Closer look: Nonresidential construction to hit a low in the third quarter of this year

Jeff Dietrich, senior analyst, Institute for Trend Research , Concord, N.H., will make a presentation on the economy at the Glazing Executives Forum at GlassBuild America: The Glass, Window & Door Expo, Sept. 14-16, Las Vegas. Sahely Mukerji, senior editor, Glass Magazine, spoke to Dietrich about his presentation and the current trends in the economy.

What will be the focus of your presentation at GlassBuild America: The Glass, Window & Door Expo?

For one, I want to dispel the lingering uncertainty about the U.S. economy. When I speak of the recovery that we are seeing, there is a lot of push-back and a fair amount of doubt about the prospects for 2010 and beyond. I understand where the angst is coming from: high national unemployment; rising national deficits and debt (above $12.2 trillion); tight lending conditions; the near certainty of higher taxes fees, tolls, etc., and fears that proposed legislation will increase the cost of doing business in America and thus diminish growth.

My focus will be on what we at ITR are seeing in the leading and coincident indicators. There is sustainable upside momentum in the overall economy that we expect will continue into 2012. The infusion of stimulus and monetary spending (M2 Money Supply) in late 2008 and 2009 will filter into the economy in 2010 and 2011. Compared to 2009, the U.S. Leading Indicator, Purchasing Managers Index, Corporate Bond Prices, the S&P 500 Index, New Orders, Retail Sales and Housing Starts are all giving us confidence that the recovery will not fall apart. Consumers are spending money again on everything from windows and cars to jewelry and food. Manufacturing is heading higher at a better-than-normal pace. In short, the key measures of economic recovery are transitioning into growth in 2010 and 2011. That is the good news in the general economy.

What is the future of nonresidential construction?

The laggard to the economic recovery underway is nonresidential construction. This is always the case as the projects take longer from start to completion. There is no sign of a trend reversal at this point, which means more decline ahead. Look for a low in the third quarter of this year for total nonresidential construction, about 12.3 percent below the same period one year earlier. The climb out of this recessionary trough for construction will be mild, as post-recessions go, and it will extend through 2011.

Permits for office and commercial construction are down more than 55 percent to 65 percent, which does not bode well for any acceleration out of the current quagmire. An overabundance of inventory, declining prices, looming defaults and bankruptcies will limit funding for new projects and keep this sector of the economy unsettled for at least another year.

If there is some a light, in a recent survey of banks by the Federal Reserve, financial institutions reported a “greater willingness” to lend now than a year ago. In fact, the “willingness” is nearly back to pre-recession levels. In truth, that is not what we are hearing on the street from business leaders, but it may indicate that a measure of easing is on the way. This would be consistent with greater stabilization in the financial markets and housing prices and increasing consumer spending.

Are there areas of the country or segments within construction doing better than others?

The sectors of the country with the best prospects for more “rapid” recovery is primarily the midsection of the U.S.: N. and S. Dakota, Montana, Oklahoma, Texas. There was less overbuild, more cautious borrowing and far less of a collapse in housing prices. In Tulsa, for example, housing prices never dipped below year-earlier levels and prices have been rising for the past six months – almost back to pre-recession levels. The economy is stable and diverse, surrounded by oil/gas, agriculture and manufacturing.

Sectors of nonresidential construction that will fare better are government installations: military, federal, state buildings and universities. Hospitals are being built or refurbished in anticipation of increasing traffic. Private and public universities have record enrollments, a trend that we expect will extend into 2012.

What should business leaders be doing at this phase of the business cycle?

We are coming off a deep recession, moving through Phase A (recovery) into Phase B (growth) of the business cycle (2010-2012). Business leaders need to move beyond the past and focus renewed energy on what is ahead. To take advantage of the current environment I tell leaders to:
Be entrepreneurial. Entrepreneurs work smartly and creatively. They also work hard and don’t let others tell them what they can’t do. They set goals and pursue them. Their organizations are generally fluid and adaptable. It is time to light the fire again.
Move quickly and decisively. Phase A is a time of change, opportunity and growth. Challenge your assumptions. Make lasting organizational/productivity/efficiency change. Even though the market is soft, find ways to use its sluggishness to your advantage.
Don’t be self-limiting. Look for opportunities and don’t say, “That’s not our market.” Instead, ask, “How can I get into that market?” Don’t state, “We don’t have the right person.” Instead, declare, “Let’s go out and get the right person.”
Know your break-even point. Be keenly aware of your break-even point down to the last penny. Review it regularly because it will impact your pricing, budgets, expectations and profits. Know the sales levels you need to be profitable given your current cost structures. Costs and prices have changed over the last year or two and may be a lot lower than at the start of this recession, so the margins will also differ from what they were.
Buy ahead. Generally, commodity prices are a lagging economic indicator. As business picks up and your future starts look brighter, enter into long-term raw material contracts before the prices escalate. Low real estate prices with very low interest rates combine to create opportunities to buy a fixed asset that will hold its value against rising inflation. Purchase capital equipment -- new or used -- that will improve efficiencies, contain costs and improve cash flow. Hire exceptional talents this year, who will help you reach your strategic goals for the next several years. Taking these actions today will take courage -- and cash -- but they build a more secure and lasting, profitable foundation for the future.
Make acquisitions. Use the prevailing pessimism to your advantage. In a downturn, the mood is gloomy. Business owners are tired and discouraged from trying to keep the business afloat — especially when their profits are down and they are short on cash. They may have a fundamentally healthy business or valuable product, but a fundamentally bad attitude or lack of cash. If you make them an offer, they just may accept, and you can make a fabulous deal that will gain market share, add product and allow greater consolidation of expenses.

Remember, these may not feel like the best of times but now is the time to position one’s business to grow and profit. Microsoft, Hewlitt Packard, CNN, Burger King and Hyatt were all started during recessions.

It is important to know that the recovery in place is more than a temporary fix. The conviction that what we are seeing is a real, sustainable recovery will govern our actions. Now is the time to shrug off the close-fisted, hang-on for dear life mentality of the recession and spend in anticipation of ongoing growth.