Overview and Outlook: Construction industry shows signs of improvement

Construction industry shows signs of improvement

The construction industry contributes about 8 per cent in gross value added (GVA) to the Indian economy. It is also the second largest employer after the agricultural sector, employing about 41 million people. The construction industry can be divided into two components – infrastructure and real estate (office, retail and industrial). Infrastructure is the biggest demand generator, accounting for a share of about 55 per cent.

The construction industry has shown mixed trends in the past few years. After growing at 10 per cent in 2010-11, revenues shrank by -4.3 per cent in 2012-13, the worst year in a decade. Several infrastructure projects were stalled due to land acquisition issues, delays in obtaining environmental clearances and lack of funds.

The year 2014-15 brought signs of revival. An improved macroeconomic environment, renewed focus of the government on infrastructure, and increased industry confidence were major growth drivers. The construction contribution to GVA almost doubled in 2014-15 at 4.8 per cent (only 2.5 per cent in 2013-14).

An analysis of 41 listed domestic construction companies by India Infrastructure Research indicates that total revenues amounted to Rs 2.06 trillion in 2014-15, a year-on-year growth of 1.04 per cent. The total revenues of the domestic construction companies grew at a compound annual growth rate (CAGR) of 7.7 per cent between 2010 and 2015. Several construction players (Larsen & Toubro, Gammon India Limited, NCC, etc.) have resorted to an asset-light strategy to deleverage their balance sheets.

On the equipment front in the past five years, sales growth turned positive in 2014-15. Sales are primarily driven by earthmoving equipment, especially backhoe loaders. Foreign direct investment (FDI) inflows jumped to Rs 2.55 billion in 2014-15 after logging a mere Rs 0.3 billion in 2012-13. Increased foreign investment on the back of the Make in India initiative and growing infrastructure activity have been key factors resulting in positive growth.

The key materials used include cement, steel and bitumen. Cement capacity grew at a CAGR of 5.55 per cent between 2010-11 and 2014-15, but the pace of capacity addition has fallen. Slower execution of projects, lower government spending and scarcity of sand in some regions pulled down cement demand growth in 2012-13 and 2013-14. The consumption demand of steel increased significantly in 2014-15 because of the increasing thrust on infrastructure and also improved automobile sales.

Between 2010-11 and 2014-15, India’s bitumen consumption grew at a CAGR of 2.67 per cent, more than double that of production (1.09 per cent). The domestic production has remained between 4.5 and 4.8 million tonnes (mt) for the last few years as this is considered a low-value product. A significant portion of demand is met through imports, with over 95 per cent increase in imports seen year on year in 2014-15.

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Key growth drivers

The housing and infrastructure sectors are among the major demand drivers. Urbanisation is expected to grow to 40 per cent in 2030 from 28.7 per cent in 2005. Rapid urbanisation along with increasing rural demand for housing will drive demand for construction. The government’s Housing for All by 2022 Mission targeting 20 million houses in urban areas and 40 million houses in rural areas will drive demand for construction. Implementation of big-ticket projects like the Delhi-Mumbai Industrial Corridor, Dedicated Freight Corridor, smart cities, high-speed rail corridors, Sagar Mala and Bharat Mala will offer significant construction opportunities in the medium term.

Meanwhile, in the past few months, the government has relaxed FDI rules for the construction and railway sectors, to attract more funding for new hotels, housing and townships, etc. The implementation of ambitious big-ticket programmes such as Smart Cities, Make in India, etc. will require significant foreign capital. The liberalisation of the external commercial borrowing policy, and incentives to promote real estate investment trusts and infrastructure investment trusts can revive project funding for construction sector.

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The way forward

The construction sector is coming out of a prolonged slump. The construction GVA grew 4.8 per cent in 2014-15, compared to 2.5 per cent in 2013-14 and -4.3 per cent in 2012-13. Improvement in the macroeconomic environment and movement in long-stalled infrastructure projects have been key driving factors.

The infrastructure sector presents a strong pipeline of projects. The housing sector will be another major demand driver. Construction contractors, equipment providers, material providers all stand to gain immensely.

The recovery, however, is likely to be gradual. While activity has picked up, confidence is not fully restored. A fall in construction GVA (at basic prices) in the second quarter of 2015-16 to 2.6 per cent from 6.9 per cent in the first quarter (April-June) of 2015-16, and 8.7 per cent in the July-September quarter of 2014-15, is a clear indication of a recent slowdown.  The number of stalled projects also remains high. Reportedly, projects worth Rs 18 trillion are still delayed.

As of September 2015, the infrastructure and construction sectors accounted for nearly one-third of the assets involved in corporate debt restructuring. Non-recovery of loans from infrastructure has hit completion of ongoing projects and retarded investments in new projects, leading to a fall in construction activity.

Most infrastructure players have highly leveraged balance sheets and do not plan to take on any more projects under the build-operate-transfer (BOT) model for fear of further increasing debt exposures.

Further, the issue of delays in the passage of the Land Acquisition Bill must be tackled expeditiously since it could slow down recovery in the infrastructure sector. Unfortunately, the bill could not be passed in the 2015 winter session of Parliament. Another major issue requiring resolution is finding ways to make a larger quantum of funds available for infrastructure projects.

To conclude, the pace of recovery is expected to be slow and would be linked with the on-ground impact of the policy measures as well as availability of adequate funding.