Construction Materials Market: Spring 2023 Outlook

For the construction materials (CM) industry, the first quarter of 2023 can be summarized by two words – weather and pricing. The U.S., particularly in the West, experienced extreme precipitation, project delays, and sales volume decreases.

However, to offset the decline in volumes, many of the larger CM firms raised prices for their products. Many of these price increases were expected as firms indicated they were going to raise prices as of January 1 to combat inflationary costs. Nonetheless, pricing power seemingly was able to handle both weather and inflationary pressures – keeping the CM industry resilient.

In addition to construction materials-specific hurdles, the first quarter of 2023 also unexpectedly delivered a series of global economic events. As we look toward the remainder of the year, it will be interesting to see how global financial movements, such as banking collapses, potential easing of inflation and the Federal Reserve’s monetary policy, affect the economy as a whole.

As it stands, CM seems insulated as producers, especially those upstream (i.e., cement and aggregates), successfully implemented price increases. The combination of normalized weather patterns and Infrastructure Investment and Jobs Act (IIJA) projects coming online should bode well for the sector.

Q1 Construction Materials Performance – Weather, Volumes and Pricing

Precipitation was the greatest obstacle for construction materials activity in the previous two quarters, particularly in the West and Southwest. The first quarter drop continued the fourth quarter of 2022’s modest declines when aggregate production decreased around 7% year over year from above average rainfall in December.

The question now is whether lower volumes are the beginnings of softening demand or truly stem from abnormal weather as shown in Exhibit 1. However, industry leaders are beginning to see improvements in weather, and projects are coming online.

Gail Peck, chief financial officer at Arcosa, notes, “I think as we look at the quarter, we were very pleased to see what March [brought] when we had a very normal weather month for the quarter… When the skies are clear, things seem to be according to plan from a volume perspective.”

Despite the rainclouds, the first quarter of 2023 was all about price increases, which ultimately boosted earnings. Vulcan Materials’ year-over-year adjusted pricing improved 19% for aggregates, 15% for asphalt and 12% for concrete. Martin Marietta noted on its first quarter earnings call that shipments were down for aggregates, asphalt and ready-mixed concrete, but pricing was up “19.6% [for aggregates]…9.9% [for asphalt]…and 20.2% [for ready-mixed concrete].”

Ward Nye, chief executive officer of Martin Marietta, also indicated that “[their] teams are actively advising customers of midyear price increases, which [they] anticipate will be more widely accepted and larger in scope and magnitude than [they] were initially considering a few months ago.”

Investors applauded construction materials’ first quarter performance as the majority of publicly traded companies beat Wall Street analysts’ expectations for both the top and bottom line. Exhibit 2 shows FMI’s proprietary Construction Materials Index (CMI) up almost 14% year to date, well above the returns for the broader indices, thanks to stable funding and stellar company performance.

Inflation

Inflation and the Fed’s response continue to make headlines in 2023. The April Consumer Price Index (a mainstream barometer for inflation) was up 4.9%, still well above the Fed’s target of 2%. To combat inflation, the Fed has already raised interest rates three times in 2023 for a combined 75 basis points. Based on the last Fed meeting, rate hikes appear to still be on the table. “People did talk about pausing, but not so much at this meeting…we feel like we’re getting closer or maybe even there…[but] we are prepared to do more if greater monetary policy restraint is warranted,” said Jerome Powell after the May Fed meeting.

For CM, industry cost pressures, while moderating, remain elevated. Increasing fuel costs brought on by OPEC+ production cuts, expensive equipment rental and repair, and the continued high cost of labor were noted by several construction materials companies during their earnings calls. The Bureau of Labor Statistics’ Producer Price Index for Net Inputs to Construction (Exhibit 3) shows slight cost decreases over the last 12 months. While encouraging, input costs remain well above pre-pandemic levels and CM providers need to remain vigilant.

The key, however, has been the industry’s effectiveness at maintaining margins. As seen in FMI’s second quarter 2023 Heavy Civil Construction Index, most respondents reported similar margins compared to the same quarter last year, and more than a third are seeing margin improvement. This is telling for two reasons: first, it signifies that companies were successful in passing on price increases, and second, it speaks to moderating inflation. It seems the industry’s expectations and handling of inflation are finally paying off.

Residential, Nonresidential and Nonbuilding Outlook

Residential

So far in 2023, it appears that the U.S. residential market is in the midst of a correction, but two fundamentals remain compelling – strong demand and low inventory. “Affordability is the fundamental driver of the declines in single-family activity,” said Tom Hill, chairman and CEO of Vulcan Materials. The combination of elevated interest rates and competition has likely priced homebuyers out of the market – for now.

On the April earnings call, Jessica Hansen, vice president of investor relations and communications at D.R. Horton, said, “If somebody does want a home at [either higher or lower price points], new construction is where they can find it right now.”

On the first quarter earnings call, Summit Materials CEO Anne Noonan said, “Based on National Association of Homebuilders data, each 25 basis points decline in 30-year mortgage rates between 6% and 7% could price in an incremental 1.3 million households into the home buying market. This, together with the lock-in effect and record low levels of housing inventory, are encouraging signs that single-family construction activity could experience a more swift and more dramatic bounce back either later this year or in 2024.” Single-family construction will be very interesting to observe as the year progresses, especially if the Fed reverses course and lowers interest rates.

Nonresidential and Nonbuilding

Onshoring and infrastructure projects remain at the top of the of the built environment due to federal funding from the IIJA and other legislation. Many CEOs noted in their first quarter remarks that the IIJA, CHIPS Act, and Inflation Reduction Act funding was beginning to hit their backlogs.

On Martin Marietta’s earnings call, Nye remarked, “Heavy industrial projects led by energy, onshore manufacturing and data centers continue to drive demand in the segment accounting for the majority of total nonresidential shipments.”

“[B]idding activity…remains robust aided by the federal infrastructure bill or IIJA,” said Kyle Larkin, CEO of Granite Construction. The data supports this narrative as first quarter highway and street spending rose 20% year over year, according to the U.S. Census Bureau.

Aggregates and ready-mixed producers were also able to rebound from the declining residential sector and shift their volumes to infrastructure projects. “[I]n terms of the drivers of demand in the U.S., clearly, the strongest driver is the industrial sector… we are seeing definitely a lot of benefits from the CHIPS Act and from the Inflation Reduction Act,” said Maher Al-Haffar, CFO of Cemex.

Jan Philipp Jenisch, CEO of Holcim, noted that “industrial buildings [and] factory extensions” were beginning to hit their books. The bottom line is that asphalt and aggregates producers are starting to benefit from IIJA funding and ready-mixed producers can shift their volumes away from single-family residential to industrial projects.

Conclusion

CM firms appear to be in the driver’s seat as we enter the core operating season. Previous price increases have been successful and construction materials firms indicated that additional price increases are forthcoming. Backlogs are beginning to build up with funding from federal legislation enacted over the past two years. Inflation, although sticky, appears to be easing. The wild cards for the year will be the Fed’s stance on interest rates and a return to normal weather patterns.

The outlook for 2023 remains a function of each company’s end market portfolio. Those weighted toward nonresidential and highways and streets are in good shape. Those dependent on residential will have a wait and see approach in the current balancing act that is the housing market: higher rates versus low existing supply. All in all, the fundamentals are in place for the CM industry to have a solid year.

 

A version of this article was originally published in Pit & Quarry.