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Building Guam: Will Hawaii profit from the boom?

BY DENNIS HOLLIER

Denny Watts, president of Watts Contructors
Photo: Rae Huo

When the U.S. and Japanese governments announced plans in 2006 to move nearly 8,000 U.S. Marines and 9,000 dependents from Okinawa to Guam, they set in motion what may become one of the largest building booms of this era. Big Hawaii construction companies are already planning for this enormous buildup, which is expected to take more than five years. Smaller Hawaii contractors can also get a lucrative piece of the action, but only if they are willing to take on risks and a learning curve.

The military realignment will make the island of Guam, America’s westernmost territory, the vanguard of U.S. forces in Asia. The undertaking is enormous. Simply accommodating the arrival of the Marines, for example, will require the construction of everything from enlisted and officers quarters, to support and training facilities, to gyms and recreation centers, to infrastructure like roads, sewers, potable water plants and communications facilities.

The relocation of the Marines is only part of the story. Military development in Guam will also include missile defenses, docks and support facilities for an aircraft carrier, and substantial increases in Air Force and Coast Guard operations. In all, NAVFAC Marianas — the entity coordinating all the work — expects to spend at least $14 billion, nearly a third of which will be paid by Japan.

Strategic Partnerships

In Hawaii, the most likely beneficiaries will be the large military contractors – dck pacific, Actus Lend/Lease, Kiewit Building Group, Watts Constructors, et al. – many of which already have experience in Guam. But even these companies will be dwarfed by the work. Getting it done will require unprecedented partnerships. Because of the scale, most contractors expect NAVFAC to use a form of procurement know as Multiple Award Construction Contracts. Under the MACC process, probably only four or five teams of contractors will even qualify to bid. Given the size and variety of the projects – NAVFAC says they’ll range from $15 million to $300 million – successful teams will need to demonstrate many skills.

According to Denny Watts, president of Watts Constructors, and perhaps the dean of Hawaii-based contractors in Guam, finding the right strategic partners is key. “We’ve been going through that for the last year,” he says. “We’ve talked to maybe 25 of the best organizations in the world to determine who we want to be partners with for the long term.

“We’re looking for partners with competencies in things that maybe we aren’t as strong at. That’s because these contracts will vary between sophisticated marine projects, to technically complicated infrastructure, to basic living quarters. Your team has to show expertise in all those capabilities.”

To complicate matters further, the bidding process has to be precise. “These are all hard-bid, hard-number contracts,” Watts says. “It’s not like in the Middle East where they were cost reimbursable. You’re at risk here. It’s not for the faint of heart.”

Labor Pains

Many of the most nettlesome problems facing contractors revolve around workforce management. “There are only 2,000 to 3,000 construction workers on the island presently,” says Roger Peters, general manager of dck pacific. “At peak, they feel there will be the need for 25,000 to 30,000 construction workers. So, the challenge is: Where do you get that many skilled workers?” Of course, with a population of about 170,000, labor shortages have long been a problem for Guam. “Traditionally, what’s been done is they bring in labor from the Philippines,” Peters says. At this scale, though, he notes that may not be adequate. “I think you’re looking at a global supply: Filipinos, Indians, even Mexicans.”

Perhaps more critical than finding skilled labor is identifying the foremen and supervisory staff to manage them. Companies like dck pacific and Watts Constructors, which have been working in Guam for years, already have trained crews and experienced supervisors, though not nearly enough to handle all the new work. Other teams will likely have to bring in most of their foremen and supervisors from off-island. Recruiting these positions for Guam has always been difficult. Even Hawaii workers have historically been reluctant to relocate to Guam. But companies like dck pacific will have to persuade them. “That’s not just Hawaii, either,” says Peters. “We’re offering these opportunities to people in our home office in Pittsburgh, to people in Atlanta, even to people in the Caribbean.”

Finding the workers is just the beginning. The MACC bidding process also requires the contractor to plan for their accommodation. “You have to explain how you’re going to house them, feed them, entertain them and care for their health,” Peters says.

Logistics

From a contractor’s perspective, the most obvious feature of Guam is its remoteness. At 5,900 miles from California, and nearly 3,800 miles from Hawaii, Guam lies at the end of a long and tenuous supply chain. “Most of this work is ‘Buy American,’” says Peters. This means construction material can’t be quickly shipped from nearby Asian suppliers, making it critical to understand materials logistics. It takes a ship three weeks to get from the West Coast to Guam. “So, you’ve got to be self-sufficient,” Peters says. “When something breaks, you better have a spare part, or you better be able to get a replacement quickly – probably by airfreight.”

Even before buildup for the Marines, 
Hawaii contractors like Watts Constructors have 
been working on military projects in Guam
Photos Courtesy of Watts Constructors

Even within Guam itself, logistics will be challenging. Port facilities will need tens of millions of dollars in improvements to handle shipping volumes, which are expected to quadruple. Roads and bridges will have to be hardened and widened to accommodate the trucks needed to haul material. There’s not enough electricity or fresh water to supply the anticipated needs. And there’s nowhere near enough warehouse space from which to stage the enormous construction projects. Once it gets started, the great Guam buildup might turn into a quagmire.

Small Businesses

Despite the challenges, Guam still represents a tremendous opportunity for large Hawaii companies. For smaller Hawaii subcontractors, the labor issue presents a major hurdle. “They’ve never had to go out and hire foreign workers,” Denny Watts points out. “And yet, by definition, these are the guys who would have to provide 75 percent to 80 percent of the manpower on any given job.”

“I know there are several sub-contractors interested in coming to Guam,” Peters says, but he doubts they’re prepared to work with an inexperienced workforce. “When you need 30 electricians, you can’t just go down to the union hall.” Maybe more important, he points out that not knowing the productivity of your workforce makes it impossible to budget accurately. “Productivity drives your construction costs,” he says. “And understanding productivity determines what you bid.” In short, it’s almost impossible for small companies to plan adequately for Guam.

And planning is essential. Lance Wilhelm, senior vice president of Kiewit, points out that his own company, a major U.S. contractor, is still grappling with the implications of going to Guam. “Businesses need to formulate a Guam strategy, whether you’re big or small,” he says. But small companies in particular have to look at what it means to do business so far away. “How are you going to manage your people? Do you even have the people who are willing to go down there? How will you handle the logistics? Do you understand the tax issues, union issues, legal issues … ” Small companies need to consider all this before they talk with the larger contractors. “You need to formulate a strategy,” Wilhelm says, “so, if you should be asked to go down there, it isn’t the first time you’ve thought about those things.”

Wilhelm also points out that, for many small companies, management is already stretched thin. “Can you commute to Guam and still keep a going concern here in Hawaii?” he asks. “We’ve had to think about that, too. We’re not going to jeopardize what we have here in Hawaii; so, part of our Guam strategy is that we have to be able to do both.”

Notwithstanding the complications, small Hawaii companies will almost certainly be drawn to Guam. Many of them already have experience there. Steven Baldridge, president of Baldridge and Associates Structural Engineering, points out, “We’ve actually done work in Guam for about 10 years; we’ve just done it from Honolulu.” Most of BASE’s work in Guam has been for the military, which can often be done from a distance. But, like many observers, Baldridge expects the buildup to also generate work “outside the fence.” That may be where small Hawaii companies, particularly technical companies and vendors that are less burdened by labor issues, will find their place in Guam. “There’s other infrastructure work that we can get involved in,” he says. “It might be housing, upgrading the local schools or building bridges. But the first step is to have a more solid and continuous presence.” For BASE, the Guam office is about becoming part of the territory’s business community.

Steven Baldridge, president of Baldridge 
and Associates Structural Engineering
Photo: Rae Huo

That process is made easier by having Hawaii service providers already working there. It’s possible, for example, for a Hawaii company to open an office in Guam and still use the same bank, accounting firm and law firm as the home office. Many of these companies are important members of Guam’s business community. First Hawaiian Bank, for example, is the largest bank in Guam. Carlsmith Ball has had law offices there for more than three decades. Because of this experience, they offer more than just banking and legal services; they provide inside knowledge of the community and vital introductions.

Hawaii companies are already taking advantage of the Guam buildup. “We’re getting calls from customers almost every day,” says Ray Ono, vice chairman of First Hawaiian Bank. “They’re hearing more and more about the potential in Guam, and they’re calling for information, just trying to validate what they’ve been hearing elsewhere. They’re doing their due diligence, calling their banker – who happens to have a stable operation in Guam and has been there nearly 40 years.”

“We have some old hands here in terms of Guam experience,” says Dean Robb, an attorney at Carlsmith Ball. Robb himself has been working in Guam since the 1970s. “And, if you walk down our halls,” he says, “there are probably seven or eight lawyers here who also practice in Guam.” Perhaps more importantly, the Guam office of Carlsmith Ball is staffed almost entirely with local Chamorro attorneys.

Investing in Guam

For small companies that take the time to learn about the community, a whole new class of opportunities arises – opportunities that have less to do with the buildup and more to do with the development that it causes. Companies like PEMCO or Commercial Roofing and Waterproofing may have gone to Guam to pursue military or government work, but, in the end, they’ve invested in Guam itself. John Yamamoto, president of PEMCO, notes that, in addition to his company’s bread and butter, managing foreclosed properties for HUD, they now have a joint venture with a landowner in Guam, investing millions of dollars in housing in anticipation of the island’s growth.

CRW has taken a similar path. “We’re making money,” says company president Guy Akasaki, “because we have some military projects.” But he proudly notes that the centerpiece of his company’s investment in Guam is 12 acres it has purchased in the industrial area of Harmon. This kind of site will be critical when contractors need staging areas for their immense projects.

First Hawaiian chairman Don Horner, who’s long had an interest in Guam, has the same view. He notes that much of First Hawaiian’s success there comes from treating Guam not like some foreign adventure, but like a Neighbor Island. He points out that you can get all the services of the Bishop Street headquarters at any Guam branch. And he uses an interesting metaphor to advise small companies considering the move to Guam: “Remember, the cake is the island of Guam itself; the buildup is only the icing.”

 

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Arrested Development

Allen Leong, KC Rainbow Development
Photo by Oliver Konig

It’s tempting to believe the map. To run your finger over the blue swath of the Pacific and imagine that these are islands. But the turmoil in the world’s financial markets has demonstrated that Hawaii’s isolation is an illusion.

Our economy — particularly capital-intensive sectors like real estate development and construction — has become dependent on access to money from the Mainland and abroad. And the long string of failures in the financial community — Washington Mutual, IndyMac, Bear Stearns, Lehman Brothers — has cut deeply into the availability of that capital.

Some failures have affected Hawaii directly: The Ritz-Carlton development at Kapalua was nearly derailed when Lehman Brothers, the lead bank, went bankrupt last year. Similarly, the credit problems of General Growth Properties have halted construction at its Ward Villages project in Kakaako. But more damaging has been the complete collapse of the market for the Commercial Mortgage-Backed Securities and other financial instruments that have been the conduit for most of the Mainland capital underpinning development in Hawaii over the past six years.

The Return to Local

“Sixty percent of all loans were through the CMBS market,” says Mike Hamasu, director of consulting and research at Colliers Monroe Friedlander.

“The majority of that is now frozen.”

The result has been an exodus of Mainland lenders — with boggling effect. “I can give you our preliminary findings for last year,” Hamasu says. “In 2007, total sales for the state came to $3 billion. Our prediction for 2008 is $780 million,” an astonishing 74 percent drop. This year will be even lower: “We’re anticipating sales of only $580 million in 2009,” he notes.

One of the signature effects has been the emerging dominance of local banks. Central Pacific Bank, for example, came forward to replace Lehman Brothers as the lead bank in the Ritz-Carlton development on Maui. Most developers indicate that deals will now have to include local banks. The change is not an idle one; Hawaii’s local banks have a reputation for conservative underwriting. For developers, this means much higher equity requirements; no non-recourse loans; and, critically, higher presale and prelease requirements before the borrower can access construction loans. All of which are more difficult in a recession.

Presales Are Crucial

For Allen Leong, director of operations for KC Rainbow Development Co., the crisis in the world capital markets is neatly bracketed by two projects along Kapiolani Boulevard: the twin towers of Moana Pacific, completed in early 2007, and the Moana Vista, started in 2007 but still unfinished and awaiting new capital.

“The issue with Moana Vista is the basic issue of every single real estate project: presales,” he says. “At the Moana Pacific, the first tower sold out within six months. The second tower might have taken nine or 10 months to sell out.” Presales of the 492-unit Moana Vista began in 2007, amid much the same atmosphere of optimism and enthusiasm. Hundreds of people showed up when units first went up for auction. “At one point in time,” Leong says, “I had 300 units sold.” But the stream of bad economic news sapped the confidence of buyers, and more than half canceled their contracts.

Only deep pockets kept the project afloat. Indeed, one of the remarkable things about the Moana Vista project is that the work so far has been done out of KC Rainbow’s cash flow. “You have to remember, I just came off a pretty successful project,” Leong says, alluding to the highly profitable Moana Pacific project. “But now, we’re going to have to touch our loan. That’s why presales are so important. Without presales, you can’t touch that construction money.” It’s this gap in funding that has brought construction nearly to a standstill.

Of course, in real estate, it’s possible to view almost any problem as a question of price. In December, KC Rainbow began slashing prices at Moana Vista, with units going for as much as 25 percent off. “I can tell you,” says Leong, “right now, we’re at the right price point. We’ve had very good interest in the project. People like what they see. so, I know there are buyers out there who like the price. I just don’t know how many there are.”

The Contractor’s Perspective

Bill Wilson, president of Hawaiian Dredging, also views Hawaii development through the lens of the current credit crunch. “We’ve got four stories with projects that Dredging is working on, with four sets of issues,” Wilson says. “Others, I’m not sure, have similar examples.

“No. 1 is Maluaka on Maui.” This luxury condominium project – plans included 69 high-end units on 500 acres of land attached to the Kapalua Resort – came out of a partnership that included Dowling Development and investment banker Morgan Stanley. Construction never started. “They put the financing together a year and a half ago,” Wilson says, noting that, at the time, “there were still multiple financing options available.” One by one, though, lenders dropped out as the capital markets collapsed. “They’re not looking at revised development plans,” he says, but the project is moribund.

Hawaiian Dredging’s second story concerns Starwood’s latest planned timeshare on Maui. “In this case, we were two months into construction,” Wilson says. “That was a $300 million job. It was their preferred job in Hawaii.” Nevertheless, despite their investment of time and money, Starwood blanched at pursuing the project in this economic climatem, pulling the plug on construction. “We negotiated a scope-of-work so that it could be put on hold,” Wilson says. “Conceivably, we can start the project again in a year or two.”

Hawaiian Dredging is also the contractor on KC Rainbow’s Moana Vista project, which is Wilson’s third story. In this case, of course, the company was already deeply committed to a project that appeared to be more than adequetly funded. The building was scheduled to be completed by 2009; instead, the tower crate sits idle, and the most optimistic finish date is well into 2011.

“No.4 is General Growth,” says Wilson. “We filed a lien of $9 million against them.” The credit troubles of General Growth Properties, the nation’s second largest developer of shopping centers, and the owner of both Ala Moana and Ward shopping centers, have received a great deal of publicity. Although generally regarded as well-managed, the company has succumbed to the credit crisis. Its inability to refinance its extensive debt has put the company on the brink of failure. The spectre of bankruptcy has halted construction at Ward Villages, General Growth’s most recent development in Kakaako. Once again, Hawaiian Dredging is left holding the bag. “All I want is our little $9 million,” Wilson says. “And the majority of it doesn’t belong to us; it belongs to our sub-contractors.”

Other contractors have a similar view of the market. Roger Peters, the new executive vice president at dck pacific construction (formerly Dick Pacific), says, “I know of five out of about 15 projects that we’re tracking that have stalled because of lack of funding. And that’s not just on Oahu; that’s on Maui and the Big Island and Kauai.” In fact, one of the most alarming aspects of the capital shortage for developers is that it touches almost every sector: residential, commercial, industrial and retail.

Light at the End of the Tunnel?

One bright spot on the horizon is Halekauwila Place, an affordable-housing project in Kakaako being developed by Stanford Carr. This project, like so many others around the state, stalled due to inadequate funding. The details are telling: Although Carr was able to secure a $71 million construction loan from the National Electrical Benefit Fund, that still left him well short of the estimated $86 million price tag for the project. Normally, Carr points out, affordable housing is supported with tax credits, which the developer sells to investors. In the current market, though, there’s no appetite for tax credits. The project looked untenable.

But Halekauwila Place was very attractive to the Hawaii Community Development Authority. As Anthony Ching, executive director of the authority, points out, HCDA was eager to add the affordable housing units to the inventory in Kakaako. They also hoped to retire the tax credits so they couldn’t be sold to another developer. In the end, HCDA agreed to loan the developer $14 million. Perhaps just as important, the terms of the loan allows $4.5 million of that to be used for the critical permitting and entitlement period. “Essentially, the state is providing a soft second mortgage,” says Carr.

Affordable housing is hardly a salvation for developers, though. The margins are just too low, and few government agencies have the cash to lend. Instead, most developers and contractors look at the capital markets and see no near-term solution. They point to Kapolei: The plat map shows a quilt-work of projects in various stages of planning and construction. But most developers agree with the words of Stanford Carr: “If it hasn’t come out of the ground, it’s probably on hold.”

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