Economic outlook 2010 -- The comeback of construction: When and where

Commercial construction should hit bottom in 2010 and begin recovery. In the meantime, consider these survival strategies.

By Clair Urbain

The last 12 months in commercial construction have been quite a toboggan ride. Fast and scary, the steep decline in commercial project starts continues, even as stimulus funds attempt to throw a lifeline into this troubled economy.

Is the ride about over? Industry watchers don’t quite think so, and it could be late 2010 before the toboggan stops and we begin the slow, hard climb back up the hill.

“We are near the bottom and we are bumping along on it,” says Rick Dutmer, consulting and marketing director at FMI’s Research Services Group.

“We have some very guarded optimism in 2010 in infrastructure markets that will have some slow growth,” he says.

Even as the general economy shows some signs of strength, Heather Jones.

economist at FMI, says commercial construction typically lags the general economy by as much as 12 to 18months. The skittish credit market compounds this, with projects being cancelled at five times the normal rate.

“While the American Recovery and Reinvestment Act of 2009 (ARRA) will provide a boost to our industry, the constricted private lending arena remains locked and a drag on business.

Until the rescued large banks begin to loosen the credit markets, the commercial building, base building and tenant improvement markets will remain slow and declining,” Jones says.

Have you been stimulated?

The much-discussed American Recovery and Reinvestment Act of 2009, also known as the stimulus package, is pumping money into construction projects across the country, but many of the projects are paving and road projects.

“Water and sewer projects, military base construction, and various Army Corps of Engineers projects are now underway because the design work was already completed,” reports Ken Simonson, chief economist at the Associated General Contractors (AGC).

Other “shovel ready” projects were delayed because of Made in America requirements for components.

For example, water treatment projects languished because many components, ranging from pumps to gaskets, aren’t made in the United States anymore. Projects proceeded only when the EPA removed that restriction from stimulus funds, says Simonson.

Although stimulus funds may be earmarked for construction projects, getting those funds released will take manpower in the government offices. “Due to the heavy backlog of government projects, the government is borrowing workers from other areas and bringing retired government employees out of retirement to coordinate these projects,” Simonson says.

Still, the tremendous downturn in commercial, residential and nonbuilding structures construction is not being offset by stimulus money. According to FMI estimates, in the first quarter of 2009, put in place construction was off by 10 percent. “If you add in stimulus funding, the market is still down seven percent,” says Jones.

“This must be put into perspective,” says Jones. Put in place construction in 2008 was $1.08 trillion. The market has dropped 12 percent, which means the market still is $948 billion, which is equal to the put in place construction in 2004. Were you successful in 2004?There are opportunities in the future and contractors need to be prepared for what’s in store,” she says.

More competition

As the market shrinks, more contractors are chasing fewer projects. One water works contractor commented that in the past, on a smaller $1.5 million job, it was common for 20 contractors to pull plans and only six would bid. Today, more than 40 will pull plans and almost 30 will submit bids.

“Contractors are moving into other types of business, especially where stimulus funding is going. Many don’t have any history in this type of work and they are underbidding by as much as 40 percent. They are cutting their margins to zero to gain business. This really is a limited time sale – this can’t continue at this level,” Simonson says.

“Good contractors are struggling to keep their good employees. These are strong contractors who are swimming against a strong current. We will continue to see unemployment in construction in the 20 percent range. I don’t think the $135 billion in stimulus funds is enough to offset this downturn,” he says.

Lower input costs

Demand for steel and other building components has dropped worldwide, which means prices are dropping. “We have seen construction material costs drop 6.1 percent from June 2008 to June 2009,” says Simonson.

Comparing December growth rates going back to 2000, prices have moderated to just below 2001 levels, reports Dutmer. “The current recession is weakening demand across the globe and having a larger impact at lowering prices than the 2001 recession. It’s very different than it was in 2004 when we experienced 18 percent price increases due to heavy demand for iron and steel in emerging countries,” he says.

2010 and beyond

The economic experts agree the stimulus package averted even greater disaster in construction, and will continue to affect the market through 2011. “The Department of Defense reports there will be substantial work available due to the Base Realignment and Closure Act of 2005 and some very good security construction projects that need to be done overseas.

Plus, the Army Corps of Engineers has scheduled substantial dock, dam and harbor work,” Simonson says.

“While these government agencies face challenges to let this work, it will be good for the economy when it is awarded. ”It will continue to be tough sledding through 2010, predicts Jones.

“Infrastructure projects, much of it driven by stimulus funds, are the only positive growth areas, and it can’t offset the losses in other nonresidential building sectors. We see 2010 down five percent overall with the greatest losses in lodging, office, commercial, religious and amusement and recreation sectors. I believe it will 2011 before we see expansion again in commercial construction.” Geographically speaking, the experts point to the long-term trends.

When growth resumes, it will continue to be along the coasts and the south. “The midwest has been stable, but took it very hard this recession in manufacturing which affects other aspects of construction. Long term, construction will continue to be most active in California, Texas and Florida,” says Dutmer, “However, current fiscal problems in states, especially Florida and California, have markedly slowed the current pace of private and public construction.”

Survival strategies

As the economy begins its tentative path to recovery, economists offer some insightful advice to contractors:

• Resist following the pack. “Contractors who are doing the same work they have always done arefinding twice as many competitors. Many of the newcomers may not have the experience to profitably do the job and you may only be able to get the job at a much lower profit level,” says Dutmer. Similarly, Dutmer doesn’t recommend chasing after work outside your area of expertise. “You are up against experienced contractors that can do the work efficiently, correctly and at the lowest price possible. Instead, look for opportunities where there are fewer bidders. Many jobs require a qualified or pre-qualified contractor, or offer preference to disabled, disadvantaged or minority contractors. Identify ways you can become a preferred contractor,” he suggests.

• Diversify or downsize? Today’s work volume is equal to what it was in 2004, and materials prices have dropped significantly. “Look to your financials in 2004 and compare your overhead structure to then. If you were profitable then, there is a good chance you can be profitable in this economy,” Dutmer says. Get right-sized for the market. Diversification can help, but balance it against risk. For example, an electrical contractor may be able to venture into datacom or security system work with less risk than a general contractor deciding to self-perform structural steel construction. “It is not without risk. Tackle one area and get an edge in it because all subcontractors are also coming in with very low bids,” Dutmer adds.

• Watch your pricing. It’s tempting to low-ball bids just to keep busy, but that strategy can make banks and bonding companies even more nervous. “Can you offer more service to present customers, or your present services to more customers without getting outside your area of expertise?” Dutmer asks.

• Take care of your people. Keep your work force motivated. Identify your common purpose and communicate it. Inspire others, and position those who are inspirational in your organization to lead the parade, Dutmer says. “Even though you may find your company’s vision compelling, others won’t if they don’t see how they will benefit,” he says. But it’s not all about the money. “Great things result more often from igniting someone’s internal desire by appealing to their passion for the work or offering praise than by providing external rewards such as more money,” he says.

Dutmer recommends knowing the four Ps of your employees. That will provide keys to motivating them for top performance:

Past: Where are they from? What is their family situation? What have they accomplished?

Pain: What makes them anxious? What keeps them up at night? What adversity have they overcome?

Pleasure: What do they love about their life? Their jobs?

Potential: Identify their strengths and weaknesses and understand their career aspirations. What do they want to be when they grow up? “When managers understand what motivates individuals, they can set up an environment that encourages a ‘I can’t wait until Monday’ vs. a ‘I can’t wait until Friday’ culture. It is key to survival and future growth,” he says.

Look to technology

Perhaps now is the time to explore information technology. Building information modeling is getting more prevalent in structural steel, mechanical and electrical work. “It is mainly used for clash detection on projects, but it enables designers, engineers, builders and owners to be more collaborative in building design and construction,” Dutmer says.

“As the next generation matures in construction, technology will play a growing role. Younger workers aren’t afraid of this technology and the software is getting the point that different disciplines can exchange information much more efficiently.

Does it work? Anything that helps avoid problems, rework, change orders or make RFIs easier should help productivity,” Dutmer concludes.

Copyright 2010 Urbain Communications. All rights reserved.