Housing affordability is a growing problem across the nation. New supply of housing has been limited due to rising costs for land, labor, and materials. These rising costs make it harder for real estate developers to build financially feasible projects.
So how can developers lower costs? One potential solution is an evolving construction process called “modular construction.” Modular construction presents a viable solution since, depending on the deal, it can save up to 20% of costs and can be built up to 30–50% faster than traditionally built projects. As the methodology continues to improve, real estate developers can potentially see even more savings.
According to the Modular Building Institute’s 2018 annual industry statistical report, the market share for permanent modular construction in North America increased from 3.18% in 2016 to 3.27% in 2018.
Think building blocks that are built in a factory and then brought to the site for assemblage. Each block is called a “module,” which can be a dwelling unit with varying degrees of interior finishes (from shell to fully completed). Modules are built off-site, in a controlled, indoor factory using the same codes and standards as traditionally built projects.
Once completed, modules are shipped on trucks to the construction site and assembled to fit perfectly with each other. Typically, the finished product is designed to look identical to a traditionally built multifamily building. This construction process can be used to build other property types as well — including hotels, offices, retail boxes, etc.
Due to the unique construction process, there are additional risks that lenders will evaluate. Every deal is different and will have specific considerations, but three main areas will be capital draws, risk allocations, and team experience.
First, more capital is required earlier since the development timeline is much faster. Lenders will need to accurately project draw schedules in order to calculate the appropriate interest reserve.
Second, the risk allocations between the general contractor and the modular factory need to be clearly defined when risk is transferred from the factory to the GC. Lenders will want to also assess the financial capabilities of both parties and ensure that proper insurance and bonds are in place.
Lastly, the team’s strength and experience is very important. Development teams should have a track record of success and should be involved together from the beginning design stage. The design stage is an incredibly crucial part in modular construction because it is difficult to make updates after factory construction has started. Projects should be designed to be modular from the beginning. A developer should not design a project for traditional build and expect that the design can be easily converted to a modular build.
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