For this insights article, we took a look at the massive construction industry and ways that it can (and is) improving productivity. A 2017 McKinsey Global Institute (“MGI”) report, “Reinventing Construction: A Route to Higher Productivity,” provided context and data. According to the report, it is estimated that the construction industry contributes 13% to global GDP with $10 trillion spent in construction-related goods and services every year. Despite its size, however, construction labor productivity has grown just 1% annually for the past two decades. This pales in comparison to the 2.8% annual growth seen in the total world economy and the 3.6% annual growth in manufacturing.
This lack of growth is not tied to a lack of demand. Global infrastructure alone has been projected to require an annual investment of $3.7 trillion through 2035 in order to help build and maintain roads, airports, railways, telecom, etc. One third of the growth potential lies within the U.S., having experienced productivity growth in agriculture, manufacturing, and retail of as much as 1,500% since 1945, but productivity in construction has barely increased at all. As a matter of fact, it has been reported that since the 1960s, construction’s productivity has been on a constant decline.
If construction’s productivity grew to match that of the global economy, a total of $1.6 trillion could be added annually to global GDP, providing a boost of 2%. Thus, the question remains as to why construction’s productivity growth has remained nearly stagnant.
It is important to note that productivity performance is not consistent across construction sectors. Construction can mainly be split into two groups: (i) large-scale players in heavy construction including civil, industrial, and large-scale housing, and (ii) those who work in a fragmented sector focused on smaller specialized jobs such as being subcontracted for plumbing, mechanical, and electrical work or hired to renovate and fix a single-family home.
For purposes of this article, we will focus on heavy construction, which has had roughly 20%-40% higher productivity than the latter group, although there are still multiple inefficiencies in both sectors, which has held construction back from reaching its full potential. The heavy construction sector is also not immune to the inefficiencies in the specialized smaller construction market, as many large-scale construction projects will frequently outsource jobs to smaller players. In the U.S., heavy construction groups including civil, industrial, and buildings that use specialized subcontractors saw productivity reduced by 12%, 26%, and 28% respectively. To effectively increase the construction industry’s productivity, a solution must address all parts of the supply chain and both groups within the market.
Why is Productivity Lagging?
Some constrictive factors include: increased complexity, geographic dispersion, regulation, corruption, inexperienced parties, comparatively low profit margins, information asymmetries, and misaligned incentive structures. These factors lead to inefficient designs, improper time allocation toward planning, and delays in implementing the newest technology and project management techniques. Construction’s productivity growth can also be hurt by contractors who may seek to undercut higher-productivity solutions by offering cheaper but less productive alternatives.
How Can Productivity Improve?
The solutions, including streamlining approval processes, reducing corruption, boosting transparency around cost and quality, bidding processes based on overall best value and prior work rather than on price alone, minimizing on-site construction, integrating new digital technology (BIM, drones, 3D printers, telematics), and routinely re-training workers to use the most advanced and up-to-date equipment and tools, are by no means revolutionary, but seem to be reasonable paths to improvement. Finally, there is significant opportunity throughout the industry to upgrade equipment and machinery, with many large-scale operations still using outdated machinery and processes. The implementation of these solutions has been undermined by industry gridlock, with many players either lacking proper incentive or scale. However, the dynamics are changing, and we are buyers of the notion that progress is on the horizon.
There are numerous ways to improve construction productivity in the U.S. Customers and counterparties of Atalaya Leasing have financed new equipment purchases and investments in technology to increase productivity in operations. These businesses are leading the way in embracing change and getting ahead of the competition. As more parties continue to follow suit, others will be forced to modernize their practices to remain competitive in the evolving landscape.