What has the latest research on the construction industry by specialists from the Conjuncture Research Center of the Higher School of Economics shown?
The Conjuncture Research Center of the Higher School of Economics’ Statistical Research and Knowledge Economy Institute has prepared a review of the economic situation in the construction industry in the first quarter of 2016. Our magazine is the first media source that the head of the center, Georgy Ostapkovich, has shared the results of the investigation with.
It has not been this bad for a long time
The analysis of 6,500 construction company heads’ polling results by the Russian Statistics Service in the first quarter of 2016 has shown a significant deterioration of the industry’s business climate. During this period, negative dynamics were seen in all major indices characterizing the construction business.
The main compound research parameter – adjusted seasonally – The Entrepreneurs’ Confidence Index (ECI) in construction decreased by 8 points –16% – as compared with the 4th quarter of 2015.
Entrepreneurs’ confidence index dynamics in the sphere of construction
Source: The Conjuncture Research Center (CRC) of the Higher School of Economics’ Statistics Research and Knowledge Economy Institute
There has not been such an ECI fall in one quarter since the previous crisis of 2009. A weak explanation for the fact is the first quarter of any year being “low season” for construction, when the general business activities of construction companies decrease as compared with the 4th quarter. But even taking into account seasonal fluctuations, the depth of the fall is worrying.
The Russian Statistics Service’s data register monthly the decrease in the work volume in construction as compared with the same period of the previous two years (26 months on). None of the economy’s basic spheres (industry, trade, services, agriculture, and transportation) shows such negative dynamics.
Housing construction has remained the only construction driver for the last two years.
However, last May the growth dynamics were interrupted and the trend characterizing housing construction volumes in the country changed from a positive to a negative direction.
Unfavourable changes found in the first quarter of 2016 include a growth in the number of respondents having reported on a decrease in the total volume of construction work (32% against 25% a quarter before). About half of the enterprises (47%) have the same level of the 4th quarter of 2015.
In the reported quarter, the orders portfolio provision (supportability) got worse. The number of respondents having reported on a demand decrease as compared with the previous quarter is 27% as opposed to 21%, and the number of entrepreneurs who noted a demand decrease is 16% against 17% in the previous quarter. More than half of the participants (57%) had the same order portfolio as in the 4th quarter of 2015.
A significant decrease in the mean level of capacity utilization can also be included as a negative factor of the 1st quarter, 2016 - 61%, which is 4 points lower than in the previous quarter. 11% of organizations had a capacity utilization level equal to or less than 30%, and 26% had a level of capacity utilization from 51% to 60%.
According to the results, the negative dynamics of the number of employees on the construction labour market remain, but in the current quarter the tempo has decreased.
Price growth tendency has continued in the current quarter, both for construction materials and construction and assembly work. 81% of the construction business representatives mentioned a construction materials prices increase as compared with the previous quarter, whereas 58% of entrepreneurs mentioned a services cost growth. In the previous quarter, these assessments were 77% and 52%.
Under the pressure of the existing production situation at the beginning of 2016, the negative dynamics continued as regards such financial indices for construction organization activity as one’s own financial resources, income, credits and borrowed finance, and investment activity.
At the early stage of the stagnation period (two years ago), contractors managed to compensate for growing expenditures at the cost of the growth of prices for commissioned industrial and residential buildings. The existing quasi-monoply of many construction companies and low levels of rivalry added to this, especially on the local and regional construction markets. Entering an “alien” regional construction market used to necessitate a high price for an ‘entrance ticket’ demanded by some officials.
Currently, while investment and consumer demand is significantly lower, it is much more difficult to raise the cost of objects being commissioned. In these conditions, contractors and developers both have to find a compromise with their customers.
Due to the lack of customers with ready cash and low market liquidity, they have to apply such forms of payment for objects put into operation as countertrade. If this negative tendency continues, one may expect both developers’ payments to contractors to involve part of an unsold flat, and offers of assets packages for an enterprise or a trade center, the research authors predict.
A drop in the ocean or living entities?
Direct evidence of the drop in construction companies’ financial state and the fall in demand for construction services is offered by the data from R.A.B.C. (the Rating Agency of the Building Complex) about the bankruptcy of 2713 construction companies (5 times more than last year). Strange as it may seem, this is quite a normal situation on the market, the specialist of the Conjuncture Research Center think: weak players leave the market, giving space to more efficient participants.
According to the data, 15—18% of construction companies working on the market have very low levels of development, including finances. The majority of such organizations regularly report on their economic performance as deteriorating, or that they are marginally profitable, or often that they even have negative added value, or that they are working with obsolete and weary equipment, and that they constantly have difficulties in finding new construction orders and qualified employees. The low efficiency of such structures makes them function at the edge of survival in an almost pre-bankrupt condition. In fact, the majority of such companies should be excluded from the market or at least change their management, the authors of the report are sure. That is why about 2,700 organizations leaving the market because of bankruptcy (according to the data of state registration, there were 512,000 construction companies on the territory of Russia in 2015) is a drop in the ocean.
Sad as it may sound, this process should be continued for the turnaround and refinement of the industry, the analysts of the CRC are sure: the majority of such companies do not have sufficient capital. The construction equipment and machinery in such organizations is borrowed, as a rule, so they would not suffer crucial losses.
If such a company has a small order portfolio and some of its own equipment, it may be bought by more financially sustainable and efficient contracting companies (but for a dumping price).
Highly qualified personnel and semi-skilled staff may count on selling their labour to another company. It is harder with low-skilled workers, but they are sure to find a way out: in a period of economic crisis, informal activity is always intensive, and many fired staff start “moonlighting” by building and repairing private houses, garages, saunas, fences, etc. It helps them to retain their former level of income, but they stop paying taxes. Still, the main task is not to allow the passing of the bifurcation point in the process of economic conjuncture deterioration while reducing the number of employees, as social turbulence may result.
We cannot but hope that the coming State Council on construction will take decisions which will help improve the situation in this industry.
Source: The Conjuncture Research Center (CRC) of the Higher School of Economics’ Statistical Research and Knowledge Economy Institute
The Director of the Conjuncture Research Center (CRC) of the Higher School of Economics’ Statistical Research and Knowledge Economy Institute, Georgy Ostapkovich:
The reasons for the construction work volume decrease are quite evident. Contractors depend on demand for their services. Construction, unlike industrial production, has no opportunity to use such means as external demand and storage for further sale of products when economic conjuncture improves. As the economy of the country has moved to the stagnation-recession model of development lately, the demand for construction services has fallen sharply.
The main mechanism of expenditure optimization, besides the reduction of employment and salaries, is the restriction of new construction and freezing that which has already begun. Contractors have the same problems when the federal and regional budgets are cut.
As far as housing construction is concerned, the negative tendency is the decrease of real financial income of the population over the last 16 months, including salaries. There have not been such negative dynamics for 20 years.
The decrease in housing construction might be more significant if it were not for the RF Government resolution to continue the program of mortgage loan subsidizing.
Business activity has also decreased in the segment of construction materials production. One of the lowest entrepreneurs’ confidence indices was registered at the plants for construction materials production.
The two important indices leading the business climate’s deterioration are “demand” and “production”. According to the RF Statistics Service, the fall in the current year has been even greater than in the previous years.
In particular, the production of wall blocks fell by 40.2%, of armoured concrete structures by 29.8%, of Portland cement by 26.7% and of brick by 25.6%.
Today, the recovery of the whole construction complex, at least to the zero point, depends on positive changes in the economy and an end of the population’s incomes falling. It is difficult to expect housing construction volumes to remain as they were last year. The main problem now is not to construct but to sell housing. With the effective demand, contractors may build 100 and 120m m2, not 83.8m m2 as last year. But it will be difficult to sell this product.
Of course, all-round dumping may be announced, but the housing construction objects’ price decrease, which has been witnessed lately, has its limits expressed in sub-zero profitability.