Let’s Pre-Plan Density...So That We Can Accomplish It

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Planned Densification is a process to overcome property-level economic obstacles to accomplishing higher density real estate development. Because of high overall construction costs, decreasing market prices, and troubled municipal finances—higher density development is now getting more difficult to accomplish at a time when density is increasingly important for economic development and environmental preservation, and especially climate change with its growing impacts.

“Markets Change, Buildings Don’t”

The Problem: In-Place Construction Being Out-of-Sync with Surrounding Markets

Especially in key locations, there is an entire layer economic and environmental value that is now lost because of the value and timing relationship between in-place construction and its surrounding market. (Please see a blog post about Asynchrony for a graphic description.) Most new construction takes place in low-value markets, and the associated low revenue streams to the development proforma preclude high-density development. The problem is that once low density construction occurs, the assets have long functional lives (commonly 40 to 80 or more years), with contractual and other commitments that are barriers to change. Loss occurs because the additional density is not built even though market growth would eventually support it. Loss accrues with each day of suboptimal density. Loss is realized by owners/developers in terms of value not captured, municipalities in the forms of reduced infrastructure ROA/ROI and lost vitality, transit agencies because of lower density around stations, environmental advocates because of lost opportunity to put in place more effective dense urban form, as well as several other process participants.

Every square foot of space built by densification over time decreases the amount of space needed in the form of sprawl, because densification was not planned and enabled.

The Solution: Systematic Pre-Planning of Density in Key Locations

Planned Densification provides four methods to pre-plan density increases for buildings, sites, blocks, and regions. The technique includes both physical design as well as process change to allow density evolution in the short term, commensurate with market changes. Transaction costs are predicted and reduced or eliminated. To the premise "markets change, buildings don't" we now add "they could, and some should."

Thus...“Markets Change, Buildings Don’t -- They Could, and Some Should."

Planned Densification is a market-based initiative that supports policy objectives. It also provides developers and investors financial motivation to build higher density projects. Accomplishing density is of particular importance to government in order for government to recapture some of the value that its infrastructure and other investments make possible, but that are not yet realized. Indeed, government’s need for higher ROA/ROI and greater productivity of existing and future assets gets more acute each day with the financial crisis that we are entering.

Importantly, Planned Densification views densification of buildings, sites, blocks, and regions through the processes and functions of real estate development. Real estate development is the process wherein all urban design, planning, governance, infrastructure, engineering, finance, and marketing disciplines not only converge but must correspond ‘feasibly.’ Thus, this view from the real estate development process provides a required systemic view of required densification. Increasingly, urban betterment programs suggest that accomplishing greater density is an important way to solve multiple problems. But wanting density doesn’t make it happen—systemic process change in the real estate development processes and infrastructure delivery is needed.

The environmental and economic losses of inefficient urban systems are un-affordably large, and they are accruing daily.

America’s deepening commitment to repairing the economy through infrastructure and green economic program investments make Planned Densification urgent. If we commit more infrastructure and regulation to density-constrained development paradigms, we only contribute to our problems.

Planned Densification has global applications.

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Planned Densification was created in the mid and late 1990s corresponding with Pario’s many years of work analyzing the progression of real estate markets, and combined with work in the field of eco industrial development. A future post will describe the confluence of disciplines and market forces leading to Planned Densification, and current applications.

The New Proforma -- After the Collapse

Urban development entered a new era in the mid 1990s as consumers and developers began to embrace higher density development in urban locations. This is an important trend that promises better ecological outcomes and better economic outcomes for both municipalities and consumers.

However, the current economic recession poses a problem relative to the much-heralded urban renaissance. The problem is in what I'll call the New Proforma, which is facing a 'new balance' between costs and revenues. 

During most of the approximately ten-year urban renaissance, construction costs were relatively low, even for the newly embraced mid-rise buildings and their accompanying parking structures.  And while construction costs were relatively low, compared with today, the price points for selling or leasing real estate were rising dramatically, allowing a good profit margin for urban development. Demand was strong, fueled by underlying demographic trends but accentuated by abundant capital for investment by developers, businesses, and consumers.  The net economic affect was that building higher density was profitable and there was a strong market for the product.

The New Proforma faces difficulties on both the cost and the revenue side of the equation.  As the over-inflated real estate markets collapse in terms of demand and price, construction costs have remained high, particularly in regard to steel and concrete, which are key materials used in higher-density construction.  In the United States, construction costs have normally dropped along with reductions in demand because our market has been, until recently, something of a closed system.  Today, we interact with what is a global market for construction materials, and so far global demand has remained high and costs have not declined along with construction volume.  

After any real estate downturn, a difficult period emerges for accomplishing financial feasibility because of lower pricing. What makes this downturn different, and extreme, is the degree of price reduction combined with high debt on behalf of consumers, municipalities, state government, and the federal government.  We have fewer than normal tools to recover from a downturn. And so far, construction costs are still high.  A global downturn may ease pressure on construction costs, but that in itself will bring additional complications for a recovery.

If this current New Proforma relationship between lower revenue and still-high costs remains when the recession ends, our ability to continue urban development as we have come to celebrate it will be much diminished. This may occur at a time when higher density development is sought more than ever by governments and consumers to respond to needs to reduce GHG emissions, reduce transportation costs incurred in an era of higher petroleum prices, and the need to get more return on investment and return on assets for our municipal, state, and federal investments in infrastructure. 

One solution is to 'draw a bigger circle' and expand the number of stakeholders that contribute to higher costs and realize benefits for better development patterns.  More on this later.

Welcome

Pario has two blogs to show the different ways that we conduct research and analysis. This blog, PARIO RESEARCH is more data oriented and reflecting Pario's core research initiatives.  Our other blog, PARIO - FROM THE FIELD... is more informal, right brained and, dare we say, phoned in.

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Asynchrony and the Mechanics of Sprawl

Markets Change, Buildings Don’t. They Could. Some Should.

In many development circumstances, first construction maximizes development potential based upon financial feasibility or highest and best use at that time. But this often occurs at a time when a local market is in a low activity, low value phase of its life cycle—such as in suburban edge areas and the beginning of urban redevelopment.

Low sales prices or lease rates generally limit construction types to low density, because high density construction is more expensive and not feasible. Once designed, entitled, financed, and occupied, buildings and their obligations have lives of 20 to 80 or more years, a long-term commitment.

The Problem of Asynchrony and the Wedge

Low-density development is a often result of the match between local market conditions and the financial feasibility determination for a building or project. Most instances of new construction occur in what Pario calls low activity, low value markets. Low value markets produce low revenue to developers, and low revenue does not support sufficient density to yield productive urban neighborhoods.

This is a primary cause of sprawl and it is too little understood.

If a one or two story building is constructed, its economic and environmental characteristics and performance are relatively fixed. See the green area in Exhibit 1.

Problem is that losses from asynchrony can begin shortly thereafter as the market begins to evolve but the building and site can’t adjust. Losses grow over time. See the orange area in
Exhibit 1.

More to follow on the problem of asynchrony, and solutions for it.