Looking Forward: Using Economic Indicators
Advanced knowledge of changes in the construction marketplace is critical to any business that is part of the supply chain. Any view into the future allows a company to develop more informed strategic plans and make in-flight adjustments to operational goals between planning cycles. One of the easiest ways to better inform your planning process is to use economic indicators or indices available to you as a bellwether of the direction the markets you serve, and therefore your business, will take.
You may already be using one or more of these, and if so, you are ahead of the pack. Two of the more commonly used and publicly available indicators in the construction market are the U.S. Census Bureau’s Construction Spending series that tracks the value of construction put in place, and AIA’s Architecture Billings Index. The Value of Construction series is a monthly estimate of the total dollar value of construction done in the United States. The Architectural Billings Index (ABI) is an index that tracks month-to-month changes in billings from architecture firms.
These two measures provide insight into changes in the construction market by taking the temperature of the industry at the extremes of the construction lifecycle. By estimating the demand for design services, the ABI can be considered a leading indicator for the rest of the construction market supply chain, whereas the Census Construction Spending series is a coincident measure of the current health of the industry. This does not mean that one of these is a better choice than the other for your business. In fact, you will want to consider any indicator, including your own proprietary data, when making these kinds of critical decisions.
Data Series vs. Indices
We are awash in an ever-increasing array of data options. In terms of gaining insight that will help you plan for your company’s future, data related to your business and indices should be your first place to look. Economic indicators come in all flavors, and typically include direct measures or estimates of data over time that directly impact your business or are related to data that impact your industry. The Census Construction Spending series is an example of an economic indicator that is calculated using a sample that estimates the total monthly spend on construction in the U.S. When spending is increasing month-to-month, the indication is that the construction is growing stronger. We will look at what this might mean for your business later in the article.
Permits, construction starts, requests to bid, sales orders, and even changes in population, are all considered to be economic indicators that may be important predictors of the direction in which your specific market is moving. An index is a relative indicator and is used primarily to identify the direction and magnitude of change in a single series of data, or a sample of data. One of the most recognizable indices is the Dow Jones Industrial Average (DJIA), which is calculated from a sample of Fortune 500 companies and provides an indication of magnitude and direction of the New York Stock Exchange. The DJIA number itself means nothing, but whether it is rising or falling and by how much is what keeps people awake at night.
The Consumer Price Index (CPI), Producer Price Index (PPI) and the AIA’s ABI are all examples of indices that are economic indicators that impact your business, at least to some degree. The key components of an index are that they are calculated relative to a base time period, and that a change in the index can be used as an indicator of change in other economic measures (such as the performance of your business). Indices are calculated by comparing a fixed reference point (base time period) to the current period. This allows you to look at the real impact of month-over-month changes that indicate the direction and velocity your market may be headed. Using an index as a leading indicator is a matter of recognizing the relationship between when a change in the index results in a change in the conditions impacting your business.
For example, an increase in the AIA’s ABI index may be a leading indicator that more construction project opportunities are working their way through the pipeline. The change in the index may be slight or large, but is an indication of how big the increase (or decrease) may be several months down the road. In the case of the ABI, AIA economists have calculated that the index leads construction starts by roughly 11 months, so knowing this information can be a valuable piece of information for your company’s planning. However, not every building that gets designed actually gets built, and the likelihood of a building concept being realized can be low. As the concept moves through the process from idea, to design, to financing, to bidding, the project becomes increasing likely to reach completion. So, while it is helpful to know what the design community is up to, it is helpful to have an indicator that is closer to the project start.
The Blue Book Network Velocity Index
Enter The Blue Book Network Velocity Index. Leveraging the Network’s robust database of bidding opportunities, our Network Intelligence and Analytics team has developed a leading economic indicator that may become your most important forward-looking planning tool. The Blue Book Network Velocity Index measures the direction and magnitude of month-to-month changes in bidding activity after accounting for seasonality. By removing the effect of peaks and troughs in bidding cycles evident through the year, the index more accurately represents the real change in bidding activity. This real change then becomes a better indicator of bidding activity that deviates from historically repeated patterns. The impact of COVID-19 on bidding can clearly be seen on the main page of the Velocity Index shown in Figure 1.
The rapid drop of the Index in March of this year (-16.8%), which continued into April, resulted in an overall decline in the Index of 27% in just two months. You don’t need the numbers to see the dramatic change to the typical pattern of bidding activity illustrated by the top graph of Figure 1. This sudden dip and subsequent recovery confirms what your gut already told you; that the first half of 2020 was fraught with uncertainty, not just for your business, but for the entire U.S. construction market.
Indicators Important to Your Business
As a macro indicator, The Blue Book Network Velocity Index is an important barometer of the industry and is the key leading indicator of construction projects expected to start in the next one to three months. By diving deeper into the details, the Index provides a more local, state-level indicator as well as one for major building types. The bottom graph of Figure 1 shows the Index for major groups of project types. Comparing the Index for these groups to the overall Index for all projects in the top graph reveals some interesting differences. While Institutional construction follows a similar pattern to the overall Index from January to April, the trough is not as deep and the recovery is still strong. Bidding opportunities for Manufacturing projects lagged the overall industry, continuing to increase into March before showing a modest decline in April and quick rebound. However, it is the Lodging projects that stand out in this graph. With many hotels completely closed, or operating in the single digits for occupancy rates, Lodging continues to retract. Again, your business acumen may have already told you this, but the Index confirms it and provides backup to decisions impacting your business.
Because all construction is local, and many companies operate regionally, Figure 2 maps the month-over-month percent change in the Index by state. Here, gradient scales of color show the magnitude of regional pockets of expansion (green) and contraction (red) from the previous month.
Figure 3 breaks down the state-level Index by the four key structure groupings.
So, with the overall Index and the regional and structure group views, how can this information be used to inform business decisions?
Leveraging the Blue Book Network Velocity Index
The key to informing your decision-making with any economic indicator is understanding how it relates to your own business metrics. The good news is that you already have the data you need to do this in-house. Let’s look at a couple examples.
Mechanical contractor “Hot as Hades” operates regionally, installing and servicing HVAC equipment. Most of their new installation work comes from small-to-mid-sized commercial buildings, and their sales goals for the year assume a modest increase over last year. Looking at their awarded bids over the last five years, they are able to calculate two important numbers: the average time from bid submission to award, and the average time from contract award to installation time for the systems they install.
For most of their projects, the award time is a short two weeks. They also know that because most of the new projects they work on take less than 15 months to complete, and the HVAC systems can’t go in until the building shell is done—which is roughly half-way through the construction schedule—they can expect their installers to begin work somewhere between six and nine months following start. Looking at the average time from their awarded bids to when they begin work on a project, they estimate that while the mechanical systems go in around seven months into construction, the ductwork and piping installation start once the framing is closed in; for their projects they estimate five and a half months. Adding the two weeks from bid submission to award, they estimate that their team will be on-site roughly six months following the bid data of the project.
In March, with the Velocity Index showing a rapid drop, their sales targets for the third quarter looked to be impacted. Looking a bit closer at the three Midwest states where they operate, the decline for commercial projects was not as steep as the overall Index, but still a watchful eye on the Index over the next few months was warranted.
April continued to decline as did May, but the decline was slowing. By June, the Index was ticking up again and showing signs of recovery. Their three states showed a higher increase than the average for the U.S. and they were also noticing more opportunities to bid. Using this information, “Hot as Hades” recognized that they might see a downturn in their business in the September-to-November time period. To keep their mechanical contractors active, they worked with their existing customers to reschedule some of their maintenance work to bridge the gap and kept an eye on the Commercial Index for their states. If the Index continued to see modest improvement, they knew their overall goals for the year would be tough to meet and might need to be adjusted. If the Commercial Index for their states began to track more like the overall Velocity Index for the country, it would signal that the uncertainty during March to May was only delaying projects, and their team could be very busy at the end of the year.
For building product manufacturer “Battened Hatches Roofing,” the Index provided a little more lead time. BH Roofing makes elastomeric roofing systems and has built a portfolio of work around the country with schools and universities. Given the nature of the award process, they calculate that the time from bid to submission averages six weeks, and with their sweet-spot projects having a 20-month completion schedule, the timing for installation of their roofing materials is roughly eight months after building start. Looking at their awarded bids, they can see that while the order may come in anytime between the contract award (six weeks after bid) and a month before installation (nine and a half months after bid), the average point at which the roofers need their material delivered to the job site is a little more than nine months after the bid date.
Tracking the Velocity Index into February of 2020, BH Roofing was feeling fairly good about 2020. As March and April began to unfold, BH Roofing was looking at a rough start to 2021. Looking at the month-to-month changes in the Institutional Index, it was clear that some states were being more conservative than others. These states and local school districts were likely considering that schools that may need to be closed for a longer time period allowing districts to delay new and replacement school projects. Comparing the Index for Institutional projects with the overall Index helped temper their concern as the Institutional Index did not decline as quickly and recovered well to levels above those seen a year ago. BH Roofing continues to watch the U.S.-level Institutional Index as a nine-month leading indicator for shipping their products. Having seen the impact of the uncertainty surrounding COVID-19 on bidding opportunities for schools, HB Roofing will keep a close eye on the change in the Institutional Index into the fall as states and school districts make decisions about where children will learn. For 2021, HB Roofing has decided to hedge their bets with a more modest growth goal.
So as you are “driving” your business down the “highway” known as the U.S. Commercial Construction Market—leverage The Blue Book Network’s Velocity Index to gauge the speed of the construction markets around you, and adjust your own direction and speed accordingly! Additional details and analyses are always available exclusively for members of The Blue Book Network. Stay a step ahead of your competitors by being a part of the industry’s most active and intelligent commercial construction network. Our Network Intelligence and Analytics team is eager to work with you to better understand the next “big thing” that will help you win more work and move your business forward.