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Where can lumber markets go from here?

BY HBSDEALER Staff

After hitting their lowest level in nearly 25 years (adjusted for inflation) late in the first quarter and early in the second quarter of 2007, lumber prices rallied into the third quarter. However, this rally could almost be described as trivial: at a peak of $307, the Crow’s Framing Lumber Composite Index was just 15 percent above its first- and second-quarter lows and a full 20 percent below the 2006 peak. Moreover, lumber markets have given back much of this gain in recent weeks. Since peaking around the Fourth of July, the Crow’s Composite Index has fallen nearly 10 percent. Where do lumber markets go from here?

Lumber consumption is highly correlated with construction activity, as the two main end-use markets for lumber are new home construction and repair and remodeling.

As anyone following recent developments in mortgage markets can attest, the outlook for housing is at best stormy. The bad news isn’t all on the financing side either. Inventories of unsold new homes in May, expressed as months of sales at the current sales pace, were at 7.8 months, up 22 percent over a year ago. For existing homes, an 8.8 months inventory in June represents a huge 28 percent year-over-year increase. This is worrisome for new-home builders, as a large unsold inventory of existing homes could hold up those existing-home sellers trying to upgrade by buying and moving into a new home.

While there are few reasons to hold out hope that recovery in U.S. housing markets will occur any time soon, a further substantial erosion in starts is also unlikely. Solid employment and income growth, falling existing-home prices and flat new home prices have all improved housing affordability. Moreover, U.S. housing starts seem to have found a market bottom.

The second largest end-use market for lumber, repair and remodeling remained stronger than new housing construction in 2006 (data on repair and remodeling expenditures lags that of housing starts). This is in part because of the tremendous amount of cash pulled out of home equity in recent years: cash-out exceeded $300 billion in 2006, 16 percent above 2005 levels and many times the $30 billion average of the 1990s. Some of this influx of cash to homeowners was spent on their homes for remodeling and upgrading (estimates of cash-out that goes back into the home range as high as 30 percent). Moreover, 6.8 million existing homes were sold in 2004, and 7.1 million homes were sold in 2005. Since the majority of repair and remodeling activity occurs within the first several years of a home purchase, that record pace of home sales translated into robust expenditures in 2006.

Higher home equity rates and slowing cash-out refinancing as home prices drop are limiting homeowners’ financing options. In addition, some of the record expenditures in 2004 to 2006 were borrowed from the future. In other words, the very low interest rates and the ease with which homeowners could tap into their home equity encouraged many of those considering a major addition, alteration or improvement project to undertake it in 2004 to 2006 rather than to wait. This recent strength will consequently be followed by a downswing when affordability deteriorates as it has in late 2006 to 2007.

We have already begun to see the beginnings of this downturn. Repair and remodeling expenditures dropped an average 10 percent (SAAR) in the fourth quarter of 2006 and the first quarter of 2007. Expect these markets to continue to slip through much of 2008.

Weakness in residential construction markets will drive lumber consumption lower over the next several quarters. And when construction activity picks up in mid-2008, it will do so at a tepid pace. This goes a long way toward answering our initial question: Where do lumber markets go from here? Most likely lower.

Recent buying, while driving up prices, has also left dealer inventories flush. Lumber prices began falling in mid-July, and this downward trend will continue (albeit perhaps with a short-lived reversal in September) into the fourth quarter. This decline will result from several factors, including the cyclically and seasonally falling consumption detailed above, sufficient dealer inventories, little perceived (by the dealers) upside risk to prices and over-production as prices were above costs through July. Consequently, expect lumber prices to retreat back near their lows for the year and the cycle in September to October.

Early 2008 will provide a bit of a break from the extremely weak pricing and profitability of 2007. The decline in consumption will have slowed, and dealers will be anticipating increased end-use consumption by mid-year. This, combined with extremely low prices and therefore limited downside risk, will encourage dealers to step up buying in the first quarter, driving up prices.

While prices should rebound somewhat in early 2008, the upside potential will be limited by weak (cyclically flat) first-quarter end-use consumption and operating rates that are only slightly above early 2007 levels. Moreover, higher prices toward the end of the first quarter will stimulate increased production. At the same time, dealers will have built sufficient stocks to carry them through the slowly rising consumption of the second quarter and will therefore limit buying. Consequently, lumber prices are again expected to fall in the second quarter of 2008.

The seasonal increase in consumption will bolster prices by the third quarter of 2008. And with cyclical growth in demand edging higher, expect them to continue to rise toward the end of the year. While there may be better pricing in 2008, it will not be significantly better: Lumber prices for the major species/products are forecast to increase around 5 percent from their 2007 levels.

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Mansfield named chairman at Valspar

BY HBSDEALER Staff

Minneapolis-based paint and coatings company Valspar has named current president and CEO William Mansfield as chairman of the company’s board of directors, effective immediately.

Mansfield succeeds Thomas McBurney, who has served as chairman for the past two years. McBurney will remain chair of the board’s governance committee and lead director.

Mansfield, 59, joined Valspar in 1984. After working in lead roles at most of Valspar’s businesses, he was named COO in April 2004. He has served as president and CEO since February 2005.

Mansfield holds a B.S. degree in engineering from Drexel University and an M.B.A. from Lehigh University.

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Top 350 pro dealers cope in a difficult housing market

BY HBSDEALER Staff

When the Chinese Year of the Dog came to an end on Feb. 17, 2007, some pro dealers looked at their 2006 sales figures and saw an apt comparison. Sagging lumber prices and dwindling housing starts had a negative effect on many dealers’ revenues. But overall pro sales for the industry’s top 350 players, according to HCN’s annual survey, grew by 9.0 percent, to $55.98 billion. View the top 350.

Although some dealers posted double-digit declines, others were able to break even or grow their business through the downturn. Of the 350 dealers on the list, 119 reported revenue increases, 77 experienced declines and 154 companies are listed with flat sales.

In terms of rankings, Pro-Build, Stock Building Supply, 84 Lumber, BMHC and ABC Supply still occupy the first five positions among lumber and building material dealers. Several of the Big Five continued making acquisitions through 2006, which helped boost their revenues. Altogether, they accounted for 35 percent of the Top 350 sales.

One of the businesses acquired was Rowley Building Products, a 10-unit chain of lumberyards in New York’s Hudson Valley. Rowley’s owners decided to join Strober, a division of Pro-Build, when they noticed national builders moving into the area. But by the time the deal was finished, in July 2006, single-family permits in the New York, New Jersey region were on track for their weakest year since 1996.

“[Strober] has been around awhile, and they understand the cyclical nature of the business,” co-owner Brian Rivenburgh told HCN at the time.

Most of the pro dealers on the Top 350 list have been through housing downturns before, the last one beginning in 1995 and lasting three years. But this downturn is different, with production builders pulling back on the reins quicker than anyone can remember.

“Literally, in early July, it was just as though somebody turned off the faucet,” said Builders FirstSource CEO Floyd Sherman, speaking to a group of analysts last October.

Builders FirstSource showed a decline of 4.2 percent in sales last year, despite expanded manufacturing capacity in Greenville, S.C.; a new lumberyard in Lake City, Fla.; and an acquisition, Freeport Lumber, in the Florida Panhandle.

Florida dealers listed on HCN’s Top 350 scorecard showed a pattern of similar results, with 14 out of 18 companies reporting sales that were flat or down for the year. But the story behind the numbers is one of robust sales in the first half of 2006 followed by steady declines in the last two quarters.

“By the end of the year, many of our dealers had [experienced] a solid year,” explained Bill Tucker, president of the Florida Building Material Association.

Of course, 2007 is another story. “It continues to fall off the roof,” Tucker said. “I’ve spoken to dealers whose sales are off by 40 to 50 percent.”

One of the bright spots on the building landscape — commercial construction — is doing well in Florida, according to Tucker. Dealers across the country are turning in similar reports. O.C. Cluss, a nine-unit pro dealer based in Uniontown, Pa., acquired an Ohio truss manufacturer last year that makes, among other products, steel trusses used in commercial construction. Other Cluss acquisitions in the past two years include a glazing operation and a wholesale plumbing supply company, both of which serve the light commercial market.

O.C. Cluss reported a 30 percent rise in sales in 2006, from $85 million to $110 million.

Even the big guys, the ones who grew more muscle during the production home cycle boom, are turning toward commercial work now that times are lean. BMHC’s construction services division is “pursuing limited commercial construction work where it makes good business sense to do so,” according to SelectBuild president and CEO Mike Mahre.

Although the first half of 2006 was a busy time for acquisitions, M&A activity tapered off toward the end of the year as the outlook grew dim. Stock Building Supply announced employee layoffs in June and November, and the other major LBM players quietly reduced their work forces. Pro dealers who had relied on tract home builders for revenue began looking at multi-family housing, the remodeling contractor, and in some cases, the consumer.

Chip Mortimer, president of Mortimer Lumber in Port Huron, Mich., served home builders from his four locations in southeastern Michigan during the boom days. But with single-family building permits in the Detroit metropolitan area down by 44 percent this year, Mortimer calls his housing market “the worst place to be right now.”

Yet business is holding steady at this $25 million chain, which has shifted its customer mix by redirecting advertising dollars and beefing up its kitchen cabinet and decking division. “We never abandoned our remodelers and our consumers, so business is still strong,” Mortimer said. “The customer count and the transactions are just different.”

Dealers also turned to multi-family housing as single-family starts dried up. Although the condo market has weakened considerably, there are still pockets of intense multi-family building activity in some urban centers. Condo and apartment projects are going up all over downtown Seattle and Bellevue, Wash., some with commercial mixed in, all fed by the job growth in those cities.

In San Jose, Calif., ORCO Construction Supply store manager Mark Tabaldi said his sales figures are running 12 percent to 15 percent higher than last year’s. He attributes the growth to commercial and multi-family construction in the Bay Area.

“Everybody is going up,” Tabaldi said, referring to high-rise residential projects like those being built next to a Bart station near ORCO’s corporate headquarters in Livermore, Calif. “There’s a lot more hardware in these kind of projects, and the order is always pretty big,” he explained. Threaded rods that go between the floors of an apartment building — commonly known as a “hold down system” — can add up to $50,000 for a large project, according to Tabaldi, who isn’t mourning the slowdown in single-family construction.

For more on the Top 350 pro dealers, read the Aug. 27 issue of Home Channel News. 

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