In its annual “Construction Economics – Market Conditions in Construction” report, Gilbane Building Co. predicted a slow 2012 for building activity and for construction to lag the overall economic recovery. A 40-year veteran of the building industry, Gilbane Estimating Executive Ed Zarenski was the author of the report and spoke with PBN about some of the specific challenges facing the construction industry, as well as what he sees ahead.
PBN: A year ago at this time, would you have expected the 2011 market conditions report to be as foreboding as it is?
ZARENSKI: No. Several industry analyses had predicted recovery throughout 2011. One well-known industry forecast in January predicted 4 percent growth in 2011. But first quarter 2011 data finished 5 percent below projections prepared only four months earlier. By July 2011, industry projections for 2011 were indicating a 2 percent decline. Current predictions are forecasting between a 2 percent to 4 percent decline. Most recent months are trending slightly above average, so the outlook seems to be improving.
PBN: In the report, you warn that current conditions make it very difficult for contractors to estimate the cost of projects as they have in the past. Can you elaborate on why and what this means for the industry?
ZARENSKI: We emphasize that it is now difficult to use the historical costs of previously built projects as a baseline to predict cost of similar future projects. While it is a common practice for developing an early concept budget, this method now requires additional research to determine variance in market conditions compared to material and labor costs both at the time of the baseline and what is expected at the time of some future projection. These variances will have a significant impact on projections. Historical averages simply do not address these issues and will not for many years to come.
PBN: With these challenges in predicting costs in mind, what can builders do to protect themselves?
ZARENSKI: Estimating efforts to determine current costs based on complete design always has been and remains dependent on a thorough knowledge of current labor and material pricing and of current market activity. It is market activity upon which contractors base their margins. Once we see market activity begin to increase, we will see contractors’ margins increase along with it. For conceptual early budgeting, before design is complete, any use of historical information to predict future cost will now require learning how to address the margin variance issues mentioned earlier.
PBN: While the report is pretty clear that you expect the construction market to lag for much of 2012, beyond that do you see signs for optimism?
ZARENSKI: If the general economy continues a slow but persistent recovery, this may lead businesses to increase investment in capital spending. In recent months, we’ve seen a slow increase in construction spending. While some building costs are beginning to increase, overall building costs are still lower than they have been in several years. As a result, those businesses that have the capital or can secure the funding have the opportunity to get the most from their capital investment right now.
PBN: What market metric will you be watching most closely going forward?
ZARENSKI: Construction spending. Several other indicators lead spending, but spending is the current indicator of market activity. Spending is down 33 percent from its peak in 2006. We need to see consistent, even if only gradual, growth in spending across markets. Growth in spending will lead to growth in jobs and ultimately a return to normal margins. It will mean that as market activity picks up, costs will increase for owners but that is a normal function of market demand. It will also mean that contractors and subcontractors will have more bidding opportunities to secure an increased backlog and return to increasing the size of the workforce and regaining some traction back to normal profit growth.