Construction Industry Downturn Strategies for Contractors

Executive summary:

The construction industry downturn means that as an industry we face an acute recession, influenced by high mortgage rates, stubborn inflation, and economic stagnation. Key sectors like private housing and infrastructure are experiencing significant declines. Private housing output is projected to fall by 19% in 2023 and remain flat in 2024, while infrastructure output will see a marginal decline due to delays in major projects. The construction industry‘s downturn in activity mirrors the economic backdrop of previous recessions, where high financing costs and reduced demand impacted growth. Construction companies have begun to become cautious with their employment numbers, as such these main contractors must adopt strategic measures, including diversification and cost management, to navigate these challenging times and prepare for the construction market’s potential recovery by 2025.

Off the back of the construction industry downturn, subcontractors face unique challenges, often magnified by their dependency on main contractors and the project delivery methods used. Key factors critical for their survival include financial capital, relationship assets, managerial assets, human assets, legal framework, and geographic scope. Successful subcontractors often build long-term relationships with main contractors, seek financial soundness by prioritizing payment methods, and maintain flexibility by keeping lean organizational structures. Diversification into international markets has also been a successful strategy for many subcontractors, often facilitated by established relationships with main contractors.

Examples and detailed insights from previous construction industry downturns highlight the importance of financial soundness, maintaining strong relationships, and adopting lean management practices. Investing in skilled workers, adhering to legal frameworks, and expanding into international markets can help mitigate risks. Government interventions, such as liberalized FDI policies and incentives for affordable housing, significantly support the construction industry during recessions by increasing liquidity and stimulating demand.

Additional strategies include survival strategies focused on retaining existing clients, diversification into emerging markets and innovative sectors, strategic mergers and acquisitions, and prudent cost management and retrenchment measures. These approaches can help construction firms remain resilient and better positioned to weather economic recessions, ensuring long-term growth and stability in the construction industry.

Recession in construction

A recession is a macroeconomic term that refers to a country’s severe economic decline. In the US, the National Bureau of Economic Research defines a recession as a significant decline in economic activity spread across the economy, lasting more than a few months, normally visible in real GDP, real income, and employment. In the UK and Europe, a recession is defined as a period of negative economic growth for two consecutive quarters.

Current Economic Conditions and Forecasts

In recent months, it has been reported that a recession is becoming more likely to hit the global economy, and more specifically, the UK economy. Goldman Sachs has increased its forecast for a recession from 15% to 30% in the next year, while Bloomberg believes the risk of a UK recession in the next 12 months is now almost 50-50. Clearly, in a post-COVID, post-Brexit world, and with ongoing conflict in Europe, there remains significant uncertainty in the global economy, and the outlook for the UK is somewhat bleak. With that in mind, we need to consider the potential impact on our sector, construction.

The Construction Industry Downturn

The construction industry is a vital part of the economy, contributing significantly to GDP and employment. However, it is also highly susceptible to economic fluctuations. A recession in construction can profoundly affect various sectors of the industry, including main contractors. According to the Construction Products Association (CPA), the construction sector is expected to experience a severe recession, with output predicted to decline by 2.2% in 2024, a stark revision from an earlier forecast of a 0.3% contraction. This construction industry downturn is attributed to various factors, including high mortgage rates, persistent inflation, and economic stagnation. The CPA’s economic analysis indicates that private housing output will fall by 5%, and private housing repair, maintenance, and improvement (RMI) work will decline by 4%.

Insights from Recent Forecasts

Forecasters have downgraded the expected construction recovery next year, warning the industry is now set to remain in recession until the start of 2025. High interest rates will continue to drag down housing activity, with infrastructure and even industrial activity expected to slide in 2024. This revision highlights a more prolonged period of economic struggle for the construction industry.

Economists say UK interest rates are now anticipated to remain at this level until 2025 due to stubborn inflation. This extended period of high rates will write off the previously expected recovery in private house building and housing RM&I. As a result, construction output is now forecasted to fall by 6.8% in 2023 and 0.3% in 2024.

Lessons from the 2008 Recession

Looking back at the most recent recession in 2008-2009, which occurred as a result of the global financial crisis, we can glean valuable insights. The 2008 recession, often referred to as the ‘Great Recession,’ started in the UK in early 2008 and was caused by rising energy prices and the housing market’s collapse. It lasted for over a year and was the longest-lasting recession since the Second World War. It’s important to note that a recession in construction generally happens first among the other industries, construction is the first to go, as companies stop investing in infrastructure and development. Construction activity in the UK fell by 17.1% between the first quarter of 2008 and the second quarter of 2009 – three times the drop of the overall economy in the same period.

By December 2008, the construction sector had shrunk faster than ever before. First, housebuilding suffered, but as the recession ‘bit,’ civil engineering and commercial construction also fell at record rates. From the fourth quarter of 2009 until the same period in 2011, there was a short period of recovery, but this was not sustained, which resulted in another recession in construction before a sustained recovery in 2012. According to a survey by IFF Research, 54% of construction companies had seen decreases in revenue during the 12 months before October 2009. As revenue decreased, construction companies naturally tightened their outgoings, leading to redundancies. From a peak of 603,000 construction professionals in employment in 2008, this dropped by 10% during the recession.

Sector-Specific Impacts

Private Housing: Private housing, the largest construction sector, is projected to be the hardest hit. The sharp increase in mortgage rates has led to a 30-40% fall in demand for new homes, causing a predicted 19% decline in completions and output this year. This weak demand is expected to persist into 2024, with no growth anticipated until 2025. This slowdown will directly impact main contractors involved in residential projects, potentially leading to layoffs and reduced profitability.

Private Housing Repair and Maintenance

The private housing RMI sector, the second-largest construction sector, is also on a downward trend. Rising living costs have curtailed discretionary spending on home improvements, while fewer property transactions have reduced refurbishment activity. Output in this sector is expected to fall by 4% in 2024 before a modest recovery in 2025. Main contractors specializing in RMI will need to adapt to this reduced demand, possibly by diversifying their services or focusing on energy-efficiency retrofits, such as insulation and solar photovoltaic installations.

Infrastructure

Infrastructure remains a bright spot in the construction industry, with high levels of activity driven by projects like HS2 and Hinkley Point C. However, the sector is not immune to the broader economic challenges. Delays and cancellations of road and rail projects, coupled with financial constraints at the local government level, are expected to result in a 0.5% decline in infrastructure output in 2024. Main contractors in this sector must navigate these challenges by focusing on secured projects and seeking opportunities in emerging areas like offshore wind and National Grid upgrades.

Additional Insights on Infrastructure

The CPA has highlighted the importance of major projects as a driver of growth in the sector and for construction overall. Despite the anticipated declines, activity will remain near current high levels due to ongoing projects such as the Thames Tideway Tunnel and HS2 between Old Oak Common and Birmingham.

Financial Capital

During the Spanish financial crisis, subcontractors faced difficulties in securing financial support from banks, which became critical for survival. One company, recognizing the high risk of delayed payments, started requiring payment guarantees from main contractors and preferred clients who could ensure timely payments. Ensuring financial soundness by selecting clients based on their payment reliability and securing payment guarantees can help subcontractors navigate financial constraints during construction industry downturns.

Relationship Assets

A successful Spanish subcontractor built long-term relationships with main contractors, which helped secure consistent work even during the economic downturn. By establishing trust and consistently delivering quality work, they became preferred partners, ensuring a steady pipeline of projects. Building and maintaining strong relationships with main contractors can provide a competitive edge and ensure a steady flow of work, mitigating the impact of reduced demand during recessions.

Managerial Assets

Many Spanish subcontractors adapted to the economic crisis by streamlining their operations and adopting lean management practices. One company reduced its hierarchical structure and empowered site managers to make quicker decisions, increasing efficiency and responsiveness. Adopting lean management practices and streamlining operations can enhance a subcontractor’s ability to respond swiftly to market changes and maintain competitiveness during the construction industry‘s downturn.

Human Assets

Subcontractors focused on retaining skilled and loyal workers despite the downturn. One company prioritized keeping their best site managers and foremen, recognizing their critical role in maintaining project quality and client satisfaction. Investing in and retaining skilled workers can ensure that subcontractors maintain high standards of work and client satisfaction, which is crucial for long-term success during economic downturns.

Legal Framework

The implementation of stricter regulations in Spain, such as the Law 3/2011 on Public Contracts, forced subcontractors to improve compliance and operational standards. This led to better safety practices and higher quality work, making compliant subcontractors more competitive. Adhering to and leveraging legal frameworks can improve operational standards and competitiveness, providing a strategic advantage during construction industry downturns.

Geographic Scope

During the crisis, several Spanish subcontractors expanded their operations internationally, often in collaboration with established main contractors from their home country. This strategy helped them diversify their project portfolio and reduce reliance on the struggling domestic market. Expanding into international markets can provide new opportunities and mitigate risks associated with domestic market downturns, ensuring business continuity and growth.

Government Interventions

In India, government initiatives like Foreign Direct Investment (FDI) with policy liberalization played a crucial role in reviving the construction industry during economic downturns. By attracting foreign investors, the sector received much-needed financial infusion, which helped stabilize and grow the industry. Government interventions, such as liberalized FDI policies and incentives for affordable housing, can significantly support the construction industry during recessions by increasing liquidity and stimulating demand.

Preparing for a Recession in Construction

Preparing for a construction industry downturn is likely good practice, as with a 50-50 chance of a recession in construction, it’s wise to get ahead of the game. Here are some strategies for main contractors:

• Cash Management: If you’re a contractor and are owed money, prioritize recovering it today. Retention has been an issue for years, but if you are owed money, push hard for it now, as it will be much harder to collect during a recession in construction.

• Future Forecasting: Many contractors have found work easy to come by recently, but future pipelines will be more sparse if the economy hits a recession. Even if you are fully booked this year, consider your workload for 2023 and beyond.

• Lean Construction: Utilize tools and technologies to make your business leaner and more efficient. For example, Quantity Surveyors can spend almost 40 hours procuring a single subcontract package. By streamlining these processes, you can save significant time and resources.

• Cost Management: Implement stringent cost-control measures and optimize supply chain operations to maintain profitability.

• Innovation: Investing in new technologies and construction methods, such as modular construction and sustainable building practices, can provide a competitive edge.

• Collaboration: Building strong relationships with suppliers, subcontractors, and clients can ensure steady work and improve project outcomes.

Economic Downturn Survival Strategies

Companies that implemented survival strategies, such as focusing on retaining existing clients and providing superior service, managed to sustain their operations during economic downturns. For instance, some firms reactivated dormant accounts and offered low-cost add-ons to generate additional revenue. Implementing survival strategies that focus on maintaining existing client relationships and enhancing service offerings can help construction firms remain afloat during construction industry downturns.

Diversification and Innovation

During the recession, some construction firms diversified their business into related areas such as green buildings, sustainable energy, and healthcare infrastructure. This diversification helped them tap into new revenue streams and mitigate the impact of reduced demand in traditional construction sectors. Diversifying into emerging markets and innovative sectors can provide new growth opportunities and enhance resilience against economic downturns.

Mergers and Acquisitions

Some construction firms pursued mergers and acquisitions to strengthen their market position, reduce competition, and acquire niche technologies. For instance, firms with strong balance sheets acquired distressed businesses at bargain prices, enhancing their capabilities and market reach. Strategic mergers and acquisitions can help construction firms grow and consolidate their market position, making them more resilient to economic fluctuations.

Cost Management and Retrenchment

To survive the construction industry downturn, many construction firms implemented cost-cutting measures such as reducing working hours, freezing pay, and downsizing non-essential staff. However, it was crucial to execute these measures prudently to avoid long-term negative impacts on competitiveness. Implementing cost management and retrenchment strategies prudently can help construction firms reduce operating costs while maintaining their ability to compete when the market recovers.

Looking Ahead

While the immediate future looks challenging for main contractors in the construction industry, there are reasons for cautious optimism. The CPA forecasts a broader economic recovery in 2025, with construction output expected to rise by 2.1% overall and by 3.6% in 2026. This recovery will likely be driven by easing interest rates, improved economic conditions, and renewed government investment in infrastructure projects.

At C-Link, we have already started to see property investors and developers act more vigilantly in recent months, which means that future pipelines in the construction industry will be more sparse. If the economy hits an acute recession, project pipelines will tighten even further. Even if you are fully booked this year, you should consider 2024 and beyond. Focus on lean construction. More and more tools are now available to ensure your team is working quicker, faster, and more effectively. I recently spoke in our newsletter about how the research we did with our 20,000-strong community of construction professionals found that Quantity Surveyors spend almost 40 hours procuring a single subcontract package. That is one whole week for a single person on one package! If you are procuring 20 packages, that is 800 hours or the equivalent of 20 weeks for one person! The numbers are crazy and show how inefficient we can be.

There are tools out there which can assist you in creating a leaner and meaner business. That is one of the reasons why C-Link was founded. C-Link is the future of subcontract procurement. Trust me. The software will create contracts, match you with vetted subcontractors, and automate your procurement process. If you’re a main contractor and manage subcontractors, check out our tool to see how much time we can save you during this construction industry downturn.

Conclusion

The impending construction industry downturn presents significant challenges for both main contractors & subcontractors in the construction industry. By understanding the specific impacts on different sectors and adopting strategic measures, contractors can better navigate this recession and position themselves for future growth. Main contractors should focus on balancing their approach, not exposing themselves to high fixed costs, and securing work throughout 2024. They can benefit from strategies such as diversification, cost management, and leveraging new technologies.

Subcontractors, on the other hand, need to build strong relationships with main contractors, maintain financial soundness, and keep their operations lean. Investing in skilled workers, adhering to legal frameworks, and exploring international markets can help them remain competitive. Survival strategies, such as retaining existing clients and providing superior service, will be crucial during this recession.

As the industry adapts to new economic realities, resilience and innovation will be key to overcoming the hurdles ahead. Both main contractors and subcontractors planning for a construction industry downturn today will likely be pleased they have done so should one hit in the year ahead. To see how C-Link can help streamline your operations and prepare you for the future, book a C-Link demo today.

Photo by Maxim Hopman on Unsplash

About Paul Heming

Paul was a Quantity Surveyor who gained 10 years experience of managing £200 million worth of flagship UK projects, including 20 Fenchurch Street and Battersea Power Station. In 2015, Paul founded C-Link with the intention of sharing his expertise of managing major projects with the SME market.