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Construction futures

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technical & practice

With the war in Iraq adding to an already uncertain market, how does the future look for the construction industry?

Air strikes, wage claims and market caution suggest the construction industry should expect higher prices and more depressed activity.

Global recovery would have been unlikely until the second half of this year anyway, but the outbreak of hostilities in the Gulf has now created an enormous risk to that recovery.

For the UK construction industry, the future shows an increased polarity between the regions and between the sectors. Building tender price rises are forecast to slow over the next two years, with the private commercial and industrial sectors taking time to recover, while workload increases in the civil engineering sector.

In the City of London, the market has been hit by successive waves of job losses, which is feeding through to property values. However, despite the disappearance of new commercial office schemes, London and the South East are likely to remain very active. Geographically, the focus for this concentration of resources is moving west from the City, with a number of 'mega' schemes (Wembley Stadium, White City, Paddington Basin, Terminal Five, the new Arsenal stadium) creating a continued strain on supplies of skilled labour. Away from the South East, workload is looking much more uncertain.

Construction new orders figures rose during 2002 and were eight per cent up on the previous year.However, the figures hide a marked slowdown in the second half of the year and orders in the fourth quarter were 10 per cent down on the previous quarter.

The winter 2002/03 forecast prepared by Construction Forecasting and Research (CFR) indicates that further rises in total construction workload of 4.5 per cent and 2.5 per cent will be seen in 2003 and 2004 respectively. The profile of the industry is expected to change substantially in the next few years, with more work in the infrastructure sector, while increased spending on health and education will be routed through Public Finance Initiative/Public Private Partnership procurement. As such, the industry is becoming much more reliant on public spending and there are considerable dangers in that.

The main danger of relying on public sector funding is that slow economic growth would force the chancellor to cut back on spending or raise taxes. As well as a downturn in the economy, the chancellor also has to worry about a lack of funds due to the fall in tax receipts from capital gains tax, stamp duty and corporation tax. Investment in infrastructure, which is anticipated to rise sharply, is susceptible to these closures of the public purse. Planned expenditure by Network Rail has already been sharply cut back, primarily because of a lack of funds.

Input costs

Contractors' input costs rose by less than 0.8 per cent in the past three months, to show an annual rise of 8 per cent compared with the first quarter of 2002. The price of materials rose by 7.5 per cent during the year, with rebar prices up 19 per cent due to supply problems and readymix concrete prices up eight per cent due to the Aggregates Tax. Daily rates for skilled labour rose nationally by 1 per cent in the past quarter, and by 10 per cent for the year.

Despite the press reports of £55,000 salaries for T5 workers, the details of the 'agreement' are less sensational. The deal involves a substantial performance-related bonus and consolidates all bonus, lodging and travel allowances. Hourly rates are not much above the average for London.

Negotiations are under way on the builders' three-year wage award. The starting point from the union side is a claim for £12 an hour - a 62 per cent increase on the current rate; the employers have countered with 10 per cent to be paid over three years.

Negotiations continue.

It has been calculated that the London Congestion Charge will add about 0.5 per cent to the cost of new central London projects. Meanwhile, the rise in National Insurance payments from this month will effectively increase employment costs by one per cent; the resultant 0.5 per cent increase in contractors' costs is likely to be passed on directly in higher tender prices.

Civil engineering

The predicted increase in infrastructure workload is far from balanced, and despite huge amounts apparently being committed to rail, it is the roads sector that is providing the biggest workload.

Orders for water and sewerage in 2002 were 35 per cent higher than the previous year, with the water companies at the mid-point of their five-year programme of work. The water companies are currently behind on their Asset Management Programme (AMP3), but spending and increased investment can be expected during the final two years of the programme to March 2005.

Although the rising level of infrastructure spending means the construction workload is likely to rise this year, only a limited number of contractors will be able to switch to servicing this new demand.

Construction workload

Despite the healthy sounding figures, the construction industry remains somewhat precariously balanced.

The sector going through the worst upheaval is commercial offices, with London particularly affected. With a substantial oversupply of office space in London, there is little chance of new schemes starting up without a pre-let. Away from London, pension funds are in difficulties and are being more circumspect and less likely to invest in building schemes.

The retail sector, while still healthy, is being sustained by UK consumers continuing to spend money. This remains a precarious position, since there are fears that the rises in National Insurance and Council Tax could hit consumer spending. Nevertheless, the supermarket chains have long-term spending plans, including substantial refurbishment programmes.

It is not all doom and gloom, though. Money continues to be invested in health and education, with PFI as the preferred route.

Some of the problems with PFI are finally being addressed, and there is now a clear commitment from the government to speed up the delivery of the schemes, with 'bundling' of schools refurbishments as one of the new approaches.

Tender prices

With the expectation of a slowdown in commercial construction and an increase in infrastructure spending, building tender price increases are forecast to slow. With the market polarising, the selection of the right contractor is becoming ever more important. While some contractors have full order books and are reluctant to go onto tender lists, others, although currently busy, can see empty slots six to nine months down the line and are willing to put in competitive bids.

With construction workloads expected to rise during the next two years, the forecast is that building tender prices nationally will increase by 3.3 per cent in the year to the first quarter of 2004 and by 3.1 per cent in the following year. In London, notwithstanding the disappearance of new commercial offices, the extra workload provided by T5, Paddington and Wembley is forecast to keep labour at a premium and lead to tender price increases of 4.4 per cent over the next year and by a further 4.1 per cent in the year to the fourth quarter of 2004. Civil engineering tender prices nationally are forecast to rise by 4.2 per cent and 3.5 per cent in the same periods.

Macro economic factors

In the City, equities continued to fall and showed a drop of more than 10 per cent in the past three months, while the Bank of England cut interest rates to the lowest level for 48 years.

The accepted view is that a short, sharp war in Iraq, which does not damage oil production, will provide a boost to the recovery of the world economy. However, the outlook among forecasters remains gloomy, with dire predictions of job losses when the one per cent increase in National Insurance contributions kicks in. The dilemma about interest rates remains as house prices continue to soar, while in February manufacturing suffered its worst decline in more than a year.

Despite all of this, the latest (February) roundup of views of independent analysts predicts economic growth of 2.2 per cent this year, rising to 2.4 per cent in 2004.

Underlying rates of inflation, which actually increased to 2.6 per cent in 2002, are expected to remain just within the government targets, with year-on-year increases of 2.4 per cent forecast for this year and 2004; the possibility remains of further interest rate cuts.

Paul Moore is an associate and head of the cost research department at EC Harris. Email paul. moore@echarris.com


Construction output in the third quarter of 2002 was two per cent higher than in the previous quarter, and eight per cent higher than in the third quarter of 2001.

Construction output is forecast to increase by 4.5 per cent this year, and by 2.5 per cent in 2004.

Skilled labour rose by one per cent in the past quarter, and by nine per cent since March 2001.

Commercial and industrial sectors face a slowdown.

Infrastructure output is set to rise by 12 per cent this year, and 10 per cent in 2004.

Tender prices are forecast to rise nationally by 3.3 per cent during the next year and by 3.1 per cent in the year to the first quarter of 2005.

Tender prices in London are predicted to rise by 4.4 per cent over the next year and 4.1 per cent in the following year.

Civils tender prices are expected to rise by 4.2 per cent in the next year, with a further 3.5 per cent rise in the year to the first quarter of 2005.

The underlying rate of retail price inflation is expected to run at 2.4 per cent in the next two years, then slowing to 2.1 or 2.2 per cent through to 2007.

Economic growth in the UK should rise by 2.2 per cent this year,2.4 per cent in 2004, and thereafter at a similar rate through to 2007.

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