I hear from people who argue that I’m being too negative about the future, that real construction market recovery is just around the corner. When contractors assess risk, it’s always important not to let optimism about the construction services market cloud what’s really taking place.
Now that the election is over, we are no closer to knowing when construction markets will rebound than we were before it. Even if the federal government comes to the rescue in the form of more construction spending and stimulus legislation, it still won’t be enough to pull markets out of their slide.
Increased federal construction spending is needed to replace construction by state and local governments, whose finances are damaged by diminished tax revenue. An even bigger unknown is a COVID vaccine or how the election results will affect its development and distribution, which is critical.
But even if we are able to get additional stimulus funding, increased federal construction spending and quick distribution of an effective vaccine, it won’t be anywhere near enough to return the construction market close to its 2019 high. For that to happen, municipal, state and private construction spending would have to stop shrinking.
Other industry news is not encouraging, either. I saw a recent survey that reported 90% of architecture, engineering and construction firms say they have experienced project delays or cancellations. If architects and engineers slow down, construction can’t be far behind. The Associated General Contractors of America reports that at least 75% of its contractors have experienced project cancellations or postponements.
There are also some multibillion-dollar projects across the country that have been canceled or postponed for lack of funding. Just a sampling includes the $8-billion high-speed train from Los Angeles to Las Vegas, the $10-billion Foxconn LCD panel factory in Wisconsin and the last part of the $9-billion Honolulu Rail Project, whose future funding is uncertain.
With a number of jumbo projects canceled or postponed, the big contractors will trade down and there will be a downward domino effect. Some of the email I get is from contractors saying they have no interest in huge projects, but they don’t recognize that when jumbo projects are taken out of the market, large contractors need to find something else to keep them and their staffs busy.
Market Recovery?
The overall construction market will be down this year by several hundred billion dollars, and there will be less work to go around. I have a model that indicates the industry will not return to its 2019 size for a minimum of 14.5 months, with a statistical probability close to 98%. This changes with new information, but short of a miracle, it only gets worse, not better. Yet I get emails asking, “Why don’t you look at the bright side?” I do, and I will report it when there is a bright side. One note I received the other day said, “Okay, you have been right so far, but the construction market’s getting better.” I wish that the “look at the bright side” emails and “things are getting better” writers had included data proving their arguments.
Risk management in the construction industry includes cooperation with the market, not defiance of it. Obviously, that means planning for anticipated market conditions, which means “sizing” your operations to the market. Unfortunately, that involves overhead expenses, which are made up, plus or minus 90%, of personnel costs. The opposite of risk management is to attempt to maintain sales and size in a declining market by trying to capture work of a different type or size, or in an unfamiliar location, at any price.
The selling price of construction goes down in a declining market, so it is hard enough to profit from the cheap work available. Under these circumstances, performing less cheap work well and at a modest profit has less inherent risk than capturing and performing a greater amount of cheap work. It is a matter of measuring and calculating risk. A declining market has built-in, unavoidable risk. And it is always advisable, in my view, to avoid magnifying unavoidable risk by taking on more risk.
