California “Constructor” / Volume 36 / Number 12 /December 2006Click on to any heading to view textThe President’s Message…A Year to RememberMcGraw-Hill Offers Construction Market UpdateIndustrial RelationsA Year of AccomplishmentsCall for Entries To Safety Awards CompetitionBeat Your Competitors: Be Tax FreeTragedy Inspires New Excavation Safety LawRegulatory AdvocacyAGC Warns Contractors Of Proposed CARB RegulationsGovernment RelationsVoters Show Their IndependenceFMI Sees Continued Economic Growth Nationally, But at Slowing RateCIRB Projects Slight Decline in California Construction in ‘07California and U.S. Construction in 2007: Almost Heaven Or …?
California “Constructor” / Volume 36 / Number 12 / December 2006The President’s Message…A Year to RememberWOW! What a year! At the beginning of this year we had a Governor who was droppingin the polls precipitously and looked to be out after only three years of service. Afterpleading “mea culpa”, changes began to take place. The return of funding underProposition 42 as well as the Governor and joint legislative efforts to put together aninfrastructure bond measure got AGC of California galvanized towards working to asuccessful conclusion. Who would have guessed from such a low opinion poll in thespring that by November, the Governor would come back and beat his Democraticchallenger by 18 points, and that the public would approve all infrastructure bondmeasures adding up to an amount of over $40 billion. Amazing… only in California!As I write this letter today, I am happy to announce that the AGC of California is nowpublishing under the auspices of McGraw-Hill Publications. This will expand our base incirculation, advertising revenue and feature stories. Many of you recall that it was one ofmy prime goals for this year to find a new publisher to increase the visibility of ourmagazine. I truly believe that that now has taken place. Additionally this year, we had thechance to set forward a five-year plan that will take our association into the future,through utilizing a more flexible management style, separating certain distinctiveoperations in the past into their own individual business units and utilizing our staffing ina more adaptable and changeable business environment. I am also happy to report that thefinancial condition of our organization has never been better. The properties that we ownare performing above expectations, our cash reserves are higher then they ever have been,and the staffing levels and retention of staff have all been at full capacity.Under our new incoming President, Steve Blois, we will be working to continue thatwhich has been set our in our strategic five-year plan. I look forward to a continuingworking relationship with Steve and the new incoming officers as well as asking for yoursupport as members through the upcoming year, realizing the greater potential that ourassociation can be.I am absolutely delighted and proud to have served this year as your President. We haveconcluded many positive steps in the legislative area, have set up a strong relationshipwith the Governor’s Office, and throughout the state, AGC of California is called upon toprovide assistance with many of the issues impacting our economy, infrastructure andbuilt environment. I look forward to AGC of California’s ever-expanding role in ourstate’s economy.It has been an honor and privilege.-- Mark Lindquist
California “Constructor” / Volume 36 / Number 12 / December 2006McGraw-Hill Offers Construction Market UpdateBy Robert CarlsenJoining Ken Simonson on the podium at the AGC Midyear Meeting inSeptember, Cliff Brewis, senior director of editorial operations for McGraw-Hill Construction, provided a year-to-date update on the national constructionscene.“Construction is up 3 percent so far this year, despite declines of 5 percent insingle family residential construction, which accounted for 48 percent of allconstruction last year,” said Brewis. “However, nonresidential construction wasup 13 percent.”The decline of single family residential construction follows a 14-year run ofincreases. “We see a decline this year and into early 2007, but constructionstarts will not fall off the cliff.”He added that mortgage rates have been declining and if rates stay low, arebound is certain after absorbing the single family residential inventory stillavailable.Meanwhile, McGraw-Hill sees the current boon in the multi-residentialmarketplace to slow slightly in the coming months, mostly because the marketis so saturated and so many projects are underway.Hotel construction is up 17 percent comparable to last year, Brewis said, addingthat Las Vegas has led construction in the past years, but now othermetropolitan areas are building.Healthcare construction is up 8 percent year-to-date, he said, and is “strongacross the country – more than 40 projects of $50 million or more areunderway."School construction is up about 10 percent and highway construction is up 6percent.
“The challenges, as always, are delivering the job to the jobsite,” Brewis said.“Labor and product drives the marketplace.”
California “Constructor” / Volume 36 / Number 12 / December 2006Industrial RelationsA Year of AccomplishmentsBy Mark Reynosa, Field Services Manager, Industrial Relations – NorthThe AGC of California’s Mission Statement references that AGC is committed toimproving the profitability of its members through excellent services. Labor Relations isone of the key services provided by AGC, and the Industrial Relations Departments inNorthern and Southern California are responsible for delivering this service. Thefollowing brief review of 2006 achievements in negotiations, grievance advocacy, andlabor publications exemplifies this commitment to excellent labor relations service.Negotiations: Between the Northern California and Southern California IndustrialRelations Departments, 13 stand alone Master Labor Agreements were negotiated andexecuted in 2006. Both divisions worked with their respective craft committees and craftnegotiation committees during informal discussions and/or formal negotiations with theunions. In Northern California, the IR Department successfully negotiated new four-yearMaster Labor Agreements with the Operating Engineers, Laborers, Laborers TrafficControl and Teamsters. In Southern California, the IR Department successfullynegotiated new Master Labor Agreements with the Carpenters, Cement Masons,Laborers, Laborers Parking & Highway, Directional Boring Group, Laborers Tunnel,Laborers Utility, Teamsters and Teamsters Utility. On behalf of the industry, the newterms and conditions of a majority of these agreements, including the new rate and futureincreases, were published with the Department of Industrial Relations (DIR) forprevailing wage determinations.Grievance Advocacy: Over 125 grievances were filed by the unions against AGCmembers this year in Northern and Southern California. The Industrial RelationsDepartments were responsible for the administration, management, and advocacy of eachgrievance. The objective with each grievance is to assist and advise members and toensure the integrity of the agreement. A majority of grievances were discharge related.However, there were grievances that had implications on the intent of the respectiveagreement such as grievances that alleged subcontracting, hiring (jurisdictional) andclassification violations. One of the benefits of AGC advocacy is the access tocraft/negotiation committees to review these grievances. Without this advocacy, anegative conclusion may have occurred for the member. Furthermore, the integrity of theagreement could have been jeopardized, which could have created a negative impact toother signatory members and the industry.Labor Publications: Southern California published and distributed over 35 LaborRelations Bulletins, while Northern California published and distributed over 40. Theseinformational and advisory labor relations bulletins were related to the industry and theMaster Labor Agreement such as meal periods, inclement weather, union wage and fringebenefit increases, and holidays. In addition to bulletins, the departments published and
distributed the 2006 Union Directories and 2006-2007 Wage Scale Books as well as heldthree seminars related to the industry and contract compliance.These are just a few of the 2006 accomplishments. 2007 will be another busy year. TheAGC’s Industrial Relations Departments are here to service our union contractormembership with labor relation support throughout California. As the only statewideassociation, continuity of service in Northern and Southern California with AGC is whatyou can count on. Please contact the AGC Industrial Relations Department South orNorth when questions or issues arise.For more information about AGC Industrial Relations services, please visit our website athttp://www.agc-ca.org/services/industrial/ or contact the IR Department South at (626)608-5800 or North at (925) 827-2422.
California “Constructor” / Volume 36 / Number 12 / December 2006Call for Entries To Safety Awards CompetitionAGC of California’s Safety & Health Council has issued a call for entries to AGC’sTwentieth Annual Safety Awards of Excellence competition. As the most prestigioussafety recognition in the California construction industry, the awards showcase AGCmember companies' safety achievements and recognize those who have worked so hardthroughout the year to keep their employees safe.The competition is open to all members and covers work done in calendar year 2006. Theawards event will be held on April 25, 2007 at the Sutter Club in Sacramento. Deadlinefor entry is Friday, March 2, 2007. Awards will be presented to contractor members inthree worker hour categories – worker hours under 200,000, 200,000 to 500,000, andover 500,000 worker hours – as well as to specialty contractors for any number of workerhours.Special awards will also be presented in these additional categories: Harry EcksteinSafety Professional of the Year Award; Safety Award of Excellence – High Hazard Job;Superintendent Safety Award; Associate Member Contribution to Safety Excellence; andUnique Safety Application for the Industry.The previous Harry Eckstein Scholarship Award has been redesigned and will be aprofessional development grant of up to $1,000 for professional development in safetyfor employees of AGC member firms. The purpose of this grant is to provide financialsupport to AGC members for their participation in construction safety and healthcertification study courses, professional development seminars and educationalconferences to improve their professional credentials and enhance their knowledge base.This year the Arch Insurance Group is a generous sponsor of the event, and Stacy andWitbeck, Inc. sponsors the Harry Eckstein Awards for the third year. Judging will beconducted by a panel of safety professionals and construction managers, which mayinclude the Chair and Vice Chair of the AGC Safety & Health Council; representativesfrom first place winners of the prior year’s Safety Awards competition; a SafetyProfessional of the Year; and a Safety Council member-at-large.Safety Award applications will be available on line beginning January 2nd at www.agcca.orgor by calling AGC Safety, Health and Regulatory Services Director Bo Bradley at(916) 371-2422.Winners of the AGC of California Safety Awards of Excellence are also invited to applyfor the AGC of America Safety Awards of Excellence program.
California “Constructor” / Volume 36 / Number 12 / December 2006Beat Your Competitors: Be Tax FreeBy Ellwod Jones, President, Capital Region Financial Group, LLCThe great game of business is in your blood. You’ve surmounted numerous obstaclesthrough skill, hard work, determination, and maybe even a bit of luck. Time to rest onyour laurels, perhaps even retire, right? Hardly. As your business grows, so does thenumber of sleepless nights. If there’s one thing you’ve learned, it’s that continued successdoesn’t happen on its own; you continually address many of the same challenges youfaced when you first started out: issues related to competitors, cash flow, taxes,motivating and retaining key employees. But now the stakes are higher and new issuesarise, ones related to growth – should you take the business to the next level, or play itsafe and keep it where it is?Business Trifecta: Growth, Exit And TaxesThere doesn’t appear to be a harmonious relationship in balancing the business trifecta ofgrowth, exit and taxes. Solving one issue simply creates a new one. If there is too muchcash, taxes go up. To lower taxes, many purchase equipment (whether it is needed ornot). The financing and depreciation of such equipment is spread out over a couple ofyears. The year the equipment was purchased may have been a good year, but the successof the next several is unknown. You give a key employee a bonus after a successful year;but you can’t help but wonder if you’ve just created your next competitor.Growth is also an issue that seems to morph into other issues. How many times has yourCPA said, “Great year” and yet there is less cash in the bank and monies have to bedrawn from a credit line to pay taxes? Why is it that more businesses go under while inthe growth mode?Eliminate TaxesMany progressive companies are dealing with the issues of growth and cash flow byeliminating one of the company’s largest expenses: corporate taxes. By eliminating taxes,you also eradicate the numerous games that are played to help lower taxes, includingdriving expenses into one year and income into the next, buying extra equipment, andstretching business deductions with some personal items and more.There is one tool that comes close to harmoniously solving the issues of growth, exit andtaxes: the S-Corporation ESOP or S-ESOP for short. The basic structure of the S-ESOPconsists of a trust wherein the single shareholder of that trust is the ESOP. The S-ESOP,by law, is a tax-free entity. This means that if the S-Corporation, which is a pass throughentity, is taxed at the shareholder level, then the business is now free of federal (andalmost all California state) taxes. For those with a ‘C’ Corporation and other entitystructure, the business can be converted to an ‘S,’ but only after proper tax and legalplanning.1
Design is the KeyA properly designed S-ESOP can be a significant tool to help you take your business tothe next level. Additionally, it will help diversify and create liquidity from that largestasset – your business.One simple design is to have the ESOP purchase the shares of your business at marketvalue. This amounts to an installment sale using a long-term promissory note. The moneyfor the long-term note comes from some of the tax savings. The business is nowcollecting principal and interest on what was before an illiquid asset.All employees, and especially key employees, now have adequate incentive to grow thebusiness. Their beneficial interest in the ESOP is calculated based on their salaries as apercentage of overall payroll. The higher their salary the more beneficial interest they getin the ESOP. The better the business does, the higher the ESOP value becomes. Theseemployees can potentially make more off the ESOP than their 401(k). In fact, manyemployees have been known to retire as millionaires simply by having an ESOP in place.Incentives and CashIf you wish to reward and recognize your key employees, – those employees whose selfdisciplineand leadership have helped grow the business – you should consider having anadditional incentive plan. The business can have a deferred compensation plan with adifferent vesting schedule than the ESOP. These plans need to be completed before theESOP valuation.As an S-Corp with a tax free shareholder, it is in your best interest to grow the business.Growth can come from acquiring new customers by lowering prices, after all the businessis now exempt from paying corporate taxes. It can also come from acquiring a competitorwith tax free money. Growth can also come from buying, selling and developing realestate.With an S-ESOP, cash flow can now be managed within the business without having tohide it; more over, the more cash within the business, the greater the potential for largercredit lines to help with expansion. Equipment can now be purchased only when it istruly needed because the end of the year scramble to lower income no longer needs to beplayed.Is S-ESOP Right For You?The S-ESOP should only be considered by business owners who have a profitablebusiness, have more than 10 employees, have a desire to grow, and keenly understand thedifferences between ownership and control. This article provides a very broadexplanation to help you understand the potential of a government sanctioned businesstool which very few financial advisors and business owners are aware of.When properly designed, the S-Corp ESOP can help lower taxes, increase cash flow,motivate employees and best of all and fund your exit while creating a competitiveadvantage using monies previously used to pay taxes.2
California “Constructor” / Volume 36 / Number 12 / December 2006Tragedy Inspires New Excavation Safety LawBy Russell SnyderIf you work in construction, it’s your worst nightmare: A backhoe strikes an undergroundpipe that’s not supposed to be there. It’s filled with fuel, which touches off an explosionthat engulfs several workers. Five perish.The nightmare came true on November 9, 2004, in Walnut Creek, one of the worstconstruction site accidents in recent memory.On the two-year anniversary of the tragedy, AGC was on hand as family members,government, industry and union representatives returned to Walnut Creek to mark thesolemn occasion and vow to improve excavation safety in California.And help is on the way.At the urging of AGC, Gov. Arnold Schwarzenegger recently signed a bill into lawdesigned to improve safety when excavation is performed near hazardous undergroundpipelines. The bill, SB 1359 by Sen. Tom Torlakson, D-Antioch, was introduced inresponse to the Walnut Creek disaster.Existing law requires construction crews to be aware of underground facilities prior toexcavation, and to work safely once digging begins. An elaborate telephone hot-linesystem is in place for construction workers to notify pipeline owners of plannedexcavation, and, when conflicts are identified, for pipeline owners to identify where it issafe to dig. Under current practice, construction work may proceed after a specifiedwaiting period if no pipeline owners come forward.The bill requires the owner of a high-priority underground line to notify the excavator ofthe installation when work is within 10 feet and, if necessary, to hold an on-site meetingto verify the location.An investigation into the 2004 Walnut Creek disaster found that there was confusion overwhere the jet fuel line was located, contributing to the accident.“Protecting and enhancing our vital infrastructure is essential to our quality of life, butthis work must be done safely,” said AGC of California Chief Executive Officer TomHolsman. “This bill represents important progress in keeping our workers and ourcommunities safe.”AGC endorsed SB 1359 and was instrumental in forming the Common Ground Alliance,a group of construction industry and utility representatives that meet regularly with thegoal of improving excavation safety. The bill was approved by the Legislature earlier thisyear and was signed into law by the governor on Sept. 29. It had broad support from bothindustry and labor.
Torlakson, who represents an area that includes Walnut Creek, said SB 1359 is “a safetybill that resulted from a tragedy in my district.”“In late 2004, a backhoe punctured an underground, high-pressure gasoline pipeline inWalnut Creek,” he said. “The vapors ignited, creating a blast that killed five workers.Investigations showed that a few changes could have prevented the accident.”“Despite the lingering pain and loss of November 9, 2004,” Torlakson noted, “the pasttwo years have seen a tremendous collaboration among people concerned about safety.”The bill provides a definition of a “high-priority, subsurface installation” and requiresthat such pipes may only be located by a worker who is qualified to do so. It requires thepipeline owner to provide specific information as to the location of certain undergroundpipes, and in some instances requires an on-site meeting to verify the location.The bill also requires pipe owners to maintain plans detailing where the pipes are buried,and requires excavators to immediately notify the owner or to call emergency servicepersonnel whenever high-priority lines are found to be damaged. In addition, the billprovides clarifying language regarding the practice whereby workers use hand tools orvacuum excavation devices to dig exploratory holes to verify the location of anunderground pipe.Those killed in the blast were Javier Ramos, 36, Victor Rodriguez, 26, Miguel Reyes, 43,“Gene” Im, 47 and Israel Hernandez, 36. At a memorial service for the victims held atLos Lomas High School, Torlakson noted that their legacy is SB 1359 and greaterawareness of the importance of excavation safety.
California “Constructor” / Volume 36 / Number 12 / December 2006Regulatory AdvocacyAGC Warns Contractors Of Proposed CARB RegulationsThe California Air Resources Board (CARB) is working on a new rule that could rendermillions of dollars of in-use construction equipment worthless unless it is fitted withemission controls or the engine is repowered. California is the only state that has legalauthority from U.S. Congress to enact non-road engine exhaust standards that far surpassthe emissions rules set by the federal government. All other states can opt-in toCalifornia’s more aggressive rules – but states must adopt California’s programidentically and in its entirety.During the AGC of America Midyear session in September, industry experts KennethKatch, Caterpillar, Gary Rohman, ECCO Equipment Corp., George Malouf, EmissionsTechnology, and Dave Sbaffi, Granite Construction, explored California’s pioneeringrole in drafting engine exhaust standards that are more stringent than federal rules. Thepanelists also presented bottom-line facts about the supply and cost of retrofit devicesthat regulators want contractors to use, if they want to stay in business.Key Proposed RegulationsCARB’s key proposals would require contractors to:• Comply with increasingly stringent particulate matter (PM) emission reductiontargets;• Meet CARB’s fleet average emission target by 2013 or scraping 10% of thecompany’s fleet horsepower per year or replace it with Best Available ControlTechnology (BACT) until the fleet meets CARB’s target;• Affix a label with an identification number on each piece of construction equipment;• Report annually on every offroad diesel engine.The session brought to light many of the harmful impacts and concerns surroundingCARB’s proposal, including the potential for devalued company assets, mandated fleetturnover, increased equipment maintenance and cost, increased recordkeeping burdens,lack of “verified” emissions control technologies, inequitable enforcement and possiblesafety issues.During AGC of California’s Board meetings in October, Gary Rohman providedcontractors with an update on the Air Resources Board proposals, the Portable EquipmentRegistration Program and more. He provided a visual demonstration of CARB’s goals toeliminate Tier 0 and 1 engines and reduce particulate matter for Tier 2 and 3 engines.
ARB has posted the changed rules at:http://www.arb.ca.gov/msprog/ordiesel/ordiesel.htm. For any questions, please contactJohn Hakel at 626-608-5800 or email@example.com.
California “Constructor” / Volume 36 / Number 12 / December 2006Government RelationsVoters Show Their IndependenceAfter being bombarded with thousands of political TV ads, radio ads, direct mail pieces, phonecalls, door knob hangers and yard signs – the California voter again demonstrated the ability tosift through the issues and vote issue-by-issue and candidate-by-candidate.The Governor’s Race – A Big Win For ArnoldContrary to national trends, Arnold Schwarzenegger confused the political pundits who try toclassify California as a lean-to-the-left “blue” state. Schwarzenegger bucked a national trend andbeat his democratic opponent by a whopping 17 percentage points, but at the same time he didn’tcreate a “coat-tail effect” that would sweep other Republicans into office. Way back at the end oflast year, Schwarzenegger was 4 points down in a hypothetical match-up with his eventualopponent Phil Angelides, and the Governor’s rebound was the result of a well executed andfunded campaign plan that pitched bipartisan cooperation and accomplishments. The Governorwas able to run on his record of legislative accomplishments while denying his opponent theability to define himself. The Governor effectively defined Angelides as a “Tax and SpendDemocrat” – someone voters were uncomfortable with.In the other statewide races Republicans will now hold the Office of Insurance Commissionerwith Steve Poizner defeating Lt. Governor Cruz Bustamante. Republican Secretary of StateBruce McPherson was narrowly defeated by State Senator Debra Bowen from Los Angeles andcurrent Insurance Commissioner John Garamendi was a narrow winner over State Senator TomMcClintock. Current Democrat Attorney General Bill Lockyer was an easy winner for StateTreasurer and former Governor and Oakland Mayor Jerry Brown coasted to victory asCalifornia’s new Attorney General. In a hard fought battle for State Controller, Democrat JohnChiang easily defeated Republican challenger Tony Strickland.The Ballot MeasuresThe Governor again demonstrated that he can generate a “coat-tail” effect with California voterswhen it comes to issues. Thanks to the Governor’s focus on the infrastructure bond packageduring the last three weeks of the campaign, Propositions 1A through 1E were able to benefitfrom the constant bipartisan campaigning with Senate Democrat Leader Don Perata. Next to theGovernor’s re-election, the infrastructure bond package is the biggest “thing” to impact theconstruction industry in history. Over the next ten years, Proposition 1A guarantees that $14billion in gasoline sales tax revenues must be spent on transportation programs whilePropositions 1B through 1E will generate nearly $37 billion in public works construction dollarsranging from schools, highways, flood control and housing. All of these Propositions passed bycomfortable margins ranging from 76.6% for Proposition 1A to 56% for the school bond. AGCand its’ members were able to contribute over $3 million to the successful infrastructurecampaign.Voters also agreed with the recommendations adopted by AGC in approving Proposition 84, theClean Water measure and rejecting Proposition 87, the oil tax; Proposition 88, the property
parcel tax; Proposition 89, proposing a tax increase on business to finance political campaigns;and Proposition 90, which would have negatively impacted public works projects.The LegislatureWith the exception of one Senate seat, there were no surprises in any of the state legislativeraces. Due to a reapportionment deal made years ago, most legislative districts are either safeDemocrat or Republican based on party registration figures. The real legislative contests tookplace four months ago during the primary elections and for the most part, the Novemberelections are a formality.Due to term limits, 38 of the 80 members of the Assembly will be new to the Legislature, thelargest single turnover in the history of the Legislature. In the Senate, 13 new members will besworn into office for 2007, though 12 of the 13 previously served in the Assembly and are notnew to the legislative process.In the State Senate, the most heavily contested race pitted Republican Assembly Member LynnDaucher against Orange County Supervisor and former Democrat Assemblyman Lou Correa forthe Senate seat being vacated by Senator Joe Dunn. When the votes were counted election night,Daucher enjoyed a 13 vote lead with over 20,000 absentee and provisional ballots that wereturned in on election day still to be counted. In the end, following two weeks of counting the lateballots, Lynn Daucher finally conceded the election to Lou Correa with a margin of just under600 votes. The candidates and state political parties raised and spent nearly $7 million for thisrace. In another closely watched race incumbent Republican Senator Jeff Denham from Salinaseasily defeated his democrat opponent in a senate seat that is always looked at as competitive duethe close registration figures between the Democrats and Republicans.In the State Assembly several legislative races did turn competitive however with AssemblyMember Bonnie Garcia narrowly beating former Assemblyman Steve Clute in the 80 th Districtand Shirley Horton winning for a third time in the 78th District in San Diego. Democrat NicoleParra from Bakersfield also beat back a challenge from the republicans for election to her thirdterm in the Assembly and democrat Cathleen Galgiani was elected in a hotly contested centralvalley district to replace outgoing moderate democrat Barbara Matthews.In the end, no legislative seat changed hands between the Republicans and Democrats – the sameresult that happened in the 2004 elections. In 2007 there will be 48 Democrats and 32Republicans in the Assembly and 25 Democrats and 15 Republicans in the Senate.Money Talks – Money WalksIf anything, this election was about money.The construction industry, including organized labor, raised over $11 million to support theinfrastructure campaign. The business community, including the development and home builderscontributed another $5 to $6 million to boost the campaign spending on just the bond measuresto over $16 million.Several other Propositions attracted massive spending as well. Proposition 87, promoting a taxon oil refining to finance alternative energy saw the oil industry spend over $80 million opposingthe measure while proponents, led by Hollywood Producer Steven Bing, contributed nearly $50million. Proposition 86, increasing taxes on tobacco products to finance hospitals, saw thetobacco companies pour over $80 million in against this measure while the proponents spentnearly $40 million in pushing the tax initiative.
Overall, business faired well in this election, and voters rejected clear power grabs by those whotry to demonize the business community as “special interests.” In the final analysis, Californiavoters should be given credit for picking and choosing between candidates and issues not basedon any trend, but based on the merits of the issues or the candidates.Prepared by Dave Ackerman, Jamie Khan and Paul Gladfelty
California “Constructor” / Volume 36 / Number 12 / December 2006FMI Sees Continued Economic GrowthNationally, But at Slowing RateBy Heather Jones, FMI CorporationThe economy, while still relatively healthy, shows signs of slowing. Concerns overinflation, housing, and consumer spending are valid but have so far been partially offsetby a healthy jobs situation, increased manufacturing activity, and lower oil prices, andconsumers have continued to help prop up the economy. The economy is still expanding,albeit at a slower rate, but it is not shrinking.Real GDP growth in the second quarter was 1.6%, according to advance estimatesreleased by the Bureau of Economic Analysis. While many Americans would like to seea stronger rate, 2006 is expected to expand 3.4%, just below its long-term average of3.5%. This growth follows an increase of 2.6% in the first quarter.The unemployment rate declined to 4.4%, which is near historic lows. In October 2005,the unemployment rate was 4.9%. Employment increased by 92,000 in October to 135.8million. This followed job gains of 148,000 in September and 230,000 in August (asrevised). Construction lost 26,000 jobs in October as employment declines in residentialspecialty trade contractors (-31,000) more than offset gains in nonresidential specialtytrades. Since its most recent peak in February, employment in residential specialty tradeshas declined by 99,000.The Consumer Confidence Index continues to be erratic; it increased in September, butedged down in October. The Index now stands at 105.4 (1985=100), down from 105.9 inSeptember. According to Lynn Franco, Director of The Conference Board ConsumerResearch Center, “October's dip in confidence was prompted by consumers' mixedassessment of present-day business conditions and a less favorable view of the jobmarket. Consumers' short-term expectations posted a slight improvement, but the outlookfor the labor market remains mixed. Overall, this month's readings continue to suggest amoderate pace of economic growth and more of the same for the first few months of2007." The Consumer Confidence Index is viewed as a leading indicator for consumerspending, which drives two-thirds of the U.S. economy.Inflation remains a hot topic as we continue into the fourth quarter of 2006. The FederalOpen Market Committee (FOMC or the Fed) held short-term interest rates steady for itsthird consecutive meeting in October, where it still stands at 5.25%. In its statement, theFed said growth has slowed in part because of a "cooling" housing market. "Goingforward, the economy seems likely to expand at a moderate pace. Core inflation, which
excludes food and energy, remains "elevated" but inflation pressures are likely tomoderate thanks to lower energy prices, "contained" inflation expectations, and theimpact of previous rate increases,” according to the Fed. CPI is the most widely usedmeasure of inflation and has remained low by historical standards. However, core CPI(CPI minus volatile food and energy) has risen 2.9% over the past 12 months. This isover the 2% that is the Fed’s target range. Conversely, inflation is a lagging indicator ofthe economy. The slowing economy may already be bringing inflation back down.Construction products and materials have generally seen a slowing in the rate of priceincreases. While the increases will not be as steep, the prices are settling at a new level.Cement availability continues to be an issue and will likely be a concern in 2007 as well.Lumber has tempered its price increases as the tariff on Canadian lumber was reduced,which increased supply. Lumber prices have gone down in the near term and shouldstabilize through 2007. Limited shipping capacity and increased transportation costs havealso contributed to rising material prices. Increased material prices tend to translate intoincreases in the volume of residential and nonresidential put in place construction.The housing slow down has been another hot topic. While there will be no bust as manyeconomists have predicted, it does look like we will be in for a correction. Housing startsfinally began to fall in 2006 and are expected to fall a little further in 2007 before pickingback up in 2008. However, FMI believes that put in place construction will only realize aslight decrease in 2006 (-3% for single family construction) due to rising labor andmaterial costs, upgrades and the use of higher end materials, and increasing squarefootage. Multi family construction is predicted to have a slight increase. The market wasoverbuilt in the mid-90s and some would even say over the past few years. Downtownrevitalizations are driving both condominium and apartment buildings. Continuedimmigration is also driving the apartment sub-segment. As mortgage rates rise, apartmentoccupancy rates rise, driving new construction.Nonresidential construction recovered in 2004 and will outpace residential constructionfor the first time since 2000. The strength in manufacturing construction growth has beena continual surprise, but the growth is coming off an almost record low from 2003. Thestrongest volume segments in 2006 will be residential, educational, commercial, office,and health care. The strongest percentage gainers will be manufacturing, lodging, sewageand waste disposal, amusement and recreation, and health care. The weakest segment, butstill with positive growth, will be religious facilities construction.The economy is continuing at a fairly healthy pace but the price of oil, inflation, and asevere housing bust are potential threats to this growth. Inflation is a valid concern but isnot rampant, and the housing bust looks more like a correction. Consumers have provenresilient and should continue to help drive construction demand.Heather Jones is the Chief Construction Economist of FMI Corporation. FMI is aleading provider of management consulting and investment banking services of theworldwide construction industry.
California “Constructor” / Volume 36 / Number 12 / December 2006CIRB Projects Slight Decline in California Construction in ‘07By Ben Bartolotto, Research Director, Construction Industry Research BoardApproaching the middle of the fourth quarter 2006 economic signals are mixed, and it isprobably a safe bet that the economy has entered a slower-growth period. But a recessionis not in the cards in spite of the weakened housing sector’s drag on the economy.Expectations influencing the California construction outlook include continued economicgrowth, though at a modest rate, a soft landing for the housing sector in 2007, and moremoderate rates of inflation in construction costs. There is also the positive reality thatmajor bond measures on the November 7, 2006, election ballot have passed and willincrease infrastructure funding over the next decade or so.Please note that at this writing, the November 7 election had not occurred and results,therefore, were not known and were not reflected in the forecast numbers presented here.Absent any stimulus from the November 7, 2006 election, California construction activityas a whole is expected to decline in 2007 but not by as much as in 2006. Adjusted forinflation and stated in constant 2006 dollars, total California construction volume, privateand public, is estimated at $85.75 billion in 2006, down 5.1% or $4.58 billion from2005’s $90.33 billion. The 2006 decline results from a $10.3 billion drop in single-familyresidential building, which offset gains in multi-family residential building, privatenonresidential building and most public works sectors. The total volume of constructionin California is forecast to decline by another 1.5% in 2007 to $84.49 billion, withincreases in multi-family housing, private nonresidential building, and schoolconstruction.Private building construction, combining residential and nonresidential building, totals anestimated $61.23 billion in 2006, down 12.2% from 2005's $69.72 billion. The entiredecline is in the residential-building sector. Private nonresidential building posted a 6.9%gain, not enough to offset a 19.6% loss in residential building. In 2007, total privatebuilding construction is forecast to increase a fractional 0.2% to $61.33 billion. Gains arein private nonresidential building and multi-family housing.Public works construction, heavy (nonbuilding) and public buildings, totals an estimated$24.52 billion in 2006, accounting for 28.6% of all construction in the state. Total publicworks construction is up 19.0% with double-digit gains in both public buildings andheavy construction sectors. The public works sector is forecast at $23.16 billion in 2007,down 5.5% from 2006.Residential BuildingAt $40.43 billion in 2006, residential building, including new buildings and alterationsand additions, is down 19.6% ($9.83 billion) from 2005 and is forecast at $39.62 billionin 2007, down 2.0% from 2006.
New housing units total an estimated 175,000 in 2006, down 16.3% (34,000 units) from2005. The entire decline is in single-family housing, which is down 26.0% from 155,322units in 2005 to 115,000 in 2006. Multi-family housing totals 60,000 new units in 2006,up 11.8% from 2005’s 53,650 but down from 2004’s 61,543. All regions of the state haddeclines in housing production in 2006.California housing production is projected at 171,800 units in 2007, down 1.8% from2006. Single-family units are forecast at 110,600 in 2007, down 3.8% from 2006. Multifamilyunits are forecast at 61,200 in 2007, up 2.0% from 2006.Private Nonresidential BuildingPrivate nonresidential building totals an estimated $20.80 billion in 2006, up 6.9% from2005, adjusted for inflation and stated in 2006 construction dollars. That increase followsan 8.8% increase in 2005 and a 5.9% increase in 2004. Those gains were preceded bythree years of decline. Private nonresidential building peaked at $24.17 billion in 2000,mostly from boom levels in the San Francisco Bay region. By 2003 private nonresidentialbuilding fell to $16.88 billion, down $7.29 billion (30.2%) from the year-2000 high. Withthe increase in 2006, the private nonresidential building sector has regained more thanhalf of the loss from 2000 to 2003.In 2006, the seven-county Southern California region accounts for the bulk of thestatewide increase over 2005. Adjusted for inflation the region shows a $1.08 billion(10.6%) gain in private nonresidential building, accounting for 80.6% of the statewideincrease. Among major building categories the largest gains in 2006 are in new officebuildings, up $466.2 million (23.3%), new hotels and motels, up $409.5 million(100.2%), and commercial parking garages, up $476.7 million (102.7%).Private nonresidential building is forecast at $21.71 billion in 2007, up 4.4% from 2006.That is still down 10.2% from the year-2000 peak of $24.17 billion, but 28.6% above the2003 low.Public BuildingsThe public building sector (government-owned buildings) totals an estimated $11.82billion in 2006, up 17.4% from 2005. Schools and community colleges, the largestpublic-buildings category, totals an estimated $5.75 billion in 2006, up 6.5% from 2005.The balance of public building construction totals $6.07 billion in 2006, up 30.0% from2005. The bulk of that increase is due to an 89.4% gain in state college and universityconstruction and a 34.5% increase in city-owned-buildings construction.Public building construction as a whole is forecast to decline by 1.1% in 2006 to $11.69billion with a 2.4% gain in the school-building category but a 4.4% decline in the balanceof public buildings. Public buildings construction as well as heavy constructioncategories stand to gain from the passage of measures on the November 7, 2006, electionballot.Heavy (Nonbuilding) ConstructionThe year-2006 heavy (nonbuilding) construction total is estimated at $12.70 billion, up20.5% from 2005, adjusted for inflation. The largest component of the heavy construction
sector is roads and bridges, which totals an estimated $5.80 billion in 2006, up 79.0%from 2005. More than half that increase is from fully counting a $1.43 billion bridgecontract in 2006 in San Francisco. Also, inflation adjustments may understate the truelevel of inflation and, thereby, overstate the 2006 percentage gain, especially in roads andbridges construction.Contracts and starts for the balance of heavy construction categories (utilities, rail,sewage treatment, water systems, dams, river and harbor, power plants, airports, parks,sitework) total an estimated $6.90 billion in 2006, down 5.5% from 2005. The largestcategory in the balance of heavy construction is water and sewer works construction.That category totals $2.64 billion in 2006, down 26.5% from 2005, adjusted for inflation.In 2005, water and sewer works totaled $3.59 billion, up 17.2% from 2004.Heavy construction is forecast to total $11.47 billion, down 9.7% from 2006 adjusted forinflation. That includes a 17.6% decline in roads and bridges and a 3.0% decline in thebalance of heavy construction. However, heavy construction stands to benefitsubstantially if infrastructure measures on the November 7, 2006, election ballot arepassed.Construction EmploymentIn 2006, California construction employment averaged an estimated 920,000, up 18,200(2.0%) from 2005 but down 15,500 (1.7%) from the 935,500-employment peak posted inthe month of February 2006 (seasonally adjusted). From 2002 to 2006 the state’sconstruction employment increased by 145,600 (18.8%). In 2007, constructionemployment is forecast at 891,000, down 29,000 (3.2%) from 2006.The Construction Industry Research Board is supported by grants from ConstructionIndustry Advancement Fund of Southern California, Fund for Construction IndustryAdvancement, California Construction Advancement Program and ConstructionEmployers' Association.
California “Constructor” / Volume 36 / Number 12 / December 2006California and U.S. Construction in 2007:Almost Heaven Or …?By Ken Simonson, Chief Economist, AGC of AmericaTwo worries have appeared on the construction scene. Will the plunge in housing activitydrag down other types of construction? Will soaring materials costs choke off newinvestment? Fortunately, there is reason to be optimistic on both counts.The Housing CollapseOn November 1, the Census Bureau reported that construction spending in Septemberslid 0.3% at a seasonally adjusted annual rate (SAAR). (Seasonal adjustment is astatistical technique to remove routine month-to-month variations so as to revealunderlying trends or exceptional changes. Annual rate means the monthly total has beenmultiplied by 12 to facilitate comparison with a full-year figure.) The September SAAR,$1.196 trillion, was the lowest since January and up only 2.9% from September 2005.But the damage was concentrated in single-family housing. Private residential spendingshrank 1.1% in September, 6.9% below the level in September 2005. Within theresidential sector, there was a stark difference between single- and multi-unitconstruction. New single-family spending was down 2.5% for the month, and 13%compared to September 2005. New multi-family was up 2.3% and 15.7%, respectively.Spending on residential improvements rose slightly from each of the earlier months.Price appreciation of existing single-family homes slowed, on average, from the firstquarter of 2006 to the second quarter and may have turned negative since then,particularly in some overheated California markets. The Office of Federal HousingEnterprise Oversight (OFHEO) reported that appreciation from the second quarter of2005 to the second quarter of 2006 was 10% nationally. OFHEO’s database includessingle-family houses that were resold or refinanced with “conforming, conventional”loans from Freddie Mac or Fannie Mae. For the second quarter alone, appreciationnationwide averaged 1.1%. These rates are lofty but notably slower than the previousfour-quarter and one-quarter rates of 13% and 2.2%, respectively.In California, prices rose 14% year-over-year (11th out of 50 states plus the District ofColumbia) but had slowed almost to the national average in the second quarter alone,rising just 1.25%. Of the 20 fastest-appreciating metro areas in the country, Bakersfieldwas the only one in California to make the list (15th, with 22% year-over-yearappreciation).Since the summer, housing prices, sales and construction have continued to cool, andthey appear likely to keep doing so through most, if not all, of 2007.Strong Economy, Stronger Nonresidential Construction
Aside from single-family housing—admittedly, a large “aside”—the U.S. economy looksrobust. The plunge in homebuilding did drag down the broadest measure of economicactivity, inflation-adjusted or “real” gross domestic product, from a SAAR of 5.6% in thefirst quarter to 2.6% in the second and 1.6% in the third. But the unemployment rate hit a5-1/2 year low in October at 4.4%. (California’s rate in September was 4.8%.) Industrialproduction in manufacturing rose 5.9% in real terms from September 2005 to September2006, and manufacturing capacity utilization, at 80.8% of capacity, was above its longtermaverage (79.8%) for the 11th straight month.Nonresidential construction has been one of the strongest parts of the economynationally. The Bureau of Labor Statistics (BLS) reported that heavy and civilengineering construction and nonresidential specialty trade contractors set employmentrecords nationally in October. But in California, construction employment was flat fromSeptember 2005 to September 2006, as residential, nonresidential building, and heavyand civil engineering employment all stalled.In the first nine months of 2006 combined, overall construction spending was up 6.6%from the same period of 2005. Private nonresidential construction spurted ahead 17%,public construction rose 10%, and even residential eked out a 1% gain. Major privatesectorgrowth categories on a year-to-date basis included lodging (hotels and resorts), up48% compared to January-September 2005; multi-retail (general merchandise stores,shopping centers and malls), up 37%; hospitals, up 25%; and manufacturing, up 23%.Multi-family construction was up 18%, as an apparent upsurge in rental construction hashelped offset a recent decline in condo-building. Of the two big public constructioncategories, highway and street construction was up 16% and educational, 7%. Other largepublic components with gains included sewage and waste disposal, 20%, andtransportation facilities, 7.5%.The 5.9% year-over-year rise in manufacturing production, coupled with above-averagefactory utilization rates, strongly suggests that manufacturing construction will continuegrowing for months, if not years. High energy prices and new Clean Air Act standardsare driving huge investments in traditional oil, gas and coal projects, as well asalternatives, such as wind farms and ethanol and biodiesel plant construction. High roomrates and occupancy rates at hotels and resorts will continue to boost lodgingconstruction. Major hospital chains and healthcare centers have expansion andmodernization plans that will lift construction spending in this segment for as much as adecade. An expanding economy, clogged transportation facilities and good profits arepowering construction of transportation and logistics facilities.All of these trends will sustain nonresidential construction in California. In addition, thepassage on Election Day of roughly $40 billion of bond issues for a wide variety ofpublic works and multi-family housing will give a boost to several constructioncategories, if the public agencies can work through the many stages to bid-letting and canproperly estimate costs so they don’t have to reject all bids and restart.Materials CostsThe producer price index (PPI) for materials and components for construction slowed itsrate of increase to 8.1% between September 2005 and September 2006. The early winter
months should show further improvement, for two reasons. First, prices for items thatincorporate petroleum or natural gas, such as diesel fuel and construction plastics, willbenefit from the drop in crude oil and natural gas prices from the post-hurricane highs oflate 2005. Second, materials that are extensively used in homebuilding, notably gypsumproducts, should fall sharply in price as new housing starts plunge from year-ago levels.The breather may be brief, however. Two factors make construction materials costssusceptible to steeper increases than the overall rate of inflation. First, constructionrequires generally fixed quantities of materials, unlike industries that can substitutecheaper materials or can design products to be smaller or lighter than their predecessors.Many materials used in construction are also in demand from other sectors, both in theU.S. and in fast-growing economies, like those of China, India, and elsewhere in Asia.Yet supplies of some materials expand only slowly. An example is copper, where all ofthe major mines have been subject to labor unrest or political turmoil. As a result, pricesjump.Second, materials must be physically delivered, using a transportation network that isoften stretched to its limits. Transport costs are high and bottlenecks frequent. In addition,fuel price spikes add to transport costs as well as the direct costs of operating equipment.As a result, construction materials costs may show a year-over-year increase of as little as2-4% for the next few months, matching the overall inflation rate as measured by theconsumer price index. But a year from now, construction materials are likely to resumetheir recent 6-8% cost increases, with higher spikes possible.ConclusionNonresidential construction appears to be in good shape to build upon the momentum ofthe last year. Manufacturing, hospital, lodging and energy-related construction remain thebest bets, both nationally and in California. The state should also see a pickup intransportation and levee projects.For the next few months, materials cost increases will not be as severe. But contractorsare constrained to use generally fixed quantities of materials for which there is worldwideor economy-wide demand and often slow-growing supply, and they must pay to have thematerials physically delivered, using congested transport modes. These facts make itlikely that materials cost increases will usually outpace the 3-4% annual rate of increasein the CPI or overall PPI.In other words, 2007 is likely to be far from heaven, but not at the other extreme.