Commercial Market 2012 - June 2012
By Darius Helm
The U.S. commercial flooring market registered growth for the second year in a row, driven by gains in the corporate sector and steady volume in sectors like healthcare and higher education. Most sluggish were the government and K-12 sectors. However, it was price increases that really pushed the market into positive territory.
Unfortunately, last year’s gains do not yet signal a return to health in the commercial market. Business over the last two years was largely derived from pent-up demand in the renovation side of the business, but that 1.4% growth in 2010 and 3.2% growth last year do not come close to erasing the 23% drop in 2009. In fact, pent-up demand alone should be driving sales at a much faster rate than what we’re seeing right now. Both the retail and hospitality sectors should be very active, rather than inching up here and there like it’s been doing over the last few months.
There remain several significant barriers to a full-scale return to health in the U.S. commercial market. One is credit. The barriers to credit, both on the residential and commercial sides, remain higher than logic would seem to dictate. Then there’s raw material costs. Everything from processing capacity to crude oil prices to demand from China (and other emerging markets) seems to be conspiring to constantly push up pricing—at what many would argue is an unsustainable rate. A third barrier is global instability. Problems in the Eurozone continue to hobble recovery in a number of European countries (Spain, Greece, etc.), and huge public divides about austerity measures show no signs of abating.
Then there’s the domestic situation. While there’s no doubt that economic conditions are improving, the sheer volume of countervailing forces (like the rising energy and food prices, sustained high unemployment, and the ongoing credit crunch) is putting a significant drag on the rate of recovery. Historically, the good thing about coming out of a recession is that it starts off like a sprint, with pent-up demand creating lots of activity and adding to an atmosphere of confidence and optimism. That preliminary rush lends momentum to the ensuing recovery. But it looks like this time around there will be few of those leading-edge surges.
Also, the U.S. has its own public divide about how to achieve recovery, but with the current impasse in the U.S. political system, neither of the two opposing philosophies has had any chance of showing its worthiness.
FLOORING AND RAW MATERIAL COSTS
Raw material costs have been particularly hard on the flooring industry. Not only is there the issue of the cost of transportation, but there’s also the fact that more than 85% of commercial flooring—the combined share of carpet, resilient and rubber—is largely derived from fossil fuels. These price increases have put huge pressure on manufacturers’ margins while at the same time driving technological developments and increases in efficiency.
One example of cost-driven development is in face fibers, and the shift from staple fiber to bulk continuous filament. Synthetic staple fiber production is a direct descendant of wool spinning—where the fiber comes in short strands—and it used to be the favored way to produce synthetic fiber. Then for many years it settled down into the 10% to 20% marketshare range (in nylon), still slowly losing share to filament. But in the last few years technological developments in filament production combined with cost pressures to accelerate the shift, and now staple has all but vanished in nylon fiber and, while it used to account for about 95% of PET fiber production, staple PET is now under 20%.
And that brings up PET, another victor in the war on margins. In 2000, PET accounted for less than 10% of carpet face fiber. Now it’s more like 33%. PET is a more widely used plastic than nylon, it’s not as technical to produce, there’s plenty of capacity, and all that leads to it being better priced.
For now, raw material prices are in a bit of a lull, after a flurry of increases at the beginning of the year. Crude oil has for the moment slid back under $100 a barrel. If these conditions endure for a while, it offers a brief respite. But the reality is that this escalation in raw material costs is like being forced to climb up a mountain, with the air getting progressively thinner. A lull like the current one may seem like an opportunity to regroup, but it’s no easy task to catch your breath at 20,000 feet.
Not all manufacturers can survive these sorts of conditions. Some of those focused on the hospitality segment, for instance, where revenues plunged 40% to 50%, have teetered on the brink. The Templeton Hospitality Carpets operation that J&J bought in 2010 and recently absorbed into its J+J/Invision brand had shrunk to half its size in recent years. Hospitality mills, specialty mills of all kinds and smaller players in general have fared the worst—with the exception of those fortunate enough to have found a healthy niche.
Blue Ridge, which did most of its business in the corporate and retail sectors, closed its doors at the end of last year. The broadloom and carpet tile mill, based in Elijay, Georgia, peaked in 2005 at $50 million in sales, but by 2010 it was about half that size.
The biggest recent merger was Mannington’s acquisition of Amtico International for about $200 million. Amtico is a specialist in luxury vinyl (LVT), one of the strongest products in both commercial and residential flooring. In the commercial market, LVT is taking share mostly from VCT. The acquisition not only enables Mannington to expand its offering through in-house domestic production, but it also gives the firm a stronger international presence, thanks to Amtico’s overseas facilities and established foreign markets.
Commercial carpet business was up just over 7% last year. In recent years, it’s been carpet tile driving growth in the category, but this year several mills also reported that broadloom has been holding its own.
Last year, carpet took a share from the other flooring categories, accounting for 60.3% of commercial flooring sales, up from 58.3% in 2010. That was in part due to the relative strength of the corporate sector, which uses a lot more carpet than sluggish sectors like retail and K-12.
Resilient flooring (not including rubber) went from a 14.1% share in 2010 to a 13.5% share this year. VCT is the biggest part of the vinyl business, accounting for 43% of the total, by revenue, or about $306 million. At $227 million and growing fast, luxury vinyl already accounts for about 32% of the commercial vinyl business, and it won’t be long before it overtakes VCT. Sheet goods, both homogeneous and heterogeneous, account for another 25%.
Ceramic tile, which makes up another 11% of commercial flooring, lost some ground last year. Part of that was because two of its strongest sectors, retail and K-12, were down. Meanwhile, the corporate sector, which accounts for only 10% of the category’s sales, led the commercial market in growth last year. Also, there’s more competition from inexpensive imports, and those from China have a major currency advantage that the higher value European tiles do not.
Hardwood revenues were down nearly 11% last year, but considering it only has a 2.3% share of the market, fluctuations of this size are not as significant as they are for the share leaders. Hardwood is almost a niche product in the commercial market, in part because of performance limitations, and its biggest markets are education and retail, both of which are challenged.
Laminates, which have an even smaller share of the market, held about steady at 1.1% last year. Retail is a big market for laminates, and that’s been slow. But about half of commercial laminates go to mainstreet, a market that is more cost competitive than ever, and that probably helped laminate flooring hold its own last year.
The corporate sector is the biggest market for most commercial flooring manufacturers because it’s the dominant market, accounting for over 40% of sales. Then comes the education/institutional market, healthcare, retail and hospitality.
In 2010, the publicly financed side of the market—K-12, public space, government, and some healthcare—was still strong, and as the year progressed, the corporate sector started to build. In 2011, the publicly funded side started to fade, while the corporate market continued to be strong. However, most mills report that in the fourth quarter activity slowed. And many manufacturers report that the slowdown continued at least through the first quarter of this year.
The good news is that the same manufacturers say that there’s activity at the A&D firms right now, suggesting that later this year projects will start coming the way of the flooring industry.
The top and bottom of the market is where all the business is right now. Entry level price points are more competitive than ever. And the level of new construction remains low, as it has since 2008.
By all accounts, the corporate sector should grow again this year, though it’s likely to grow at a slower rate, according to analysis by Market Insights/Torcivia. Tenant improvement business should continue to tick upward as owners move back to longer leases. Owner-occupied business is also expected to rise, as the fortunes of the big American firms continue to improve.
The sector that has been the most immune to the economic ebb and flow is healthcare, which is more driven by massive demographic trends than the other categories. The leading edge of the baby boomer generation (the 75 million Americans born from 1946 to 1964) is already hitting the acute care segment, coinciding with a wave of obsolescence and the birth of new healthcare models—so it’s just about impossible for that segment not to grow.
It’s a similar dynamic on the assisted living side. Not only have the first baby boomers started to retire, but their idea of retirement couldn’t be more different from that of their parents. Today’s retirees are increasingly active, independent, health-conscious and focused on some form of self-fulfillment, from leisure lifestyles to spiritual development.
What this means is that today’s assisted living flooring is about more than having a moisture barrier. Retirement communities include retail establishments, entertainment and leisure venues, fitness centers, educational programs—all of which have different flooring needs. And in terms of design, healthcare looks are out. The flooring in assisted living, especially when it comes to carpet, is trending toward hospitality and high end residential designs.
In fact, many of the hospitality carpet specialists have successfully targeted the assisted living segment to help sustain their businesses while their core market tries to find its legs.
Last year, the vital stats of the hospitality market, like revenues per room and occupancy rates, started to trend in the right direction. The market is overbuilt, so there are only small pockets of new lodging construction, but conditions for renovation work have improved. And while hospitality flooring producers have in fact reported an uptick, for most of them growth has been less than dramatic.
It’s a similar situation in the retail sector, in that the market is moving in the right direction but many are surprised by how sluggish it still is. It’s also very spotty, in terms of both region and target market.
The education market is split between K-12 and higher education. K-12 is mostly publicly funded while higher education relies more heavily on endowments. They also have different flooring needs. Performance is important in both markets, but design in higher education is more important than ever, as universities fight to attract the best students.
With the wealthier strata of American society still doing well, endowments have remained fairly healthy, and that has helped the pace of higher education projects. But K-12 has been hammered because of a lack of public funding. State budgets are already stretched to the limit, and there are no clear indications of relief coming any time soon.
However, in the same way that baby boomers are driving the healthcare sector, the children of baby boomers (sometimes known as echo boomers) are currently flooding schools and universities, along with a sizeable immigrant population. So even though states can’t afford to build new schools, it’s hard to imagine action not being taken at the state or federal level to provide for the needs of the nation’s children.
2012 AND BEYOND
Most experts feel that the commercial slowdown that the flooring industry felt in the fourth quarter of 2011 related to issues like crises in foreign markets. With a global economy, it’s not really possible for developed nations to completely insulate themselves from the tribulations of their neighbors and trading partners.
Much of western Europe has a long way to go before achieving the sort of stability that will calm world markets, and the situation in the U.S. is not much better. On top of that, this is an election year, with many long-term financial decisions that must be resolved in the next four-year term. This uncertainty can be paralyzing, especially when it comes to sizable investments.
But even without such caution, the economy is not roaring back, so nor will flooring. This year is expected to show modest growth, as some commercial sectors, like hospitality and retail, grow a bit more active, while others, like the institutional sector, will remain sluggish. Assuming some stability on the international front, 2013 may be the year when things start to feel like a recovery has set in.
For a close look at the Top 15 Specified Carpet manufacturers and Commercial Hard Surface manufacturers, see the June 2012 issue of Floor Focus Magazine.
Copyright 2012 Floor Focus