MSCI Chairman Michael Petersen discusses the state of the industry, and the institute, on the eve of the trade group's annual meeting May 2-4 in San Francisco.

By Myra Pinkham,
Contributing Editor

Due to persistently lackluster nonresidential construction in most regions of the United States, demand for structural steel has not been nearly as strong as domestic producers had hoped. Nevertheless, despite the market’s oversupply, one major producer has announced it may increase its production capacity.

Though it has made no final decision, Fort Wayne, Ind.-based Steel Dynamics Inc. is considering the addition of another rolling mill at its structural steel and rail plant in Columbia City, Ind., to produce lighter structurals and bar shapes, says Jim Wroble, sales and marketing manager. Should the board approve the expansion, SDI could start construction later this year and begin shipping product in about two years.
Although Wroble admits there is a plentiful supply of structural steel, “We think we can bring more to the marketplace” than just an expanded SDI product line, he explains. “It also demonstrates an optimism about the future of the [structural steel] market from our perspective.”

Due to its dependence on office and commercial construction, which have been hampered by a high vacancy rate in existing buildings, the beam market has not experienced the same boom as other steel sectors, though most mills and service centers are hopeful this market will soon show some improvement.

Indeed, demand at the mill level has been “crazy,” well outpacing actual demand for construction products, says Peter Wright, director of marketing for TXI Chaparral Steel Inc., Midlothian, Texas. Last summer, mills were operating at over 100 percent of capacity. During winter, production slowed to less than 70 percent. “Now it is recovering, not because of market demand, but because service centers think there might be a price increase and are starting to buy again,” Wright says.

Joe Stratman, vice president and general manager of Nucor-Yamato Steel Co., Blytheville, Ark., sees signs of a true recovery in demand, not just inventory building. Though industry figures show a decline in both consumption and service center shipments of around 18 percent in the first two months of this year, Stratman maintains that demand for structural steel is “steady to improving.” Last year’s first quarter was unusually strong, he points out. “Scrap prices were rising. There was a lot of hedge buying. But today we have real demand, not a surge of people building up their inventories.”

Service center views vary widely based on the region they’re serving, though most say conditions are softer than expected. “Structural steel is probably the only market where we haven’t seen a very strong volume pickup, either last year or this year,” says Bill Jones, president of O’Neal Steel Inc., Birmingham, Ala., who expects a gradual improvement in orders.

“The law of supply and demand is alive and well. There is too much supply and not enough demand here,” echoes another Southeastern distributor. “There are pockets of demand, but they are spotty and inconsistent. There is, however, more enthusiasm from our customer base that things will start to turn and demand should show some strength.”

Donald Simon, president of Contractors Steel Co., Livonia, Mich., calls demand in his region both “reasonably good and consistent.” Much of the steel he sells ends up in municipal construction projects. “With the huge number of people going out of business in the last few years, I don’t see commercial or industrial construction picking up much this year.”

Mark Haight, president of Infra-Metals Corp., Wallingford, Conn., forecasts moderate improvement. “I think that 2005 will end up being slightly better than last year. The market peaked in 2000, and there was a downward slide until 2004. 2005 will be more like it was in 2003, maybe a 5 percent increase in tons over last year.”

Leland Waltuck, president of The Steel Yard, Portland, Ore., offers a glowing assessment of the market in the Pacific Northwest: “Here, there is a lot of construction and infrastructure work. It is a dramatic turnaround from 2001-02, up about 25 to 35 percent. A lot of it was pent-up growth, because our region had been down so deep, deeper than many other regions of the country.”

A recent report by New York-based McGraw-Hill Construction (formerly FW Dodge), notes that while the construction industry as a whole performed better than expected in 2004, rising 9 percent to $577 billion, much of that came from single-family housing, which isn’t a big consumer of structural steel. However, there was also more broad-based improvements from commercial building last year, including the first gains for offices and warehouses in four years.

Assuming that U.S. economic expansion slows to 3.5 percent this year, and the Federal Reserve continues to raise interest rates, McGraw-Hill Construction expects single-family housing to lose some momentum. Instead, the analysts project, construction of income properties (commercial building and multifamily housing) will increase 9 percent in dollar volume and 5 percent in square footage; industrial building will advance 7 percent in dollar volume and 3 percent in square footage; manufacturing construction will increase 14 percent as companies continue to increase capital spending; and public works (infrastructure) will edge up 2 percent.

Overall, McGraw-Hill forecasts that nonresidential building construction will rise to 1.485 billion square feet, valued at $176.3 billion in 2005, vs. 1.410 billion square feet, valued at $162.8 billion in 2004.

Hotel, motel, Holiday Inn
Putting this into perspective, Ed Sullivan, chief economist for the Chicago-based Portland Cement Association, observes that since the beginning of the recession, nonresidential construction has declined 65 percent. “2004 was a transition period, a time of healing with vacancy rates improving. In December, we reached a turning point and started to see positive gains. It will continue to gain strength at an accelerated rate.”

Different sectors of the nonresidential construction market are recovering at different rates, however. Sullivan says that perhaps the strongest at this time is the hotel/motel sector, which started to pick up in the second half of 2004 and will likely increase 10 to 15 percent this year.

“Business profits have improved, which means more business travelers,” he explains. “Also, there has been less fear of travel. The improved job market has helped as well. With more certainty, more people are willing to take vacations.”

In the last few months, industrial construction has seen double-digit gains, now that some industries have crossed the threshold of 80 percent capacity utilization. “Instead of just seeing maintenance, we are starting to see some hard construction,” Sullivan observes.

Up to this point, businesses have been cautious about investing in plants, says John Anton, manager of the steel service at Global Insight, Washington, D.C. He says there has been a big increase in capital expenditures for machinery and equipment, but not yet for building projects.

Office construction has sustained a long dry spell because of high unemployment and vacancy rates. “Vacancy rates have declined as there have been some modest gains in leasing space, but there is still a 15.8 percent vacancy rate, and that has to decline a lot more before office construction takes off,” Sullivan adds.

As a rule of thumb, vacancy rates must dip down below 10 percent for construction to really kick in, says John Cross, vice president of marketing for the American Institute of Steel Construction, Chicago. “It will be 18 months to two years before that happens.”

Retail store construction turned upward in the fourth quarter of last year and is expected to see steady gains, Sullivan says, due to the housing boom and suburban sprawl as people continue to migrate further from major cities. He predicts that retail construction will sustain a growth rate of 7 to 8 percent over the next few years.

He also sees positive momentum for institutional construction—schools and hospitals. School construction has been hurt by cash shortfalls and deficits in state and local district budgets. But pressure to improve student-teacher ratios will boost school construction as government financing improves, probably starting in 2006, Sullivan says.

Hospital construction is influenced by conflicting trends. Demographics would suggest the need for more hospitals due to the growth of an aging population. HMOs and other insurance companies have succeeded in shortening hospital stays, however. “Over the years, HMOs have squeezed hospitals to the limit, which means that the demographics are taking hold, pushing up the need for expansion,” Sullivan says. And even HMOs support construction of more outpatient clinics.

Experts expect a modest increase in highway and bridge construction, especially once Congress reauthorizes the federal infrastructure spending bill. TEA-21 (the Transportation Equity Act for the 21st Century) expired Sept. 3, 2003, but current project funding has been kept alive by series of extensions, the most recent of which was set to expire at the end of May. Industry observers are optimistic that a six-year bill will be passed and signed by President Bush in this legislative session, although there was also such optimism last year. At press time, the House had passed a $284 billion bill that Bush said he would sign, but the Senate was expected to pass a $291 billion spending package, which the president said he would veto.

Interest rates
Despite all these factors, nonresidential construction of all types could be hampered by interest rate hikes. “What people are paying for money is a major factor in deciding whether or not they go ahead with projects,” remarks Tom Harrington, president of DuBose Steel Inc., Roseboro, N.C. “If the Fed goes too far in raising interest rates, it could choke off demand.”

Other observers contend that rising interest rates could actually have a positive effect, causing people to take projects off the back burner and push them ahead before interest rates go even higher.

Even a 5 to 10 percent boost in construction this year could have a negligible effect on structural steel suppliers, given the oversupply. As Chaparral’s Wright says, domestic capacity is 7.8 million tons while demand is only 6.6 million tons, which means 1.2 million tons of excess product even before taking imports into account.

Fortunately, imports remain low, accounting for less than 10 percent of the market. At the same time, exports have increased about 5 percent, due in part to the weakening dollar. In fact, Wright says that exports of beams to Mexico and Canada since the beginning of 2003 have nearly doubled.

While structural steel prices have risen a bit, largely due to raw material surcharges, they have not jumped nearly as much as other steel products. Analyst Christopher Plummer, managing director of Metal Strategies Inc., West Chester, Pa., says that the monthly average Midwest spot price was $550 per ton in March compared with $510 per ton a year earlier and $300 per ton in March 2003. In late April, Nucor-Yamato cut its published price on certain structural sections by $30 per ton to address unpublished domestic discounts being offered in the market.

Meanwhile, scrap surcharges have started to creep up again, countering the base price decline. “Scrap prices will likely continue to be volatile through the year,” Stratman says, “although I think the amount and the velocity will be less than it was in 2004.”

Several service center operators expressed concern about the downward pressure on pricing. “There is definite concern of being stuck with high-priced inventories in this market. You need to be on top of your inventories and keep them lean,” says Orlando Garcia, general manager for Everglades Steel Corp., Miami.

“Distributor margins will continue to be squeezed if prices go down,” Harrington adds. “It would help if the mills would telegraph better where they expect their prices will go. If mills would indicate support for stable pricing, then distributors would be likely to bring in inventory. But when there is uncertainty, we live off the mills’ inventories.”

“I think it is going to be a disappointing year, softer than anyone projected,” says O’Neal’s Jones. “Demand is weak. It is very difficult to get prices that the raw material costs would dictate. Raw material costs are certainly a factor in pricing, but ultimately it boils down to supply and demand.”