MARKET CONDITIONS IN CONSTRUCTION

ExEcutivE Summar y

Gilbane Building Company

AUGUST 2012

C O N S T R U C T I O N E C O N O M I C S

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SUMMARY

SOME ECONOMIC FACTORS AND MARKET FACTORS SPECIFIC TO CONSTRUCTION ARE POSITIVE:�� Construction Spending for 2012 should increase more than 7% over 2011 and more than 6% for non-residential buildings.

�� The current spending rate is 6.5% above a year ago and year to date spending is almost 9% above last year.

�� Contractors’ building costs “charged” in 2012 are above labor and material cost increases, signaling a continued movement towards recovery of more normalized margins.

�� The Architectural Billing Index (ABI) predicted a drop in spending from Q4 2011 through Q2 2012. The ABI also predicted growth starting in May 2012. Both these were accurate predictions. The index predicts a slowdown six months out from now.

�� The July Producer Price Index data, released after this report was compiled, now indicates prices for material inputs to construction have gone down for three consecutive months, pushing year over year price changes into the negative.

SOME ECONOMIC OR SPECIFIC MARKET FACTORS ARE STILL DECIDEDLY NEGATIVE: �� The Architectural Billing Index (ABI) is predicting a drop in spending from Q4 2012 through Q1 2013.

�� The drop in the construction unemployment rate is almost entirely due to 1,000,000 workers (13%) dropping out of the construction workforce. That reduction in available workers may have a detrimental effect on cost and ability to increase potential volume in the future.

�� Nine states that account for 50% of all construction jobs lost 150,000 jobs over the last 10 months, leaving the U.S. with a net gain of only 57,000 jobs since the bottom 18 months ago.

�� Construction spending on public jobs has dropped 4% in one year and 12% in two years.

�� The Baltic Dry Index (BDI) does not yet provide strong support for a pickup in future economic activity.

The Architectural Billings Index (ABI) has proven to be a reliable indicator. We should expect increasing spending nearly through the end of the year, then the index indicates we will experience another slowdown. We will watch this index looking for upward movement after June, which would indicate a return to growth after the Q1 2013 slowdown.

Figure A—Architectural Billings Index

ABI

Inst

Com

44

46

48

50

52

54

56

11-J

an Feb

Mar

Apr

May Jun

Jul

Aug

Sep Oct

Nov

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12-J

an Feb

Mar

Apr

May Jun

Jul

Aug

above 50 = billings increasing, below 50 = billings decreasing

Architectural Billings Index

The spending plotted in Figure B, developed from factors based on actual spending historical data, varies from the Department of Commerce Seasonally Adjusted Annual Rate (SAAR). Spending is 8% higher than the same period last year and, since the expected downturn was already built into predictions, is in line with expectations of cumulative spending year to date.

The ABI predicts non-residential activity 9 to 12 months out and indicated the downturn in spring. Another downturn is indicated that gives caution for winter Q4 2012 through Q1 2013. Indexes above 50 indicate increasing billings.

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Gilbane Building CompanyMarket Conditions In Construction – August 2012

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Figure B—Non-Residential Spending Rate Growth

ADDITIONALLY:�� Normal material cost indices do not capture all cost changes when margins are fluctuating

�� Indexing previous job costs from past to present requires adjustment for margins.

�� More recently, contractors are passing along most or all material cost increases.

�� As spending continues to increase, contractors gain more ability to pass along costs.

�� “With companies looking to bring back manufacturing jobs from overseas, there has been a sharp rise in demand for industrial facilities, which is leading to an upward revision in projections for future construction spending,” said AIA Chief Economist Kermit Baker.

Figure C—Inflation/Escalation 2011-2014

In 2012, we’ve seen a small but continued growth in contractor’s margins that started a very slow return to positive in 2011. Material price increases (more-so) and labor cost growth (less), will still contribute to escalation. However, in addition, due to work volume growth and an increasing rate of spending, contractors will be able to not only pass along more costs, but also, supported by positive growth trends, will try to recover more of the margins lost over the past few years. This will cause selling prices to move above normal labor and material inflation and is the basis for our predicted escalation growth, although I do not foresee construction inflation will reach the 7% to 9% range of 5 or 6 years ago.

Construction Spending still shows inconsistent performance but over the last year the trend clearly has been increased spending. The ABI decline predicted the Q1-Q2 2012 fall-off, but predicts an increase will follow with growth in Q3-Q4 2012. Supporting future growth, the July Dodge Momentum Index increased by 8%, indicating growth into next summer.

Future escalation, in order to capture increasing margins, will be higher than normal labor/material cost growth. We advise carry a minimum of:4% for 2012 5% for 2013 6% for 2014

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Gilbane Inc., is a full service construction and real estate development company, composed of Gilbane Building Company, Gilbane Development Company, and ITSI Gilbane. The company (www.gilbaneco.com) is one of the nation’s largest construction and program managers providing a full slate of facilities related services for clients in educational, healthcare, life sciences, mission critical, corporate, sports and recreation, criminal justice, public and aviation markets. Gilbane has more than 60 offices worldwide, with corporate offices located in Providence, Rhode Island. The information in this report is not specific to any one region.

Author Ed Zarenski is a 40-year construction veteran and a member of the Gilbane team for more than 30 years. Ed is an Estimating Executive who has managed multimillion dollar project budgeting, owner capital plan cost control, value engineering and life cycle cost analysis. He compiles economic information and provides data analysis and opinion for this quarterly report.

Questions regarding this report can be addressed to:

Edward R. Zarenski

Estimating Executive, New England Region Gilbane Building Company Providence, Rhode Island EZarenski@Gilbaneco.comTwitter@EdZarenskiLinkin: Ed Zarenski

This report and the materials contained therein are provided as estimates and projections for what may happen in the future. Information herein is believed to be reliable but Gilbane does not warrant its completeness or accuracy. Gilbane, its related business entities and the author make no guarantee that the projections and expectations will reflect actual future market and industry behavior and the information is used at the reader’s own risk.