Material prices, hurricanes to shape nonresidential sector

SPECIAL TO CONTRACTOR MECHANICAL contractors who work on the nonresidential side of the business will continue to see rising material prices in 2006. Job activity in industrial, institutional and other nonresidential sectors likely will increase this year as well. "Pricing of materials will be the biggest issue," said Tom LaGuardia, vice president/ marketing of Milwaukee Valve. "Where we used to be

SPECIAL TO CONTRACTOR

MECHANICAL contractors who work on the nonresidential side of the business will continue to see rising material prices in 2006. Job activity in industrial, institutional and other nonresidential sectors likely will increase this year as well.

"Pricing of materials will be the biggest issue," said Tom LaGuardia, vice president/ marketing of Milwaukee Valve. "Where we used to be able to protect prices for 60 days, now it's 45 or even 30 days."

While LaGuardia told CONTRACTOR that he did not believe that availability of metals would result in shortages this year, others sounded more concerned.

"The one big worry is cost and availability of materials," said Ken Simonson, chief economist of the Associated General Contractors of America. He added that costs for construction contractors will continue to increase at a faster rate than in other industries.

Overall, however, Simonson said he is optimistic about 2006. A healthy economy "will pay off for the nonresidential construction industry," he said, noting that the construction industry is adding jobs at triple the rate of the rest of the national economy.

" At the moment, private nonresidential construction in 2006 looks better than the 5% year-to-date growth in 2005," Simonson explained. "

Numerous announcements of new factories to be built suggest that expansion in that category will continue, though perhaps not at the 24% growth rate so far this year."

Tim Arenberg, president of Chicagobased Columbia Pipe & Supply, agreed that manufacturers would loosen their purse strings in 2006.

"A lot of manufacturers have cash in their pockets," he said. "They have to spend it on expansion and major refurbishing projects."

A sign of a strengthening industrial market could be the declining vacancy rate for factories and other facilities. The National Association of Realtors reported that the industrial sector is experiencing a decline in vacancy rates — forecast at 9.5% in the fourth quarter of 2005 and 8.4% by the end of 2006. In 2004, industrial vacancies stood at 10.9%. Areas with the lowest industrial vacancies are West Palm Beach, Fla.; Los Angeles; Riverside, Calif.; Long Island, N.Y.; and Las Vegas, all with vacancy rates of 6.1% or less.

Net absorption of industrial space in the 57 markets tracked by NAR should be 251.3 million sq. ft. in 2005 and 216.1 million sq. ft. in 2006, up strongly from 176.5 million sq. ft. absorbed in 2004 and a very modest 16.5 million sq. ft. in 2003. Industrial rents are likely to grow 2.1% for 2005 and 3.4% in 2006, following a decline of 0.6% in 2004, NAR reported. "Increases in trade are benefiting industrial properties such as warehouse and distribution facilities," said David Lereah, NAR's chief economist. Milwaukee Valve's LaGuardia, however, noted that the U.S. manufacturing base continues to dwindle and was uncertain about the strength of industrial construction this year. One notable exception is the Gulf Coast that has to rebuild in the aftermath of Hurricanes Katrina and Rita.

"Industrially, the sugar plants were pretty well wiped out," he said. "I'm not sure if the reconstruction will have an impact in 2006, but we'll put our product in with our distributors there so we will be pivotal in the rebuilding once it starts."

Activities such as debris removal, demolition, infrastructure strengthening, and land-use and financing decisions may render massive rebuilding unlikely in 2006 in the Gulf Coast, Simonson said. The hurricanes have had only a minimal impact so far on construction industry hiring, he added.

Over the past year, the industry has added 296,000 workers, an increase of more than 4% from the November 2004 total. That growth compares to a weak 1.5% rate of increase for the overall economy, Simonson said.

"A small piece of the gain, primarily in heavy and civil engineering, is attributable to reconstruction after the devastation caused by Hurricanes Katrina and Rita," he said. "But the industry added 32,000 jobs in August, almost as many as before Katrina hit. In fact, state employment data show that Louisiana and Mississippi lost 32,000 construction jobs between August and September and regained only 6,000 in October."

Simonson predicted that conditions remain favorable for strong job growth in several types of nonresidential construction this year. Educational facilities will be especially hot among public construction projects, he said.

"Rapid house price appreciation means that school districts and local governments that fund construction through property taxes will have more to spend, as will states with unexpectedly large income and sales tax receipts," he said. "On the private side, factory, hospital and some retail construction should be especially hot."

Institutional construction should be particularly strong in 2006, LaGuardia noted.

"We track intelligence with direct feedback from the field," he said. "We see lots of school and hospital work. Assisted living facilities continue to grow because that population continues to grow. We have to build them."

Columbia Pipe's Tim Arenberg added: "Assisted living will go on forever because of a thing called baby boomers."

The lodging category should do better in 2006, Simonson said. The NAR reported that the hospitality industry experienced temporarily inflated occupancy levels in late 2005 resulting from demand by hurricane evacuees. Hotels and motels in cities near affected regions saw the greatest demand, but Houston; Dallas; San Antonio, Texas; Memphis, Tenn.; and Atlanta also experienced higher occupancies as a result. Hospitality markets projected to have tightening room availability in 2006 include Los Angeles; New York; Phoenix; Portland, Ore.; and San Diego.

The office construction market has not resumed steady growth and it will be late in 2006 at best before office construction picks up in a big way, Simonson said. Meanwhile, NAR reported that 580,000 office jobs created over the last two years have driven sustained improvement in the office sector.

Office vacancy rates were projected by NAR to drop to 13% in the fourth quarter of 2005 and to 11% by the end of 2006, compared with 15.4% in 2004. NAR predicted office rents would rise 4% in 2005 and another 5.5% in 2006; they were almost flat in 2004 with a 0.4% gain.

Areas with the lowest office vacancies include Ventura and Orange counties in California; West Palm Beach and Fort Lauderdale, Fla.; and New York City, all with vacancy rates of 8.1% or less. Net absorption of office space in the 57 markets tracked by NAR, which includes the leasing of new space coming on the market as well as space in existing properties, is expected to be 84.4 million sq. ft. in 2005 and 78.3 million sq. ft. in 2006. This compares with 77.7 million sq. ft. absorbed in 2004 and 20 million sq. ft. in 2003.

Simonson said the retail sector will see selective growth again this year. NAR expected the retail vacancy rate to ease to 7.2% in the fourth quarter of 2005 and 6.9% by the end of this year, down from 7.5% in 2004. NAR noted that retail rents would grow 3.8% in 2005 and 3.6% in 2006, up from 3.3% in 2004.

Retail markets that are expected to have the lowest vacancies — forecast through 2007 — include Las Vegas, and San Francisco, San Jose, and Ventura County, Calif.

Net absorption of retail space in the 57 markets tracked by NAR is projected to be 56.2 million sq. ft. in 2005 and 31.6 million sq. ft. in 2006, compared with 27.1 million sq. ft. in 2004.

One formerly big category that has tumbled for two years is electric power plants. Construction is not likely to turn up this year, Simonson said, but it may bottom out by late 2006, with a turnaround beginning in 2007. Meanwhile, alternative energy facilities should have a modest boom.