Commercial Market 2011 - June 2011
By Darius Helm
The commercial flooring industry grew last year, following two years of losses, though growth was modest and spotty. Some sectors were actually down last year. However, the biggest sector, corporate, showed some growth and that was enough to pull the market up.
According to Market Insights/Torcivia, commercial flooring sales were up 1.4% last year to $4.151 billion. Last year’s growth was fairly insignificant in the grand scheme of things—it’ll take a lot more than 1.4% growth to offset the losses of the past two years. However, the fact that the commercial market turned positive so quickly, recovering ahead of the residential market, is great news for the industry and holds a promise of greater gains in the next couple of years.
A strong rebound in corporate earnings has been central to the recovery of the commercial flooring industry, and pent-up demand cycling through different sectors at different rates is also helping push numbers up. In general, everything that was trending up in the second half of 2010 has continued to trend up this year.
Refurbishment is generally a larger part of the commercial flooring business than new construction, and as the economy emerges from the recession, the ratio is even more pronounced. In most commercial sectors, there’s very little new construction. The economy is still too fragile, confidence is still too low and banks are still maintaining high hurdles for borrowers.
Pressure on Manufacturers
When demand for products falls and it becomes a buyer’s market, manufacturers have to contend with all sorts of pressures. This time around, everyone from designers to end users is demanding an extraordinary level of service. They’re looking for an immediate response on everything from samples to lead times, and manufacturers have had to dig deep to find ways of getting product out as quickly as possible.
While the market seems to be stabilizing, raw material prices are rising at unprecedented rates. It’s as though every element that influences raw material costs—be it crude oil prices, refinery capacities, droughts, floods, demand from China—is acting to add cost to the equation. Worst hit are the flooring categories with the highest polymer use, like carpet and vinyl flooring, but every type of flooring is getting more expensive to produce at the very least from material transportation costs, facility operating costs, specialty chemicals costs and, almost universally, competition from China.
Squeezed at one end by raw material costs and at the other end by the pricing pressure of a buyer’s market, manufacturer margins are getting thinner and thinner. There’s only so much a manufacturer can do in terms of reducing product weight, lowering overheads and streamlining operations. With demand still below par, they can’t pass through high enough price increases to meet their increased costs. And too often, clients come looking to spend what they spent before, and when they trade up from lower quality goods they are not trading up as much as they used to.
The good news is that several manufacturers report increased activity at the higher end—the same trend is taking place in the residential market. And while high end buyers are more price conscious than before, it’s nothing like the battle taking place at medium and low price points.
Global Market Update
The financial crisis, global in scope, had a huge impact on the world’s largest economies. And while the U.S. market is still struggling to find its legs, many of the emerging markets are already in full rebound. Though there are several European countries still in crisis, much of Europe has been recovering faster than expected. However, it’s still a region in turmoil, with several nations facing staggering problems.
In general, developed nations like the U.S. and much of Europe are expected to emerge from the global recession with slow, modest growth compared to the vigorous rebounds of emerging markets. Smaller economies, which felt the impact largely through trade, have by and large recovered already.
The focus of many U.S. exporters is on the BRIC countries (Brazil, Russia, India and China), the four strongest emerging markets. Together, those four markets account for nearly 2.9 billion people, or 43% of the global population. Not only are the long-term prospects good among the BRIC economies, but they’re also rebounding quickly, so there’s plenty of business going on right now. And a lot of that is in new construction.
Commercial flooring producers report that foreign business has picked up faster than U.S. business. Firms with large global operations showed higher growth in 2010 than did those more reliant on the domestic market. Interface Inc., for instance, which does nearly 50% of its business in foreign markets, saw 6.3% growth in the U.S. and 17% growth in foreign business. Shaw reports that its overseas business fell faster and has come back faster than U.S. business. Overall, the Asian market is most robust.
Carpet dominates the commercial market, with a nearly 70% marketshare, followed by ceramic tile at just over 13%, then resilient at 11.2%. Then there’s a huge gap before hardwood at 3.8% and laminates, half that size, at 1.9%. There was no significant shift in share last year among the bigger flooring categories. With total commercial flooring sales up a hair, carpet took a tiny bit of share, and both ceramic and resilient lost a little.
The only real action was in the hardwood and laminate categories, which together account for less than 6% of the market. Both categories have limited application in the commercial market and they do best in parts of the retail sector. Last year, commercial hardwood business was down an estimated 8.1%, while laminates were up an impressive 26%.
In the carpet category, the story continues to be gains by carpet tile, largely at the expense of broadloom. The top ten mills, which account for over 90% of the industry, all sell carpet tile. And for half of them, carpet tile is bigger than broadloom. Most of the smaller mills that don’t sell carpet tile are specialists in the hospitality sector, where broadloom still dominates.
Broadloom sales were down last year, while carpet tile was up. Carpet tile’s share is strongest in the institutional market, where broadloom can’t match the performance and maintenance characteristics of tile, and the corporate market, where it’s ideal for workstation applications and over raised access flooring. Carpet tile also has a strong share of the government sector where GSA (General Services Administration) guidelines favor its environmental attributes.
Commercial Sector Overview
Industry experts, from economic analysts to designers to manufacturers, break out the commercial sector in various ways, combining market sectors into different categories. Distinct sectors include leased office space (tenant improvement), owner occupied office space, acute care, assisted living, K-12, higher education, government, retail store planning, public space (everything from airports and stadiums to libraries and churches), hospitality guest rooms, and hospitality public space, which includes casino carpet.
The common categories are: corporate, which includes tenant improvement and owner-occupied offices; healthcare, which includes acute care and assisted living; hospitality, combining guest rooms and public space; retail; and institutional, which includes government, public space and, often, education. Many experts break out the institutional sector into its component pieces.
No matter how you cut it, the biggest sector by far is corporate, with over 40% of the market, followed by institutional (in its broader definition). Retail and healthcare are close in size, and the smallest piece of the pie is hospitality.
Last year, the corporate market led growth in the commercial sector. It started coming back in late spring, led by refurbishments in law firms and financial institutions, including some recovery in the better price points. It didn’t come roaring out of the gates, but business has been building steadily since then.
The tenant improvement segment saw a boost with a number of property management companies finally relenting on one-year lease extensions and going back to leases of three to seven years, enabling tenants to make longer term decisions, like renovating.
Also, there was some activity generated by acquisitions of firms with a public face, like banks. Updating interior design elements to match the brand look of the parent company helped boost sales for flooring firms, but that flurry of activity has largely subsided.
Healthcare is the sector most driven by demographics—namely, the aging of the baby boomer population. This year, the first of the official baby boomers are entering retirement. That means that 76 million people are starting to enter their prime years as healthcare clients, necessitating more assisted living capacity, more clinics, more doctor’s offices and more hospital beds. On top of that, new healthcare models have made many of the nation’s hospitals obsolete, and new lifestyle demands by baby boomers have made many assisted living facilities completely unacceptable to retirees.
Short-term, though, even assisted living projects have been scaled back, including some of the more ambitious continuing care retirement communities (CCRCs), which are more like self-contained villages with their own retail outlets, restaurants, leisure and fitness centers, and even continuing education programs. One of the challenges during this recession is that many potential clients intend to fund their golden year plans by selling their homes, and when they can’t sell or have to sell for less, they’ve been forced to either delay retirement or trade down from the CCRC to more modest digs.
Government work has been strong for the last two years, thanks to both the standard boost in business that comes with a new administration and its reorganized bureaucracy as well as the government stimulus. Most manufacturers report that government work remained strong through 2010, but activity has slowed this year. That’s certainly true of state government work, since state budgets are more restrictive and most are under pressure. Federal government work was slow at the beginning of this year, and it’s likely that much of that related to delay in the federal budget.
In the education sector, K-12 business was flat to down last year, and a lot of that was due to state funding—most states are struggling with budget shortfalls, cutting programs left, right and center. And unfortunately, the government’s stimulus package, while funneling nearly $100 billion to the U.S. Department of Education, provided no mandate for funds being used in school renovation and construction.
The higher education segment has fared much better, with many manufacturers reporting growth last year. While K-12 is dominated by public funds, higher education is heavily reliant on endowments. And thanks to strong corporate earnings, the top echelon of society, from which the vast majority of endowments flow, has done a good job of funding higher education projects. Competition between universities is stronger than ever, and part of the way today’s institutions of higher learning distinguish themselves is through design.
The education sector is also heavily driven by demographics, relating to both a population bubble from the offspring of baby boomers as well as increases due to immigration. In addition, it’s a sector badly in need of upgrading. So, like healthcare, the long-term prospects for the sector remain strong.
There are signs that the retail segment is coming back, but the trend is not as strong as it is in the corporate market. Pent-up demand is a bigger issue in retail than in many of the other sectors because of its public face. Even if customer traffic is light, and some would argue that especially if traffic is light, a store cannot afford to look shoddy. After having turned off the spigot almost as abruptly as the corporate sector in late 2008, there’s tremendous pressure on retailers to renovate, but weak sales have impacted renovation projects.
The hospitality segment had its worst year in decades in 2009, and much of 2010 was more of the same. The segment started to show signs of life at the very end of last year, though for most hospitality providers it’s only in the last month or so that a clear trend has become evident. Like the retail sector, there’s huge pressure on hospitality businesses to renovate, and now that revenue and occupancy statistics are slowly starting to rise, the expectation is that business will build throughout the year, leading to a strong recovery in 2012.
However, the hospitality market is so overbuilt right now that almost all the work coming out of that sector is in renovations, and that’s all there will be for the next couple of years. Nevertheless, with some 4.5 million rooms in the U.S. market, there’s plenty of renovation work to go around.
For a close look at the Top 15 Specified Carpet manufacturers and Commercial Hard Surface manufacturers, see the June 2011 issue of Floor Focus Magazine.
Copyright 2011 Floor Focus