Interest rates, construction costs challenge infill development
Martin Kidston
(Missoula Current) From interest rates to inflation, developing vacant properties in the urban core has become increasingly challenging, prompting some projects to stall in the design phase, a team of developers said on Tuesday.
Other issues like NIMBY opposition and development review can also add time and in the building world, time is money. Wait too long and there's less of both.
“All the easy infill projects have been done,” said Chris Chitty, president of Hone Architects and Builders in Missoula. “All the projects that are left need creativity, they need head scratching, and back-and-forth with regulators. That amount of time often can be years.”
Tuesday's City Club forum, “The Construction Gap: Why Infill Sites are Slow to Fill In,” named a number of challenging issues facing local development. Construction prices, interest rates and inflation are beyond a developer's control, while return on investment can also be a moving target.
Development carries risk, Chitty said, and investing money into a project with uncertainties requires “emotional resilience and a healthy tolerance for risk.”
“There is a concept called time, value and money,” Chitty said. “You can go right now and buy a money market for 4.5% and not have any risk, no headaches and no resilience. If you're going to put your money at risk, you going to want more than a 4.5% return.”
The City of Missoula owns a number of properties ripe for redevelopment including Southgate Crossing, the old Sleepy Inn site, the Riverfront Triangle, a lot off Johnson Street and the old library block.
All of them remain vacant with few signs of activity though one, a nine-acre lot off Scott Street, is now under development. The old library block could be next, though the current local and national markets have made it challenging.
After a national search, the Missoula Economic Partnership and the City of Missoula selected Edlen & Co/deChase Miksis to redevelop the downtown property. The firm has been working on due diligence ever since and still plans to move forward, according to company co-founder Jill Sherman.
But while the city is serving as a public partner and has a public policy objective, a project on the scale of what's being considered downtown also requires equity investors, and they have goals of their own – that being a market-rate return on their investment.
Yet Sherman said public investment, such as a land contribution or tax increment, can help fill a budget gap in many projects.
“The public sector and the private sector can accomplish things together that neither one of them can accomplish on their own,” said Sherman. “I don't get to decide exactly what's needed to make a project pencil. But I do need to make a project pencil in order to move forward.”
While no plans have been presented for the old library block, the working concept includes structured parking and a five to six story building. The ground floor will likely include retail opportunities while the upper floors would include apartments.
Edlen & Co. has embarked on similar projects in other markets. In 2021, it bid a project in both Spokane and Boise, and it plans to break ground on another project in Eugene. But since 2021, Sherman said construction costs have increased up to 25%.
Based on that figure, the per-unit cost of the project in Missoula is 15% more expensive than the Spokane project, 29% more expensive than the Boise project and 45% more expensive than the Eugene project.
Aside from inflationary costs, the market rate for rent in Missoula is also 27% less than Eugene, 11% less than Spokane and 41% less than Boise. Not only will the Missoula project cost more to build, Sherman said, it will receive less money in rent.
“You have the double whammy. It's more expensive to build and you have lower market rents,” said Sherman. “Those are some of the challenges we're facing here trying to get a particularly dense urban project done.”
Construction costs and labor also have an impact, said Allan Frankl, vice president of Dick Anderson Construction. Each represent 50% of any general project.
But in Montana, nearly any product that's been manufactured touches one or more vendors, which adds more costs, he said.
“Any time that's touched by another person in that chain, you're looking at anywhere from a 10% to 20% cost increase,” said Frankl. “If 50% of the cost is materials, you're looking at a 5% to 10% increase just because of our local area.”