Office construction is highly dependent on employment. It will take several years until there is enough employment growth to spur new construction in this sector. Office construction will fall from its 2008 high of $70.3 billion down to $40 billion at its low in 2011. For 2010, Raleigh, N.C.-based FMI Corp. expects a decline of 25 percent compared to 2009 levels of construction put in place.
The forecast is bolstered by the expectations of the panelists for the FMI Nonresidential Construction Index. Their three-month outlook of office construction bottomed out in the first quarter of 2009, but even though they are slightly more optimistic about office construction, their three-month and one-year projections remain below the turning point score of 50. This indicates there will be a significant increase in competition among contractors for this work. Although this may sound like a good deal for owners, the growing low-bid environment likely will lead to more contractors taking unprofitable work. That will mean that some will go out of business, causing losses and increased litigation.
Office building owners are feeling the pain, too. The rise in vacancy rates has led to a reduction in rents and increases in incentives and concessions offered by property owners. New space entering supply only compounds the vacancy rate issue. Many tenants are “trading up” by relocating or upgrading to higher-quality space; others simply are negotiating shorter leases and lower rates. According to Grubb & Ellis Co., Santa Ana, Calif., vacancy rates for office buildings may reach 19 percent by year-end 2010, the highest increase since 1986 when they began keeping records. Grubb & Ellis has reported that vacancy rates for the end of 2009 were 17.6 percent, which was an increase of 2.8 percent over 2008 levels.
The opening of the new Burj Khalifa towers in Dubai to mixed-use office, retail, entertainment and residences may mark a high-water mark in the race to space for some time to come. Like the Burj Khalifa towers, much of the work we now see in our records of put-in-place construction were on the books before the recession was in full bloom. Therefore, even if we see a general improvement to the economy this year, it will take time to restart a stalled construction economy.
In the meantime, the increased number of knowledgeable workers out of work will increase the ranks of the self-employed working from their home offices. We might have to expand the definition of “mixed-use” to include the next round of home improvements, which will include more home entertainment centers, office space and possibly a classroom for home schooling. The question now is the one that the Obama administration and many others are trying to answer: which comes first, the jobs or the investments in new business ventures? More than 14 million people in the ranks of the unemployed want to know the answer to that question. Contractors will continue to feel the pain of cancellations and delays until an answer arises.
John Hughes, vice president of FMI Corp., Raleigh, N.C., works with national manufacturers of construction products and equipment, distributors, retailers and industry suppliers in the areas of strategy, channel assessment, customer development, organizational development and training, and market research. He can be reached at jhughes@fminet.com or (919) 785-9224.