LATEST NEWS:

•  Builders began work on fewer homes, offices and commercial projects in January this year and the rate is at its lowest in 10 years.
• Nonresidential construction spending plummeted 6.9% in January
• Nonresidential spending has fallen from a high in November 08 of $725 billion to a low of $525 billion an January 2011.
• The subsector with the largest losses year-over-year continue to be lodging (condo’s, apartments and hotels)

DEFLATION:

The United States is in the midst of a deflationary cycle for the first time since the Great Depression.

Construction costs are now at 2005/06 prices.

Material and labor prices have dipped significantly, however we feel the most significant component contributing factor to the massive downturn in construction costs (approx.. 30% in two years) – is the mark-up by suppliers and sub-contractors.

ESCALATION:

 The graph below clearly shows how escalation/de-escalation has processed since the 1990’s, the amazing fluctuations since the market crash in September 2008 and how we see escalation moving forward to 2015.

Unfortunately this gain only refers to November 2010. On a year-over-year basis the lead losers are California (36,900 jobs), followed by Utah and North Carolina. In all, 36 states have lost construction jobs in the last 12 months.

The MDM publication goes on to support our argument in the previous posts on this blog that the expiring stimulus subsides is going to contribute further construction unemployment in the months ahead.

“Association officials cautioned that construction employment figures were likely to fluctuate and possibly drop over the coming months as many stimulus-funded projects begin to wind down and private-sector demand remains weak. They added that newly passed legislation that prevented steep tax increases, including for many small construction firms, will help boost overall economic activity and could drive new demand for construction later next year.”

“The construction industry has lost 2.1 million jobs since employment in the sector peaked in August 2006. He added that the sector has continued to lose jobs during the past twelve months even as overall private employment has picked up. Since November 2009, the industry has lost 117,000 jobs while the private sector added 1,088,000 jobs. The industry’s 18.8 percent unemployment rate, not seasonally adjusted, also was the highest of any industry and roughly double the overall unemployment rate.”

It is my contention that presumed growth in the construction sector is going to those select few federal contractors that have been undertaking federal projects in the past, due to the extremely onerous requirements for outsiders to compete, and this perceived growth has to some extend made the industry look far better off than it is.

The association noted further that:

“The stimulus and other temporary federal programs would begin winding down in 2011, most likely before private, state or local demand for construction picks up. They urged Congress and the Administration to act on a series of long-delayed infrastructure bills for water, transportation and other infrastructure programs.”

If this is true, and I see no reason to doubt it, then things are going to get far worse before they start getting better.

Ted Benning states:

“……As an example of material price increases, we received a letter from one of our cement suppliers informing us to expect an $8-per-ton-increase in the cost of cement so that the supplier can comply with the National Emission Standard for Hazardous Air Pollutants (NESHAP). This is a huge increase in the cost of cement. “

Read more at The future cost of construction | Atlanta Business Chronicle

The extremely high cost of complying with onerous regulations is nothing more than an indirect tax that will impact the already struggling construction industry.

The article from REUTERS dated Wednesday November 17, 2010 states that “A leading indicator of U.S. construction activity fell below 50 in October as credit for building projects continues to be tight, suggesting a recovery in the non-residential sector will not begin until late next year at the earliest.”

Discussions I have had recently with professional construction management professionals and estimating professionals confirm our belief that the recession is at present in worst situation ever and no signs of recovery are evident. The fact that “so called” experts have stated that the recession was officially over in June 2009, is at best laughable and downright wrong with reference to the building industry.

Stimulus money continues to flow to those consultants and contractors (mostly union) that have been doing government work in the past as the hoops one has to jump through to qualify as a vendor are restrictive, onerous  and extremely time consuming with very little hope of moving forward.

The past quarter has shown no signs of a recovery in the construction industry. The only glimpse of a silver lining is from the slight increase in billings by architects. However projects in the planning stage will only translate into construction ready projects in nine to twelve months. Construction financing is still very difficult to obtain and consequently severely hindering recovery of the construction industry. Government stimulus funds have thus far prevented deeper declines rather than facilitating a recovery.

The U.S. Department of Commerce in September 2010 estimated an overall construction (private and public combined) put in place value of $801.75 billion. This represents a decline of 10.4% from September 2009. The $801.75 total construction put in place is made up of $482.01 billion private construction and $319.74 public construction. Private construction decreased 16.8% from September 2009 and public construction increased by only 1.3% from September 2009.

The relatively positive outlook for residential construction of two quarters ago is now 5.3% below September 2009 levels due to the expiration of federal tax credits for first-time homeowners.

Office construction for September 2010 is 24.5% down from September 2009. Commercial construction is down 21.3%. Manufacturing is down 35.5%. Lodging is down a massive 53.0% less than the September 2009.

According to the Bureau of Labor Statistics, the October 2010 construction industry unemployment rate was 17.3% which translates to 1,445 million unemployed and marginally worse that 17.2% in September 2010.

The ENR Construction Industry Confidence Index for the third quarter 2010 plunged 9 points after a second quarter 7 points improvement from the first quarter of 2010. Further, 63% of all respondents believe the market is still declining compared to 53% who saw a continuing drop in the last quarter.

For the first time since January 2008, The American Institute of Architects design overall billings index showed growth in architectural firms billings. Architectural firms in the Northeast showed the best improvement, followed by those in the Midwest while those in the West and South were static.

Further, firms specializing in commercial and industrial projects recorded increased billings in each of the past five months and strongest growth since the summer of 2007. However, increases in projects on the drawing table only translates into construction activity in nine to twelve months.

Construction Cost

Several material prices that rebounded in the first quarter of 2010 along with the housing market are falling again as the housing recovery falters. Softwood lumber fell 7.5% in the third quarter of 2010; gypsum products by 4.9%; structural steel by 4.1%; asphalt paving by 12.9%; and concrete block and brick by 1.1%.

With unemployment at historical lows, labor wages and fringe benefits increases are minimal and in many instances static or cut. Open-shop workers can expect a 1.84% increase this year. According to Construction Labor Research Council, union wage and benefit settlements for the first three quarters of 2010 yielded an average first-year increase of 1.3%.

From an overall construction cost viewpoint, greatly increased competition between suppliers, sub-contractors and contractors over the past two and a half years have resulted in each party reducing overhead and profit margins thus reducing bid prices. This has lead to moderate to strong construction price deflation. The industry has reached the point where costs have been squeezed all they can and costs can neither go up or down.

Because of the lack of new projects, competitive bidding remains the most cost efficient procurement method. However, the risks in terms of quality and increased change orders must be managed. In addition there will be risks of contractor/subcontractor insolvency.

Overall Construction Escalation Outlook

The slight improvement in the overall economy in the second quarter of 2010 remains stalled. The large reduction in overall construction activity continues to greatly increase competition between bidders. This has placed pricing pressure on projects but costs have now reached the stage where there is nothing more to squeeze.

In the short term, bid prices are likely to remain low due to the very weak demand and lower input costs. In the longer term, it is likely the construction market will have a slow recovery from the fourth quarter of 2011.

We predict a static fourth quarter of 2010 lasting till the fourth quarter 2011, a 1% – 1.5% escalation in 2012 and a return to a manageable 2% – 3% per annum thereafter.

In the article by Ted Sherman of The Star-Ledger it states, “New Jersey is temporarily shutting down all new work and suspending additional contract bids on an $8.7 billion railway tunnel to New York because federal officials say the project may go as much as a billion dollars over budget — money New Jersey doesn’t have.”

The article refers to the fact that all work has been suspended in the wake of concerns that the budget needs to be re-examined. This process unfortunately is extremely common in today’s market in the USA. It is my contention that far more time, effort and accountability needs to be induced into the budget process from very early on, creating a budget that ALL parties can buy into.

Quantity Surveyors are employed all over the world as consultants overseeing cost and time issues on the most complex construction projects. The training of Quantity Surveyors is unique in that the Quantity Surveyor an  independent financial consultant providing solid expertise in all areas of building construction. Their training and experience qualify them to advise on all financial costs and contractual arrangements. Quantity Surveyors provide accountable quantities and are specialized in providing ongoing implementation of financial discipline in the areas of budget setting, alternative design option costing, cash flow predictions, final cost forecasting, management of change orders including potential areas of dispute and timely final close-out settlement thus allowing for tight fiscal management procedures, which in the short and long term will always save the client time and money.

Cost transparency is vital in bridging the value gap between contractors and owners, adds confidence and certainty, and enables a continuous focus on performance and absorption of change, rather than opening the door at the end of the project to disputes over the perceived impact of change. This process is only possible, when all parties including the contractor and sub-contractor buy into accountable quantities for all facets of the project. These quantities should be provided by a suitably qualified Quantity Surveyor.

 In the United States presently the basis of scope analysis, a quantified measurement of the building, is not provided to the potential bidders, so it can be assumed that each bid will be based on different measurements, means and methods and degree of understanding. The contractor has a high risk of accidentally, or intentionally omitting or misinterpreting scope items; contingencies are added to the price and schedule. In a low bid environment, the bidder who submits the lowest price for the scope (or makes the biggest mistake) wins the contract and during construction and changes from the price, scope and design assumptions are pursued vigorously.

 A consistent measurement and quantification basis can provide an industry standard “symbolic” interpretation of the drawings and specifications that is understood by all, without loss of competition or negotiation leverage. The measurement rules used by Quantity Surveyors provide two key levels of consistency by:

• Establishing which items shall be measured, how each shall be described, what components are included and how each item shall be coded for consistency across all projects
• Dictating how each item shall be measured, what is to be included in the quantity and what is to be excluded.

It is my contention that many of the problems relating to budget and budget busts can be avoided by employing a Cost Manager or Quantity Surveyor throughout the project. This is the process followed throughout Europe, Australia and Africa. The Quantity Surveyors assist in creating realistic and accountable budgets and work with the entire team to ensure compliance to the budget throughout the project.

The principle is to design and build to a budget instead of trying to budget a project on a series of unknowns and thereafter being accountable.

After two years in the depths of one of the worst recessions in living memory, there are still very few signs of a recovery. The limited signs of some recovery over the past quarter are now in a pause mode. In the construction industry demand remains weak because of continued oversupply, developers are reluctant to commit to new projects and those prepared to take the risks are experiencing difficulty in obtaining financing.

The U.S. Department of Commerce in June, 2010 estimated an overall construction (private and public combined) “Seasonally Adjusted Annual Rate” of $836.01 billion which represents a decline of 7.9% from June 2009. Even more discouraging, the value of construction put in place for the first six months of 2010 is $389.60 billion and is 11.2% less than the same period a year ago.  

Last quarter’s relatively positive outlook for residential construction is looking less rosy with the expiration of federal tax credits for first-time homeowners. Through the first five months of this year the increase in residential construction was only 4.7% above the same period last year. Last quarter a 7% increase was forecasted for 2010 after a 25% drop in 2010.

Non-residential construction continues to languish in the doldrums. Office construction for the first six months of 2010 was down 31.9% from the same period last year; commercial construction down 31.4%; manufacturing down 31.1% and lodging a massive 58.5% less than the same period of 2009.    

In public funded construction, the dollar value of construction for the first six months of 2010 was $136.94 billion compared to $144.37 billion for the same period in 2009 which represents a 5.1% decrease. A breakout of these numbers shows a 21.6% increase in public residential construction but a 5.8% decrease in public non-residential construction. These figures indicate that stimulus funds only reduced the depth of the decrease in construction activity rather than creating an increase.

According to the Bureau of Labor Statistics, the June 2010 the construction industry unemployment rate was 20.1%. Overall, there has been little change over the past four months. 

On a somewhat more positive front, the American Institute of Architects’ Architecture Billings Index for April was flat for the first time since early 2008 when billing levels started dropping. Moreover new project inquiries are somewhat on the rise. However any increase in architectural workload will only translate into an increase in construction activity in 2011. 

A further small positive sign of improving conditions is the ENR Construction Industry Confidence Index for the second quarter of 2010, which rose 7 points from the first quarter of 2010. 

Construction Cost

The July 15 Producer Price Index Report of the U.S. Labor Department shows that after three months of construction material cost increases, it fell by 1.9 % in June 2010. Overall, prices are still up 0.8 % for the second quarter of the year and 4.2% higher than a year ago.

Concrete products fell 0.2% in June but were unchanged for the second quarter and 2% from the same time a year ago. Lumber prices, which had been rising monthly since October 2009, showed a 9% decrease last month but an overall 1.3% decrease for the quarter and a 21.9 % increase from June 2009.  Structural metal fabricated goods are slightly up for June, up 1.6% for the quarter and 1.3 % higher on a year on year basis.

Increases in construction labor rates are much lower than in the past. The Bureau of Labor Statistics’ latest release shows a 2.48% increase in average hourly rates between June 2009 and June 2010.

From an overall construction cost viewpoint, greatly increased competition between suppliers, sub-contractors and contractors over the past two years have resulted in each party reducing overhead and profit margins thus reducing bid prices and leading to moderate to strong construction price deflation. During the past quarter residential cost started to inch up from historical lows but that has been stalled with the expiration of federal tax credits for first-time home buyers. Costs for non-residential construction markets have bottomed out and there are no signs of upward movement because of the very low demand.

Because of the lack of new projects, competitive bidding remains the most cost efficient procurement method. However, the risks in terms of quality and increased change orders must be managed. In addition there will be risks of contractor/subcontractor insolvency.

Overall Construction Escalation Outlook

The slight improvement in the overall economy in the second quarter of 2010 has stalled, appearing to be on pause and the future is still uncertain. The large reduction in overall construction activity continues to greatly increase competition between bidders and put pricing pressure on projects. Costs have generally bottomed out and are 8% to 10% below their peak in 2008.

The somewhat more optimistic outlook from the construction design professionals is encouraging but projects on the drawing boards will only translate to construction activities in 2011. 

In the short term, bid prices are likely to remain low due to the very weak demand and lower input costs. In the longer term, it is likely the construction market will have a slow recovery only from the second half of 2011.

The most likely escalation scenario is an uneven slow recovery over the next three or four years.  We predict a slightly negative to static second half of 2010, a static 2011, a 1% – 1.5% escalation in 2012 and a return to a manageable 2% – 3% per annum thereafter.