New Home Insights Podcast Episode 13 Transcript | John Burns Real Estate Consulting


Episode 13: The Rapid Disruption of Home Building

Transcript:

Dean Wehrli:

Hey listeners, this is Dean with New Home Insights. Join us now for part two of our conversation with CR Herro. Today we’re going to cover technology and home automation and off-site construction. Okay, let’s switch gears. Let’s talk about the other kind of disruption, which is the off-site construction in the new home industry. Again, we’ve talked about that on this podcast earlier. Let’s explore that a little more. How do you see that playing out? Who will be the major players going forward in that?

CR Herro:

I see it very pragmatic in that the industry has changed. There’s more people retiring in the skilled trades that are going into it. And in order for us to continue to be able to meet the demands and needs of new homes. One, we need access to skilled trades that isn’t there. And two, ideally we need to improve just like every other industry has improved the manufacturing process. We need to be able to… we’re the last industry that builds things in the dirt and in the weather. And so I see it as very pragmatic. If I want to build a good home, I need to do it in a different way because the skilled trades aren’t going to be there in 10 years that I need to build 10,000 houses a year.

CR Herro:

And so off-site construction provides an opportunity for me to improve the manufacturing quality, but also to bring in a whole new type of tradesmen that can use AutoCAD and have this big computerized lumber cutting machine, and pneumatic tools, and racks, and cranes, and assemble everything right on site, looking at a computer printout of what they need to build and then ship it to site and erect it on site. It’s a very, very simple improvement in the way we currently build and the only pushback is change, right? Our industry has been very slowed in adopting change just because the way we’ve always done things feel safe and we’re trying to inspire people to do something new.

Dean Wehrli:

I won’t say who the builder was but I was speaking to a builder not long ago about this exact topic and their concern was twofold. One that there just isn’t enough of there to guarantee the pipeline in terms of off-site construction and two, this was a relatively smaller private builder. They were worried that the big guys are going to just absolutely dominate this space and leave whatever capacity there is an off-site, they won’t be able to get a piece of that.

CR Herro:

I do think that there’s a dynamic tension between do you vertically integrate as a home builder, do you own your off-site construction or do you allow the trades that you’ve already partnered with in framing to change the way they frame and to invest in off-site manufacturing and then it’s a supply house. They supply builders just like they do now. And I very much prefer the latter, which is because of the capacity issues because of the kind of nine year cyclical nature of our industry, it would be wise just to move our framing trades to off-site panelization and then evolve that framing trade to include things like, well let’s pre plum and let’s run some electrical and let’s do weather wrap. And it gives us a foundation to evolve it from panelization to modularization.

CR Herro:

And I think that, that’s going to be key because shipping a bunch of air isn’t going to be cost effective in the longterm. But off-site construction, if you look at Japanese manufacturing practices, they build entire hotels, a room at a time and just deliver them on the back of the truck onsite and end up with much quicker construction and much higher quality. Japan is a very high seismic zone and very dense and they can put up a 42 story hotel in a month when it takes us two and a half years to do it, building it, stick built on the ground.

Dean Wehrli:

Really it’s kind of transitioning the subs, the trades to start using these kind of off-site techniques and technology. How is that going? I mean do you see movement on that yet? Because it seems like it’s dominated right now by the companies that are explicitly and from the get go doing off-site. Do you see the existing trades moving in that direction?

CR Herro:

I do. And that’s because of necessity. All of the framing trades we’re talking to are looking at off-site construction. Whether it’s, Hey, we’re going to precut our lumber or we’re going to invest in a warehouse and do some off-site panelization. Everybody in this space is looking to continue to be relevant because I believe everybody that’s in the space recognizes that the industry won’t look the same in 10 years and they’re either going to be displaced or they’re going to have to participate in their own disruption. All my big framers are investing in panelization plants as we say.

Dean Wehrli:

We’re past the point where we need to psychologically convince the major players here, they’re on onboard. It’s just figuring out how to do it now. Is that fair?

CR Herro:

I think your builder that you were having a discussion with is correct. It’s an economy of scale. We have to commit to repeatable, consistent volumes to these panelizers in order for them to get their business off the ground. And once they do, we’ll never look back.

Dean Wehrli:

Yeah. Do you see Capitol playing along in this game too? Is Capitol going to… I mean this is going to take a lot of money for these new companies and existing companies that are changing. Do you think that will be an issue?

CR Herro:

If you look at some of the kind of sweetheart investment deals, there’s been a ton of capital going into the Integris and the Katerra’s and these panelizers that are looking more at apartment and multi-family building. But I think it’s directional. I think that there isn’t a lot of opportunity to bring manufacturing process to the last hand built industry in the US, and revolutionize it and create a ton of value within the market for it.

Dean Wehrli:

And you’ve talked about Japan here. So Japan is a leading edge in this manufacturing. Who else is playing in this space?

CR Herro:

I mean all of Asia has been panelizing for a quite awhile and it’s also, what’s old is new again. If you look at modular housing, that was the original panelization and modular housing is becoming very expensive and very beautiful in a lot of applications. There’s some modular housing manufacturers in the Pacific Northwest that build multimillion dollar, very high ceilings and very high amenity levels and modern looking homes and so very quietly, I think what’s happening is people are reconsidering what modular housing looks like. And the manufactured homes of the 60s, aren’t the manufactured homes of the 2000s.

Dean Wehrli:

That’s a great point too. Up here in Northern California, there’s an example of a off-site market I’m sorry, an off-site to any home community and it’s done very well. It’s performed well. But it’s at the kind of entry level portion of the market and it’s selling to relatively younger buyers and there’s been zero stigma with respect to offset construction among those buyers. Do you see there being any of that old fashioned unfair, yes, but old fashioned kind of stigma from any sector in the market or any part of the country?

CR Herro:

I think as long as the end result doesn’t leave wheels on the house, I think people are willing to reconsider what modular homes look like. And there is the tiny house movement on one end and then these very, very expensive modular housing on the other. And if you look at Clayton Holmes who was regionally pot by Berkshire Hathaway and they have a tremendous opportunity if you’d think about Berkshire Hathaway’s portfolio to really come into single family homes with a different modular construction and displace that kind of meat and potato $300,000, 2,800 square foot home with something built off-site, dropped on site and delivered in a week as opposed to a year.

Dean Wehrli:

Yeah, I mean that’s a game changer. If that becomes the norm or at least a big part of the norm.

CR Herro:

I can’t imagine Berkshire Hathaway did it on accident.

Dean Wehrli:

He has a pretty good track record. That’s fair to say.

CR Herro:

Doesn’t he?

Dean Wehrli:

Yeah. One more thing on off-site is that Japanese companies like Sekisui, have recently become major players here in the American builder space. Do you think that will have an impact on off-site?

CR Herro:

I absolutely watch very, very carefully. The Japanese especially Sekisui and some of the other ones that very quietly have… Are within the top 10 largest builders right now. And I watch very carefully for two reasons is one, as they’ve already had a tremendous track record of improving and disrupting other manufacturing segments. And this is the most expensive manufacturing segment that exists. I don’t think it was accidental that they’ve taken their time, but that they’re coming in to create value using their manufacturing mindset, Sekisui invest more in a year on [R&D 00:10:16] than the entire US housing industry combined.

CR Herro:

And that focus on improvement and durability and alternative materials just translates to the same conversation we had about Japanese auto manufacturing into better quality, lower operating costs, longer predictable service. And honestly I am very, very proud of the homes Meritage has built for the last 10 years in setting a standard for performance. But I think that what Sekisui is going to bring to the marketplace when they bring Japanese manufacturing into the US will transform that again. And all of us, US manufacturing home manufacturers will have to step up in the product that we deliver to our customers.

Dean Wehrli:

Do you see them actually bringing US manufacturing space the way they have in the car industry?

CR Herro:

I believe so. I think the combination of the two factors we’ve been talking about, which is the energy efficiency and the opportunity to improve the function of the house, combined with a change in the manufacturing process is very directive. And in line with why Japanese home builders are investing in the US. Is there’s this great synergy to create value by combining those two and transforming what the market considers quality. And you get a 30 year structural guarantee in Japan and you get a 10 year here in the US. I think most home builders just when they think about, Hey, they expect their house to live a hundred years, whether they’ll go live it in or not. Having a manufacturer stand behind that transforms the perspective of quality and safety. I mean, I wouldn’t buy a car that doesn’t have a hundred thousand mile guarantee on it anymore. And that was new in the market 20 years ago.

Dean Wehrli:

Yeah, yeah. That is amazing. At the very least, the Japanese will probably bring their manufacturing processes, or their best practices over here. And then someday we’ll see a bad movie starring Michael Keaton about the cultural disconnect there.

CR Herro:

I think we’ve learned, I’m considering, it’s probably be in the reverse, which is it will be Japanese actors coming in and playing the foils.

Dean Wehrli:

You know what, honestly, I hope so. That’d be great. Let’s turn over to our last topic, which is technology and home automation, kind of the smart home. In the past you’ve talked about how it can’t be sort of tech for tech’s sake in terms of designing smart features and home automation. What do you mean by that?

CR Herro:

It’s the guiding principle of everything that I do for innovation, for Meritage and what I advocate for the industry, which is what are we trying to accomplish? And what I’m always trying to accomplish is I want to build a home for the people I love, not for me as an engineer and a philosopher.

CR Herro:

But if I was building a home for my grandma or I was building a home for my family. What are the decisions I would make about the materials? What are the decisions I would make about the investment and better quality. What are the key aspects? And the technology’s evolving to the point where there is a tremendous amount of opportunity to improve the safety of a home and to make it more convenient for the people that live in a home by incorporating technology. It’s not about the technology, it’s about how do I improve people’s quality of lives. And we keep talking about auto manufacturing, when I bought my most recent car, they forced me to download an app and I thought it was the most silly thing until I started using the silly app and it’ll start my car, it’ll locate it when I don’t remember where I parked it in the mall.

CR Herro:

It will tell me when I need to change the oil. And now that I’ve got that and I no longer have to kind of worry about where’s my car, and how many miles since last time I got my oil changed, it does it for me and it’s intuitive. Well now I’m going to have that in any new car I buy from this point forward. And the technology is similar. Three years ago I bought one of the very first ring doorbells and some other executives here at Meritage did and I couldn’t get my fingers around it like why do I want a camera, and a speaker, and a microphone in my doorbell of all things. I mean, it just seems like way too much technology for a doorbell. And then I saw a good friend of mine named [Mike Manzini 00:14:37] step out of a business meeting because he was looking at his phone and something occurred and he came back in and I know Mike really well and I said, what was that all about?

CR Herro:

And he goes, Oh, I’ve got that ring doorbell. And there was a girl scout standing at my front door and I had to go make sure she’d come back after work so I could buy Thin Mints. And I instantly went from confused to clarity on ring doorbells, which is my doorbell can help me buy cookies. Okay, that is a lot better than an average doorbell. And so I learned that this technology is about how does your home serve to make you feel safe. Like, Hey, there’s my package. I can let my kids in when they forgot their key. I can negotiate girl scout cookies. I can forget if I locked my front door and use my phone to lock it when I’m sitting in my office. I can be stuck in traffic and let my friends in my house, grab a beer and let my dogs out until I get there.

CR Herro:

Those sorts of things are what I think the technology is intended to do. Which is proactively act to help customers in ways they never thought of. Whether it’s for security, whether it’s for convenience, some of it’s for energy efficiency. Can we have a smart thermostat that knows when we’re in the kitchen, turn on air conditioning in the summertime and knows as we pull out of the driveway to turn everything down to save us money. And the answer is yeah, it’s simple. And we already have a smart phone in our pocket. It’s not that much more of a putt to make the thermostat be more responsive to occupancy. And the technology is growing so fast. I can’t even tell you what next year is going to look like. I can tell you that this year it’s about making our buyers feel safe, and making access to their house convenient through the garage, and their locks and cameras in their doorbells. But what’s going to happen after that?

CR Herro:

The space is moving so fast. I didn’t anticipate that smartphones would have all the features that they’ve got. I can’t tell you what a smart home is going to look like, but I can’t tell you that once a buyer has that sort of functionality in their house, they don’t want to go back to keyed locks and a doorbell that just ding dongs when they could have more.

Dean Wehrli:

It is amazing how fast we do adopt these new technologies that I obviously not to date myself, but I remember before we even had cell phones, let alone smart phones, let alone smart phones that did this incredible array of things to you. Do you see this transition being pretty easy by consumers?

CR Herro:

I think that that pretty easy will be what wins. We got into the space about eight years ago and at the time everybody was trying to figure out how to get paid. And so there’s all these subscription models and there was companies saying, well, if you’re going to use our hub, you can only use these switches in these products. And they were trying to, they build little Fife domes. And that’s gone because customers don’t like to be forced down a particular path, especially in technology where it’s not VHS, or Betamax, or even Blu-rays anymore, right? It’s a different technology, everything streams. And so I think that the technology that makes it easy, that clouds everything, that’s universal, I think that’s what’s going to win in the marketplace because it doesn’t require a customer to compromise and to sacrifice.

CR Herro:

And so just like smartphones, the more open source they are to allow everybody’s apps to come in. I think smart technology in homes is the same thing. Empower the home to have really good wifi coverage, create conductivity and then let all these pieces come in and build into something that serves the customer in their unique way.

Dean Wehrli:

I think that might kind of answer my next question, but tell me if I’m wrong. Who’s going to lead this process? It sounds to me like it might be your Amazons and your Googles as opposed to your builders, or your consumers, or even your specific industry sectors? I think they’ve already lost that battle. Is it going to be like an Amazon and Google that’s going to shape this new home frontier?

CR Herro:

Absolutely. This is very heavy technology and well outside the sticks and bricks of home building. Home builders will enable it. Home builders will create the platform, but this technology belongs to Silicon Valley. All the startups that are embedding computer chips in things we never thought you can embed computer chips in. Home builders need to support and watch the market carefully in order to enable this technology. But we’re certainly not driving the bus.

Dean Wehrli:

Do you think builders will be partnering up with some of the tech to also help shape this?

CR Herro:

We certainly are. We’ve got a great relationship with Amazon and we leverage Amazon’s expertise to help inform us, what technology we have to be prepared for. We empower our buyers post-close to interface with Amazon to become educated and to maintain their equipment, to expand their equipment. And obviously there’s other home builders are having the same relationship with Google and with Apple. Having partners with key technological companies to help be your experts to help influence and ensure that you are aligned for what’s happening in R&D is key for me, but also it’s technology.

CR Herro:

We’ve seen more than once in an upstart company be the dark horse and take market share from everybody. And as computer chips are so expensive and people can do an awful lot of stuff by subbing it out to Taiwan and importing a brand new technology, I think this space is always going to be right for disruption. I wouldn’t bet against Amazon. I think we’re all going to work for Amazon at some point. But I certainly, even with our relationship with Amazon would never put all my eggs in one basket. My job to my consumers is to be very agnostic and very open sourced so that they’re not forced down any particular path.

Dean Wehrli:

Do you see any blow back at all? Like, I mean I’ve walked through a certain builders models many times who has Alexa, just really everywhere. You see any kind of resistance along that, just sort of just shut up Alexa. And I say that being careful that my Alexa right behind me is not going to now start to talk to me.

CR Herro:

There’s a spectrum of technology. It is 20% are early adopters and they love the technology and they want it embedded to make their life convenience. And millennials certainly have a high percentage of that 20%, there’s 10% on the other area which are pretty technophobes, right. And my little aunt in Chicago, I got her an Alexa echo device and she unplugs it when she’s not using it. And I’m like, why do you unplug it? And she tells me she doesn’t want them listening to her. Like, listen, little old lady, you’re not going to say anything that matters to the worldwide web. But nonetheless, there’s that piece.

CR Herro:

But the middle of America that 70% between those two, pro and con is people that just need to be inspired, that there’s things that technology can do. Like give them a grocery list, Hey, this is what’s in your refrigerator. Don’t forget the eggs and the mayo or I’m in the middle of making dinner and you can talk to Alexa and she’ll remind you what the next steps of the recipe are. It’s those simple things that technology should not be the end all, be all, but it should be a quiet servant to make our lives better. And I think that’s, there no letting that, no getting that horse back into the barn, that that technology is free and clear and running most of our lives.

Dean Wehrli:

In terms of costs now. Well how big of an impact does automation and smart homes have on the cost of a home and will that… It’s kind of the same way we talked about energy efficiency. Is there going to be an upfront cost that maybe the lower spectrum of the market is sort of forced to resist or is that not a concern in automation.

CR Herro:

The basic bones to enable a house to be wifi capable is pretty much in the pennies, so there’s no reason for a builder not to be proactive and to set up a home for wifi connectivity and to dedicate and identify a spot for that, so that there’s good coverage. That’s really simple and just about being thoughtful. The rest I truly think is optional. There can be a buyer that wants to be competitive in the marketplace by including and showcasing the enhanced features. Or there can be a builder that says, we’re technologically capable, but it’s up to you to choose post-close. And I think that there’s a position in the market for both of those brands and there will be forever.

CR Herro:

I think that the, Hey, all included approach so you don’t have to think about it is one level of customer service and we’re going to not get in your way so you can customize it by yourself as the other. And I’m sure both as I look at the top 20 builders, there’s very clear examples of all of that.

Dean Wehrli:

Yeah, it’s kind of like a part of it is just going to be letting folks know, educating folks on what exactly it can do for you. It’s like, again, we’ve had the Alexa for a while now and I’ve seen a couple of articles recently and I just say, wait, Alexa can do what now that I had no clue. I mean is it going to be that process in terms of educating home buyers about what their home can do for them?

CR Herro:

And that’s where as a home builder, I’m pretty good at a 2by4’s and spray foam insulation. But as technically adapt as I am, I don’t think I’m an expert. And our relationship with Amazon comes from us putting Amazon in direct contact with our consumers to help train and inspire them of what’s available today. I like the relationship Meritage has with Amazon as an enabling feature of technologies that we’re including in our home so that buyers can get more from those features. Then just a small little puck shaped jukebox. I think we will continue doing that and there’ll be other businesses that come up that are enabling businesses like that. But at the same point, Facebook was a college social media until grandparents figured out it’s a way to keep track of their kids, their grandkids.

CR Herro:

And now everybody can navigate social media. I’m sure there’s an interesting transition period, but just like the technology that’s incorporated into your car to make the Bluetooth pickup your texts and your music and everything else. I think it’s going to become an expected standard and that buyers use it to the extent that they wish to, but the bones are always going to be there and I think buyers would perceive it to be irresponsible or incomplete if they didn’t at least have those bones.

Dean Wehrli:

I think you’re right. It’s kind of the way, like you said, the parents and grand parents took over Facebook and the kids fled. It’s the same thing happening to Instagram now. My wife is now on Instagram and Instagramming and so they’ll figure out something new and they’ll be on to the next thing here in about a year or less.

CR Herro:

I’m sure they already are. They just haven’t told us about it.

Dean Wehrli:

That’s probably true. We’ll find out. My recap by the way of home automation is upside, cookies. Downside, you might get some freaked out girl scouts at your front door once in a while.

CR Herro:

Anything that the little pigtail girls increases their total sale rate. I think they embrace wholeheartedly. She seemed very happy to come back and sell Thin Mints, so I’m in.

Dean Wehrli:

She was a rapid adopter. Well CR, this has been phenomenal this has been a tremendous podcast. We’ve talked about first… Well really like you said there is really kind of different parts of disruption isn’t it? It’s kind of different ways builders and our industry are being disrupted, including things like energy and off-site construction and of course home technology and automation. Anything else you’s care to share?

CR Herro:

No, I think that’s the takeaway from my perspective is the housing industry has changed more in the last 10 years than it changed in the hundred years before that. And it’s positioned to change 10 times more in the next 10 years. And as people in the industry, they wish to either be relevant or they wish to still have a solvent business in 10 years, they’re going to have to start really critically looking at how buyers make choices. And what are the new opportunities for buyers to get more and you’re either going to provide them with more, or they’re going to get more from somebody else. And I think it’s that simple, and that pragmatic.

Dean Wehrli:

Well, thanks a bunch for being here, CR. I really appreciate you contributing, and by the way, I also want to thank Richard Mona’s, our guru behind the scenes who helps us with this. Who I don’t think I have on the podcast yet. I apologize for that, but CR, this has been tremendous. Maybe one day. I would love to have you back when you want to share something else with us. This has been great.

CR Herro:

I love to Dean. Thanks.

Dean Wehrli:

Awesome. Thanks a lot. Until next time, this is New Home Insights. We’ll see you then.

 

 

 

 

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