Strong development pipeline mixed with economic unknowns drives Sioux Falls into 2023

Jan. 2, 2023

If 2022 was a year that exceeded expectations for many in business, the trickiest thing heading into 2023 appears to be how to set expectations.

“We had a lot of momentum, and it seems to have quieted a little bit all of a sudden,” said Jeff Scherschligt, whose family firm Pendar Properties is leading the expansion of Cherapa Place downtown.

“Some of it is the time of year — you’re not going to get retailers out looking to expand — but I think everyone is watching where the economy is going.”

For instance, some office users that had been exploring plans for new space have pulled back given build-out costs, he said.

“I really think it’s just a matter of everything was moving so fast, and now where is it going and what’s going to happen? But I really don’t have any concern about Sioux Falls and its economy. That’s going to continue to grow very strong.”

The biggest headwinds facing the Sioux Falls metro area are related to larger macroeconomic conditions, said Jared McEntaffer, CEO of the Dakota Institute for Business and Economic Analysis.

“The state and regional economies are strong, but weakening at the national level could change that. The national housing market has hit a wall, and the South Dakota market is slowing as well.”

Higher interest rates “are putting pause on some projects, but that will most likely show up as slower activity in the second half of 2023 and into 2024 as the current pipeline thins out and fewer new projects are added due to higher financing costs,” he added.

“If the Fed pivots and lowers interest rates more quickly than initially expected — such as starting to lower rates again in 2023 — then we will likely see a short dip rather than a drawn-out slump in activity.”

From a macro perspective, 2022 produced more robust business growth in terms of construction than anticipated, said Jeff Eckhoff, director of planning and development services for the city of Sioux Falls.

“It was another strong year,” he said, adding that even with adjustments for inflation-related increases, the city’s building permit total of nearly $2 billion in valuation is “a stronger year than we expected, and it was driven by a lot of commercial projects. The big story, if you were looking at building, was apartments.”

With multifamily vacancy of less than 5 percent for approaching two years, the market responded with a significant amount of construction. While final numbers won’t be announced for several weeks, the city issued permits for 3,255 multifamily units through November, compared with 1,739 in 2021.

“There’s a couple in the hopper already for next year, foundations sitting to be looked at,” Eckhoff said. “But absorption has to happen now. One of the differences that’s kept this going still is there is a lot of cash out there and a lot of investors with cash stepping in to take bigger share of equity, so I think that explains some of the continued interest and what’s driving some construction, especially in the multifamily market.”

Occupancy in properties managed by Lloyd Cos. is still tracking at greater than 95 percent, chief operating officer Jake Quasney said.

“So it needs to balance itself out, but at the end of the day, Sioux Falls is in a really good position,” he said. “It’s growing, and interest rates are going to challenge it. It’s going to force us all to be better at what we do and more creative, and that’s kind of a good thing.”

Downtown momentum

The center of a city typically is a strong indicator of its overall health, and by that measure, Sioux Falls appears to be thriving heading into a new year.

A historic level of construction is underway and will continue in 2023.

Scherschligt’s Cherapa Place is about 80 percent filled with office tenants, who will move in later this year, and 85 percent full with condominium buyers.

While announcements have yet to be made, “we’re 50 percent full on retail, and we don’t have a lot of concern,” he said. “Our costs were very high to begin with, but at least they’ve been holding, and we’re not having delivery problems.”

The Steel District, Lloyd Cos.’ multiphase redevelopment adjacent to Falls Park, will being moving in major office tenants midyear. The new Canopy by Hilton “has started going vertical, and we need to get that up and enclosed by the middle of the year and really work on finishing that out so we can hit June 2024 for both the hotel and the apartments,” Quasney said.

“I think there are a lot of people nervous with the number of (apartment) permits that have come online, but when you look at our population growth and the really positive things that are happening, I think we have ample growth to absorb what’s coming.”

Look for the city to also move ahead this year with projects at its parking ramp along 10th Street east of Phillips Avenue as well as land that’s part of the former rail yard property. The Sixth Street bridge also will be a major construction project downtown in the coming year.

On the ramp site, “we do feel good about the interest and the level of questions we’re getting and the participation we had in industry meetings and tours,” Eckhoff said. “But it’s another big project, and given the economy and the cost of things, we’ll see if that has any kind of effect.”

Commercial activity unknowns

While 2022 brought the opening of the Amazon fulfillment center at Foundation Park, other work was preparing the area for business growth.

“We made great progress at Foundation Park North, grading the park to prepare for roads and infrastructure this summer,” said Bob Mundt, president and CEO of the Sioux Falls Development Foundation.

CJ Foods still has an option on land at Foundation Park for a future food production facility.

While the company is moving forward with its plans, “they’re one of those companies taking it cautiously, and they’ve kind of pumped the brakes a little bit,” Mundt said. “A lot of their equipment comes out of China — they’re a South Korean company — so they’re a little hesitant sometimes, and there are just so many international things that play into that.”

Steve Westra, commissioner of the Governor’s Office of Economic Development, said he also feels confident it will happen.

“I really do. But the supply chain issues are causing a lot of problems with these large, large projects,” he said. “But the companies are all experiencing strong, solid growth, and they know if they’re going to keep up with that, they have to stay ahead of capacity. And yet they don’t want to start constructing a building knowing they’ll be sitting there waiting for equipment for a year.”

Elsewhere in the park, a new headquarters for Muth Electric and Muth Technology is expected to start this spring.

Other industrial growth in the year ahead includes a new headquarters campus for Maguire Iron in northeast Sioux Falls, additional growth in the Development Foundation’s Park VIII in northeast Sioux Falls and multiple large warehouses built without immediate tenants to fill them.

“I think companies are continuing to realize the ‘just in time’ inventory system doesn’t work very well when you have supply chain slowdowns, and they’re trying to get out ahead of that,” Mundt said. “So I think we’re seeing people start to utilize those buildings as warehousing facilities.”

The Sioux Falls area continues to attract interest from businesses, Mundt and Westra said.

“We’re seeing a fair amount of interest from companies looking to either start a new plant or relocate an existing plant,” Mundt said. “We have a couple companies here in town bursting at the seams, but they can’t find enough workers to add that next shift. So that’s continuing to be a challenge, and we’re starting to see technology take over in companies using robotics.”

The state has $7 billion in potential projects in its pipeline, Westra said.

“Our business development team is continuing to field calls from all sectors of the economy,” he said. “That’s not to say all $7 billion will become reality — I don’t want to give that impression — but that’s what we have in the pipeline heading into 2023, and it’s pretty impressive.”

In terms of growing the economy from the ground up, 2023 holds potential both in education and entrepreneurship, Mundt said.

“We’ll see the Startup Sioux Falls operation downtown open, and I think it will be a nice addition to downtown and a new chapter in the entrepreneurial environment,” he said. “And hopefully Southeast Tech gets the clinical simulation center up and running to start getting more nursing and med students, and hopefully the Discovery District and the whole concept of a biosciences center out there would be a nice thing to get moving this year.”

Housing, workforce remain key issues

Take the average of 2022, and it was “still a great year” in housing, with strong demand until the fourth quarter, said homebuilder Kelly Nielson, owner of Nielson Construction.

“The first three quarters of the year were at or above the last two years’ average, meaning very strong,” he said. “This last quarter is the worst quarter we have seen in 10 years.”

His company has multiple developments in east, west and south Sioux Falls, as well as Lennox, Baltic, Tea, Madison, Yankton, Garretson and a new one starting in Hartford.

“We typically have a vision for the year as to what product and at what price point we should be building for future buyers, but with the sudden change in the market over the past three months, we are unsure at this point as to what consumers will be looking for,” Nielson said.

While lumber has dropped 18 percent from an all-time high in early 2022, it’s still 8 percent higher than 2021. Other materials such as windows and shingles are still 20 percent or more above 2021, he said.

“And all subcontractors are still fighting material increases from their suppliers and increased wage demands from their staff to keep them as unemployment is still extremely low,” he said. “We just received notice that concrete will be an additional 20 percent higher in 2023; on average, this will add a cost of $2,800 per home just in concrete material cost.”

Interest rate hikes are beginning to show themselves in the market too, Nielson said.

“We had six of our signed contracts terminated because buyers didn’t have the interest rates locked,” he said. “With the higher rates, it made the purchase unaffordable.”

Through November, the city issued permits for 633 new single-family homes, compared with 819 for the same time last year.

Nielson said his company is using the slowdown to review and improve its offerings and selections for the coming year.

“Sioux Falls is a great city with many job opportunities, surrounded by many smaller communities that offer great places to raise children,” he said. “We are excited and still building homes for the 2023 homebuyers, with new and improved finishes for our future buyers.”

The need for workers also continues to present hurdles for some business development.

While the Sioux Falls unemployment rate most recently was reported as 1.7 percent, it’s likely to rise next year, said McEntaffer at the Dakota Institute.

His organization is forecasting 2.8 percent unemployment in South Dakota this year, compared with the 2.3 percent average from 2022.

“To be fair, 2.3 percent unemployment is unhealthily low, and even 2.8 percent unemployment is considered low,” he said. “I characterize the situation as the labor market is cooling from red hot to warm to the touch.”

The Dakota Institute is watching the manufacturing sector closely, he added.

“Manufacturing employment in the Sioux Falls metro area is up this year, but it is down statewide, one of the few industries where that was so,” he said.

“On the other end of the spectrum, the service sector is performing well, and we’re seeing strong performance in retail, hospitality and professional services. These sectors have started contracting at the national level, and if regional consumer spending falters in the face of continued inflation, we may see a downturn in the state as well. We do not see the state’s seasonally adjusted employment in these industries falling meaningfully before the second quarter though.”

As government incentives come to an end, more people likely will return to the labor force, Mundt predicted.

“I think people living off their savings accounts will get back into the workforce, so I hope to see more workers back and filling some of the jobs we have,” he said. “Hopefully, that will happen this year.”


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