Investing Essentials: Construction Materials
Data source: U.S. Census Bureau.
How does the construction materials industry work?
With few exceptions, the products in this industry are rarely sold to the end user. Typically, a manufacturer -- take Boise Cascade , for example -- will produce its product -- like plywood, for instance -- and sell it to a distributor. The distributor will then supply construction professionals, who will use the material to produce a finished good, like a house or an office building.
This tire stopper is an example of how removed consumers can be from construction materials companies. Source: Flickr user Making Things Better
Construction materials companies often sell their products to manufacturers, as well, who can use these raw materials to produce finished goods that are incorporated into a final product. For example, a concrete company might supply a manufacturer of parking lot bumpers. The point is, these companies are typically behind the scenes, and not consumer-facing, though many are driven by consumer demand based on the health of the overall economy.
What drives the construction materials industry?
The table above illustrates quite well how much it's driven by the rest of the economy. The reality is, new construction projects largely rely on a healthy consumer economy. A business won't just build a new warehouse because the owner wants it: It relies on customer demand of its product or service, which is itself a product of a healthy economy to support that demand.
This, in turn, drives residential construction projects -- as does population expansion. But what it really boils down to is that the construction industry -- and, therefore, construction materials -- is heavily dependent on a healthy, vibrant economy.
Source: Steve Snodgrass via Flickr
From an investing perspective, this means that companies in this industry can be quite cyclical, riding the wave up in a booming economy, and often faltering on the downturn. These companies, due to the nature of producing these products, often have very high fixed costs. When things slow down, those fixed costs can really hurt the bottom line until fixed costs can be lowered through activities like idling plants and reducing labor headcount. Needless to say, these are hard things to do, and can take a lot of time; that can compound the losses.
What's the point? Be sure you consider cyclical risk when investing in this industry.
The article Investing Essentials: Construction Materials originally appeared on Fool.com.
Jason Hall has no position in any stocks mentioned. The Motley Fool recommends Nucor. Try any of our Foolish newsletter services free for 30 days . We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy .
Copyright © 1995 - 2014 The Motley Fool, LLC. All rights reserved. The Motley Fool has a disclosure policy .
The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.