offshoring of domestic manufacturing and distribution has combined with environmental concerns, global tensions, cyberattacks, port congestion, and crippling labor and materials shortages to create a logistical beast that is confounding real estate developers, builders, owners, and investors.
• Then came the pandemic: The surge in demand for household materials clogged ports and warehouses and created new shortages that manufacturers struggled to fill. At the same time, travel restrictions made it difficult to import and export goods overseas, and the continued labor shortage left manufacturers struggling for an adequate workforce to produce and deliver goods.
• Buy America: When fully implemented, the Build America, Buy America Act, which requires that federal infrastructure projects be built with domestic materials, will likely increase material costs and make availability even more challenging. Even if the desire and capital were there to recreate the great industrial mills, it would take years to rebuild them.
• Vertical integration restricts competition: Private equity interest has fueled real estate’s most recent boom, but it also weakened small and mid-market development across the country. For years, PE-backed, vertically integrated monoliths controlled the flow of goods, effectively boxing out many local and regional competitors from accessing those goods.
• A focus on supply chain overhead: For years, companies drove cost efficiencies by adopting “just-in-time” manufacturing and holding little to no inventory. These lean practices led to a rigid structure that was extremely vulnerable to disruptions. On the other hand, when the cost of funds was cheap, deep-pocketed (i.e., PE-backed) developers were able to front-load materials. But as interest rates continue to rise, the question remains how much that added cost will negatively impact the overall build cycle and cost.
• Transportation costs and concerns: As transportation costs continue to rise, supply manufacturers have been feeling the hit, leading to increased prices for materials and further delays. Port congestion both in the U.S. and abroad has also caused significant backups as manufacturers ramp up production for in-demand goods.
• The labor shortage: The most significant gating factor for real estate today is availability of workers. With an estimated 3.5 million people currently missing from the American workforce, it may be a long time before that gap is closed. The trucking industry is short an estimated 78,000 drivers, while the shipping industry has also been plagued with labor unrest. Even if there were a significant number of laborers to transport goods, the manufacturing sector is also facing a skilled worker shortage.
• Capital markets: Inflation is a natural but undesirable consequence of supply chain problems – as consumer demand increases, costs (and therefore prices) increase. The stock market is also feeling the impact of a slowed supply chain, as mounting concerns over disruptions are leading investors to rethink their positions.
• Global unrest: COVID-19 lockdowns in China and the subsequent protests have caused manufacturing delays, and the conflict between Russia and Ukraine is expected to have a continued impact on the cost of raw materials such as stainless steel, as well as energy, logistics, and digital services.

Embracing the movement

As the real estate market continues to reevaluate business strategies in response to the economic factors listed above, savvy leaders aren’t waiting for things to improve. Consider the following ideas as you put together a long-term plan for operating in this new reality.

1. Reconsider preconceived notions about what supply chain is and is not. It is no longer (if it ever was) about pure commodities – what do I need and how much does it cost? Today, it’s a concept that cuts across everything in your business, from strategy and operations to finance and talent.

2. Collaborate to mitigate the impact of continued disruption. Success in today’s environment depends on your ability to think of your vendors and suppliers as collaborators. Businesses at every step along the supply chain (investors, owners, developers, builders, suppliers) need to work together to address issues of availability, timing, and cost. Ask suppliers to be part of the solution. The greatest innovation of the iPhone 14 had nothing to do with the product’s features. Instead, it was the fact that Apple began moving a significant percentage of its production to India. How? By thinking of suppliers as partners and incentivizing them to move production out of China. Real estate businesses can do the same by asking suppliers, “Where else do you have factories? Where else can these materials be delivered? What can we do to help facilitate this process?”

3. Consider alternate inputs. If standard inputs are in short supply, how can you pivot to alternative sources to shorten the supply chain of necessary inputs? For example, one tequila producer in Mexico is donating its waste material (agave fibers) to produce adobe bricks, which were slated to build a school library and a tasting room for a family-run distillery. This isn’t a new idea: Agave has been used for thousands of years to make bricks, including those used to build the region’s ancient pyramids. Hempcrete has been used for years as a mold-, fire-, and pest-resistant insulation. These materials might be available and accessible for you, and they might not be. The point is, as you’re looking for alternative inputs, think creatively about what materials are readily available in your local or regional community, and how they could be used to replace more traditional inputs.

4. Stock up to lock in prices. The real estate industry has spent the last few decades keeping overhead costs low by breaking projects into smaller pieces and sourcing materials on a just-in-time basis. But given today’s supply chain challenges, construction firms with the resources to do so are now adopting the opposite approach by “batching” the materials needed for the entire project and buying in bulk wherever possible. When one material drops in price or becomes readily available, these firms are moving quickly to lock in prices. Mid-market owners and developers will need to work closely with contractors and suppliers to lock in materials wherever possible and warehouse those materials to help ensure completion of critical deadlines.

5. Build elasticity into project plans and financial models. Agile development strategies are more critical than ever as we continue to confront many unknowns. Materials shortages, labor shortages, and supply chain disruptions will continue to cause construction delays, which must be factored into project timelines and communicated clearly to clients to manage their expectations. Materials costs also will likely continue to rise as we continue to experience rising inflation and an imbalance between supply and demand. Developers and other project stakeholders need to not only build those costs into new contracts, but also work with other stakeholders to accommodate escalating costs on projects that are already in the works. If your firm lacks expertise in financial planning, analysis, and modeling, seek out third-party providers and technology to help you build resilience and elasticity into your plans.

6. Stay plugged into the community. The most successful real estate players are firmly plugged into today’s reality, with an uncanny ability to see around the corner at what’s coming. You may not be able to predict every bump in the road, but by focusing on where your real estate assets fit into the community and employing a workforce that reflects that community, you can maintain a sense of what places and experiences will remain relevant as trends come and go.

7. Take control of procurement. Firms with the resources to do so are creating dedicated procurement teams solely focused on sourcing materials. Even if you don’t have the resources to create a dedicated in-house procurement team, developing strong relationships with local suppliers and staying on top of the latest trends in materials cost and availability can help you make sure your developers and contractors have what they need.

8. Be prepared to act quickly when demand shifts. While supply chain delays are undoubtedly making things more difficult for the real estate industry, there are positives as well. The rise in demand for products has also created a boom for the industrial industry and caused warehouse space to become much more profitable. In particular, there is a rise in demand for last-mile spaces and properties near seaports, inland ports, and air hubs. All of this spells opportunity for firms that move fast and know where to look.

When confronted with continued challenges, the best path forward is the one that brings stakeholders together and inspires looking beyond what is in front of you to see the opportunity within the chaos. Building that path will require creativity, trust, and a healthy amount of planning ahead.

There’s (going to be) more where this came from

Over the next few months, we’ll be rolling out additional articles on movement in the real estate industry, exploring operating models, people and experience, and more. Subscribe now to make sure you don’t miss a word. Missed a previous installment? Find them all in our Movement resource center.

Contact

Ira Weinstein, Managing Principal, Real Estate and Cannabis Industries

410.783.8328

Jack A. Callahan, CPA, Partner, Construction Industry Leader

732.380.8685