For nearly 40 years, Wells Fargo Equipment Finance and its predecessors have surveyed construction industry executives annually to better understand the unique challenges that decision-makers face. Over the last five years, we’ve seen slow but steady growth that has made this industry more and more appealing. The results of our 2015 survey of construction industry executives revealed a sense of optimism that has held up well through the first three quarters of this year. Two themes we saw play out in 2015 were that equipment rentals would remain strong and equipment acquisitions would likely rise, although at a pace that most industry participants would like to see more accelerated than is currently taking place.
As the fourth quarter comes to a close there are two key legislative items that are important to companies in this space that could invigorate the industry if resolved in a timely manner. A highway funding bill and reinstatement of bonus depreciation could have a positive impact for manufacturers, distributors, rental companies and equipment end users. Banks
Industry Environment Residential and Non-residential Spending
Residential spending has been slowly increasing as noted by the latest report from our Wells Fargo economists. The report noted that private multifamily spending jumped 4.8%, while single-family spending increased a more modest 0.7%. This was not terribly surprising following the weak housing starts number in August.
Non-residential construction activity is increasing. Most areas of the country are seeing a rise in non-energy related commercial and infrastructure spending. A look at the number of projects valued at over $5 million that are either in the planning, bidding or post-bid stage shows a year-over-year increase of 30% from October 2014 to October 2015. The states with the highest percentage increases are Kentucky (83%), Oklahoma (75%), Wisconsin (73%), Massachusetts (73%) and Utah (71%). Only one state, Montana, is showing a decline in large project activity at -21%. The next lowest state for growth is Tennessee at a positive 24%.
The positive, even if modest, growth numbers for both residential and non-residential construction are good indicators that this industry can remain healthy going into 2016, though with some notes of caution, particularly the continuing impact of the slowdown in the energy sector.
Oil and Gas
The recent slowdown in oil and gas drilling, resulting from the high supply and low demand environment, which in turn drove down the price of oil, has impacted the utilization of both Original Equipment Manufacturer (OEM) dealer rental and general rental fleets. According to industry sources, the overall rig count in the U.S. is down 59% from October 2014 to October 2015. The reduced activity surrounding new well activity has impacted distributors, contractors and rental companies in areas with a higher concentration of energy production. The positive news in these areas is that as equipment comes off of production jobs in energy, it has been absorbed into other construction related activities. The downside to this is that there has been recent pressure on pricing for non-energy related projects as well as downward pressure on rental rates and used equipment rates for assets related to the energy industry. It is yet to be determined what the long term impact of this protracted slow-down will be on the overall construction industry, but as of today, there appears to be sufficient activity on a national basis to absorb the loss of energy related activity in the industry.
Continued Acceleration in Rental Activity
Rental industry information contributed by Gary Dyshaw, Wells Fargo Bank’s Heavy Equipment Dealer Group and Gary McArdle of Rouse Rental Services.
The growth in heavy equipment dealer and rental house balance sheets during the last two to three years has been driven, in part, by organic growth, but also by changes in market conditions which have spawned significant increases in rental fleet portfolios. These changes include:
- Unpredictable work backlogs and projected business activity levels, which in turn, have contributed to unwillingness by contractors to commit to equipment purchases. Lack of an extended Federal infrastructure funding bill has added to this uncertainty.
- A number of end-users whose financial conditions remain weakened by the economic downturn, and therefore are having to rely on rental arrangements (rather than purchases) to obtain equipment they need for their business.
- Demand from bonding companies to shift debt/liabilities off contractor balance sheets.
- End-users in the oil/gas industries for which short-term rental contracts better align with their market volatility.
- Broader OEM support for increased rental activity in their dealer network.
Sentiment in the rental sector over the first half of 2015 has been a mixture of optimism and concern. Most of the economic data and construction spending estimates point toward high single digit growth in non-residential construction spending for the next few years. This should be a positive signal for OEM dealer rental distributors as well as general rental houses which have seen dramatic growth over the last four years even while construction spending improved only slightly.
Rental houses and dealers have had to increase rental inventory fleets to accommodate this increased rental activity. Rental rates are up 25.5% since January of 2011 according to the April Rouse Rate Index. Used equipment prices have weakened in the first half of 2015, but still remain 7.1% higher than the prior peak period of April 2007 and 56% higher than the trough period in June 2009, according to the June Rouse Value Index.
Many dealers believe that when a Federal Highway bill is passed and the economic outlook stabilizes, contractors would rather own than rent their core equipment and will return to the market. Others feel that this will be a permanent shift to renting equipment rather than owning.
Rental Fleet Size
Rental fleet sizes have increased dramatically since 2010 in order to meet increasing rental demand. The fleet sizes of the major national and regional rental companies have increased over 55% on an original equipment cost (OEC) basis since 2010. In just the last year (from June 2014 to June 2015), the large general rental companies have increased their fleet OEC by 12.6% and the OEM dealer rental and independents have increased their rental fleet size by 17.9% (see Exhibit 1).