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Keith Sutton has been building homes in Cleveland since 1991 and was selling 20 houses a year at the top of the boom. Today he’s sitting on 50 lots he can’t get rid of and is $3.5 million in debt, including close to $1 million he’s already defaulted on. “I couldn’t have anticipated in 2006 that it was going to last well into 2011 and beyond,” he says. “I thought it was going to be a blip.” Sutton has just two workers now, down from 13 before the bust, and he hasn’t sold a house in a year. “I’m barely hanging on,” he says.
The housing market’s persistent woes weigh doubly on small business. Industries such as construction and real estate are dominated by small companies, and many entrepreneurs borrow against their homes to finance their businesses. That means small business, which accounts for half of private nonfarm gross domestic product and 65 percent of job growth, is unlikely to recover before the housing industry rebounds. “The recent decline in housing prices is significant enough to be a real constraint on small business finances,” researchers at the Federal Reserve Bank of Cleveland concluded in a December report.
Entrepreneurs whose houses have lost value are less likely to invest savings in their businesses, and it’s harder for them to raise money by mortgaging their homes, says Denny Dennis, senior research fellow at the National Federation of Independent Business. The group says 94 percent of small employers own their homes, and a quarter of owners of small companies borrow against their houses for business purposes, according to market data provider Barlow Research Associates. The Cleveland Fed estimates that business owners have lost $7.9 billion in available home equity credit in the housing bust. “Their capacity to borrow is really constrained,” Dennis says.
About one-sixth of the nation’s private employers are small companies in housing-related industries, including homebuilders, real estate agents, architects, and furniture suppliers, Census data show. Although the construction industry has often led the way out of previous recessions, few small housing-related companies have gotten much of a lift from the current recovery. “This time the only growth driver, if we’re having one, is export industries,” Dennis says.
While manufacturers and tech companies can tap into growing markets abroad, plumbers and plasterers are bound to their local economies. Sales at small homebuilders and specialty contractors such as roofers and electricians have declined each year since 2007, according to data from financial software maker Sageworks. Home prices ticked up in the second half of 2009, but they now match the recession’s May 2009 low, according to the S&P/Case-Shiller Home Price Index of 20 cities.
Dave Penniman, who runs a six-employee painting business in San Ramon, Calif., estimates that he is $125,000 underwater on the house he bought in 2004. Having no cushion of equity in his home makes him wary of excessive risk in his business. “You definitely can’t take on really big jobs that you would like to,” he says. “You just don’t want to roll the dice.”
Even at the high end of the housing market, the recovery is halting. Late in 2008, Brian Lazarus was installing custom wood furniture and interiors at a five-building home compound under construction in western Massachusetts when the owner, a Wall Street executive, landed on the job site in a helicopter. With three suitcases full of cash, he paid all the contractors for the work they had done so far and sent everyone home. “Then they literally boarded the compound up,” Lazarus recalls. Work resumed early this year, only to be suspended again in the spring. Lazarus says the project manager told him: “We thought the economy was going to pick back up, and it’s obviously not.”
The bottom line: Small companies tied to housing make up one-sixth of private employers, and they’re unlikely to recover until the housing market does.