If the Dirt Flies, the Recession is Actually Over

Not unlike the DJIA, construction data reflects both the emotions and economy of the times. So when I see headlines proclaiming, "The Recession is Over" and "Hospital Budgets Back to Pre-Recession Levels", I pause and turn to the construction surveys for validation. After all, if the economy has really buried its financial woes, then surely the hardhats and the shovels are out and the dirt is flying.

Reed Construction Data and McGraw-Hill Construction are both leading sources of economic data for the construction industry. They keep a watchful eye on national building trends, materials costs and (perhaps of greatest interest to CFOs) hospital construction trends. But this isn't information that CFOs should only look to when they are contemplating a build. No; this is information they should look to in order to accurately foretell economic trends in their own areas.

This week Reed Construction Data released data that looked at construction activity for 20 key states. Why only 20 states? Well, the 20 states selected make up approximately 75% of the U.S. construction market. According to the data compiled by Reed, California makes up 12.4% of total U.S. construction, and construction starts are down 4.4% over last year at this time. Similarly, Florida, which comprises 8.1% of total U.S. construction, has seen a construction starts drop 10% this year. The folks in the Midwest are faring about the same as the west and east coasts, though their share of U.S. total construction isn't as large.

These stats aren't really all the surprising, but they serve as a good touchstone for CFOs who may be pondering building in their area, because to truly determine if the time is right to build, you must have a pulse on whether your region or state economy is rebounding from the recession.

Of course you should look at hospital construction trends, but that will only tell you what your peers are doing across the country, and not if the time is right to build in your area. Ideally to actually see any benefit from the down economy, your goal should be to get in just before or just as your area is starting to rebound. In this way, you can take advantage of the current savings on material costs, labor, and real estate, and stay ahead of your market demand and facility capacity.

There's more to construction trends than what you see at first glance, so I reached out to Jim Haughey, Ph.D. and Chief Economist for Reed Construction Data to tap into his expertise on the recovery of the construction market nationwide, and more importantly what it means for hospitals.

Q. Many CFOs certainly watch the hospital construction reports to determine if the time is right for them to move forward with their capital construction projects, but how does the national construction landscape impact them?

A. Hospitals are a big market, but they are only a small part of the overall market. If the rest of the market is strong, hospitals are going to have to pay more to build their hospitals. The construction costs during a very intense construction period can jump 10%–12% in a year; that adds up to a lot of money. The national construction trends can still be a good indicator of whether your community is growing in terms of population, and if you're a hospital CFO that's going to help you determine if there's a need for more capacity.

Construction [materials] prices are a bargain right now. As we move ahead into next year and beyond you are going to see a renewed rise in construction costs and you will likely see a rise in credit costs, as well. Credit costs are unusually low right now because few people want to borrow money on the bottom of a recession. When borrowing comes back; when retailers accumulate inventory; when manufacturing wants to expand facilities, and when home owners start buying more homes, then people need capital. That's when costs will start going up. So, if there's a need [to build at a hospital] which can be accomplished today, it's better to do it now or early next year rather than waiting another year and half because it will cost a lot more to build then.

Also, contractors in some areas are hungry to build, while in other parts of the country the contractors who build hospitals have never stopped being busy—that's because hospital construction is a very specialized field. However, for hospitals that are in depressed areas, it may be the perfect time to do your building or your maintenance because the contractor need work and may give you a deal. Overall, prices won't get any better.

Editor's note: To hear more of Jim's thoughts, listen to our audio interview.)

Q. How do the national construction trends stack up against hospital construction trends?

A. The weakest [economic] communities don't need more [hospital beds]; right now they may have too many. Since a good part of the hospital construction market is geared toward adding more capacity, new construction has gone down. However, another sizable part of hospital construction is improving capacity. So facilities may not be building new, but there are a great many hospital projects underway, just a whole lot of them are remodeling and replacement.

Q. How would you anticipate hospital construction to recover overall?

A. When the economy is booming and construction is growing 15%–16% a year, hospital construction still only expands 8%–9%. So, over the last couple of years, hospital construction didn't fall off as much as the rest of construction. It was up and down for a few months, and it slipped a few percentages, but it hasn't change too much, as opposed to an 80% drop in single-family home construction. So there's not a whole lot of recovery needed for the hospital construction market.

Q. What type of industry mix should CFOs look for in their communities to determine if their state or regional economy may recover swiftly or slowly?

A. The economy uptick over the last few months has been coming out of two markets: housing and manufacturing.

The [residential] housing market always recovers early, and that's true this time—although it's still in the depressed range now, it is going recover quickly. This is also true in parts of the country where there's population growth or where the inventory of unsold homes has been whittled down to somewhere near "normal". For example, in Buffalo, NY they still have too many houses and [home] prices have fallen, the recovery there will be slower there.

Also, areas that have heavy duty manufacturing—that industry is doing better now—will start to improve. We saw a big jump this summer in manufacturing, not as much in the fall, but the numbers are still creeping up.

Keep in mind some communities that have been doing reasonably well in the last few years when the economy has been troubled, such as university towns and small state capitals, may now see the recession catch up with them. Those areas are starting to see some layoffs, wage decreases, and cutbacks, so those communities will lag behind the rest of the economy [during the economic rebound].

Q. Should CFOs expect to see hospital construction lag in the areas that are still struggling with the recession?

A. Not necessarily. Even in areas like Arizona and Nevada, hospitals are largely self-funded with patient fees and capital gifts. So if they have the money and they have a plan, hospitals may go ahead and build anyway. But [it's more likely] in places like Texas and North Carolina that have been growing recently, that you'll see the expansion of suburban hospitals because they need the beds; whereas you aren't going to see that as much in Detroit and Buffalo, even though they may need the facilities desperately.

Q. Is there any correlation in growth between the national employment rates and the construction trends?

A. Not necessarily. So far, a lot of construction pick-up has been due to the FHA $8,000 down payment grants from Washington, D.C. In places where the economy is better you have a few more people who can take advantage of that. So, home sales went up and builders had to start replacing some of the housing stock. They still have too much inventory for sale in some regions, but the inventory got worked down a bit too, so home starts went up for several months and have stayed up. Now that this grant has been renewed through April, it will keep housing and manufacturing markets among the leading industries to watch during in the recovery.

Hopefully, you've found Dr. Haughey's thoughts to be as insightful as I do when I read all the news reports about the recession rebound. Certainly, every hospital CFO knows the importance of the big picture when creating their strategic plan. So, to get a true look at the larger economic picture, keep your eye on the national and regional construction trends. In doing so, you stand to fare much better when the time comes to budget for and build a new facility or retrofit/renovate an existing one.