Consolidation in the home-building industry has allowed large builders to speed up construction time, limit cost increases, and boost financial performance and customer satisfaction ratings, according to a report by the Joint Center for Housing Studies at Harvard University, though it’s uncertain how the industry will respond to a changing market.
“If the housing market weakens in the years ahead and competition increases, larger builders still have the potential to improve their operations and maintain their strong financial performance,” according to the report, “The Evolving Home Building Industry and Implications for Consumers,” which is based on the findings of a Harvard home builder survey.
If the housing market weakens, “house-price appreciation is likely to slow and more builders are likely to compete within individual markets – exactly the conditions that lead to the operational improvements made in recent years.”
While the potential is there for continued success, it remains to be seen whether builders will continue to improve operations and maintain strong financial performance in a changing market, the report notes.
Industry consolidation accelerated rapidly in the mid-1990s to late ’90s, according to the report, due in part to greater access to capital from Wall Street investment banks and private equity funds that favor large-scale operations; increasingly complex land-use regulations that can put small-scale builders at a disadvantage; and a strong economic environment for construction.
“To leverage their scale, larger builders have incentives to reinvest in their operations by adding information systems for estimating, scheduling and purchasing, or investing in panel plants to save time and costs in the construction process,” the report states.
Larger builders are improving operating performance compared to smaller builders, and this in turn encourages a cycle of “further consolidation and greater efficiency in the home building industry in the years ahead,” the report states
The builder survey included responses from builders that reported 500 or more closed sales for single-family homes in 2004, was supported by Masco Corp., which manufactures consumer products for the home improvement and new-construction markets.
Survey respondents were largely among the top 150 national and regional builders in the country and accounted for about 60 percent of homes constructed by large builders and about 25 percent of all new single-family homes sold in 2004.
Most respondents cited strong housing market conditions as a key to profitability in the past five years, while about 33 percent credited their land acquisition strategy and about 13 percent said it was due to improved customer satisfaction.
The top-10 home builders have grown their market share from 10 percent in the early 1990s to about 20 percent by 2004, the report states, and “in most major metropolitan areas, larger builders hold an even greater market share.”
In markets such as Columbus, Ohio; Cincinnati; Austin, Texas; and Baltimore, for example, the top five builders in the area account for 45 percent or more of all new-home sales.
Meanwhile, there are markets such as Atlanta, Los Angeles and Riverside, Calif., where the top five builders account for a maximum 20 percent of new-home sales, and these “fragmented” markets tend to be more competitive on pricing and tend to favor quicker construction times and more innovative building practices, the report states.
In the markets where large builders have a higher market share, the builders tend to compete on choice and quality rather than price, “since the major builders active in these markets are likely to have similar operating costs.”
Overbuilding “is a major cause of house-price declines – even more so than a major drop in area employment,” the report also states, though builders “have … helped to reduce house-price volatility by keeping inventory in line with demand,” and “size and quality improvements account for virtually all of the increase in construction costs of homes built between 1990 and 2004.”
From 1975-93, house prices increased more slowly than the overall inflation rate for 10 of those 19 years, the report states, while house-price appreciation has exceeded the inflation rate in every year since 1993. Also, the report notes that there hasn’t been a single metro area that has experienced a major price decline since 1995, and the number of metro areas experiencing price declines of 5 percent or more began to decrease in 1993.
Land costs are a key driver in house-price gains, the report states, especially in areas with limited opportunities for residential development. The report cites a Federal Reserve Board study that found residential land prices jumped about 250 percent in the past 30 years “while the replacement cost of homes remains virtually unchanged after adjusting for inflation.”
While consolidation has led to more standardization in the building industry, large builders reported that they are increasing the amount of choice that consumers have in home models, floor layouts and product options. According to the survey, builders have increased the number of home models and floor layouts they offer by about 10 percent to 15 percent from 1999-2004, and the number of production options swelled about 30 percent to 50 percent in that time.
Higher customer satisfaction scores for the large home builders reflects, in part, this broader range of consumer choices in customizing their homes, according to the report. J.D. Power and Associates, a company that offers consumer-rating services, found that overall customer satisfaction scores for builders improved from 100 in 2001 to 112 in 2004, maintaining that level in 2005.
