An industry outlook for 2007

The 2007 AEC Industry Outlook: Strategy and Insight for Design & Construction Firms, published by ZweigWhite, provides economic outlooks for 2007, market-by-market 2006 reviews and 2007 forecasts, as well as identifies industry trends. A synopsis of the report is presented here.

Performance in 2006

Unlike in prior years when the three major components of the AEC industry—residential, nonresidential, and public construction—all showed broad-based growth, 2006 marked a transition year. The residential construction boom finally ended, but the industry was picked up by a strong performance on the nonresidential and public sides.
The value of residential construction put in place declined each month since March 2006 and was down 8.2 percent from the March peak. If this trend continues, it will likely result in an overall decline in residential construction by the end of 2006. In fact, the U.S. Department of Commerce projects a 7 percent decline in residential construction in 2006.

The ZweigWhite 2007 AEC Business Trends Survey, conducted in September and October 2006, asked respondents to assess their firm’s 2006 performance. Firm leaders reported that 2006 was another good year for their firms, although it wasn’t quite as good as 2005. More than half (54 percent) of respondents said that business in 2006 was "outstanding" or "excellent." That percentage is lower than the 64 percent of respondents who in the prior year’s survey said that business was "outstanding" or "excellent." However, the 2006 percentage still bettered those of 2003 and 2004.

Outlook for 2007

The AEC industry has performed very well in recent years, even if growth in the industry slowed in 2006. However, looking ahead to 2007, it’s a tale of two stories. Nonresidential construction growth should be strong, but residential construction should continue to decline. Since housing construction accounts for more than half of overall construction activity, the downturn in the residential real estate market may be substantial enough to keep the overall AEC industry relatively flat in 2007. In fact, there are even some forecasters projecting a decline in construction activity in 2007.

The 2007 AEC Business Trends Survey asked respondents what they expected their business to be in 2007. Eleven percent of respondents expect business to be "outstanding" in 2007, while 46 percent expect business to be "excellent." (The 57 percent of respondents who expect business in 2007 to be "outstanding" or "excellent" is on par with the 54 percent of respondents who classified their businesses in 2006 as "outstanding" or "excellent.) Only 7 percent of respondents expect business to be "satisfactory" or "poor."

While it’s important to remember that overall those expectations for 2007 are still very optimistic, firm leaders are not as bullish heading into 2007 as they were heading into 2006, perhaps reflecting some dampening of enthusiasm about industry prospects. Going into 2006, 73 percent of respondents expected that business would be "outstanding" or "excellent."

What do industry organizations think? McGraw-Hill Construction is forecasting the first decline in the value of new construction starts since 1991. McGraw-Hill Construction forecasts the total value of construction starts will decline 1 percent in 2007 to $668 billion. The major reason for the projected decline is the forecast of a 5 percent drop in construction of single-family homes. McGraw-Hill Construction forecasts that commercial construction starts will increase 2.5 percent in 2007. Among the fastest-growing segments projected in 2007 are hotels and manufacturing buildings, as well as schools and health-care facilities.

The Portland Cement Association (PCA) also projects a contraction in the construction activity in 2007. It expects that growth in the nonresidential and public construction sectors will not offset a "harsh decline" in the residential sector. The PCA expects that higher material costs and a slowdown in the economy will also be negative factors weighing on the industry. The association forecasts a 1.8 percent decline in construction activity in 2007.

Ken Simonson, chief economist for The Associated General Contractors of America, said in November 2006 that he expects nonresidential and public construction to remain strong. "I believe the economy is still fundamentally strong, and the housing slide will have limited impacts on other segments. A bigger concern is that fast-rising materials costs have forced cancellation or delay in many projects. Cost increases should moderate in the next few months, but materials costs will still outrun overall inflation."

Market review

Respondents to the 2007 AEC Business Trends Survey asked in an open-ended question to name the three markets that they anticipate will be the "hottest" in 2007. For the fourth year in a row, survey respondents ranked health care as the most promising market in the coming year. One out of every three respondents identified health care as one of the hottest markets in 2007. Higher education was the next most common response from participants, followed by water supply and wastewater, highways and bridges, and power (energy, utilities, et cetera). Below is a closer look at some of these hot markets, as well as others of interest to structural engineers.

Health care—The health care market is growing in both the public and private sectors. And the news should continue to be good for design and construction firms working in the health care market heading into 2007. The market drivers of aging facilities, an aging population, new medical technology, and the increase in available capital are still strong. The outlook in all areas of the health care sector
looks very bright.

The boom in hospital construction should continue in 2007 as older, cramped hospitals are replaced by newer hospitals that offer the most modern medical care with expanded amenities. The new single-room design guidelines should provide a further boost to the market.

The market opportunities are particularly good in California where hospitals are facing a January 1, 2008, deadline to make seismic improvements, resulting in billions of dollars worth of projects in the state. With the rush to meet the deadline, contractors are commanding a premium.

One potential pitfall for many AEC firms in the health care market is that there is so much activity that finding qualified staff is a significant problem. "Competition among health care design firms for experienced design talent is getting to be desperate," says Dennis King of Harley Ellis Devereaux Corporation. The difficulty in hiring new staff specializing in health care projects is another factor driving acquisitions of firms specializing in the market. The cost of building materials could also put a damper on the market by causing project owners to cut back or delay projects.

Higher education—Going into 2007, higher education should remain one of the hot markets for design and construction firms. Drivers of the higher education market remain strong. Enrollments continue to increase, and the competition for students and faculty remains fierce. Plus, it appears that higher education construction projects are beginning to branch outside campus boundaries.

Going into 2006, respondents to ZweigWhite’s AEC Business Trends Survey expected that higher education would be one of the fastest-growing markets, ranking it fourth out of 25 markets in terms of market outlook. Design and construction professionals are even more bullish on the prospects for the higher education market in 2007. Respondents to ZweigWhite’s 2007 AEC Business Trends Survey say that only health care will be a hotter market in the coming year.

Commercial real estate—The prospects of the commercial real estate market are closely tied to the economic and employment outlook of the United States. While not as strong as in 2005, the U.S. economy produced solid results in 2006, although there are some question marks about the economy going into 2007.

The Wall Street Journal reports that some major corporations, such as Wal-Mart, Amazon, and Intel, plan to cut back on capital spending in 2007. "There’s clearly a deceleration coming, but we’ll still see growth rates that are respectable next year," Richard DeKaser, chief economist at National City Corp., told the newspaper. Most economists believe that, even at a slower growth rate, capital spending will still be relatively strong in 2007 and outpace overall economic growth. DeKaser projects capital spending growth to slow from 8.7 percent in the fourth quarter of 2006 to 5.9 percent in the fourth quarter of 2007. There is a risk that businesses could overreact to the potential of an economic slowdown and curb spending too much.

Commercial markets have been in the forefront of the sustainable design trend, which should continue in 2007.

Residential real estate—Most industry analysts expect that the residential real estate market will continue to retreat in the first half of 2007. It’s possible that the market will bottom out during the middle of the year and begin to grow again in the second half of the year. Single-family and condominium construction will likely decline in 2007 compared to 2006, but apartment construction is showing signs of growth.

Transportation—The Safe, Accountable, Flexible, Efficient Transportation Equity Act - A Legacy For Users will continue to be the biggest driver of transportation projects in 2007—and for the remainder of the decade. The effect is expected to be widespread as every state will see increased funding from the bill. It will spur highway, bridge, and transit projects throughout the country.
Transportation measures fared well at the ballot box in November 2006 and should provide work for AEC firms in 2007 and beyond. Voters in 13 states approved 21 out of 30 state and local transit-related ballot initiatives, authorizing expenditures approximating $40 billion.

Conclusion

For a more in-depth look at the prospects for the New Year, including more robust market-by-market outlooks on these and other topics, order the 188-page 2007 AEC Industry Outlook at www.zweigwhite.com/store or call 508-651-1559.