August 1, 2014 / 2:59 PM / in 3 years

Corporate reports signal stronger US commercial building recovery

(Reuters) - Rising orders and increasing optimism from companies like United Technologies Corp (UTX.N) and Tyco International TYC.N point to a strengthening recovery in the U.S. commercial construction market, which has been limping back since bottoming more than three years ago.

The anecdotal evidence, buttressed by a strengthening index of architectural billings that is considered a leading indicator of commercial construction spending, bodes well for a variety of manufacturers whose fortunes are linked to construction spending for everything from hotels and offices to hospitals and schools, which remain far off their peaks from about six years ago.

“Everything that I’m seeing and hearing is that the commercial construction portion of the business is improving,” said Mig Dobre, an analyst with Robert W. Baird.

If the rebound is confirmed and sustained, it could be another strong sign that the U.S. economic recovery is entering a more mature phase. Just this week the Federal Reserve gave a more positive assessment of the economy.

Non-residential construction makes up roughly 60 percent of the nearly $1 trillion in U.S. construction spending.

JP Morgan industrial analyst Stephen Tusa said the second-quarter company reports suggest a recovery for non-residential construction, though he cautioned that it is “choppy and uneven.” Tusa estimates that about 15 percent of revenue from the diverse large-cap manufacturers he covers comes directly or indirectly from non-residential construction.

Jeffrey Hammond, an analyst with KeyBanc Capital Markets, also voiced qualified optimism. ”No one is shouting from the rooftop that it’s robust, but all the directional indicators ... are supportive,” he said.

Spurred by his belief in a nonresidential construction rebound, Hammond in June upgraded shares of climate-control system manufacturer Lennox International Inc (LII.N) and Watts Water Technologies (WTS.N), which sells products used for plumbing and water quality.


Together with strong recent jobs data, a construction rebound could help justify recent lofty valuations for U.S. equities, which took a hit on Thursday when they posted their worst daily decline since April.

As tracked by the U.S. census, non-residential construction spending on buildings, which tends to be one of the later markets to recover in an economic cycle, peaked in mid-2008. It hit bottom in January 2011 and has climbed back only 16 percent since then.

“We’re pretty well into a commercial construction recovery, although it has had more than its share of ups and downs,” said Kermit Baker, chief economist with the American Institute of Architects. “The signs are it’s going to begin to firm going forward.”

Baker’s organization oversees the Architecture Billings Index, which reflects a roughly 12-month lead time between architecture billings and construction spending. The index strengthened to 53.5 in June from 52.6 in May. Anything over 50 indicates an increase in billings.

Non-residential building spending is seen picking up 4.9 percent this year and growing another 8 percent in 2015, according to a separate survey by the architecture institute released this week.


    Leading the way is construction of hotels and office buildings, expected to be up 14.5 percent and 12.8 percent, respectively, this year. Conversely, government spending on public institutions, such as schools and hospitals, has been slow.

    “The key to the forecast is that commercial construction continues to grow but that the public sector ceases to be a drag, and even adds some growth in its own right,” said Scott Hazelton, managing director of construction industry consulting for research firm IHS.

    In a positive sign, Johnson Controls Inc (JCI.N), which makes climate control and other systems for commercial buildings, noted some cautious optimism about institutional projects in its recent quarterly report.

    “I don’t want to say the market is back; I‘m just saying that we are starting to see some good news, which I haven’t seen in the past,” the company’s chief executive officer, Alex Molinari, told analysts.

    Also in the second quarter, United Technologies reported a 44 percent leap in North American orders in its Otis elevators business and called the commercial construction outlook “encouraging.” Tyco, which sells security and fire protection systems for commercial buildings, said orders for installations increased 9 percent in North America.

    USG Corp (USG.N), which sells building materials to construction companies, said steel sales through its distribution division rose 11 percent from the first quarter, an important leading indicator because steel is shipped early in a construction job.

    “We’re seeing some slight green shoots in our business on the commercial segment,” USG’s chief executive, Jim Metcalf, said on his company’s conference call this quarter.

    Reporting by Lewis Krauskopf; Editing by Leslie Adler

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