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Recapping the First Quarter

After an unusually active fourth quarter, non-residential contracting in metropolitan Pittsburgh took a breather in the first quarter. Contracting volume fell 13 percent compared to the same period in 2011, according to market research firm Tall Timber Group. Contracting during January to March was $440.7 million, down from $507.6 million in 2011. Following a fourth quarter in 2011 that saw $700 million in contracting, the demand for commercial and industrial space is still improving while vacancy rates continue to fall. It’s worth noting that the number of projects getting started was slightly higher than in first quarter 2011 and the trend of private spending driving the market continues.

 There is strength in several segments that are keys to improving markets. Office/industrial construction continues to flourish and these are indicators of stronger employment markets. Retail is also solid if unspectacular. The number of retail projects was up 22% compared to 2011 and the rumors of big box activity have begun to swirl around the more desirable locations.

 The unknown variable last year was financing and since the fall it appears that the pendulum has swung back towards deploying capital instead of conserving it. Conditions are still conservative but more like historical norms. We see the current volume and the accelerated schedules of some of the big projects – The Tower at 4 PNC, UPMC’s Center for Innovative Science – as confirmation of the regional business health and relative availability of financing.

 Permits for single family detached homes spiked steeply during January of 2011 in metropolitanPittsburghbecause of a carryover from the short-lived sprinkler mandate and the artificial increase is one of the reasons for a decline in single-family permits in 2012. The overall housing numbers are indicating that the housing market is getting a firmer footing in the first quarter of 2012, with an increase in total permits of 19.5 percent.

 During the January through March period 408 permits were issued for single-family detached units, down 17.6 percent from the same period last year. Permits for attached units and apartments more than doubled however, with 396 units started compared to 178 during the first quarter of 2010. The overall housing construction volume was 804 units. While that represents growth from 2011 it’s instructive to remember that the activity is still roughly half of that during 2004.

The first quarter’s housing starts mirror the growth patterns in the regional economy. For several years the most active housing sub-markets were primarily in the north and south along the I-79 corridor but some of the more active markets were also in high growth areas in bedroom communities like North Huntingdon and Hempfield in the east or Hampton and Richland in the north. A quick look at the municipalities with the highest number of starts in quarter one reveals that all are located along the I-79/I-376 corridors where natural gas and energy are booming. One sub-market with low activity that has been the most active for the past four years – the city of Pittsburgh – has seen brisk activity in the construction of residential units in the first quarter but almost all of it has been in adaptive re-use projects.

Housing activity in the six-county metro Pittsburgh area in 2012.

Local Talent

In March I had the pleasure of being involved with the pre-selection process for a new downtown office tower that Burns & Scalo is proposing. On March 29 the developer held a media event to announce the finalists for the project’s design (which ultimately won’t be decided until they get a lead tenant) and the evening was a revelation for me about the talent of local architects.

First a disclaimer. I was approached to be a juror in February and initially declined, citing the obvious lack of qualifications. My friend Holly Childs persisted by assuring me that they wanted someone known in the industry who was not an architect but understood the business. And to counter balance my lack of qualifications the others selected as jurors were architect Elmer Burger from Point Park University and Tracy Myers, who is curator of the Heinz Architectural Center at the Carnegie Museum.

In mid-March the three jurors met at the Burns & Scalo suite at the Duquesne Club and reviewed eight small renderings (8″ X 11″) to recommend three finalists. It was tough getting down from five to three but the resulting choices were comfortable with all of us.

Two weeks later, when the media event was held, we got to see all the entries in full size form and it was much more impressive. What struck me was that the designs of all the architects were buildings that I wanted to see built. There were some that did not fit well along Ft. Pitt Blvd. but would have been spectacular in other sites. One in particular, a geometric structure with multiple blocks and terraces designed by Anne Chen and Gary Carlough of EDGE Studio, should be the next academic building built at Pitt (or better at WVU). The Design Alliance submitted this unusual looking stacked cube design that was probably unfeasible for a commercial office and looked out of context along the Mon but would be a tremendous corporate office building tied to a global brand or something.

Jim Scalo created the design challenge to create some excitement about a new downtown office and to show off the talents of local architects (some of whom may have had a large user in tow). The results accomplished the latter mission for certain. With any luck there will be a dozen or more opportunities for new 300,000 square foot plus offices in the next decade. Without doubt some of those will be designed by some high profile New York or Houston-based architect. Here’s hoping that at least a few of the owners/developers of those offices to come get a look at the work that these eight firms did before looking out of town.

Spring Thaw for the Market

After the heightened activity between Thanksgiving and New Year’s it’s understandable that the bidding market would take a breather during January and February but the extended slower period was beginning to make contractors and suppliers a bit edgy (and aggressive). The market has begun to bloom a bit over the past two weeks.

The cracker plant win has had literally nothing to do with the better conditions but the uptick in activity did seem to coincide with the announcement. But I do mean coincide. In the gas sector the activity is accelerating in midstream facility construction. This morning’s article about the proposed Appalachian Superior compressor station near the Mills Mall underlines the uptick. That station would be the first in Allegheny County but at least 5 others are being planned within a 25 mile drive north of the site. Keystone Midstream has applications in for 4 plants in southern Butler County and Mountain Gathering is working on 2 others. Work has started on 2 more stations in western Washington County by MarkWest Development. Several of these are smaller – involving 5 compressor units – but even those will involve $10 million projects.

The buzz about office building construction is growing as well. Highmark’s purchase or option activity in the north is now ‘on the radar’ for most business development pros. With 4 buildings of at least 125,000 sq. ft. announced at Southpointe by Horizon or Burns & Scalo you might think that a temporary glut is looming but reports about Horizon’s first project are that the leasing is brisk and the building may already be more than 50 percent leased (even without a completed design). Rumors abound of multiple deals in Cranberry and multiple 100,000 sq. ft. plus users looking. Connecting the dots between users and development deals shouldn’t be too hard but a number of the users will be surprises. And prospects for downtown continue to blossom, including the possibility that a large natural gas or energy player is looking hard at a high visibility location.

Hospital construction is getting downright exciting. The team continues to expand/change at Highmark/West Penn Allegheny, with new execs, new professionals and changing roles for the original players in the new version of WPAHS. Former West Penn Hospital facility manager Bill Marshall has joined the Highmark team and Oxford Development has been retained to assist Highmark with their development. The next big announcement in this sector should be UPMC’s choice for the CM at the CIS project in Shadyside. The hospital interviewed its four finalists – Turner. Massaro/Clark, PJ Dick/McCarthy and Mascaro/Gilbane –  this week and it’s a hard race to handicap. Mascaro is already working on the exterior of the former Ford Motor building at Baum & Morewood so you might like their chances but I doubt anyone – including Mascaro – is counting the project out yet.

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It’s a Cracker!

OK, now that we’ve had the time to take a deep breath we can look at last Wednesday’s announcement of Shell’s preferred site with a bit more perspective.

First things first. There is no downside to Shell picking the old Horseheads zinc site for their ethane cracker. Regardless of how events unfold from here the Western PA region is better off today than last Tuesday if only for the potential. That said however, it’s important to temper our regional enthusiasm with the knowledge that the decision to proceed with plant construction is still a year or more away and construction itself is at least two years out. The real beneficial impact of the plant – the development of the many downstream industries here – will be years further away.

The acute problem facing the natural gas industry hasn’t changed. Prices are still so low that extraction and processing is a losing proposition right now. It is fortunate for stakeholders in Western PA that the Marcellus Shale formation contains more profitable wet gases like ethane, propane and butane so the drillers will continue in the southwest corner of the state. We’re also lucky to have the oil-laden Utica formation easily accessible in Butler, Beaver and Lawrence counties so that upstream and midstream activities – like fractionation and distribution – will continue to expand.

For the gas industry to fully mature in our region the price will have to increase to its more normal levels, meaning that gas will be at $5-8/MmBtu. The most productive way for that to happen will be for gas to replace fossil fuels, increasing demand while decreasing the dependence on oil as a fuel or coal as an electricity generation source. That will take more investment or energy policy action than is going on right now.

Until something happens to push demand and natural gas prices higher the opening of the Shell cracker facility will remain on the horizon. Of course, it’s better that it’s on the horizon in Beaver Co. than elsewhere.

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The Gas Industry is Tapping the Brakes

Since the first of the year have come the first indications that the exploration of the Marcellus Shale will not be transforming the region at breakneck speed. For more than a year the depressed price of gas has been troubling for the industry but the dip down to $2.50 MMbtu has prompted a change in strategy.

First is the shifting of resources from the northeastern corner of the state to the southwest to take advantage of the additional gases that can be gathered and sold from the wet gas that is found in the Marcellus Shale. That’s a plus for our region.

Second is that the high price of oil is an incentive for the gas companies to look at exploring the Utica formation because it contains oil as well as natural gas. That’s not as good for western PA since the Utica formation is more accessible in OH. The heightened interest in Utica will help with the activity in Butler, Beaver and Lawrence Counties as the Utica shale is closer to the surface too.

Drillers are also beginning to look at other formations that have natural gas deposits to see what the related oil/gas properties are. The Marcellus is going to be a big play for a long time but the speed of its development will be throttled back while gas remains cheap.

The slowdown in exploration may or may not be related to the dragging on of the announcement of the Shell and Aither cracker plant locations. What was to be an ‘end of the month’ announcement in January seems no closer to being made in mid-March and a statement made last week by Sheel CEO Peter Voser at an energy conference in Houston hints that Shell is in no hurry. Voser commented that the Dutch company’s final decision on the investment was “quite a few years away.” A shell spokesperson clarified later that Voser meant that the planning would take a few years but that a decision was imminent. No definition was made of ‘imminent.’

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America’s Next Crisis: A Housing Shortage?

Twice in the past two weeks I’ve been exposed to the writing of some smart guys who have made a coherent argument that the housing market is about to break out into an agressive growth cycle. There are still some well-publicized (and quite daunting) headwinds for the business. The toughest of these are the foreclosure inventory and the still tighter than average mortgage market. But what separated the analysis of both of these is their reliance on the most basic of housing market fundamentals: demographics.

The first was Warren Buffet’s annual letter to his shareholders at Berkshire Hathaway. If you’ve never read on of these you should. Buffett feels the undersupply of the past four years has created an un-bubble that will have to burst when the pent up demand from household formations pops. What makes Buffett’s point of view interesting is that he ties the housing industry to about 3 million jobs, or about 2 points of the unemployment rate. You can read the letter (along with his letters back to 1977) at http://www.berkshirehathaway.com/letters/letters.html

The second was a recent article by Charles Sizemore, one of these hot shot investment advisors who write for Marketwatch and the like. His analysis is that regardless of the related economic issues, the crush of home buying from the Echo Boomers is going to create a wave of demand that can’t be met by the current supply chain. You can read the article at http://www.marketwatch.com/story/heres-the-catalyst-for-a-housing-rebound-2012-03-07?link=mw_home_kiosk

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The Office Building Surge

Data from the Bureau of Labor Statistics shows job growth in metro Pittsburgh was roughly 25,000 in 2011. That growth, in concert with very little new construction in recent years has created generational low vacancy rates in the region and moved rents much higher over the past three years.

Estimates of office vacancy run between 8.6 percent and 11.2 percent, according to reports by CoStar, PA Commercial, CB-Richard Ellis and Jones Lang LaSalle at year’s end. According to Grubb & Ellis’ Office Trends Report for 2012 the office space available for sublease was also low. Estimated at just over 350,000 square feet, the office sublease inventory is expected to remain even with that of 2011, which is roughly half the ten-year average for space. Grubb & Ellis also tracked 406,000 square feet of office construction in 2011, only 15 percent of which was available for lease.

BreakingGround magazine’s research database is tracking over 3 million square feet in office projects being proposed within the past year. That total excludes the 800,000 square foot 4 PNC and 250,000 square foot Mylan Labs headquarters to be started this year, as well as the space being rumored as build-to-suit for corporate users like USSteel, Exxon Mobil, GNC and Guardian Security. And the developers include a roster of Pittsburgh firms who have delivered multiple offices into the market over the past decade, including Chaska Property Advisors, Spectra Development, Burns & Scalo Real Estate, Horizon Properties and the Elmhurst Group. The market awakening has revived the Oakland Portal project, with developer L. W. Molnar announcing plans for 300,000 square feet of office.

This litany of projects is speculative product, meaning that construction will be subject to success in pre-leasing and financing. The number of 100,000 square foot users conducting property searches currently indicates that more than a few will find anchor tenants in the coming year. Using historical ratios for planning to construction you would expect to see construction total one million square feet in 2012 in addition to the owner-occupied construction being planned. For all offices the new construction should be four times the volume of 2011.

Some of the specific projects are:

Burns & Scalo, two buildings at Southpointe II totaling 250,000 sq. ft. Horizon Properties, buildings at Southpointe II and Southpointe Town Center, 300,000 sq. ft. Keystone Property Group, two buildings at Keystone Summit in Marshall Twp. totaling 275,000 sq. ft. Elmhurst Group, Cranberry Crossings 90,000 sq. ft., Schenley Gardens in Oakland 110,000 sq. ft. & McClaren Woods 130,000 sq. ft. Chaska Properties, the Pittsburgh International Business Park in Moon Twp. totaling 350,000 sq. ft. In Cranberry, Creative Real Estate proposes 400,000 sq. ft. at the Summit at Cranberry Woods and Spectra Development is planning 1.1 million sq. ft. at the I-79/Route 228 interchange.

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A Big Surprise in the 2012-2013 Budget

Over the weekend, budget perusers from the design and construction industry found a startling surprise in the Governor’s Executive Review of the proposed 2012-2013 budget. While most in the industry weren’t happy with the capital and operations spending proposed for construction the austerity was hardly a surprise (and quite necessary). What was a surprise was the proposal to place a one-year moratorium on new school construction. This moratorium would effectively halt design on any project scheduled for reimbursement while the Dept. of Education overhauled the PlanCon process.

Few involved in school construction would argue with the change in the PlanCon process, however the negative impact on construction would be significant. For a number of reasons, the K-12 market has over the years become almost a cottage industry of its own. For the architects, contractors, specialty subcontractors and supply chain, this moratorium will have chilling effects on their businesses. Moreover, because the moratorium is impacting projects still in the early stages of development it has the effect of shutting down two years of construction.

One can hardly blame the budget office for keeping the proposal quiet and the reality is that for some time now the reimbursement coffers have been empty, with more than 200 school projects awaiting reimbursement for which there are no funds available. But more transparency on a proposal that will have a huge impact on the state’s construction economy was called for.

The language appears in the first paragraph on page A1.16 of the Overview: Education in Pennsylvania in the 2012-2013 Governor’s Executive Budget summary. Click this link to navigate to the budget.

http://www.budget.state.pa.us/portal/server.pt/community/current_and_proposed_commonwealth_budgets/4566

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UPMC, Highmark Keep Construction Going

Last week’s announcement by the Business Times that Highmark had acquired land by Northway Church in Wexford – the worst kept ‘secret’ in the North Hills – capped a week of developments in the ongoing strong hospital market.  Wexford is but one of the three or four sub-markets that Highmark wants to put outpatient/emergency centers. They are allegedly searching for 25+ acres in Cranberry and are eyeing sites along the 19/79 corridor in the South. The resultant construction projects should be buildings in the $8-15 million range.

UPMC’s big news for the week was the narrowing of the field for the CM contract for the Center for Innovative Science by the Hillman Cancer Center. Four contracting teams or contractors were selected to respond to an RFP for the $294 million project by March 6, with a selection likely by early April. Those invited were Clark/Massaro, Mascaro/Gilbane, PJ Dick/McCarthy and Turner Construction.

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