December 16, 2013
Many Banks, Many Builders: Concentration in the Construction Industry
The home construction industry has always been fragmented, with small construction firms holding a larger market share than big firms. This fragmentation was especially noticeable during the housing boom. In 2005, for example, the top 10 construction firms in the country had just 25 percent of the market share, and the top 200 firms had less than 50 percent. One explanation for the fragmentation is that construction just doesn't have many economies of scale.
Not surprisingly, these numbers started to shift during the recession, especially in areas hit harder by the housing bust—when bank lending to small builders all but disappeared. According to Bloomberg, the market share of the top 100 firms in the West and South grew by 10 percent during the crisis. In the Midwest, the market share of closings of the top 10 builders grew from 20 percent to 30 percent after 2007. Note that small banks—and therefore small bank failures—had also been concentrated in these three regions (see chart 1).
In places where there are many small banks that can supply small private construction firms, do large builders have as much of an edge, or does low concentration in the banking industry lead to low concentration in the construction industry? This question is difficult to answer definitively, but it's clear there is a relationship. The scatter plot (chart 2) shows that in 2006, in places with lots of banks (upper left)—places like Atlanta, Los Angeles, and Kansas City—large builders tended to have a small market share. In cities like Tucson, Las Vegas, and Albuquerque (bottom right), where there weren't many banks, the large builders dominated. It would seem that in places where construction and development (C&D) loans are tight, we can expect to see many more of the larger builders.
And in times when C&D loans are tight—say, during financial crises—we can also expect larger firms to dominate and smaller firms to fall by the wayside. A 2008 Real Estate Economics paper by Brent Ambrose and Joe Peek showed how private builders fell into decline in the 1990s because of differential access to capital during the banking crisis. (The raft of small banks failures here in Georgia is an illustration of how this interconnection runs both ways: after 2007, 55 Atlanta banks failed when the real estate market turned and small construction firms defaulted on their loans en masse.)
Since the banking crisis of 2007, bank construction lending has plummeted. In past posts (here and here), we've documented just how tight credit has been: total outstanding C&D loans plummeted from $454.6 billion in 2006 to $188.4 billion in 2013. Because of the tight credit, the large public builders have been much more resilient than large private builders. As Builder magazine reported, "private builders' access to capital continued to be all but blocked in 2012, [but] public builders tapped into cheap bond money and sold stock, creating sizable war chests many have begun to deploy to buy land and lots for what they hope will be a continuing industry recovery."
Many large and medium-sized private builders have been attracted to this source of funding, so much so that between January and August of 2013, WCI Communities, TRI Pointe Homes Inc., Taylor Morrison Home Corp., UCP Inc., William Lyon Homes, and LGI Homes all had initial public offerings. Public builders have always dominated the charts, but in 2013, the top 12 firms—with a combined $97 million in revenue and 316,802 closings—were all public. (See chart 3.)
And while the large private builders are going public, the small private firms are going out of business entirely. Bloomberg reported this past spring that membership in the National Association of Home Builders, an association of small private firms, has plunged 44 percent since 2007. By contrast, large and medium-sized firms have had strong increases in market share, as noted earlier.
How does the growing concentration in the construction industry affect the rest of us? Is this the kind of phenomenon that could have a wider impact, by altering home price dynamics, increasing sprawl or decreasing affordability?
We hope to take on some of these questions in a future post.
By Carl Hudson, Director, Center for Real Estate Analytics in the Atlanta Fed's research department, and
By Elora Raymond, graduate research assistant, Center for Real Estate Analytics in the Atlanta Fed's research department/PhD student, School of City and Regional Planning, Georgia Institute of Technology