Senior housing development costs are on the rise — and higher labor expenses and robust demand for new construction projects are at least partly to blame.
That’s according to a new “2020 Seniors Housing Development Costs” report from commercial real estate services firm CBRE (NYSE: CBG). The report is based on the more than 2,000 senior housing valuations that CBRE completed last year. Of the roughly 2,000 assets, 317 were proposed senior living developments.
Average total costs for senior housing development rose by 6.4% in 2019, landing at an average cost of $317 per square foot, according to the report. At the same time, the average number of total revenue units per property decreased to 106, down from 128 in the previous year.
Meanwhile, average returns — which CBRE defined as stabilized net operating income as a percentage of overall development costs — rose approximately 60 basis points to 9.5% in 2019, signaling an elevated level of perceived risk from investors.
There are two major forces directly impacting senior housing construction costs: rising construction activity, and a red-hot labor market, according to James Graber, managing director of valuation and advisory services with CBRE.
“Overall U.S. construction activity has been mostly increasing during the trailing 10 years, increasing the demand/costs for materials,” Graber told Senior Housing News. “Additionally, low unemployment drives scarcity in the labor market.”
“Hard” costs — such as labor, sitework, foundation, building shell construction, roofing, interior finishes, landscaping or signage — represented 66.8% of the reported development costs in 2019. “Soft” costs — including inspection fees, construction loan-related costs, architectural/design costs, project management — clocked in at 19.5% of development costs for the year.
Site acquisition expenses, which represented 10.1% of reported development costs, were another significant driver of rising development costs. Site costs averaged between $12,200 and $31,200 per unit in 2019, according to the report.
The rise in development costs is leading developers to more carefully select projects in order to ensure their success. Average site area fell 15% as demand for development sites “increased significantly” in metropolitan areas, according to the report.
While development activity did slow in 2019, it remained at historically high levels.
A total of 60,883 units across 543 seniors housing development projects were under construction during the fourth quarter of 2019. And construction starts hit 25,316 units in 2019, which is down 30.3% from the 36,325 units that started construction in 2018.
Even as senior housing development activity slows, however, the cost of development likely will continue to rise in 2020.
“While the development pipeline is slowing across several asset classes, which is expected to slow the rate of construction cost inflation, the upward trend in costs is expected to continue, albeit at a reduced growth rate, during the near term,” Graber said.
Development costs have also risen in other U.S. commercial real estate markets. In the multifamily sector, for instance, higher labor costs, land costs and material costs have all contributed to rising development expenses.