Contractor outlook: Adjusting to a shrinking market

22 March 2010

Firms are branching into new markets, switching focus from private to public sector schemes and forming new alliances in a bid to win work in an increasingly competitive environment

The Gulf’s construction industry contracted sharply during 2009 as some $500bn worth of projects were cancelled or shelved following the real estate slump that started in 2008.

Dubai was the hardest-hit market. Many large construction companies in the emirate shed thousands of jobs as work dried up and by the end of the year, the headcount at many firms estimated to be half of what it had been.

But with the start of the new decade, opportunities for contractors still exist —– they are just harder to find and harder to win.

During the boom years of 2003-08, the Gulf’s construction market was dominated by real estate projects in Dubai. Contractors from across the region and beyond were busy building the Palm islands, tall towers, and sprawling cities that promised to turn Dubai into a city of seven million people by 2020.

We have had to look at our staffing levels and have made tough decisions

UK-based consultant

The glut of work allowed local companies to expand in size and each year the promise of seemingly unlimited work drew in more contractors from around the globe.

Today, most of those dreams lie in tatters. And during 2009, contractors began to return to traditional roots of publicly funded infrastructure schemes, not just in Dubai but elsewhere in the region. And that trend is set to continue this year.

“We took the decision in the middle of last year to focus on government infrastructure projects,” says a Doha-based contractor. “We don’t believe the private real estate sector will provide any real opportunities in the coming years so we prefer to focus our efforts on the projects that will go ahead.”

The numbers support the contractor’s decision. According to regional projects tracker MEED Projects, the value of construction contracts awarded in the GCC during 2009 fell by almost 50 per cent to $52bn, from $101bn in 2008. The value of infrastructure contracts increased by 11 per cent to $15bn in 2009, from $13bn in 2008.

More significantly, the relative importance of infrastructure has doubled. In 2008, infrastructure projects accounted for 11 per cent of the market, while in 2009, 22 per cent of contract awards were for infrastructure projects.

Branching out

The decline in real estate has forced contractors to diversify geographically as they can no longer rely on one market for work.

“There’s no doubt about it,” says a Dubai-based contractor. “It’s a regional market. You have to travel to find the work. The days of work coming to you are gone.”

The numbers support this drive to new markets. In 2009, Dubai awarded $8bn of contracts – an 80 per cent drop from the $42bn of awards made in 2008. The sharp decrease is in contrast to the more robust performance in the rest of the GCC, which registered a fall of just 20 per cent.

Funding is the underlying cause of the market’s transformation. Previously, real estate developers were able to move ahead with projects with little or none of their own capital. Banks were lending freely and the strong appetite for off-plan property sales pushed the value of planned real estate projects in the UAE above $1 trillion.

But following the collapse of the property market and the drying up of credit facilities, developers were forced either to cancel projects that they could no longer afford to fund, or to adjust development schedules to suit cash flows, which in reality has led to little work being done on site in the emirate.

Although Dubai’s debt problems rumble on, for the rest of the region, the market showed signs of picking up in the second half of 2009. Inevitably, oil prices were the crucial factor. In February last year, prices fell to less than $35 a barrel, and if crude had remained at that level throughout the year, most governments would have struggled to balance their books. But by May, the region’s governments were confident oil prices would stay at about the $65-a-barrel level for the rest of the year, allowing them to press ahead with, and even accelerate, public infrastructure projects.

Government agencies across the GCC have attempted to keep the construction industry busy by releasing tenders for contracts on traditional infrastructure such as airports, ports, roads and bridges, along with politically important social infrastructure schemes such as hospitals, schools and universities.

Abu Dhabi has responded most strongly. The fallout from Dubai’s property crash hampered the capital’s real estate sector and the government and its related developers are now shouldering the task of delivering the emirate’s ambitious plans.

The two busiest clients are sovereign wealth fund, Mubadala Development Company, and the investment arm of Abu Dhabi Tourism Authority (ADTA), the Tourism Development & Investment Company (TDIC).

According to MEED Projects, the two organisations awarded close to $2bn of contracts in 2009 and are currently tendering contracts to build museums, universities, hospitals, hotels, football stadiums, villas, apartment blocks, and office towers totalling an estimated $8bn.

Regional resurgence

Across the border in Oman, the government is pushing forward infrastructure projects. New roads continue to be built and contracts are being awarded on the expansion of Muscat International airport along with other smaller regional airports.

In Kuwait, the government has revitalised schemes that have been on the drawing board for a long time. The best example is the decision in January to tender the $3.76bn Subiya causeway. Contractors prequalified for the
contract to build the 38-kilometre-long causeway in 2006, but since then there has been a series of delays caused by environmental concerns, design changes, and soaraway construction costs.

Faced with a shrinking non-oil sector, the Kuwaiti government and the rest of the region’s authorities are keen to pump the economy with infrastructure projects that create business opportunities, and provide jobs for large sections of the population.

In Qatar, 700,000 of the state’s population of 1.6 million – about 44 per cent – are expatriates employed by the construction industry. If projects were to stop and these people left, the consequences for Qatar’s economy would be catastrophic.

Doha is acutely aware of this problem and as its various energy projects at the industrial complex of Ras Laffan and elsewhere in the country are completed, the government is keen to launch new projects intended to improve Qatar’s infrastructure.

Work is still ongoing at New Doha International airport, and in 2010 construction is scheduled to start on the state’s railway network, a major new port, and the Qatar-Bahrain Causeway.

Saudi dynamics

The only market in the Gulf where population is not a major concern is Saudi Arabia, which has a population of about 29 million.

“The model in Saudi Arabia is different to the rest of the Gulf,” says a regional contractor. “Unlike the smaller Gulf states, it has a large local population that is young and needs housing. There is a lot of work to do, and [real estate work in Saudi Arabia] is sustainable because there is real demand.”

Housing is only part of the equation. Saudi Arabia also needs to improve its infrastructure and, like the rest of the region, the kingdom is investing heavily, with $69bn earmarked by the government for new projects such as railway lines, airport expansions, new ports, and developing social infrastructure, including universities and hospitals.

Real estate work in Saudi Arabia is sustainable because there is real demand

Regional contractor

Despite the great potential it offers for contractors, Saudi Arabia is still a difficult market to operate in. Two local contractors, Saudi Binladin Group (SBG) and Saudi Oger, dominate the market. Winning work is a challenge for new entrants and only a few companies have tasted success.

“There are two options when it comes to winning work in Saudi Arabia,” says a Dubai-based contractor. “You can go in and work as a subcontractor either for SBG or for Oger because they can’t do all the work themselves. That gives a guaranteed flow of work, but the problem is the margins are squeezed because the main contractor will take a cut of the profit.

“Or you can partner up with a smaller company, help manage its resources and bring in technical expertise and win work that way, and enjoy a fatter margin. But it will be more difficult to win work.”

So far the most successful route has been working for SBG or Oger. Dubai-based Arabtec Construction, through its local subsidiary, won work as a subcontractor for SBG on the Princess Noura University outside Riyadh. Other Dubai-based firms are close to securing first deals in the kingdom with SBG at another Riyadh development, King Abdullah Financial District (KAFD).

Arabtec’s main competitor in Dubai used the other route to winning work. The local/Australian Al-Habtoor Leighton Group entered the Saudi market by partnering with the Riyadh-based Al-Rajhi Group for the information technology and communication complex project next to KAFD.

Saudi Arabia is not the only market where winning work is difficult. Although markets such as Abu Dhabi and Doha remain buoyant, the decline of their real estate sectors has led clients to abandon procurement methods such as partnering and direct negotiations, which were adopted during the construction boom when contractors and materials were in tight supply.

And although some partnering agreements remain, most notably in Qatar, the majority have now been abandoned for a return to traditional tendering methods, and no new partnerships have formed since 2008.

Increased competition due to the limited number of contracts on offer has also seen markets revert to old-fashioned protectionism as local companies look to use local connections and influence to safeguard future work.

“Sponsors and local connections are more important than ever, and we are now joint venturing with companies we wouldn’t normally partner with to get the political influence you need to win work,” says a European contractor.

For contractors that only came into the Gulf market during the boom years, the current realities of working in the region will come as a surprise. But for firms present here before the bubble formed, the conditions and challenges will be familiar. And there will be work, just less of it.

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