Energy prices are reaching new heights in the wake of the Russian-Ukrainian war, and property developers are taking notice.
While the industry is somewhat insulated by the long timelines for commercial development, for developers who have yet to kick off construction, delays or cancellations can be expected. This is especially true for the sectors hardest hit over the past two years.
A long period of energy inflation will weigh on property development, experts note.
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“If energy costs don’t stabilize fast enough, development will start to have an impact,” said Citiventure Associates President Marilee Utter.
That impact won’t be equal, according to Utter, who is also president of Real Estate Advisors.
“On the business development side, the impact is likely to be felt more among smaller developers, who lack the capital resources and resilience of larger companies with longer-term prospects,” he said. she declared. “Local development will start to be hit first, at the risk of having to delay or cancel projects later this year.”
This will be especially the case for projects that were already on shaky ground due to the pandemic or other market volatility, Utter said. Office projects, for example, might not fit into a high-cost energy environment, while the robust industrial sector would have to bear these higher development costs.
Yet even safe developers are wary of the uncertainty caused by volatile energy prices.
“We continue to watch energy prices closely,” said Chris Burns, executive vice president of real estate operations for Duke Realty. “However, with our long development timelines, it is very difficult to predict the impact this will have on our projects.”
During the fourth quarter of 2021, Duke started nine speculative development projects totaling approximately 2.4 million square feet, bringing development starts for the full year 2021 to 7.7 million square feet, the highest annual volume of developments the company has ever started, meeting intense demand. .
In January, the company forecast another year of robust development in 2022, fueled in large part by land the company already owns or controls, much of which is owned or contracted at prices well below market.
Global uncertainty – caused by the Russian-Ukrainian war, the pandemic and labor shortages, to name a few factors – has disrupted supply chains and thrown a wild card into the equation.
“What happens in global economies and its direct impact on the energy sector is unpredictable and can change daily, making it difficult to predict how long these price increases will last,” Burns said.
For their part, residential developers are likely to be more nimble in the face of higher energy costs, Utter said, because shorter timelines mean they can more easily adjust the scope of their projects.
Residential development is less immune to the impact of higher long-term energy costs, especially if those costs influence consumer decisions about where to live.
“Consumers will be quite reactive about where they want to live,” Utter said, noting that long-running energy inflation will likely favor some markets and parts of the country over others.
“Energy prices could put pressure on people to go to warmer climates, which they have already done, and to places that are more walkable, even if they have extended during the pandemic,” Utter said. “Energy will only be one factor, but it will be a big factor for residential development, along with rising interest rates and other types of inflation.”
The most recent inflation data paints a grim picture for energy prices, especially if high levels continue. Construction input prices for natural gas and unprocessed energy materials jumped 65% and 32%, respectively, in February from the previous month, according to Associated Builders and Contractors analysis of index data. producer prices from the Bureau of Labor Statistics.
Crude oil prices rose the most modestly during the month, but are still up a notable 13.7%. All three energy subcategories are up significantly year over year.
“It will get worse before it gets better,” ABC chief economist Anirban Basu said in a statement.
“Not only has Russia’s assault on democratic Ukraine created supply problems in a number of categories, including oil and natural gas, but the re-emergence of Covid-19 in parts of the Asia and Europe is also poised to produce additional impacts,” Basu said. “While many still expect commodity prices to decline later this year, the wait has been extended significantly.”
The war only exacerbated rising energy costs, which increased as shutdowns ended and demand grew.
At the end of February, the BLS announced that the PPI for energy had increased by 29% in January 2022 compared to the previous year.
Prices in the energy sector are now proving even more volatile than before. Brent crude, a major oil price gauge, hit $139 a barrel in early March, and analysts warned prices could hit $185 or even $200 as traders shun Russian oil, CNN reported.
Yet on Tuesday, the price of a barrel of oil fell below $100 for the first time in March. Various factors were cited, such as the prospect of higher production from other oil-producing countries and the new outbreak of Covid-19 in China, which is expected to dampen that country’s oil demand. Still, other experts weren’t so sure the decline wouldn’t reverse.
“I wouldn’t rule out $200 a barrel just yet,” Bjørnar Tonhaugen, head of oil markets at Rystad Energy, told CNN. “It’s too early.”
In addition to increasing development costs in the medium to long term, and possibly delaying projects, the volatility of energy costs will further push real estate development towards sustainable projects.
This may, in fact, be the most lasting impact of the current energy crisis on real estate development, according to Sara Neff, sustainability manager at Lendlease Americas.
“The result is that building developers will have to learn how to play more efficiently in the energy space,” Neff said. “For savvy property owners and developers, there are pathways to sustainability that protect themselves and tenants from energy price volatility, especially through renewables and power purchase agreements.”
Another upcoming change in business development will be the wider adoption of energy storage batteries, which will allow properties to store energy either from the grid or from renewable sources, Neff said. .
Building design will need to take these systems into account, and some developers are already doing so. Neff said Lendlease has not yet integrated batteries into its developments, but is seriously considering doing so.
Perhaps the biggest change among energy developers will be a shift in mindset, Neff said.
“Developers need to be proactive when it comes to energy,” she said. “The discussion has to start as early as possible in the development process. Before that, let’s finish the building and we will discover renewable energies later. Now the energy market is too volatile for this approach.”