Operations & Technology

Nov. 12, 2007 ― Starts Drop In October; Wind, Ethanol Projects May Stall; Banks Get Pickier

November 12, 2007
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New construction starts turned down in October, as tabulated today by Reed Construction Data. Reed’s data showed that total starts fell 12% from October 2006, with nonresidential starts falling slightly more than residential. (Residential figures are estimates based on the average of the previous three months.) Heavy engineering starts tumbled 27% compared to October 2006, although they were up 11% year-to-date (YTD) for the first 10 months combined, compared to January-October 2006. Nonresidential building starts fell 4.4% from Octobe 2006 to October 2007 but rose 14% YTD. Residential starts slid 11% and 22%.

One category of construction that has done well so far in 2007 is energy projects. The outlook appears more mixed. On Wednesday, the American Wind Energy Association (www.awea.org) reported that it expects a record amount of wind-generation capacity to be completed this year. Texas leads in both previously and newly installed “utility-sized” turbines (100 kilowatt or larger). New or under-construction projects are found in 27 states, with concentrations in Minnesota, Iowa, North Dakota, Washington and Oregon. But wind projects depend on a “production tax credit,” which is due to expire on December 31. Congress and the President have yet to agree on a package of tax “extenders,” including the credit. Ethanol plant construction may also slow. The Wall Street Journal reported on November 1, “a glut of ethanol suply-and a sharp drop in price-is reining in expansion. Recently, proposed facitilites in Minnesota, South Dakota and Iowa have put construction plans on hold….73 plants are under construction nationwide, according to the Renewable Fuels Association in Washington. But dozens of other planned projects are stalled…[In Nebraska,] 43 are stuck in planning stages….However, Jeff Broin, chief executive of closely held Poet, the biggest U.S. ethanol maker, with 21 plants, says the company will build plants at its traditional steady pace.”

Senior loan officers at 52 domestic banks and 20 foreign banking institutions reported a net tightening of lending standards on commercial real estate loans and weaker demand in October compared to July, the Federal Reserve said Nov. 5. “The net fraction of domestic banks that reported having tightened their lending standards for commercial real estate loans over the past three months increased notably, to 50%, relative to the July survey. The net fraction of foreign institutions that reported tightening their lending standards on such loans was, at about 40%, little changed compared with the July survey. Regarding demand, approximately 35% of domestic and foreign institutions-up from about 25% in the July survey-reported that demand for commercial real estate loans had weakened over the survey period.” Charts in the report showed the 50% share of domestic banks that reported tighter standards was the highest since 1991, while the percentage reporting lower demand was similar to early this year but far below 2003-mid 2006 levels.

Numerous construction input costs are rising again. The costs associated with constructing new oil and gas facilities have surged to a record high, energy consultant IHS/Cambridge Energy Research Associates (www.cera.com) reported on Wednesday. “In the last six months, the Upstream Capital Costs Index, a measure of project cost inflation, has risen 11 percent to a new high…nearly double the costs observed as recently as 2005….Construction costs began their dramatic rise in 2005 driven by a sudden, sustained increase in the price of steel in 2003 followed by the upward swing in oil prices that began in 2004. As industry activity levels increased in 2005 and 2006, manufacturers and suppliers of oil and gas equipment and services reached maximum capacity and began to increase their prices….In the first half of 2007, the rate of cost increases moderated slightly when compared with the increases of the previous year….This raised an expectation in the industry that cost increases may be coming to an end. The latest data indicates this not to be the case. The markets that have seen the sharpest increases in the last six months are those requiring machining, skilled labor and high-priced raw materials such a nickel, steel and copper.” Respondents to the Institute for Supply Management’s October surveys of manufacturing and nonmanufacturing purchasing executives reported the following items important to construction up in price: copper products, diesel fuel and hot-rolled steel. Aluminum was reported down in price. Construction labor was reported in short supply. The Energy Information Administration (EIA) projected in its latest “Short-Term Energy Outlook”, issued on Tuesday, that the price of on-highway diesel fuel would rise 5.4% in 2007 and a further 8.1% in 2008. A day earlier, EIA reported the price had jumped 15 cents a gallon in one week to a record $3.30, up 32% from a year before.

On election day last Tuesday, voters in Texas approved $5 billion in bonds for highways, up to $1 billion for parks, $250 million for border-area water projects, a controversial Dallas expressway and numerous school-construction bond issues. Voters in Washington rejected a sales-tax package for transit and highways.

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