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EE/MI Quarterly Check-Up: Non-Residential Construction North America Equity Research 14 January 2020
US non-res construction PIP data showed improving growth in 4Q19 QTD
through Nov, as compared to 3Q19 and 1H19 levels. Top-down indicators including ABI, Dodge, and credit metrics have displayed some sluggishness, overall pointing to a slowdown, similar to forecasts from industry experts, who, however, still call for growth. Bottom-up vertical specific indicators remain mixed on net, with some strength in particular verticals, mostly Institutional. 4Q saw a continuation of solid trends in Healthcare and Manufacturing, Office and Education showed accelerated positive growth, while Commercial remains negative, though also showing some gradual recovery. Finally, the overall tone from management teams on the state of the market remains cautiously optimistic with expectations for LSD-MSD type growth in 2020, solid but not necessarily differentiated vs the overall macro backdrop and other end markets, as labor shortage and tariff challenges pose risk for a slowdown. Within our coverage, companies with relevant non-res exposure overall include OWs HON, UTX, PNR, IR, HUBB and HDS, UW-rated LII and WSO, and N-rated JCI and WCC. Non-res quarterly update. This quarterly report provides a detailed dashboard of macro data related to the US non-residential construction market, which is important to the EE/MI sector, with ~15-20% of large-cap sales directly or indirectly related. In addition to the commonly followed top-down data, we look at bottom-up drivers of construction activity with macro data across the major non-res verticals such as office, retail, and education. EE/MI-related US non-res construction improved in 4Q19 above 1Q/2Q/3Q levels. Construction put-in-place in key verticals, as measured by our JPM EE/MI Non-Res Index, was up ~3.3% in Nov (-0.9% in Oct, -3.4% in Sept, ~-1.3% in 3Q19, ~-0.8% in 2Q19, ~+1.1% in 1Q19). Growth in public markets (up ~11.4% in Nov, +10.1% in Oct, +4.7% in Sept) outpaced private markets (+0.6% in Nov, -4.4% in Oct, -6.1% in Sept). Among non-institutional verticals, office continued to be strong and picked up to HSD in Nov vs LSD-MSD prior (vs double digits in 2H18), up 8.2% in Nov, vs up 3.2% in Oct, +3.1% in Sept, up ~5.1% in 3Q19, up ~7.1% in 2Q19 and up ~8% in 1Q19. Commercial had a slower negative growth of -10% in 4Q19 QTD through Nov, vs ~-14% in 3Q19, ~-15% in 2Q19 and ~-12% in 1Q19 after decelerating from MSD levels in 2H18. Among institutional verticals, Education showed a positive rise in 4Q19 to +7% in Nov (+5% in Oct, flat in Sept) vs flat in 3Q19, down ~3% in 2Q19 and down 1% in 1Q19 while Healthcare remained steady in the
LSD-MSD range in 4Q19 QTD through Nov, up 5% in Nov, vs up 1% in Oct, ~+4% in 3Q19, ~+3% in 2Q19 and ~+5% in 1Q19. Manufacturing maintained LSD growth mostly, with Nov up 2%, vs up ~2% in Oct, ~+2% in 3Q19, up ~3% in 2Q19,
up ~6% in
1Q19
after remaining negative
for
more than 2 years (down ~6% in 1H18 vs down low teens in 2H17). The total non-res index including all verticals like Power, Highway & Street and Transportation, is tracking up 5.1% in
Nov
vs
2.3%
in
Oct,
0.4%
in
Sept,
~+0.7%
in
3Q19,
~+3.0%
in 2Q19, ~+3.7% in 1Q19 and ~+3.4% in 2018.
Electrical Equipment & Multi- Industry C. Stephen Tusa, Jr CFA AC
(1-212) 622-6623 stephen.tusa@jpmorgan.com Bloomberg JPMA TUSA <GO> J.P. Morgan Securities LLC Patrick M. Baumann, CFA (1-212) 622-0160 patrick.m.baumann@jpmchase.com J.P. Morgan Securities LLC Abhipsa Sahu (91-22) 6157-4230 abhipsa.sahu@jpmchase.com J.P. Morgan India Private Limited
See page 31 for analyst certification and important disclosures, including non-US analyst disclosures. J.P. Morgan does and seeks to do business with companies covered in its research reports. As a result, investors should be aware that the firm may have a conflict of interest that could affect the objectivity of this report. Investors should consider this report as only a single factor in making their investment decision.
www.jpmorganmarkets.com
Top-down indicator trends point towards a slowdown in 4Q19... As always, there were some puts and takes in leading indicators. The ABI went down below 50 in 3 out of the last 6 months in 2019, after remaining above 50 all of 2018, with Nov at 51.9 (52 in Oct, 49.7 in Sept, 47.2 in Aug), and Dodge new non-res contracts also moved towards negative growth in 4Q19 QTD through Nov (12- month rolling down 3% in Nov vs down 4% in Oct, ~flat in 3Q19, ~+5% in 2Q19/1Q19, ~+2% in 2H18) post high-teens growth in 2017. The Dodge Momentum Index demonstrated a lesser decline in 4Q19 QTD through Nov after steady deceleration until 3Q19, down 4% in Nov on a 3mo rolling basis, vs down 9% in Oct, down ~15% in 3Q, down ~10% in 2Q, ~+2% in 1Q, +~21% in 2H18. Credit conditions as measured by the FRB loan officer survey showed further tightening after recovery in tightening standards in 2Q19, with 13% showing tightening in 4Q19 vs 7% in 3Q, 11% in 2Q, 12% in 1Q and 4% in 4Q18, while net % of respondents indicating stronger demand still remained weak with some recovery at -5% in 4Q, vs -6% in 3Q, -17% in 2Q, -11% in 1Q and -11% in 4Q18. …vertical-specific, bottom-up forward indicators mixed on net. The key index, non-res building construction employment, historically a good leading indicator for EE-MI vertical spending, showed further deceleration to negative levels in Nov (-1.1%) after falling to ~0 levels in 2Q19 from LSD-MSD growth in the last 5 years, (down 1% in Oct, down ~0.9% in 3Q, ~+0.2% in 2Q, ~+1.5% in 1Q), possibly due to wage inflation still remaining a dominant factor, which was up 3.2% in 3Q19 (vs 4% in 2Q19, 3.5% in 1Q, 3.7% in 4Q18, 3.4% in 3Q/2Q) vs 10- year average of 2.4% until 2017. Looking across verticals, in Education, property tax receipts remain solid, rising to MSD growth levels (vs MSD prior) with 3Q19 up 5.7%, vs ~5.8% in 2Q19, ~3.7% in 1Q19, ~2.2% in 4Q18, with employment trends gradually accelerating to ~0.8% in Nov/Oct (vs ~0.5% in 3Q, ~0.3% in 2Q, ~0.5% in 1Q), while muni issuances continued lumpiness (12mo forward down 16% in Nov, vs -12% in Oct, ~-15% in 3Q, ~-21% in 2Q, ~-9% in 1Q). Across Healthcare, employment growth was steady (up 2.8% in 4Q QTD through Nov vs up ~2.7% in 3Q/2Q, ~2.4% in 1Q). In Retail, retail sales were solid at ~3.2% in 4Q QTD through Nov, vs ~4.3% in 3Q19, ~3.4% in 2Q19, with employment growth still showing lumpiness, down 0.1% in 4Q QTD through Nov, vs down 0.4% in 3Q19/2Q19, down ~0.1% in 1Q19. Finally, manufacturing indicators remain positive,
with
12-month
forward
IP
growing +2% in
Nov/Oct
vs +3.1% in
3Q, +1.8%
in 2Q, +2.1%
in 1Q, while 12-month
forward
capacity
utilization
was up +1.3% y/y in Nov vs +1.5% in Oct, +2.7% in 3Q (+1.5% in 2Q, +1.9% in 1Q). Overall, our bottom-up index of all verticals is remain mixed on net. Company commentary points to a cautiously optimistic outlook into
2020, with strength across manufacturing and institutional verticals. Commentary from companies suggest a modestly cautious outlook into 2020, supported
by macro indicators, with some challenging dynamics regarding labor shortage and tariffs. Among EE/MI companies, LII sees a flat unitary market and commercial shipments in 2020; HDS cited choppy C&I markets amidst
labor
shortage concerns; IR sees strength in Industrial and commercial HVAC, even in retail, with growth sliding towards applied vs unitary, while short cycle industrial spending is expected to show persistent softness; WCC expects CIG markets to be up LSD for FY19 and current soft demand environment to continue in FY20; HUBB’s outlook remains unchanged for non-res at LSD growth; JCI expects a little bit lower on MSD growth through 2020, with strength in Institutional at order rate of LSD- MSD. Among those who have provided guidance, expectations seem to point to LSD-MSD type growth in 2020, similar to that in 2019. Atkore expects KSD 2
growth in non-res commercial construction with strength in Healthcare, Infrastructure and Institutional verticals, while Acuity brands guided to LSD-MSD declines in lighting in private non-res construction and don’t see an improvement before 2H20. Masonite sees strength in Architectural quick ship business, and repair/remodel market remains supported, as net inflation remains lower than their original expectations; Herc Holdings expects a slowing trend for industrial spending, in line with top-down indicators; Watts Water sees steady repair/replace markets and orders in Education vertical, while commercial is expected to be slow. RXN sees favorable demand conditions in core non-res construction with stable Institutional and Office verticals, while non-res building construction spending is seen pressured, particularly due to retail and construction verticals. Geberit sees
weaker-than-expected Institutional construction market in NA and expects UK non-res markets to decline due to Brexit uncertainties. Beacon Roofing believes in room for growth in commercial through sales centers; ETN sees slower growth in non-res construction. Allegion cited front-end weakness in non-res
spending, in line with public data. SHW saw MSD growth in new commercial and property management while expecting a more disciplined commercial side. SWK cited weaker industrial emerging markets, supportive of US construction DIY markets, LDD growth in retail and LSD growth in commercial channels. Assa Abloy sees a strong commercial market in North America, also supported by commentary from United Rentals, which cited strong downstream but negative midstream and upstream, leading to a flattish industrial end market.
3
Table of Contents Non-Res Construction Quarterly Review ...............................5 Summary of Put-in-Place Data.....................................................................................6 Overall Market Indicators ............................................................................................9 Bottom-Up Market Indicators .................................................................................... 16 Company Growth Rates...
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